Summary of a Recent
Judicial Development in
Bankruptcy

Creditor Must Prove Farm Equipment
Delivered to Debtor

Brian J. Oakey
National AgLaw Center Graduate Assistant

The Minnesota State Court of Appeals has reversed and remanded a decision that held that a debtor's failure to make the payments required to another farmer in order to obtain a 50 percent ownership interest in certain farm equipment did not give rise to any right in the farm equipment and that the creditor's security interest did not attach in the equipment. American State Bank of Olivia v. Ladwig & Ladwig, Inc., 646 N.W.2d 241, 242 (Minn. Ct. App. 2002). The dispute concerned whether a debtor had acquired a sufficient ownership interest in a piece of farm equipment, a combine, for the bank's security interest to attach. See id. The court concluded "that the question of whether debtor acquired a sufficient ownership interest in the combine for [the creditor's] security interest to attach depends on whether the combine was 'delivered' to debtor." Id. The court determined that there was a genuine issue of material fact with respect to whether the combine was "delivered" to the debtor. See id.

Ladwig & Ladwig, Inc. ("Ladwig") purchased a John Deere 9600 combine with financing provided by John Deere Credit. See id. The loan from John Deere Credit was secured by using the combine as collateral. See id. In late 1991, Ladwig entered into an agreement with Mark and Donna Herickhoff, debtors, that gave the Herickhoffs a 50 percent interest in the combine in return for five consecutive annual payments of $7,148.03, totaling $35,740.15. See id. The first payment was due "beginning January 1, 1993, and the same day thereafter annually, with the last payment due Jan. 1, 1997." Id.

The Herickhoffs failed to make any payments in 1993, 1994, or 1995. See id. In May, 1993, they granted a security interest in all personal property, including the alleged one-half interest in the combine, to American State Bank of Olivia ("American"). See id. at 242-43. In late 1995, Ladwig traded the combine for another John Deere 9600 combine. See id. at 242. Ladwig communicated to the Herickhoffs that they could obtain an ownership interest in the new combine if they would make the same five annual payments as under the previous agreement. See id. The Herickhoffs agreed and the contract was amended to reflect this new payment schedule. See id.

The Herickoffs made two payments totaling $14,296.06, one in 1996 and the other in early 1998. See id. They failed to make any other payments, and Ladwig was forced to refinance the combine to avoid repossession by John Deere Credit. See id. at 243. Ladwig refinanced the combine through North American Bank of Elrosa. See id. The North American Bank of Elrosa paid off the outstanding debt and assumed itself to be the only creditor with a security interest in the combine. See id.

Between 1993 and 1999, with permission from Ladwig, the Herickoffs used the combine to harvest their crops. See id. Ladwig used, stored, and maintained the combine when it was not being used by the Herickoffs. See id. In 2000, sometime after the combine had been refinanced, Ladwig communicated to the Herickoffs that the two payments that had been received would be treated as compensation for the use of the combine and that they would no longer have access to the machine. See id. Despite this notice, the Herickoffs took the combine in the fall of 2000 to harvest their crops. See id. Ladwig notified the sheriff and the combine was returned to Ladwig. See id.

The Herickhoffs subsequently defaulted on their loan with American. See id. American demanded that Ladwig turn over possession of the combine so that it could be liquidated. See id. Ladwig refused to deliver the combine to American. See id.

American brought suit to recover the combine from Ladwig, arguing that the interest in the combine had passed to Herickoff despite their failure to make the payments under the contract. See id. Both parties filed motions for summary judgment. See id. The trial court granted summary judgment in favor of Ladwig, "holding that pursuant to Article 2 of the Uniform Commercial Code . . ., Minn. Stat. § 336.2 - 401(3) (2000), the parties could determine by explicit agreement when any ownership interest would pass and that the agreement unambiguously provided that the 50 percent interest would not pass to the Herickoffs until the required payments were made in full." Id. Thus, the trial court held that American's security interest failed to attach to the combine because the Herickoffs did not have an interest in it. See id. American appealed the trial court's decision to the Minnesota Court of Appeals. See id.

American argued that its security interest attached to the combine because "any title retained by Ladwig must be considered a purchase-money security interest, and under article 9 of the UCC, the purchase-money security interest is subordinate to American's security interest because it was not perfected by the filing of a UCC-1 financing statement." Id. at 243-44. American relied on Greenbush State Bank v. Stephens, 463 N.W.2d 303 (Minn. Ct. App. 1990), to support this argument. See id. at 244.

In Greenbush, the creditor claimed that its perfected security interest in the property of the debtor attached to a tractor that was in the possession of a neighbor. See id. However, the neighbor in possession of the tractor claimed to be the owner because he had provided part of the purchase price. See id. The two neighbors had agreed that the debtor would pay back the neighbor in possession of the tractor and then the debtor would own the tractor outright. See id. Until the debt was paid, the two neighbors would share the use of the tractor. See id. In Greenbush, the court characterized the neighbor in possession's interest as a purchase money security interest under Minn. Stat. § 336.9-107 (1988) and priority was determined "'according to the priority in time of filing or perfection.'" Id. (quoting Greenbush, 463 N.W.2d at 307).

The Minnesota Court of Appeals did not consider the Greenbush case analogous. See id. It reasoned that the parties were not aligned similarly because in Greenbush the purchase money security interest was held by the debtor as the "buyer." See id. (citing Greenbush, 463 N.W.2d at 305). The court stated that "the agreement between Ladwig and the Herickhoffs contemplated the sale of only a partial interest to the Herickhoffs, whereas in Greenbush the entire interest was transferred to [neighbor in possession] and the entire interest was to revert to [the debtor] if he paid [the neighbor in possession] in full." Id. at 245 (quoting Greenbush, 463 N.W.2d at 305).

The court explained that the present facts demonstrate that Ladwig's retention of title is more than the retention of a mere security interest due to the fact that Ladwig was to remain a partial owner, even after the partial transfer of ownership to the Herickhoffs. See id. The court concluded that an examination of Ladwig's interest as a purchase money security interest was improper and the focus was more appropriately on the provisions of UCC Article 2 addressing the transfer of ownership. See id.

The court explained that "the issue of when 'delivery' occurs when only a partial interest in goods is being sold is a novel issue that was not addressed by the parties and has not been discussed in any case that we have found." Id. at 246. Under Minnesota law, "for delivery to occur the seller must 'put and hold conforming goods at the buyer's disposition' pursuant to the agreement." Id. (quoting Minn. Stat. § 336.2-503(1) (2000)). "Delivery requires that the seller intend to relinquish control over the goods to the buyer by placing them at the buyer's disposal." Id. (citation omitted). The court explained that the "general definition of delivery must be modified in the case of the sale of a partial interest, where possession is to be shared even after the transfer of partial ownership." Id. This modification is necessary because "the relinquishment of possession by the seller would never be 'complete' or 'unconditional' because the buyer will only receive a partial interest and the buyer's right to share in the possession of the property will always be subject to the condition of the seller's right to share in possession." Id.

The court determined that "proof of 'delivery' where the buyer is given only temporary possession requires a showing that such possession is acquired pursuant to an enforceable right of the buyer under the agreement, and is not optional or gratuitous with the seller." Id. The court stated that for American to prevail it must prove delivery by showing that "the Herickhoffs hold an enforceable right under the agreement to the annual use of the combine for their harvest." Id. at 256-57. The court concluded by stating,

[w]e agree with the district court's conclusion that the parties explicitly agreed that the Herickhoffs would not have an ownership interest in the combine until they paid in full. But we conclude that such agreement does not control if the combine was delivered. Because there are genuine issues of material fact concerning whether delivery occurred, we reverse the summary judgment for Ladwig and remand for further proceedings consistent with this opinion.

Id. at 257.

The case was decided on June 25, 2002; this summary was posted in February 2003