When lenders finance equipment for customers, there is a concept called PMSI. I want to spend this blog explaining what it is.
To start, PMSI is an acronym for “Purchase Money Security Interest”, and is very important for lenders, especially those who finance equipment purchases.
Essentially, what it means is the lender who pays for the equipment has first claim on it in a loan default / repossession scenario. For new equipment, as long as the financier pays the equipment vendor directly and files a UCC within 20 days, PMSI is automatically established. This is how most equipment financing deals work – the lender pays the manufacturer for the equipment directly, and the customer pays the lender back.
This is very important in business. If you’ve read this blog over the years, you know I talk about bank loans and blanket liens quite often. The purpose of PMSI is to help protect lenders against future liens (such as blanket liens). So even if a bank throws a blanket lien on a company, the original lender still has first claim on the particular piece of equipment they funded (which is the way it should be.)
There are a few instances here, however, that sometimes need further time and work. The first one is the type of deal where a borrower actually pays the vendor for the equipment, and the lender immediately reimburses them. Ideally, PMSI works the same way, but the burden of proof shifts to the lender to say “we paid for that equipment indirectly”. This is usually not a problem assuming the equipment is new (all it needs is perhaps another form stating that the funds were used to buy the equipment, albeit indirectly, along with original paperwork and evidence of payment.)
But in the case of used equipment, it can get sticky. This is because previous lenders may have already established PMSI and/or may have blanket liens, and nobody can be 100% certain the piece of equipment is “clear” of liens. There is risk involved for the buyer because the buyer may not actually have clear title (that’s why most lenders simply will not loan on used equipment because the buyer can’t always prove clear title is being passed by the seller). This is easier when the seller of the equipment is the original owner, has an original bill of sale, has no liens, and the buyer is going to become the second owner. Or the equipment is a titled vehicle – that’s easier to trace former liens as well (note: I’m repeatedly using the word “easier” here, but the examples above are still more work than a straight “buy new” deal).
Lien issues can get really complicated when the equipment has had multiple owners, or the original bill of sale cannot be procured. This takes a lot of work (and increased costs) to try to figure out if the equipment is free of liens (and no one can be 100% sure). There are too many steps to go over here, but let’s simply say it can take days of waiting for answers, and be costly in the time spent.
UCC filings are more complicated than meets the eye. And 100% of the risk is ALWAYS the buyer’s burden (the lender is not responsible). Lenders may attempt to assist the buyer in order to better protect their loan with a first position on the collateral, but identifying and releasing any liens are the responsibility of the seller. Caveat emptor, buyer beware when it comes to used equipment.