Secured Transactions - Lesson 5

In this video, 20.03 – Secured Transactions – Lesson 5, Roger Philipp, CPA, CGMA, begins with a vivid example of Sony knocking on his door and demanding their TV back, which he had purchased from Costco. The absurdity of the situation illustrates why the inventory rule exists for secured transactions.

The purpose of the inventory rule is to encourage commerce, meaning that if you buy an asset that is inventory in the hands of the seller, then you, the buyer, are free of any prior security interest attached to the asset. It does not matter whether the asset is inventory, consumer goods, or equipment in the hands of you, the buyer, so long as it is inventory in the hands of the seller.

The inventory rule does not free you from your security interest, but from any prior security interest. In other words, if you don’t pay a store for an asset you bought from them on store credit, the store can still come back and repossess the asset. But if the store fails to pay the wholesaler from which it purchased the asset on credit, the wholesaler cannot come to you and repossess the asset.

Roger also reviews perfection of a security interest through a PMSI – Purchase Money Security Interest – and the 20-day rule for closing the third-party loophole with PMSIs if the goods are consumer goods or if the equipment is in the hands of the buyer.

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Video Transcript Sneak Peek:

Let's talk about the inventory rule. Now, the inventory rule is a special rule. And think about it this way. Let's say I go to the store, and I buy that big screen TV. I love it, I'm so excited to get it home. And then I go, you know what I need? I think I need a DVD, DVR, and Blu-ray. I don't even know what the heck is new and current. But I need one of those.

So, I go to my favorite store, Costco. And I go in there, and I see this beautiful Sony Blu-ray, schmoolie-ray, whatever player. So, I bring it up the front, and I go, here's 200 bucks. Here you go, hey before I pay you, have you paid Sony, Mr. Costco? Because if you haven't, I don't want to be sitting there with popcorn and friends, and all of a sudden. Hello? Uh, yeah. Sony at the door. Hmm, honey, did you invite Sony over? No, hey Sony, what's up? And they come in and go, hey, Costco never paid us. We're repossessing the Blu-ray player.

What, how am I supposed to know? Well, you know what, in order to encourage sales, in order to encourage commerce, they go, you know what? If you're buying the item, and it is inventory in the hands of the seller, you get it free of any prior interest. You don't get it free of the interest you create. But you get it free of any prior interest, even if you're aware of it.

So, for example, let's pretend, let me come over here, and let's get rid of my dots. Let's pretend, and this is called the inventory rule, the inventory rule. Here's the manufacturer, here's the wholesaler, here's the retailer of the goods. He sells it to another retailer. He sells it to a consumer, and he sells it to a company where they use it as equipment.

All right, so here's the rule. The manufacturer sells it to the wholesaler. What do they do? They file a financing statement. They perfect their interest. Now, if the wholesaler goes bankrupt, they have the right to get back the interest. If the wholesaler sells it as cash, they have a right to attach to the proceeds. They can take other assets, other inventory, other, and so on.
But if the wholesaler sells it to this person, when they bought it, what was it... Doesn't matter what it is to them. What was it in the hands of the seller? To them it's inventory, to them it's inventory, to them it's inventory, to them it's inventory, to them consumer goods, to them equipment.

All right, so, what is it to the person selling it? Its inventory to them, you get it free of the prior interest. If you create an interest, you don't get if free of that. But if they buy it from this person, even if they haven't paid them, this person cannot come to them and take it back. They can take it back, but if I pay cash, I walk away. That's called the inventory rule.

[kennedypeyton]

These videos are so helpful for law students studying for Secured Transactions or individuals studying for the bar exam! Highly recommend!

[damankaur]

Wow you are the best. I completely lost this concept from gleim but you are the life savior

[gabrielrollano]

These videos are incredible. So much better than Becker. I wish my firm would have payed for Roger instead.