Reservation of title to sold goods
Reservation in the sales contract of ownership of the goods until full payment of the purchase price by the buyer increases the security of a supplier of raw materials and semi-finished products to a customer threatened with insolvency.
Passage of title despite lack of payment of purchase price
Under Polish law, on the sale of individually identifiable movable property (such as a car), ownership passes to the buyer at the time of conclusion (signing) of the contract by the parties. But in the case of sale of fungible goods (identifiable only by type, such as steel reinforcing bars), apart from the contract, passage of ownership to the buyer also requires delivery to the buyer. Title passes to the buyer upon delivery of the goods by the seller.
In either case, ownership passes to the buyer regardless of whether the buyer has paid the purchase price. Sometimes businesspeople guided by intuition do not realise this, but assume that the buyer becomes the owner only after paying the purchase price.
In commerce, most commonly the seller supplies the goods and only later, sometimes after many weeks, receives the price. In the period between taking possession of the goods and paying the price, the buyer can dispose of the goods (e.g. sell them to a third party) or encumber the goods to secure the buyer’s other obligations. The buyer could also go bankrupt in that time, resulting in the goods being included in the bankruptcy estate. So from the point when the seller supplies the goods, it is at risk of relinquishing title without receiving payment.
One method of limiting this risk to the seller can be to reserve title to the sold items, in the sale contract, until the full price has been paid by the buyer.
Consequences of reservation of title
In relations between the seller and the buyer, this reservation of title has the effect that until payment of the entire price (e.g. all instalments) the seller remains the owner of the goods. Upon payment of the price, title passes to the buyer automatically, without the need to conclude any additional agreements confirming this event.
The effectiveness of a reservation of title may be extended to the buyer’s creditors. This requires fulfilment of two conditions: inclusion of a reservation of title in the sale contract, and a “date certain”—certification of the date of the contact by a notary. Thanks to obtaining a “date certain,” if execution is conducted against the buyer’s assets, the seller will be able to prove that the reservation of title was made prior to the execution.
When these requirements are met, the buyer’s creditors will be barred from executing against the goods covered by the reservation of title. This applies to both ordinary execution by the bailiff and collective execution in the event of the buyer’s bankruptcy.
In our practice we have dealt with clauses reserving title to goods sold, involving for example the sale of construction materials (including building insulation), semi-finished steel products (slabs), raw materials (textiles) used for manufacturing of furniture, and elements (masts, turbines and rotors) of windmills installed at wind farms.
Obtaining a “date certain” is fairly inexpensive. The notary charges a fee of PLN 6 + VAT per page of the contract containing the reservation of title.
Unlike a registered pledge, a reservation of title is not disclosed in any publicly accessible register. Until the bailiff attempts execution against the buyer’s property or the buyer enters bankruptcy, only the buyer and the seller are aware of the reservation of title.
Unfortunately, this can create a false impression of the buyer’s economic potential on the part of its customers and suppliers. They are not aware that goods in the buyer’s possession do not belong to the buyer because they are subject to a reservation of title by the seller.
Reclaiming goods from the buyer
If the buyer does not pay the full price by the agreed time, it loses its right to possession of the goods and will be obliged to return the goods to the supplier. If the buyer does not voluntarily return the goods or disputes the effectiveness of the reservation of title, the seller can pursue a claim for repossession.
The seller cannot take the goods by self-help. The act of taking the goods by force must be exercised by the bailiff, who will act on the basis of a judgment from the court ordering the buyer to return the goods to the seller.
Reservation of title and the buyer’s bankruptcy
Declaration of the buyer’s bankruptcy does not extinguish the reservation of title.
In the event of the buyer’s bankruptcy, the seller faces a choice: it can either demand possession of the goods that are its property, or demand payment of the purchase price. The seller cannot assert both claims.
To regain possession, the seller must file an application with the judge-commissioner (i.e. the judge supervising the bankruptcy) to exclude the goods belonging to the seller from the bankruptcy estate. The receiver will verify whether the reservation of title was made in a contract signed by both parties, with the date certified by the notary, confirming that the reservation was made prior to declaration of bankruptcy. If the reservation of title is effective, the receiver will deliver possession of the goods to the seller. If not, the goods will be sold by the receiver, with the proceeds included in the pool of funds used to satisfy all the creditors—including the seller if it files a claim for payment of the purchase price by the debtor.
But the claim for payment of the purchase price will rank in a low position—below the costs of the proceeding (including the fees of the receiver and persons hired by the receiver), claims by the buyer’s employees, and social insurance claims. The seller’s claims will rank in the same category as the buyer’s tax obligations. The competition with privileged claims usually means that the seller receives payment of only a small portion of its claim. Consequently, if the goods are fit to be reclaimed, the seller will usually demand return of the goods rather than payment of the price.
There is also the possibility that the receiver will decide to perform the contract, i.e. pay the price in order to obtain ownership of the goods.
Unfortunately, reservation of title may not secure the goods against being combined with other items (as with HVAC equipment or insulation installed in a building owned by the debtor or a third party) or being resold by the buyer (in bad faith) to a third party (in good faith). Generally such events result in passage of title to the goods to the buyer or the third party.
Then the seller is left with a claim against the buyer for payment of the purchase price or to turn over the price obtained by the buyer from the third party. In either case, the seller is exposed to the risk that its claim will not be satisfied.
This shows that delivery of sold goods to the buyer (instead of retaining the goods in the seller’s warehouse until the full price is paid) entails a risk to the seller even if title is effectively reserved.
Tips for the seller
It appears from our practice that with a large volume of orders and pressure to increase sales, suppliers are often not careful to ensure proper representation in concluding contracts, resulting in invalidity and exposing the seller to a loss.
To facilitate the contracting process, the parties may agree on a contact list of persons authorised to represent them. These persons should hold proper powers of attorney.
It should be stressed again that for the effectiveness of a reservation of title to sold goods, the contract containing the reservation must be signed by both parties in compliance with their rules of representation.
Sometimes the contract procedure set forth in the agreement (e.g. general conditions of supply) is so complicated that the supplier’s employees ignore the “formalities,” thus exposing the contract to a risk of disputing the effectiveness of the reservation of title.
It is advantageous to include a reservation of title in the form of the invoice which is then signed by the persons authorised to conclude the contract (for the buyer and the seller). Such invoices then serve as contracts doubling up for the original contracts. If a date certain is obtained for such invoices, when the buyer is revealed to be insolvent the invoices will be evidence of the reservation of title effective against the buyer’s creditors.
The supplier should insist that fungible goods subject to a reservation of title are stored by the buyer separately, to secure them against commingling with other goods belonging to the buyer (such as construction materials). Specifically identified goods (e.g. machinery) should be clearly labelled as the property of the seller in order to exclude a claim of good faith by a third party if the buyer attempts to sell the items.
Konrad Grotowski, Restructuring & Bankruptcy practice, Wardyński & Partners