What happens to the rugs you received on “consignment” and the broadloom rolls delivered to your store “on memorandum” when you go out of business due to lack of money? According to the Uniform Commercial Code (UCC) section we’ll look at below, with some exceptions, the person who delivered those goods on consignment has no greater rights to them than any other general creditor.

It does not matter if the seller may have attempted to retain title to the goods by the use of the terms on consignment or on memorandum. According to the UCC, such a transaction is considered to be on “sale or return.” As such, if the buyer can’t pay his bills and closes his doors with the goods still inside, they too go into the pot with everything else to be divided up among all the buyer’s creditors.

We should point out, this section applies only if the buyer who receives such goods maintains a place of business at which he deals in goods of the kind involved. If a single rug is delivered to a customer’s home to “live with it for a while before deciding,” a different rule applies. This type of transaction, under the same section, is said to be a “sale on approval.” Goods held on approval, primarily for use, as opposed to resale, are not subject to the claims of the buyer’s creditors, but instead remain the property of the seller.

But what about the distributor who delivers rolls on consignment, or an importer who leaves some rugs in a store to see what happens? Can they protect themselves and retain the rights to those goods in case the dealer does not make it? Yes, but it must be done very carefully.

The seller must first check if anyone else has filed a lien or security interest on the inventory of his buyer. If there is such a filing, the one who holds that lien must be given written notice before the consignment goods are delivered.

The seller must then give notice to the rest of the world that the goods are still his. Under this UCC section, he can do this one of two ways. He can place a sign next to the goods stating they belong to him and not to the storekeeper, which is obviously not an attractive option for the dealer.

The other way the seller can protect himself is to comply with the filing provision needed to protect his lien. The purpose behind these requirements is notice. The law wants anyone who is considering giving credit or otherwise dealing with this person to know that the store full of merchandise does not belong to him, and they won’t be able to touch it if their deal goes bad.

We should mention that if “the person conducting the business is generally known by his creditors to be substantially engaged in selling the goods of others,” a seller on consignment does not have to place a sign or do a filing to retain title. In most cases, however, it would probably require a court case and a judge to decide what “substantially engaged in selling the goods of others” means in a specific instance.

Most importantly, anyone considering entering into a transaction of this type should check with a local lawyer familiar with this area of the law to make sure that it is done right. To do otherwise, could prove very costly.