Don’t Be Insecure – Know Your Lien’s Priority

A business owner financing the sale of assets.

A landlord fronting a tenant money for a new pizza oven.

A farmer selling a tractor to his neighbor on credit.

These three have at least one thing in common: each is acting as a lender.

And as a lender, each wants to ensure the security of the loan.

That way, if the other party defaults, the lender can recover or offset its losses.

When a lender provides funds that the borrower uses to acquire an asset (the landlord’s loan to its tenant for a new pizza oven), the lender will frequently take and perfect a “purchase money security interest” in the acquired good.

This security interest is often viewed as the gold-standard of security interests.

This is because, in the landlord’s case, for example, it puts the landlord’s interest before all the tenant’s other lenders as to the pizza oven.

But is that always the case?

Lenders, including those described above, should know that some types of liens may trump a security interest that would otherwise stand in first place.

One example is a lien imposed by state law. In Wisconsin, for example, a mechanic who is not paid for repairing the tractor, which is then sold by our farmer, may have security for its debt.

The mechanic’s debt may be secured by a mechanic’s lien that is superior to the farmer’s security interest.

The same is true for other businesses, including warehousemen, towing companies, fabricators, and hospitals.

Similarly, wage liens, certain income tax liens, and personal property tax liens may jump over the priority of an existing security interest.

Even a purchase money security interest.

Given these potential priority issues, parties extending credit—especially those who do so only occasionally—must be sure to engage in proper due diligence.

A first step of due diligence would be to perform lien searches with the Wisconsin Department of Financial Institutions, county register of deeds, clerk of courts, other relevant agencies and, if appropriate, a title company.

Another step could be to include representations by the borrower in the loan documentation as to the presence or absence of liens.

Lien priority can be an unwittingly complicated issue.

Knowledge, however, is power.

Your FOS attorneys can help make sure you are properly secured.