"Consignment" Agreements Under New York law - Best Practices For Protecting Art, Especially When The Market Is Distressed
The recent chapter 11 bankruptcy of the Salander-O’Reilly art galleries (located on New York City’s Upper East Side) shows that the financial distress of a consignee of art is not always readily apparent. In today’s credit crunch, sadly, consignors may not recognize how their failure to take adequate steps to protect their interests in art prior to entering into a consignment arrangement may result in tragic consequences should the consignee end up in bankruptcy.
In both In re G.S. Distribution, Inc., No. 331 B.R. 552 (Bankr. S.D.N.Y. 2005) and In re Morgansen’s Ltd., 302 B.R. 784 (Bankr. E.D.N.Y. 2003), aff’d in part, No. 04-CV-0268, 2005 WL 2370856 (E.D.N.Y. Sept. 27, 2005), parties who consigned their goods did not file financing statements to protect their interest in these items. After the consignee ended up in bankruptcy, the consignors fought vigorously to prevent their consigned goods, in the consignee’s possession, from being subject to the claims of the consignee’s general creditors. This is because, as explained by the court in In re G.S. Distribution, Inc., “property acquired under a consignment arrangement, even if it is not paid for, may be subject to the claims of the consignee’s creditors,” and a debtor in possession or a bankruptcy trustee “may be entitled to exercise these rights under the Uniform Commercial Code (“U.C.C.”) for the benefit of the estate and its creditors.” 331 B.R. at 561.
Specifically, the In re G.S. Distribution, Inc. court explained that if the transaction is a consignment as contemplated by New York’s U.C.C. - Secured Transactions (“New York’s Article 9”), the consignor must ordinarily file a financing statement to protect its interest in the property from the claims of a bankruptcy trustee or a debtor in possession acting on behalf of the estate. Id. at 361. However, if the consignment relationship does not satisfy the definition in New York’s Article 9, the consignor is not automatically free from the claims of the consignee’s creditors. Instead, In re G.S. Distribution and In re Morgansen’s Ltd. explain that the parties’ relationship will be evaluated under New York’s U.C.C. – Sales (New York’s Article 2) and common law principles of bailment to determine whether, in the absence of a financing statement, the consigned goods are subject to the claims of the consignee’s creditors.
In today’s distressed market, these two decisions are important. These cases show that, in the absence of an enforceable financing statement at the outset of a relationship, a party may later be at the mercy of a court’s ad hoc determination because although the parties may describe the relationship as a “consignment,” the law may treat it differently. This could result in a court order that consigned art is subject to the claims of the consignee’s creditors, and thus, the loss of extremely valuable property.
If you are considering consigning art, it is important to consider whether a financing statement makes sense for you, and if so, where and how it should be filed, and how often it must be updated. For general information on financing statements in New York, see N.Y. Department of State: Uniform Commercial Code, http://www.dos.state.ny.us/corp/ucc.html.
