In re Tracy's Flowers and Gifts, Inc.

• Decision Date: 12 June 2001
• Docket Number: Bankruptcy No. 00-11308. Adversary No. 00-1518.
• Court: United States Bankruptcy Courts. Eighth Circuit. U.S. Bankruptcy Court — Eastern District of Arkansas
• Parties: In re TRACY'S FLOWERS AND GIFTS, INC., Debtor. William S. Meeks, Trustee, Plaintiff, v. First Bank of South Arkansas, Defendant.

264 B.R. 1 (2001)

In re TRACY'S FLOWERS AND GIFTS, INC., Debtor William S. Meeks, Trustee, Plaintiff, v. First Bank of South Arkansas, Defendant.

Bankruptcy No. 00-11308. Adversary No. 00-1518.

United States Bankruptcy Court, E.D. Arkansas, El Dorado Division.

June 12, 2001.

William S. Meeks, Crossett, AR, for Trustee.

Paul Lindsey, Camden, AR, for Defendant.

Teresa Wineland, El Dorado, AR, for Debtor.

MEMORANDUM OPINION

JAMES G. MIXON, Chief Judge.

This adversary proceeding is before the Court upon the complaint of William S. Meeks, the Trustee in this case, to determine the priority, validity, and extent of a lien held by First Bank of South Arkansas ("Bank") in the property of Tracy's Flowers and Gifts, Inc. ("Debtor"). The Trustee alleges that the Bank's lien in the property is unperfected, and, therefore, may be avoided by the Trustee. The issue is whether the Bank has a valid security interest in the property even though the relevant documents do not expressly grant a security interest.

The Court has jurisdiction of this adversary proceeding under 28 U.S.C. § 1334 & § 157 (1994). This is a core proceeding in accordance with 28 U.S.C. § 157(b)(2)(A), (E), & (K) (1994), and the Court may enter a final judgment in the case. The following findings of fact and conclusions of law are made pursuant to Federal Rule of Bankruptcy Procedure 7052.

FACTS

The parties submitted the issue to the Court upon the following stipulated facts in lieu of testimony.

Tracy Lea Passafiume and her mother, Janelle S. Carnes, originally operated the Debtor under the name "Tracy Lea Passafiume or Janelle S. Carnes d/b/a/ Tracy's Flowers and Gifts." The business was later incorporated as a retail florist operation, with Passafiume owning 75% and Carnes owning 25% of the stock. The Debtor was located at 226 California Street, Camden, Arkansas. The incorporated Debtor owned inventory, equipment, and accounts receivable. In November 1999, the Debtor moved its business location to 1226 Country Club Road, Camden, Arkansas.

On September 3, 1999, the Debtor executed a note in favor of the Bank on a form prepared by the United States Small Business Administration ("SBA"). The note evidenced a loan by the Bank to Tracy's Flowers & Gifts, Inc. in the amount of $40,000.00, which was guaranteed by the SBA.

The Debtor executed a financing statement on a UCC-1 Form, which was filed in the office of the Ouachita County Circuit Clerk on September 14, 1999, as filing number 99-788 and in the office of the Arkansas Secretary of State on September 20, 1999, as filing number 1208734. Copies of the financing statements were submitted as Joint Exhibit 2.

Item eight of each financing statement provides space for designating the various types of property to serve as collateral. In Item eight, the following language has been inserted: "This note is secured by all accounts, inventory and equipment now owned or hereafter acquired by Tracy's Flowers and Gifts, Inc. at 226 California in Camden, Arkansas, or wherever located. . . . The loan secured by this lien was made under a United States Small Business Administration (SBA) nationwide program. . . ." (Joint Ex. 2.)

No document titled "Security Agreement" was executed by the Debtor at the time of the making of the loan guaranteed by the SBA. The form filed with the Ouachita County Circuit Clerk was signed by representatives of the Debtor and the Bank. Beneath the Debtor's signature is printed the word "Debtor(s)" and beneath the Bank's signature is the printed term "Secured Party(ies)."

The Debtor filed a voluntary petition for relief under the provisions of chapter 7 of the United States Bankruptcy Code on June 2, 2000, and the Trustee was appointed. The Bank then moved for relief from stay and abandonment, claiming it had a valid first lien in the accounts, inventory and equipment of the Debtor. On August 7, 2000, the Trustee filed an adversary proceeding to avoid the Bank's lien in the personal property as unperfected, alleging that the Bank's security interest did not attach because no security agreement exists expressly granting a security interest.

The Bank's position is that under the composite document rule, the specific language in the financing statement, promissory note, and loan application provides for a security interest in the collateral. The Trustee counters that even if the composite document rule applies in this case, the language in the three documents is insufficient to create a security interest.

LAW

The Bankruptcy Code provides:

(a) The trustee shall have . . . the rights and powers of, or may avoid any transfer of property of the debtor or any obligation incurred by the debtor that is voidable by —

(1) a creditor that extends credit to the debtor at the time of the commencement of the case, and that obtains, at such time and with respect to such credit, a judicial lien on all property on which a creditor on a simple contract could have obtained such a judicial lien, whether or not such a creditor exists; or

(2) a creditor that extends credit to the debtor at the time of the commencement of the case, and obtains, at such time and with respect to such credit, an execution against the debtor that is returned unsatisfied at such time, whether or not such a creditor exists . . .

11 U.S.C. § 544(a)(1) & (2)(1994).

This section of the Bankruptcy Code is referred to as the "strong arm clause," and one of its purposes is to cut off unperfected security interests. 5 Collier on Bankruptcy ¶ 544.03 (Lawrence P. King et al. eds. 15th ed. rev.2000). Under the strong arm provision, if the Bank's security interest was not perfected on the date the petition was filed, the Trustee's rights in the collateral are superior to the Bank's rights. Ark.Code Ann. § 4-9-301(a) & (b) (Michie Supp.1999).

Bankruptcy courts determine the nature and extent of property interests based on state law. Butner v. United States, 440 U.S. 48, 54, 99 S.Ct. 914, 59 L.Ed.2d 136 (1979) (citing U.S. Const. Art. I, § 8, cl.4); In re N.S. Garrott & Sons, 772 F.2d 462, 466 (8th Cir.1985). (citing 4 Collier on Bankruptcy ¶ 541.021 (Lawrence P. King, 15th ed.1985)). Thus, whether the Bank has a perfected security interest is a matter of state law.

Under Arkansas law, a non-possessory security interest is perfected if: (1) the debtor has rights in the collateral; (2) the debtor signs a security agreement in favor of the secured party which contains a description of the collateral; (3) value is given by the secured party to the debtor; and (4) a valid financing statement is properly recorded. Ark.Code Ann. § 4-9-203(1)(a)-(c) (Michie Supp.1999); Ark. Code Ann. § 4-9-302(1) (Michie Supp. 1999); Rice v. Citizens First Bank of Fordyce (In re Cheqnet Systems, Inc.), 227 B.R. 166, 168 (Bankr.E.D.Ark.1998) (citing In re Hot Shots Burgers & Fries, Inc., 169 B.R. 920 (Bankr.E.D.Ark.1994)).

Under the Arkansas Code, a security agreement is an agreement "which creates or provides for a security interest." Ark. Code Ann. § 4-9-105(1) (Michie Supp. 1999). The term "security interest" means "an interest in personal property or fixtures which secures payment or performance of an obligation." Ark.Code Ann. § 4-1-201(37) (Michie Supp.1999).

The Trustee relies on the definition of "security agreement" to support his argument that the second requirement necessary for a perfected security interest has not been satisfied. He contends that in addition to being signed by the debtor and containing a description of the collateral, an enforceable security agreement under section 4-9-105(1) must create or provide for a security interest. The Trustee argues that this requirement is lacking in all documents the Bank offers as potential security agreements.

In support of his contention, the Trustee cites Gassaway v. Erwin (In re Shelton), 472 F.2d 1118 (8th Cir.1973). In that case, the court held that a buyer and seller of an automobile clearly intended to create a security interest in favor of the seller by executing a bill of sale setting out the terms of payment and by filing an application for title and certificate of title showing the seller as a holder of a first lien and the buyer as owner.

Construing Missouri law on secured transactions with language virtually identical to that in Arkansas, the court held that, regardless of the parties' apparent intent, such documents did not satisfy the U.C.C. requirements for a security agreement. The court further stated that "although no precise words are required in the Code, the definitions given indicate that there must be some language in the agreement actually conveying a security interest." In re Shelton, 472 F.2d at 1120.

The Trustee also relies on Gibbs v. King, 263 Ark. 338, 564 S.W.2d 515 (1978) for the proposition that an enforceable security agreement must evidence language of grant or conveyance in order to create a security interest. The Trustee specifically focuses on the following passage: "Inasmuch as this record is void of any security agreement executed by appellant granting a security interest in the tractor to appellee . . . appellee had no valid security interest in the tractor. . . ." Gibbs, 263 Ark. at 342, 564 S.W.2d at 517.

Although the Gibbs court states that the grant of a security interest was essential to a document purporting to be a security agreement, the court did not hold that specific or express words of grant or conveyance were necessary. Research reveals no Arkansas case citing Gibbs for that proposition. It appears that the Arkansas Supreme Court has not addressed the precise issue of whether specific words of grant are necessary in order to create or provide for a security interest under the Arkansas Code.

The Arkansas Code provisions on secured transactions contemplate two separate documents to achieve perfection, a security agreement to evidence the parties' intent and a financing statement to give notice of the agreement to third parties....