Best Practices: Purchase Money Security Interests: Considerations for specific assets purchased with SBA loan proceeds

Generally, an SBA lender will need to secure its loan with a perfected security interest in specific equipment purchased, or to be purchased, with loan proceeds.  Lenders must take special care to ensure lien priority and perfection of these purchase-money security interests in equipment (“PMSI”); particularly if such equipment has significant value.

Prior to loan closing, and particularly for existing businesses that may be using the new 7a loan to expand operations, a Uniform Commercial Code (“UCC”) lien search may disclose pre-existing security interests held by other creditors; which often take the form of “blanket” UCC financing statements, where the third-party creditor has taken a lien on “all assets” of the debtor/borrower, whether existing or later acquired.  If the new 7a lender intends to secure a particular piece of equipment financed with loan proceeds, lender’s lien on the specific equipment may end up subordinate to the third-party blanket creditor’s lien under general Article 9 rules, unless certain requirements have been met.

The steps required to perfect a PMSI depend on state law.  Most states have adopted a version of Revised UCC Article 9 that grants an exception as to priority of a perfected purchase money security interest.  

For example, under the North Carolina General Statutes, N.C.G.S. 25-9-324, “Priority of purchase-money security interests,” the rule is set forth in subsection (a) “… a perfected purchase-money security interest in goods other than inventory or livestock has priority over a conflicting security interest in the same goods, and, except as otherwise provided in G.S. 25-9-327, a perfected security interest in its identifiable proceeds also has priority, if the purchase-money security interest is perfected when the debtor receives possession of the collateral or within 20 days thereafter.” [Emphasis added.]

So, in order to obtain a PMSI in specific equipment under North Carolina law when there is a conflicting perfected security interest in equipment, Lender must perfect its purchase-money interest by filing a financing statement securing that specific equipment; the filing must occur within 20 days of debtor’s receipt of the collateral.  Lender’s PMSI financing statement should include, pursuant to general Article 9 rules, a description of the items in which lender intends to obtain purchase-money priority that reasonably identifies the collateral – e.g., a list of equipment with description, serial number, make/model, and value.  Other than the specific description, no special form is required for the PMSI financing statement itself. Special rules apply for livestock as well as inventory; consult each state’s applicable rules.  

Lenders should take special care to balance the competing considerations of perfecting lender’s interest vis-à-vis other SOP requirements.  For example, a requirement of obtaining a valid PMSI is that lender must show and ensure that the value provided by the Lender’s loan enabled the Borrower to “acquire rights” in the collateral. To provide this paper trail, the Lender’s closing agent should pay vendors directly at closing from loan proceeds for any PMSI equipment invoices.  Additionally, if Borrower has already paid a deposit or made partial payment to the equipment vendor, Lender should pay the seller in full and ask the vendor to refund the deposit to Borrower.  While this approach will ensure Lender’s priority PMSI in the collateral, it may affect other factors of the SOP analysis.  For example, Borrower may not have met its equity injection requirement prior to closing. Further, if the Borrower has purchased the equipment with its own funds and requests the Lender reimburse it, such equipment is not eligible for PMSI priority.   

Finally, Lenders should consider whether a purchase-money security interest should be taken via separately filed financing statement (or via the same financing statement) as a general “blanket” lien on all of Borrower’s assets, equipment and inventory, of the type typically required per the SOP in the context of financing a business acquisition or startup.   Depending on the  timing of the acquisition of the specific equipment and if there are other secured creditors with liens on Borrower’s equipment, Lender should anticipate amending its financing statement to add a specific description of the equipment purchased with loan proceeds. The financing statement will need to be amended to add that specific equipment; or a new PMSI financing statement can be filed at the time of each disbursement / payment, but again, must be filed within 20 days of Borrower’s receipt of the equipment. For more information, contact the attorneys at Starfield & Smith at 215-542-7070.