Martin Silver is a practicing attorney with offices in Hauppauge, N.Y. He was a flooring installer before and during the time he went to law school and has since represented numerous industry people and companies. To contact him, call 631-435-0700.
A section of the Uniform Commercial Code (UCC) states, "When goods are delivered to a person for sale and such person maintains a place of business at which he deals in goods of the kind involved under a name other than the name of the person making delivery, then with respect to claims of creditors of the person conducting the business the goods are deemed to be on sale or return...goods held on sale or return are subject to the claims of the buyers' creditors while in the buyers' possession."
This section of the code answers the question, "What happens to the rugs I received on 'consignment' and the broadloom rolls delivered to my store 'on memorandum' when I go out of business due to lack of money?" According to this section, with some exceptions, the person who delivered those goods on consignment has no greater rights to them than any other general creditor.
It does not matter if the seller attempted to retain title to the goods by the use of the terms "on consignment" or "on memorandum." According to the UCC, no matter what they call it, and no matter that payment does not have to be made until the goods are sold or that they can be taken back by the seller at any time, such a transaction is considered to be on "sale or return." As such, if the buyer becomes insolvent, those goods go into the pot with everything else to be divided among all the creditors.
We should point out this section applies only if the buyer, who receives such goods, maintains a place of business at which he deals in goods of the kind involved, like the flooring store in our example. If a single rug is delivered to a customer's home to "live with it for a while before deciding," different rules apply.
This type of transaction, under the same section of the code, is said to be a "sale on approval." Goods held on approval, primarily for use as opposed to resale, are not subject to the creditors' claims but instead remain the property of the seller.
But what about the distributor who is willing to deliver rolls on consignment, or an importer who is willing to leave some rugs in a dealer's store to "see what happens"? Can they retain the rights to those goods if the dealer does not make it? Yes, but it must be done very carefully.
The first thing is check if anyone else has filed a lien, or security interest, on his buyer's inventory. If so, the one who holds that lien must be given written notice before the consignment goods are delivered.
Then, after the goods are delivered, the seller must give the rest of the world notice the goods are still his. Under the UCC code, he can do this one of two ways: placing a sign next to the goods stating they belong to him and not the storekeeper- not an attractive option for the dealer.
The other way is to comply with the filing provision needed to protect his lien. This must be done just right or it will be ineffective. The purpose behind these requirements is notice. The law wants anyone who is considering giving credit or to know the store full of goods does not belong to him, and they won't be able to touch them if their deal goes bad.
We should mention if "the person conducting the business is generally known by his creditors to be substantially engaged in selling the goods of others," a seller on consignment does not have to place a sign or do a filing to retain title. In most cases, however, it would probably require legal action to decide what "substantially engaged in selling the goods of others" means in a specific instance.
Most importantly, anyone considering entering into a transaction of this type should check with a local lawyer familiar with this area to make sure it's done right. To do otherwise could prove very costly.