What Are the Peculiarities of Pledging Goods

A significant number of sale and purchase agreements today involve an additional obligation – the delivery of goods by the seller to the buyer. During the period awaiting delivery of the goods, the buyer may enter into legal relationships within which it becomes necessary to pledge property that has been purchased but not yet delivered at the time such property is pledged. In this regard, the following should be taken into account.

When does the buyer's right of ownership to the goods arise?

According to Part 1 of Article 334 of the Civil Code of Ukraine dated 16.01.2003 No. 435-IV (hereinafter – the Civil Code of Ukraine), as a general rule, the buyer's right of ownership under a contract arises from the moment the property is transferred to them.

In accordance with Part 1 of Article 664 and Part 2 of Article 704 of the Civil Code of Ukraine, for the purposes of sale and purchase agreements with delivery, property (goods) is considered transferred at the moment the goods are handed over to the buyer.

Thus, the buyer's right of ownership to goods with a delivery condition arises from the moment such goods are handed over to the buyer. Therefore, while the goods are in transit, the right of ownership to the goods belongs to the seller.

In Part 2 of Article 576 of the Civil Code of Ukraine and Part 3 of Article 4 of the Law of Ukraine "On Pledge" dated 02.10.1992 No. 2654-XII, it is stipulated that property which the pledgor will acquire in the future, after the pledge arises, may be pledged. Thus, property that is not yet actually owned by the buyer can be the subject of a pledge.

Examples from Judicial Practice

As stated in its decision by the Commercial Court of Luhansk Region dated 15.08.2011 in case No. 10/107пд/2011 regarding the invalidation of a pledge agreement, current legislation does not link the possibility of concluding a pledge agreement with the moment the right of ownership to the pledged item arises, but only with the pledgor's ability to alienate it, and thus the possibility of foreclosing on this property.

Also, the Rivne Appellate Commercial Court in its ruling dated 03.08.2016 in case No. 918/177/16 regarding the invalidation of a pledge agreement, emphasized that the pledgor must be either the owner of the property or a person to whom the property and/or the right of pledge to such property has been transferred. And this will determine whether the pledge agreement will be considered valid if the pledgor acquires the right of ownership to the property after the pledge arises.

What is necessary to pledge property not yet acquired in ownership?

In practice, in order to pledge property (goods) not yet acquired in ownership, the buyer (pledgor) must confirm to the potential pledgee the existence of a right of pledge over the property, the ownership of which has not yet been acquired by the pledgor. Such confirmation often takes the form of written consent from the seller for the pledging of such goods. However, if you are approached as a seller for such consent, the following should be kept in mind.

As is known, Part 1 of Article 580 of the Civil Code of Ukraine stipulates that the owner of the pledged item bears the risk of its accidental destruction or damage, unless otherwise agreed by the parties or established by law. This provision could potentially provide grounds for future claims against the seller, especially in the context of Part 1 of Article 585 of the Civil Code of Ukraine, according to which the moment the pledgee's right of pledge arises coincides with the moment the pledge agreement is concluded, and does not depend on the moment the right of ownership to the goods transfers to the buyer.

Our Recommendations Regarding the Conditions for Pledging Goods

Due to the uncertainty of the seller's legal position when goods are pledged by the buyer before their delivery, we recommend stipulating the conditions for pledging goods before their delivery to the buyer in the sale and purchase agreement (or an additional agreement thereto).

Specifically, it can be explicitly stipulated that in the event of the buyer establishing a pledge on the goods before their delivery, the buyer assumes:

• all risks of accidental destruction or damage to the pledged item
• obligations to restore the damaged pledged item
• all other obligations.

And the seller bears no responsibility in the event of any claims from the pledgee.

Additionally, we recommend specifying a clear list of goods, their quantity, and value in the seller's consent for pledging the goods, to avoid uncertainty regarding the pledged property.

If you need legal consultation regarding the drafting of a sale and purchase agreement, please contact our lawyers.