Last week we started looking at security interests and what they can mean for auctioneers. This time we are going to see why these liens spoon up negative implications for auction sales and how auctioneers act to protect themselves against the threats posed.

We saw in the previous column that a security interest is an interest in property that can be created by the agreement of the property owner.

So a store that sells a consumer an appliance, with a financing arrangement in place for the consumer to pay the price over time, might obtain a written agreement from the consumer that gives the store a collateral interest in the appliance.

We also noted that a security interest can be created by operation of law. An example would be a creditor successfully suing a debtor for a debt owed, with the court’s judgment order being used to obtain a lien against the judgment-debtor’s personal property or commercial goods. This would be another form of a security interest.

You can think of a security interest as being akin to a mortgage recorded against real estate. Both work for the benefit of a creditor by attaching a debt owed by a debtor to assets that then stand as collateral to secure the debtor’s performance in paying the underlying obligation to the creditor.

A security interest represents an adverse and dangerous circumstance for an auctioneer. This is because it is an encumbrance on the title to the property to be sold. That means the seller does not possess clear title to the property and the unconditional right to sell and convey the property to a buyer.

Such an encumbrance poses a challenge for an auctioneer who must both identify the existence of the security interest and then work to either satisfy or otherwise resolve it before selling the property to an auction buyer.

There is a distinct danger to an auctioneer who fails to clear the obstacle that a security interest represents. Selling such property without the creditor being paid in full or agreeing to the sale would cause the loss of the creditor’s collateral which secures the seller-debtor’s underlying debt owed to the creditor. This would be what the law calls the tort of “conversion.” Conversion occurs when one party exercises an unauthorized right or control over the property of a second party - such as a sale of property at auction without a secured creditor’s approval.

Here is an example of a conversion from a creditor’s point of view.

A creditor takes an interest in certain property to serve as collateral to ensure the property owner’s performance in repaying a debt owed to the creditor. One day the creditor learns that the collateral has been sold without the creditor’s knowledge or approval. Worse still, the creditor finds that the proceeds from the sale have gone into the pockets of the wrongful-acting owner, who had the property sold despite the security interest against it, and the auctioneer who conducted the sale. If you were the creditor and relied on this property to serve as valuable collateral for the money you were owed, how would you feel over its loss from being sold, with the owner and auctioneer making off with the moolah? You would feel plenty bad and be plenty mad. So what would you do about it? You would likely call a lawyer. When the lawyer confirmed your suspicion that these two had done you wrong and suggested you sue them, you would likely … sue them!

Consequently, such a conversion gives the creditor the dual option of suing not only the seller-debtor on the debt, but also suing the auctioneer for damages resulting from the auctioneer’s conversion of the property. Do not think that this is a mythical or theoretical scenario. Quite the contrary, it happens regularly and the more money there is involved for the creditor, the more likely the sheriff will be visiting Mr. Auctioneer to serve some suit papers.

If you are an auctioneer and want to avoid being sued, you had better make a good note about steering clear of this predicament. If you find yourself in it, you are going to be an easy target. Just consider that an auctioneer holds himself out to be a competent professional yet, in this situation, the auctioneer would have failed to find a recorded security interest that had been recorded against property to protect a creditor’s important financial stake.
Auctioneers must practice the diligence necessary to discover security interests and the professionalism required to handle them.

The path to discovery begins with a thorough interview of the would-be seller during which the auctioneer probes the history of the prospect’s involvement with the property.

Here are a handful of key questions that an auctioneer should ask a prospective seller during the initial interview:

1. When did you acquire the property and where did you get it?

2. What is the identity and location of the seller that sold the property to you?
3. Was the seller a commercial enterprise or private owner?

4. Was the property new or used when you purchased it?

5. In what name did you purchase the property?

6. Did you buy the property as an individual, or through a business entity, or in concert with one or more other buyers?

7. If you purchased the property with another buyer, identify each such buyer.
8. How did you pay for the property - all cash or was any part of the purchase price financed?

9. If any part of the purchase price was financed, what were the details of the financing?

10. Was the property ever used as collateral to secure the financed portion of the purchase price or any other debt or obligation?

11. Do you have a copy of the bill of sale and any other paperwork relative to the sale?

12. Has the property ever been pledged as collateral for a loan or other obligation and, if so, when, where, to what creditor, and for how much money?

13. Has there been any court judgment entered against you, the purchasing entity, or any other buyer of the property that remains unsatisfied?

14. Do you know of any encumbrance that exists against the property and, if so, what are the details?

15. To your knowledge and belief, do you have good title to the property and the full right to sell it at auction and receive the sale proceeds?

It is not enough for an auctioneer to ask these questions. He must also listen to each answer, understand the information given, and follow up on it to complete the type of due diligence that this area requires.

Once the auctioneer has all of the information in hand that he can gain, it is time to go to the state records depository and search for any recorded security interests.

Next week, we are going to consider what steps an auctioneer should take with a creditor and would-be seller when a security interest is discovered.

The views and opinions expressed in this column are those of the author and not necessarily those of Farm World. Readers with questions or comments for Steve Proffitt may write to him in care of this publication.