Legal Definitions - Purchase-money security interest

A Purchase-Money Security Interest, often abbreviated as PMSI, is a special type of legal claim a lender or seller has on specific property. This claim arises when the money loaned or credit extended is used specifically to purchase that particular property, and the property itself then serves as collateral for the debt incurred to buy it. In essence, the item you buy with the loan is the very item that secures the repayment of that loan.

Here are a few examples to illustrate how a Purchase-Money Security Interest works:

• Example 1: Buying a New Vehicle
  When Sarah wants to buy a new car, she takes out a loan from a bank. The bank provides the funds directly to the car dealership, and in return, Sarah grants the bank a security interest in the car she just purchased. This is a PMSI because the loan money was used solely to acquire the car, and the car itself is the collateral for that specific loan. If Sarah fails to make her payments, the bank has a legal right to repossess that particular car.

• Example 2: Equipping a Small Business
  Mark, who owns a coffee shop, needs a new, high-end espresso machine. He obtains a business loan from a specialized equipment lender specifically to cover the cost of this machine. The loan agreement stipulates that the espresso machine itself will serve as collateral for the loan. This is a PMSI because the loan was provided for the express purpose of buying the espresso machine, and the machine secures the debt incurred for its purchase.

• Example 3: Retailer Acquiring Inventory
  A small electronics store, "Tech Gadgets," orders a shipment of the latest smartphones from a distributor on credit. The agreement between Tech Gadgets and the distributor states that the distributor retains a security interest in those specific smartphones until Tech Gadgets pays for them in full. This is a PMSI because the credit extended by the distributor allowed Tech Gadgets to acquire the inventory, and that inventory serves as collateral for the payment owed to the distributor.