Court Orders Use Paca Trust Or Lose Its Protections

On June 22, 1999, the United States Court of Appeals for the Seventh Circuit, which covers Wisconsin, Illinois and Indiana, decided a case that adversely affects produce sellers’ qualifications for enforcing their trust rights under the Perishable Agricultural Commodities Act (“PACA”).

The case was on appeal from a favorable decision from the United States District Court for the Northern District of Illinois (“District Court”). Several produce vendors sold produce to the Austin J. Merkel Company, Inc. (“Merkel”) in Chicago, Illinois. Merkel failed to timely pay for the produce and the vendors filed Notices of Intent to Preserve Trust Benefits under PACA. Faced with the imminent insolvency of Merkel, two of the sellers entered into post-default agreements with Merkel that allowed Merkel to pay its outstanding obligation in weekly payments. A dispute exists as to whether the third seller entered into a similar agreement with Merkel. It is undisputed that Merkel made several payments to all three suppliers.

Thereafter, the PACA branch of the U.S. Department of Agriculture revoked Merkel’s license to operate in the produce industry due to repeated PACA violations, and shortly thereafter, Merkel went out of business. Since payments ceased, the sellers filed suit in District Court to enforce their PACA trust rights against Merkel and three principals of the corporation.

In the District Court, Merkel argued that the three sellers were not qualified for PACA trust protection because they entered into post-default agreements that extended Merkel’s time for payment of the outstanding debts beyond 30 days. In support of this argument, Merkel referred to the PACA regulation that states the maximum time for payment a seller can agree and still qualify for trust protection under the PACA is 30 days after receipt of the produce. Merkel also directed the District Court’s attention to a case decided by the United States Court of Appeals for the Eighth Circuit.

The District Court Judge did not accept Merkel’s position and ruled that “where, as here, there is no evidence of a seller’s attempt to evade the structures of PACA, post-transaction agreements extending the time period for payment of liquidated debt held in a PACA trust will not serve [to] waive the benefits of an otherwise validly preserved trust.” The Judge then granted judgment in favor of the produce suppliers against Merkle and its principals.

Merkel appealed the decision and argued to the Appeals Court that it should follow the Eighth Circuit Court of Appeals, which held that a produce supplier loses its PACA trust rights when it enters into a forbearance agreement with the buyer extending the buyer’s time for payment beyond 30 days after receipt of the produce. On appeal, the produce sellers advocated that the District Court’s decision was far better than that of the Eighth Circuit. Because produce sellers are entitled to PACA trust protection from the time the produce is delivered and maintain that protection until they are paid in full, agreements to collect payment of a validly created PACA trust, even if over time, should be encouraged by the Court. That is, post-default payment plans should be encouraged to avoid clogging the courts with numerous unpaid suppliers’ lawsuits in order to obtain payment.

After hearing all arguments, the Appeals Court reasoned that PACA was an extraordinary protection provided to produce sellers and was intended to protect short term creditors only. The Appeals Court did not want to enlarge the protection of PACA to include sellers that agreed to take payment over a period of time in excess of 30 days after delivery. The Appeals Court further stated that the District Court’s reasoning that only agreements designed to circumvent PACA would void the trust would be overly burdensome to the courts to make such a finding. The Appeals Court went on to state that suppliers and buyers could enter into forbearance agreements that provide the supplier with some form of security interest to replace the PACA trust protection lost as a result of the forbearance agreement.

As a result of this reasoning, the Appeals Court came up with a bright line test by deciding that produce sellers become ineligible for coverage under the PACA trust when they enter into post-default agreements that extend the time for payment by the produce purchaser beyond 30 days after acceptance.

All produce sellers must take heed of this decision because it will affect how they do business. Produce sellers usually hire our firm to collect a PACA trust debt only after the seller has made numerous efforts to obtain payments on the debt, entered into a payment plan and then the promised payments have not been made. The Appeals Court has now ruled that those post-default payment agreements would void PACA trust protection. The Appeals Court ruled that valid PACA payment terms must be in place when the PACA trust is enforced by commencing suit in Court. Thus, it appears from this decision that settlement of lawsuits can be reached without disqualifying the seller for trust protection. However, the Court did not find which type of “agreements” would be necessary to void the trust. Two of the sellers in this case were found to have entered into written payment agreements extending time and therefore their trust protection was void. The third seller did not enter into a written payment agreement, but there was nonetheless some sort of agreement to accept payments because payments were made and accepted. The Appeals Court remanded this issue back down to the District Court for a determination whether there was, in fact, an “agreement.” This case does not explicitly state it, but it leaves the door open for other courts to rule that any sort of an agreement whether it be oral or course of dealing would void PACA trust protection.

This Appeals Court is notifying the industry that it has an extraordinary collection remedy in the PACA trust. Sellers must use this tool aggressively to collect their past due debts or lose its benefits. Therefore, unpaid produce sellers must first file suit to collect their unpaid trust claims. Once suit is filed, if the produce buyer is solvent and may be able to make payments, the parties then could enter into a payment arrangement without risk of losing PACA trust protection.

The Appeals Court’s decision, although it may be technically legally sound, is bad law for the produce industry. The intent of the PACA trust is to insure that unpaid produce sellers are paid ahead of any other creditors. The buyer’s inability to promptly pay is the exact situation the trust was intended to prevent. To allow the buyer’s non-payment of promised payments to void the trust, in our opinion, defeats the entire law’s purpose. The portion of the law that limits payment agreements to 30 days is set forth in the PACA regulations and not the PACA statute. The PACA branch of the U.S. Department of Agriculture is responsible for making and implementing these regulations, and could amend the regulations to state that the 30 day limitation on payment term is intended for the pre-transaction agreements calling for payment of the goods, and that post-default workout agreements are not subject to the 30 day limitation. With this change, the PACA trust would be available only to sellers, who at the time of the sale, intend payment to be made within 30 days. Sellers would then be able to make settlements with those buyers who do not pay, without running the risk of losing their PACA trust protection. This may be a better rule that is beneficial to the industry. In the meantime, sellers must be aware not to enter into any agreements that extend a buyer’s payments, or they run the risk of losing their PACA trust protection.