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The Shelter Principle and Buyers of Collateral

31. What is the “Shelter Principle” – Section 2-403(1)?

The shelter principle offers additional protections for buyers of collateral from other consumers. Basically, this equitable principle states that a good faith purchaser of property acquires all of the rights that the transferor of that property. The shelter rule will provide the purchaser with a claim of interests that may be superior to a previously perfected secured creditor. The shelter principle is broader than the BYOC and UCC 9-320 protections. It protects consumer and non-consumers who purchase collateral from a buyer in the ordinary course. Further, it protects the buyer in situations where the secured party has filed a security interest covering the collateral, which is outside of the scope of 9-320.

•    Example: Suppose Biz, LLC purchases a good used personally by a consumer, Tom. The good was subject to a perfected security interest as inventory in the hands of the seller, Seller, Inc., when it was originally sold to Tom. Tom, as a consumer, would have taken the item free and clear of the security interest in the inventory. When Tom later sells the item to Biz, LLC, the shelter principle is the only rule to protects it. Biz, LLC does not qualify as a purchaser in the ordinary course and is not protected as a consumer under UCC 9-320. Biz, LLC, as a subsequent purchaser or transferee of that collateral from the buyer, receives all of Tom’s rights in the collateral. As such, Biz, LLC takes the collateral free and clear of the original security interest. It does not matter whether Seller, Inc., filed a financing statement to perfect the security interest.

•    Discussion: How do you feel about the Shelter Principle? What do you think are the objectives behind the Shelter Principle? Is the rule adequate or overly broad? Why? Do the protections for business and consumers against filed and unfiled security interests affect your opinion?

•    Practice Question: Yolanda purchases a couch from ABC Inc. ABC perfects a security interest in the couch. Yolanda later sells the couch to Zora. Is Zora’s couch still subject to ABC’s security interest? What information do we need to know to answer this question?

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