10-Nov-04 12:00 PM  CST  

Car Title Disputes Arising Out of Sales Out of Trust 

frequently get this financing from the finance subsidiaries of the manufacturers, such as GMAC or Ford Motor Credit.   With used car dealers, such financing may come from a local bank or an individual or group of individuals.   Under these floorplan agreements, dealers receive funds from the lender to purchase new cars from a manufacturer or used cars from a wholesale source, such as an auction or another dealer.   In return for providing a line of credit to purchase inventory, for example at an auction, the dealer will agree to grant a security interest to the lender on all of its inventory.   In practice, this means that, when a floorplanned vehicle is sold off its lot, the dealer is obligated to use the proceeds first to pay off the principal and interest owed to its floorplanner, leaving any remainder as its gross profit.   To further protect themselves, floorplanners will commonly retain possession of the titles or manufacturer’s certificates of origin to automobiles purchased with their credit until the money that they have advanced, together with interest or other applicable fees, is paid off by the dealer.

 

            Not infrequently, dealers, especially in the used car context, sell floorplanned vehicles to consumers by execution of a retail installment contract, receive a payment from a finance company for the sale and assignment of the contract, and then fail to use these proceeds to pay their floorplanner.   (The reasons for this failure to pay can run the gamut from excessive spending on drug or gambling addictions, payment of other demanding creditors before the floorplanner to simple business incompetence.)   What is a floorplanner to do?   At a minimum, the injured floorplanner will usually refuse to release the title it has retained as security.   More assertive floorplanners have even arranged for the repossession of the floorplanned vehicle from the innocent consumer-buyer.   Even when a consumer does not find the automobile repossessed in the middle of the night by the floorplanner, the dealer’s failure to obtain title and registration for the consumer will prevent the consumer from lawfully operating the vehicle.   In effect, floorplanners usually try to assert that the consumer-buyer and the finance entity that financed the sale should bear the entire risk of loss from the dealer’s failure to pay.  

 

            To obtain a license to sell vehicles, used car dealers are required to have a $25,000 bond in place to cover damages incurred by buyers and others when title does not pass.  See Tex. Transp. Code § 503.033.    As currently construed, this law permits consumers, retail finance entities and wholesalers to sue what are often defunct dealers and obtain judgments and then to recover the amount of these judgments against the applicable dealer bond of $25,000.   Old Republic Surety Company v. Reyes, 2002 Tex. App. LEXIS 5649 (Tex. App. - Dallas 2002, pet. pending)(consumer); Grammercy Ins. Co. v. Arcadia Financial Ltd., 96 S.W.3d 320, 323-326 (Tex. App. - Austin 2001, pet. denied)(retail finance company); Grammercy Ins.  Co. v. Auction Finance Program, 52 S.W.3d 360, 363-368 (Tex. App. - Dallas 2001, pet. denied)(auction house); Grammercy Ins.  Co. v. Arcadia Financial Ltd., 32 S.W.3d 402, 407 (Tex. App. - Houston [14^th Dist.] 2000, no pet.)(retail finance company); Lawyers Surety Co. Royal Chevrolet, 847 S.W.2d 624, 626-627 (Tex. App- Texarkana 1993, no writ)(wholesaler); Geters v. Eagle Ins. Co., 834 S.W.2d 49, 50 (Tex. 1992)(consumer).   Interestingly enough, floorplanners would usually have no claim to recovery under the bond.   Grammercy Ins. Co. v. MRD Investments, Inc., 47 S.W.3d 721, 727 (Tex. App. - Houston [14^th Dist.] 2001, pet. denied); Lawyers Surety Corporation v. Riverbend Bank, 966 S.W.2d 182, 185-187 (Tex. App. - Fort Worth 1998, no pet.).

 

            Problems frequently arise, however, because a $25,000 bond will usually only cover the loss associated with one or two automobiles.   Additionally, the bond covers only claims occurring during the 12-month term of the bond which has been reduced to judgment.   Sureties most often pay claims in order of presentment.   Thus, the surety bond is paid out on a first-come-first serve basis with the first claimant recovering up to the amount of the $25,000 face value of the bond and with each claim reducing the value of the bond until fully depleted.   When a dealer sells out of trust, however, it is not unusual for the dealer to sell a whole raft of vehicles out of trust before it is discovered.    When the minimal dealer bond is not enough to cover the potential loss, the question of who bears the risk of loss must be addressed head-on.   Unfortunately, in these circumstances, the law in Texas is as not clear on the placement of the risk of loss as I wish it was.

 

B.        Who should bear the risk of loss?

 

            As support for the position that the consumer and the retail finance entity should bear the full risk of loss, the floorplanner will usually argue that the purported sale of the vehicle to the consumer-buyer by the dealer was void due to the failure of the dealer to possess title or to transfer title at the time of sale.   Floorplanners rely specifically on Tex. Transp. Code § 501.071(a) which provides that “[a] motor vehicle may not be the subject of a subsequent sale unless the owner designated on the certificate of title transfers the certificate of title at the time of sale” and Tex. Transp. Code § 501.152 which provides that it is an offense to sell or offer to sell a motor vehicle registered in this state when the seller “does not possess the title receipt or certificate of title for the vehicle.”   Thus, since Tex. Transp. Code § 501.073 provides that “[a] sale made in violation of this chapter is void and title may not pass . . . ,” floorplanners argue that no title passes when they are holding the title and the dealer did not transfer title at the time of the purported sale.   In a number of cases in which floorplanners, wholesalers and other sellers were paid with drafts that bounced, several Texas appellate courts have accepted this Certificate of Title Act (“COTA”) argument and have found subsequent sales by dealers to be void.   Bank One Texas N.A. v. Arcadia Financial Ltd., 219 F.3d 494, 497-498 (5^th Cir. 2000); Allstate Insurance Company v. Troy’s Foreign Auto Parts, 2001 Tex. App. LEXIS 5029 (Tex. App. - Dallas 2001); Gallas v. Car Biz. Inc., 914 S.W.2d 592, 594-595 (Tex. App. - Dallas 1995, pet. denied); Everett v. United States Fire Insurance Company, 653 S.W.2d 948, 950 (Tex. App. - Fort Worth, no writ); Boswell v. Connell, 556 S.W.2d 624, 625-626 (Tex. Civ. App. - Beaumont 1977, writ ref’d n.r.e.).   What does this mean in practice?   The floorplanner retains title, is entitled to possession of the vehicle sold out of trust, and the innocent consumer must bear the entire risk of loss.   The practical result places every consumer in peril.   Giving legal significance to the mere possession of a certificate of title provides the floorplanning lender the best of both worlds: permitting its inventory collateral to be exposed to sale to the public from which proceeds are generated for the dealer to pay the secured debt, and empowering that lender to render void, retroactively, any sale of which it does not approve.

 

            1.         Agency Exception

 

            In an effort to ameliorate the harshness of this rule, other courts have found an agency exception.   Initially, these courts cite to the recognized rule that a sale of an automobile may still be valid as between a buyer and a seller despite non-compliance with COTA.   Phil Phillips Ford, Inc. v. St. Paul Fire & Marine Insurance Co., 465 S.W.2d 933, 937 (Tex. 1971); Hudson Buick, Pontiac, GMC Truck v. Gooch, 7 S.W.3d 191, 197 (Tex. App. - Tyler 1999, pet. denied); Tyler Car v. Empire Fire & Marine Ins. Co., 2 S.W.3d 482, 485 (Tex. App. Tyler 1999, pet. denied); Jarrin v. Sam White Oldsmobile Co., 929 S.W.2d 21, 24 (Tex. App. - Houston [1^st Dist.] 1996, writ denied); Najarian v. David Taylor Cadillac, 705 S.W.2d 809, 811-812 (Tex. App. - Houston [1^st Dist.] 1986, no writ).   If proven that the dealer was acting as the agent of the floorplanner in selling the vehicle, a number of courts have recognized  that the innocent consumer who purchased from the dealer is entitled to retain possession and to receive title, even if COTA was violated in the process.   Morey v. Page, 802 S.W.2d 779, 784 (Tex. App. - Dallas 1990, no writ); IFG Leasing Co. v. Ellis, 748 S.W.2d 564, 566 (Tex. App. Houston [1^st Dist.] 1988, no writ); Cash v. Lebowitz, 734 S.W.2d 396, 398 (Tex. App. - Dallas 1987, writ ref’d n.r.e.); Jim Stephenson Motor Co., Inc. v. Amundson, 711 S.W.2d 665, 669 (Tex. App. - Dallas 1986, writ ref’d n.r.e.); Pfluger v. Colquitt, 620 S.W.2d 739, 743 (Tex. Civ. App. - Dallas 1981, writ ref’d n.r.e.).   These courts recognize that if A (the dealer), as agent of B (e.g., the floorplanner), was authorized to sell a vehicle to C (the buyer), the sale would be effective as between B, the actual seller, and C, the buyer. Morey, 802 S.W.2d at 784.   Under these circumstances, the floorplanner would bear the risk of loss associated with its own agent’s faithlessness.   Cash, 734 S.W.2d at 399; Pfluger, 620 S.W.2d at 743.   In other words, the floorplanner then would bear the loss of the money that the dealer failed to pass on to the floorplanner following the sale.  

 

            This agency exception to the general rule requiring compliance with COTA gives some protection to innocent consumer-purchasers, but not always.   In Morey v. Page, for example, the Dallas Court of Appeals found inadequate evidence of agency.   In that case, Page consigned a 1967 Bentley for sale by Yardley under the stipulation that he recover a $20,000 net profit.   Yardley then negotiated the sale of the Bentley to Morey for only $9,000, and Yardley absconded with these funds.   The Dallas Court of Appeals found no express authority for the sale due to the failure to meet the consignment condition of a $20,000 net return and no apparent authority due to the fact that Yardley never disclosed that he was acting on behalf of Page.   Morey, 802 S.W.2d 782-785.   Given the fact that the strength of the evidence in favor of agency will vary greatly from case, this exception provides at best an uncertain lifeline to innocent purchasers.   If the innocent purchaser is buying from a licensed dealer, in a transaction that has the appearance of a sale in the ordinary course of the dealer’s business, why should the validity of the sale be dependent upon a prior transaction between the dealer and an undisclosed principal?   The Texas Uniform Commercial Code provides rules of priority that protect buyers in the ordinary course of business in such circumstances.

 

            2.         UCC alternative

 

            If the UCC applies in the context of a sale out of trust by a dealer, an innocent purchaser would be accorded title and the risk of loss associated with the dealer’s defalcation would be placed squarely upon the floorplanner.   In a majority of the states, the UCC prevails over the applicable COTA in cases involving out of trust sales.   See, e.g., Madrid v. Bloomington Auto Company, Inc., 782 N.E.2d 386, 391-397 (Ind. App. 2003); Jones v. Mitchell, 816 So.2d 68, 69-72 (Ala. App. 2001); Cherry Creek Dodge, Inc. v. Carter, 733 P.2d 1024, 1027-1029 (Wyo. 1987); Dartmouth Motor Sales, Inc. v. Wilcox, 517 A.2d 804, 806-807 (N.H. 1986); Big Knob Volunteer Fire Company v. Lowe & Moyer Garage, Inc., 487 A.2d 953, 956-959 (Pa. Super. 1985); Atwood Chevrolet-Olds, Inc. v. Aberdeen Mun. School Dist., 431 So.2d 926,  927-929 (Miss. 1983); Martin v. Nager, 469 A.2d 519, 522-526 (N.J. Super. 1983); Roger D. Billings, Floor Planning, Retail Financing & Leasing in the Automobile Industry  §§ 5.36 - 5.41 (West 1998).   Interestingly enough, the Texas Transportation Code specifically provides that it is to yield to the Texas Uniform Commercial Code where there is a conflict between these two bodies of law.   Tex. Transp. Code § 501.005.   Several Texas courts have recognized the U.C.C. as an alternative source of law which, unlike the agency rule, provides a bright line rule.

 

            Innocent buyers are entitled to receive title in “out of trust” sales under two theories based on the U.C.C.   First, under Tex. Bus. & Com. Code § 2.403(a), a person “with voidable title has power to transfer a good title to a good faith purchaser for value,” and “[w]hen goods have been delivered under a transaction of purchase the purchaser has such power even though . . . the delivery was in exchange for a check which is later dishonored . . . or the delivery was procured through fraud punishable as larcenous under the criminal law.”   In effect, the courts construing these provisions have held that a purchaser who procured a good, such as a vehicle, with a check or draft that was dishonored nevertheless had voidable title to pass and that a good faith buyer from such a fraudulent purchaser was entitled to receive title.   Prestige Ford v. Dallas Postal Credit Union, 2002 Tex. App. LEXIS 974, * 11-13 (Tex. App. - Dallas 2002)(dishonored draft); Perry v. Breland, 16 S.W.3d 182, 190 (Tex. App. - Eastland 2000, pet. denied)(dishonored check); Villa v. Alvarado State Bank, 611 S.W.2d 483, 487-488 (Tex. App. - Waco 1981, no writ)(dishonored check); Leif Johnson Ford, Inc. v. Chase National Bank, 578 S.W.2d 792, 794 (Tex. Civ. App. - Beaumont 1978, no writ)(“Section 2.403(a) gives good faith purchasers of even fraudulent buyers-transferors greater rights than the defrauded seller can assert.”).

 

            Second, under Tex. Bus. & Com. Code § 2.403(b), the “entrusting of possession of goods to a merchant who deals in goods of that kind gives him power to transfer all rights of the entruster to a buyer in the ordinary course of business.”   Under Tex. Bus. & Com. Code § 1.201(9), a “‘buyer in the ordinary course of business’ means a person who in good faith and without knowledge that the sale to him is in violation of the ownership rights or security interest of a third party in the goods buys in ordinary course from a person in the business of selling goods of that kind but does not include a pawnbroker.”    Under Tex. Bus. & Com. Code § 2.401(b), title to goods passes when the seller completes physical delivery of the goods, even if a document of title is to be delivered at a different time and place.

 

            Under an amendment to COTA passed in 1971 and intended to be a reversal of the ruling in Phil Phillips (see above) on the inapplicability of the UCC to automobile title issues, the provisions of the UCC are supposed to prevail over the Certificate of Title Act in the event of any conflict.   Tex. Transp. Code § 501.005.   This amendment should have established that §§ 2.401 and 2.403 control over the Act’s provisions which purport to void the sale of an automobile absent possession of title by the seller at the time of sale or absent a transfer of title at the time of sale.   Hudson Buick, 7 S.W.3d at 198; In re Bailey Pontiac, Inc., 139 B.R. 629, 633 n.3 (Bkrptcy. N.D. Tex. 1992).

 

            While the conflict between the UCC good faith buyer provisions and the Certificate of Title Act is clear, the Dallas Court of Appeals and a few other courts have attempted to “harmonize” the statutes and thereby avoid the resulting UCC control in the event of a conflict.   Gallas, 914 S.W.2d at 594-595; Morey, 802 S.W.2d at 783-784; Everett v. U.S. Fire Ins. Co., 653 S.W.2d 948, 950 (Tex. App. - Fort Worth 1983, no writ); Pfluger, 620 S.W.2d at 741-742; Bank One Texas N.A., 219 F.3d at 497 n. 3 (5^th Cir. 2000).   The existence of a conflict between §§ 2.401 and 2.403 of the UCC and COTA, however, is clear and the UCC should govern title disputes arising out of “out of trust” sales.   The Tyler Court of Appeals and the U.S. Bankruptcy Court for the Northern District of Texas have recognized the conflict and have given full effect to the UCC.   Hudson Buick, 7 S.W.3d at 198; In re Bailey Pontiac, Inc., 139 B.R. at 633 n. 3.   Likewise, two dissenting justices on the Dallas Court of Appeals have recognized the conflict and opined that § 2.403(b) should be given full effect.   Gallas, 914 S.W.2d at 595-601; Pfluger, 620 S.W.2d at 744-748.

 

            3.         Recent cases finding that COTA is inapplicable

           

            On January 27, 2003, U.S. District Judge Sim Lake of the United States District Court for the Southern District of Texas concluded that a dealer was not an “owner” for purposes of Trans. Code § 501.071 and, therefore, the failure to transfer title did not render a sale from a dealer to a retail buyer invalid under Trans. Code § 501. 073.   In re Dota, 288 B.R. 448, 455-458 (S.D. Tex. 2003).   Judge Lake further held that neither the Transportation Code nor the UCC permitted a floorplanner to assert a security interest to a vehicle held as inventory by merely retaining possession of the title.   Id. at 458-460.   Then, Judge Lake applied the UCC to find that a cash buyer was a buyer in the ordinary course of business under Tex. Bus. & Com. Code § 1.201(9) and, thereby, free to take title to a vehicle, despite having failed to demand a transfer of title at the time of sale.   Id. at 460-461.   This decision was appealed to the Fifth Circuit, but the appeal was dismissed on jurisdictional grounds.

 

            More recently on August 27, 2004, the Corpus Christi Court of Appeals took a different tack to rule for an innocent consumer buyer.   In a classical sale out of trust involving the same dealer as in the Dota bankruptcy case, this appellate court, unlike the Dallas Court of Appeals and the 5^th Circuit Court of Appeals, found a conflict between the COTA and the UCC and then applied the UCC.   Finding the consumer to be a “buyer in the ordinary course of business,” the Court thereby affirmed the trial court’s finding that the consumer should receive title free of the bank’s inventory lien.   First National Bank of El Campo v. Buss, 2004 Tex. App. LEXIS 7831 (Tex. App. - Corpus Christi 2004).   The bank defendant apparently intends to file a petition for review with the Texas Supreme Court, as it filed for an extension of time to file such a petition on October 13, 2004.   This motion was granted and the bank has until November 1, 2004 to file its petition for review.   Should the Texas Supreme Court decide to take the case, the issues raised in the foregoing cases will finally be resolved.   How these issues will pan out before the current Texas Supreme Court is anyone’s guess.

 

            Based on the Dota and Buss rulings, COTA would never apply to cases involving dealers who made “out of trust” sales.   Under Dota, there is no need to argue that there is a conflict between COTA and the UCC, so that the preemption provision in COTA becomes effective.   By contrast, under Buss, there is a conflict between COTA and the UCC and this means that the UCC prevails.   In short, if the Dota and Buss cases are followed, the bright line of the UCC will apply to all “out of trust” cases involving dealers, and the cases applying COTA to such issues in the past can be ignored.   I certainly hope this is where the law shakes out, as the UCC provides a rule which is both more fair and more clear than COTA.  

 

            Even if Dota and Buss are not followed in the future, practitioners should expect a change in the law nevertheless.   The Conference on Uniform Laws is considering proposals for changes in the uniform COTA that would recognize the BFP rule now solely recognized in the UCC.  Should such proposed amendments to our COTA be passed by the Texas Legislature, innocent consumer-purchasers will be protected, even if our courts fail to recognize that the UCC should apply. 

 

C.        Conclusion

 

            In any sale out of trust case, attorneys considering representation of an injured consumer buyer should closely evaluate the facts.   First, does the dealer which sold the vehicle at issue out of trust still possess an untouched dealer bond of $25,000?   If so, has anyone else already filed and how close are they to a judgment, default or otherwise?   Second, how did the floorplanner act after discovering the default by the dealer?   Did it merely hold the title or did it act more aggressively by, for example, repossessing the vehicle at issue?   If so, is the floorplanner a deep pocket or merely a small business entity?   Third, is there a consumer finance party that purchased the dealer’s retail installment contract?   If so, you should consider whether the duty to obtain title is imposed upon the assignee of the retail installment contract, thereby allowing a consumer to sue its consumer finance lender for breach of the warranty of title under Tex. Bus. & Com. Code § 2.312 and recover damages or rescission/revocation of acceptance plus attorney’s fees.   In the right case, an attorney representing a consumer buyer in a sale out of trust case can not only obtain good results for the client but recover a decent fee as well.

 

 

For additional information on this Consumer Law article, please contact:

Richard Tomlinson
(713) 627-2100

Source: Richard Tomlinson

Related Documents:

Content Tags: consumer law • new and used auto sales disputes

 

Other Recent Articles:

Return to Consumer Lawyer Articles Search