22
Doing the Splits
found to be liable to turn over the property to trigger the application of Section 502(d) and instead explained the end clause of Section 502(d) beginning with the word “unless” as follows:
The use of the word “unless” indicates that the phrase is not an additional requirement for disallowance, but an exception to the general rule that a claim based on an avoidable transfer must be disallowed. The exception to the general rule of disallowance exists because, if the transferee has already relinquished the avoidable transfer, there is no need to disallow the claim. Id. at 1166.
The Ninth Circuit also addressed the defensive use of Section 502(d), which necessarily disappeared under the reasoning of the Fifth Circuit in Davis. In approving such defensive use, the Ninth Circuit distinguished between “an avoidance action, which seeks affirmative relief from the transferee, and a claim objection,” which it compared to “offsetting counterclaims and other matters of defense.” Id. at 1167 (citing Committee of Unsecured Creditors v. Commodity Credit Corp. (In re KF Dairies, Inc.), 143 B.R. 734, 735-37 (B.A.P. 9th Cir. 1992)). The Ninth Circuit agreed with the Ninth Circuit Bankruptcy Appellate Panel in KF Dairies that “there would be no purpose for Section 502(d), if it applied only when the transfer could be avoided in an independent avoidance action,” finding that “Section 502(d) may be used to disallow a claim even if the underlying avoidance action would be time barred.” Id. at 1167.
Subsequent circuit decisions on both sides of this split emphasize not only the differences in construing the language used in Section 502(d), but also the divergence of the policy reasoning behind each line of interpretation.
The Eighth Circuit, in In re Odom Antennas Inc., 340 F.3d 705, 708 (8th Cir. 2003), followed the Fifth Circuit in determining that Section 502(d) “should be used to disallow a claim after the entity is first adjudged liable . . . .” The Eighth Circuit stated that Section 502(d) “does not provide affirmative relief” in disallowing claims that cannot be the subject of an independent final avoidance or turnover order. Rather, the Eighth Circuit found that Section 502(d) is designed, as a policy matter, to ensure compliance with judicial orders.
In contrast, in Grant, Konvalinka & Harrison, P.C. v. Still (In re McKenzie), 737 F.3d 1034 (6th Cir. 2013), the Sixth Circuit adopted the Ninth Circuit’s interpretation of Section 502(d). McKenzie involved the defensive use of Section 502(d) to defeat a motion for relief from the stay of a secured creditor holding an avoidable lien, even though the governing statute of limitations on the avoidance action had expired. The Sixth Circuit stated: “At bottom, nothing in the text of Section 502(d) prevents a trustee from using his avoidance powers defensively after the expiration of the statute of limitations set forth in Section 546(a)(1)(A).” Id. at 1042. The Sixth Circuit explained that a defensive use of Section 502(d) did not constitute a “procedural windfall” because such use was limited to “offsetting the claim asserted by the creditor” and “does not permit any additional recovery by the trustee.” Id. at 1041. Instead, the Sixth Circuit noted that its interpretation of Section 502(d) “furthers one of the central purposes of the Bankruptcy Code—to ensure equality of distribution among creditors of the debtor.” Id. at 1042. In focusing on Section 502(d) as a tool to further the policy of equality of distribution in a bankruptcy case, this line of reasoning leaves open the use of Section 502(d) in the context of claims objections, a