Inaccurate Financing Statement

Sure, it happens. People make mistakes. But, when does a mistake made on a financing statement render it 'seriously misleading' under revised Uniform Commercial Code '9-506 and thus ineffective to perfect an asserted security interest? The Bankruptcy Court for the Southern District of Florida recently addressed this issue in the case of In re John's Bean Farm of Homestead Inc. No. 07-11868-BKC-LMI (Nov. 1, 2007).

Case History

The debtor, a Florida corporation that owned and operated a commercial bean farm, borrowed nearly $200,000 to purchase a piece of farm equipment. While the loan was surprisingly never memorialized in writing, after the debtor defaulted, the creditor purported to take a security interest in the equipment, evidenced by a Security Agreement and Secured Promissory Note. However, in an attempt to perfect this security interest, the creditor filed a UCC-1 Financing Statement with the Florida Secured Transaction Registry, which mistakenly identified the debtor as 'John Bean Farms, Inc.' instead of the debtor's actual name of incorporation, 'John's Bean Farm of Homestead, Inc.' In fact, as the court noted, all of the documents evidencing the transaction used the name 'John Bean Farms, Inc.' The debtor's financial troubles continued and a Chapter 7 bankruptcy was filed. The creditor filed a proof of claim asserting a total claim in the amount of $152,000, claiming $120,000 was secured and $32,000 was an unsecured priority claim.

The trustee filed an objection to the claim on the basis that the financing statement failed to comply with the general rule governing the sufficiency of debtor names on financing statements and the concomitant safe harbor provision for minor errors, and that therefore the creditor's claim, if any, should be unsecured. In response, the creditor argued that while his financing statement failed to comply with the requirements for filing under the debtor's correct name, the filing was not seriously misleading and therefore, the financing statement was adequate to perfect his security interest in the equipment.

Perfecting a Security Interest

In Florida, revised '9-506 of the UCC has been adopted as Fla. Stat. '679.5061. Under both codes, a financing statement must provide three pieces of information to be considered sufficient for perfection: 1) the name of the debtor, 2) the name of the secured party, and 3) the collateral covered. As the court here noted, because financing statements are indexed by debtor name, the debtor's name is the essential element to locating the financing statement. When a search under a debtor's name is conducted, the registry 'displays an alphabetical name list with twenty (20) entries and the exact or nearest match at the top of the Search Results screen. The commands 'Previous' and 'Next' appear on the results screen and direct a searcher to utilize the buttons to view 'additional search results.” Under Florida law, a debtor is sufficiently identified 'only if the financing statement provides the name of the debtor indicated on the public record of the debtor's jurisdiction of organization which shows the debtor to have been organized.'

The exception to this rule is found in the Code's safe harbor provision, which permits substantial compliance even if the financing statement has minor errors or omissions, unless those errors or omissions make the financing statement seriously misleading. Under Fla. Stat. '679.5061(2) or UCC '9-506(c), an error is minor if a records search using the filing office's standard search logic, if any, would disclose the creditor's financing statement. However, as the court here noted, the comments to '9-506 also state that 'even if a financing statement using the debtor's incorrect name, is 'disclosed by (i) using a search logic other than that of the filing office to search the official records, or (ii) using the filing office's standard search logic to search a data base other than that of the filing office,' the financial statement would nonetheless be seriously misleading, and therefore, ineffective.' U.C.C. Code '9-506 cmt. 2 (2002).

In analyzing whether the creditor's error here was seriously misleading, the court took a closer look at revised '9-506, the primary purpose of which 'was to replace the former reasonableness standard with a clearer standard based on the computerized search logic of the filing office.' A point, the court observed, that has been recognized and emphasized by courts in other jurisdictions.

As to the specifics of what constitutes a seriously misleading error, the court stated that '[a] financing statement is effective if a computer search run under the debtor's correct name produces the financing statement with the incorrect name. If it does not, then the financing statement is ineffective as a matter of law.' There is no discretion by the court to determine whether an incorrect name is 'close enough.'

To emphasize this point, the court cited three cases that presented scenarios much less obvious than the one here. First, in the case of In re Tyringham Holdings, Inc., 354 B.R. 363 (Bankr. E.D. Va. 2006), the creditor filed a financing statement listing the name of the debtor as 'Tyringham Holdings' instead of the debtor's legal name, 'Tyringham Holdings, Inc.' Although only the corporate suffix 'Inc.' was omitted, an official search under the debtor's actual name did not reveal the financing statement; thus, the court found the financing statement to be ineffective to perfect the security interest. This court reasoned that '[w]hile application of the filing office's standard search logic may lead to situations where it appears a relatively minor error in a financing statement leads to a security interest becoming unperfected, it is not that difficult to ensure that a financing statement is filed with the correct name of the debtor. Little more is asked of a creditor than to accurately record the debtor's name, and according to the statute, failure to perform this action clearly dooms the perfected status of a security interest.' 354 B.R. at 368.

In Pankratz Implement Co. v. Citizens Nat'l Bank, 281 Kan. 209, 130 P.3d 57, (Kan. 2006), the Kansas Supreme Court upheld summary judgment invalidating the prior interest represented by a faulty financing statement where the creditor misspelled the debtor's name on the financing statement by omitting a 'd' and listed the debtor as 'Roger House' instead of his legal name 'Rodger House.' In a third example, the court held that a financing statement was seriously misleading where the debtor was identified in the financing statement as 'K W M Electronics Corporation' instead of 'K.W.M. Electronics Corporation,' simply omitting the three periods in the debtor's name. See, In Host America Corp. v. Coastline Financial, Inc., 2006 WL 159614 (D. Utah 2006).

Based on these and other similar holdings, it would seem the instant matter to be an open and shut case ' but there was a window of opportunity. In the case of In re Summit Staffing Polk County, Inc., 305 B.R. 347 (Bankr. M.D. Fla. 2003), the court found that a financing statement that identified the debtor as 'Summit Staffing, Inc.' rather than by the correct name of 'Summit Staffing of Polk County, Inc.' was not seriously misleading. Despite the fact that the use of Florida's standard search logic did not produce a page on which the financing statement appeared, the searcher only had to push the 'previous' button one time and the financing statement was listed. The court in Summit Staffing reasoned that '[a]lthough Revised Article 9 does not require that a searcher exercise reasonable diligence in the selection of the names to be searched or the number of searches to conduct, the revisions to Article 9 do not entirely remove the duty imposed on a searcher to be reasonably diligent.' Id. at 355.

Based on this logic, the creditor here argued that the same 'reasonable diligence' was applicable in this instance. Unfortunately for the creditor, there were two factors working against his position. First the court here did not necessarily agree with the court's reasoning in Summit Staffing, with the judge stating that he found Fla. Stat. '679.5061 to be 'unambiguous, and that there is no implicit or explicit obligation of a searcher to go beyond the search result.' Second, the difference between Summit Staffing and the instant matter is that in Summit Staffing, the searcher only had to visit one addition screen to find the nonconforming financing statement. Here, a similar exercise disclosed that the creditor's financing statement was listed 60 pages prior to the displayed search result.

In finding that the creditor's financing statement was in fact seriously misleading, the court concluded that even if 'in fact, the Florida search result includes more than the initial page displayed, then, in order to interpret '679.5061 so as to avoid an absurd result, I would be compelled alternatively to hold ' that there is a reasonable limit to the search, which I find is no more than one page 'previous' or 'next' from the initial result screen.'

Conclusion

The conclusion to be drawn here is clearly to be accurate and diligent with your recording. If you're not sure, err on the side of caution and file both ways. If not, you better hope that, at best, the error you make does not appear more than a page away on the result screen.

Flexibility Sometimes Afforded

Another to point to consider is that while the results in these cases do vary from court to court, there also (and unfortunately) appears to be a little more flexibility afforded to financing statements in certain circumstances.

In a recent Fifth Circuit decision, Peoples Bank v. Bryan Brothers Cattle Co. No. 06-60582 (Nov. 12, 2007), the court held that a creditor was properly put on inquiry notice that a security interest in the property of 'Brooks L. Dickerson' could be listed under the name 'Louie Dickerson.' As the court noted, Dickerson held himself out to the community as Louie Dickerson. This was the name he used in bank accounts, bills of sale, and with others with whom he did business. The court found this to be an important consideration, 'because evaluating whether a filing is seriously misleading requires a court to examine the facts in a particular case, and the focus should be 'on whether potential creditors would have been misled as a result of the name the debtor was listed by' in the financing statement.' In this case, two banks, Peoples and Cornerstone, were contesting a security interest in the debtor's livestock. On this issue, Peoples contended that Cornerstone did not have a security interest in the cattle because its financing statement did not use Dickerson's legal name. The court rejected Peoples' argument, ruling that Peoples had actual notice that Dickerson was known as both 'Louie Dickerson' and 'Brooks L. Dickerson.' The court pointed out that in its own files Dickerson is identified by both names in numerous places; thus, Peoples was not seriously misled by the financing statement.

Oddly though, the court never made any mention of which standard search logic was used by the filing office or what results were produced by a search of the debtor's name as filed. The court simply ignored this whole aspect of the analysis, which would seem to be renewing a line of defenses at a time when it appeared that they had finally been put to rest.

Adam J. Schlagman is Editor-in-Chief of this newsletter.

Sure, it happens. People make mistakes. But, when does a mistake made on a financing statement render it 'seriously misleading' under revised Uniform Commercial Code '9-506 and thus ineffective to perfect an asserted security interest? The Bankruptcy Court for the Southern District of Florida recently addressed this issue in the case of In re John's Bean Farm of Homestead Inc. No. 07-11868-BKC-LMI (Nov. 1, 2007).

Case History

The debtor, a Florida corporation that owned and operated a commercial bean farm, borrowed nearly $200,000 to purchase a piece of farm equipment. While the loan was surprisingly never memorialized in writing, after the debtor defaulted, the creditor purported to take a security interest in the equipment, evidenced by a Security Agreement and Secured Promissory Note. However, in an attempt to perfect this security interest, the creditor filed a UCC-1 Financing Statement with the Florida Secured Transaction Registry, which mistakenly identified the debtor as 'John Bean Farms, Inc.' instead of the debtor's actual name of incorporation, 'John's Bean Farm of Homestead, Inc.' In fact, as the court noted, all of the documents evidencing the transaction used the name 'John Bean Farms, Inc.' The debtor's financial troubles continued and a Chapter 7 bankruptcy was filed. The creditor filed a proof of claim asserting a total claim in the amount of $152,000, claiming $120,000 was secured and $32,000 was an unsecured priority claim.

The trustee filed an objection to the claim on the basis that the financing statement failed to comply with the general rule governing the sufficiency of debtor names on financing statements and the concomitant safe harbor provision for minor errors, and that therefore the creditor's claim, if any, should be unsecured. In response, the creditor argued that while his financing statement failed to comply with the requirements for filing under the debtor's correct name, the filing was not seriously misleading and therefore, the financing statement was adequate to perfect his security interest in the equipment.

Perfecting a Security Interest

In Florida, revised '9-506 of the UCC has been adopted as Fla. Stat. '679.5061. Under both codes, a financing statement must provide three pieces of information to be considered sufficient for perfection: 1) the name of the debtor, 2) the name of the secured party, and 3) the collateral covered. As the court here noted, because financing statements are indexed by debtor name, the debtor's name is the essential element to locating the financing statement. When a search under a debtor's name is conducted, the registry 'displays an alphabetical name list with twenty (20) entries and the exact or nearest match at the top of the Search Results screen. The commands 'Previous' and 'Next' appear on the results screen and direct a searcher to utilize the buttons to view 'additional search results.” Under Florida law, a debtor is sufficiently identified 'only if the financing statement provides the name of the debtor indicated on the public record of the debtor's jurisdiction of organization which shows the debtor to have been organized.'

The exception to this rule is found in the Code's safe harbor provision, which permits substantial compliance even if the financing statement has minor errors or omissions, unless those errors or omissions make the financing statement seriously misleading. Under Fla. Stat. '679.5061(2) or UCC '9-506(c), an error is minor if a records search using the filing office's standard search logic, if any, would disclose the creditor's financing statement. However, as the court here noted, the comments to '9-506 also state that 'even if a financing statement using the debtor's incorrect name, is 'disclosed by (i) using a search logic other than that of the filing office to search the official records, or (ii) using the filing office's standard search logic to search a data base other than that of the filing office,' the financial statement would nonetheless be seriously misleading, and therefore, ineffective.' U.C.C. Code '9-506 cmt. 2 (2002).

In analyzing whether the creditor's error here was seriously misleading, the court took a closer look at revised '9-506, the primary purpose of which 'was to replace the former reasonableness standard with a clearer standard based on the computerized search logic of the filing office.' A point, the court observed, that has been recognized and emphasized by courts in other jurisdictions.

As to the specifics of what constitutes a seriously misleading error, the court stated that '[a] financing statement is effective if a computer search run under the debtor's correct name produces the financing statement with the incorrect name. If it does not, then the financing statement is ineffective as a matter of law.' There is no discretion by the court to determine whether an incorrect name is 'close enough.'

To emphasize this point, the court cited three cases that presented scenarios much less obvious than the one here. First, in the case of In re Tyringham Holdings, Inc., 354 B.R. 363 (Bankr. E.D. Va. 2006), the creditor filed a financing statement listing the name of the debtor as 'Tyringham Holdings' instead of the debtor's legal name, 'Tyringham Holdings, Inc.' Although only the corporate suffix 'Inc.' was omitted, an official search under the debtor's actual name did not reveal the financing statement; thus, the court found the financing statement to be ineffective to perfect the security interest. This court reasoned that '[w]hile application of the filing office's standard search logic may lead to situations where it appears a relatively minor error in a financing statement leads to a security interest becoming unperfected, it is not that difficult to ensure that a financing statement is filed with the correct name of the debtor. Little more is asked of a creditor than to accurately record the debtor's name, and according to the statute, failure to perform this action clearly dooms the perfected status of a security interest.' 354 B.R. at 368.

In Pankratz Implement Co. v. Citizens Nat'l Bank , 281 Kan. 209, 130 P.3d 57, (Kan. 2006), the Kansas Supreme Court upheld summary judgment invalidating the prior interest represented by a faulty financing statement where the creditor misspelled the debtor's name on the financing statement by omitting a 'd' and listed the debtor as 'Roger House' instead of his legal name 'Rodger House.' In a third example, the court held that a financing statement was seriously misleading where the debtor was identified in the financing statement as 'K W M Electronics Corporation' instead of 'K.W.M. Electronics Corporation,' simply omitting the three periods in the debtor's name. See, In Host America Corp. v. Coastline Financial, Inc., 2006 WL 159614 (D. Utah 2006).

Based on these and other similar holdings, it would seem the instant matter to be an open and shut case ' but there was a window of opportunity. In the case of In re Summit Staffing Polk County, Inc., 305 B.R. 347 (Bankr. M.D. Fla. 2003), the court found that a financing statement that identified the debtor as 'Summit Staffing, Inc.' rather than by the correct name of 'Summit Staffing of Polk County, Inc.' was not seriously misleading. Despite the fact that the use of Florida's standard search logic did not produce a page on which the financing statement appeared, the searcher only had to push the 'previous' button one time and the financing statement was listed. The court in Summit Staffing reasoned that '[a]lthough Revised Article 9 does not require that a searcher exercise reasonable diligence in the selection of the names to be searched or the number of searches to conduct, the revisions to Article 9 do not entirely remove the duty imposed on a searcher to be reasonably diligent.' Id. at 355.

Based on this logic, the creditor here argued that the same 'reasonable diligence' was applicable in this instance. Unfortunately for the creditor, there were two factors working against his position. First the court here did not necessarily agree with the court's reasoning in Summit Staffing, with the judge stating that he found Fla. Stat. '679.5061 to be 'unambiguous, and that there is no implicit or explicit obligation of a searcher to go beyond the search result.' Second, the difference between Summit Staffing and the instant matter is that in Summit Staffing, the searcher only had to visit one addition screen to find the nonconforming financing statement. Here, a similar exercise disclosed that the creditor's financing statement was listed 60 pages prior to the displayed search result.

In finding that the creditor's financing statement was in fact seriously misleading, the court concluded that even if 'in fact, the Florida search result includes more than the initial page displayed, then, in order to interpret '679.5061 so as to avoid an absurd result, I would be compelled alternatively to hold ' that there is a reasonable limit to the search, which I find is no more than one page 'previous' or 'next' from the initial result screen.'

Conclusion

The conclusion to be drawn here is clearly to be accurate and diligent with your recording. If you're not sure, err on the side of caution and file both ways. If not, you better hope that, at best, the error you make does not appear more than a page away on the result screen.

Flexibility Sometimes Afforded

Another to point to consider is that while the results in these cases do vary from court to court, there also (and unfortunately) appears to be a little more flexibility afforded to financing statements in certain circumstances.

In a recent Fifth Circuit decision, Peoples Bank v. Bryan Brothers Cattle Co. No. 06-60582 (Nov. 12, 2007), the court held that a creditor was properly put on inquiry notice that a security interest in the property of 'Brooks L. Dickerson' could be listed under the name 'Louie Dickerson.' As the court noted, Dickerson held himself out to the community as Louie Dickerson. This was the name he used in bank accounts, bills of sale, and with others with whom he did business. The court found this to be an important consideration, 'because evaluating whether a filing is seriously misleading requires a court to examine the facts in a particular case, and the focus should be 'on whether potential creditors would have been misled as a result of the name the debtor was listed by' in the financing statement.' In this case, two banks, Peoples and Cornerstone, were contesting a security interest in the debtor's livestock. On this issue, Peoples contended that Cornerstone did not have a security interest in the cattle because its financing statement did not use Dickerson's legal name. The court rejected Peoples' argument, ruling that Peoples had actual notice that Dickerson was known as both 'Louie Dickerson' and 'Brooks L. Dickerson.' The court pointed out that in its own files Dickerson is identified by both names in numerous places; thus, Peoples was not seriously misled by the financing statement.

Oddly though, the court never made any mention of which standard search logic was used by the filing office or what results were produced by a search of the debtor's name as filed. The court simply ignored this whole aspect of the analysis, which would seem to be renewing a line of defenses at a time when it appeared that they had finally been put to rest.

Adam J. Schlagman is Editor-in-Chief of this newsletter.