Riley Bennett Egloff Magazine RBE April Magazine | Page 4

very technical and require detailed analysis. Therefore, it is vitally important to anticipate the possibility of a
preference action when settling a prior indebtedness of a debtor who has failed to continue making ordinary
course payments. Section 547 may protect “ordinary trade credit transactions that are kept current” by applying
the ordinary course defense, however, a “one-time” transaction cannot qualify. 1
Fraudulent Conveyances
Creditors’ Rights When a Debtor is
Threatening to File Bankruptcy
Originally Published April 2019
By Anthony R. Jost
C
reditor clients range from sophisticated lenders to part-time small businesses. However, no matter the size or
sophistication of the client, creditors often have certain misconceptions as to what is and is not permissible
when a debtor files bankruptcy. This article is intended to help demystify basic creditors’ rights when a debtor is
threatening to or has filed bankruptcy.
Myth: If Debtor Threatens Bankruptcy,the Creditor Should Compromise Substantially to
Avoid Bankruptcy
Not necessarily without further detailed analysis of the debtor’s assets and liabilities. In fact, a creditor
should aggressively but legally step up its collection efforts to avoid limitations brought about by a bank-
ruptcy filing. Although each case is different, we generally advise creditor clients that while the bankruptcy
threat should be taken seriously, it should not sway a creditor from continuing to pursue the best deal possible.
Once a bankruptcy is filed a creditor’s rights quickly become limited by what a creditor will and will not be per-
mitted to do once the “bankruptcy stay” is in effect.
Furthermore, when a deal is struck with a debtor under the belief that the debtor is or is about to become insolvent,
creditors are surprised to learn that money used to pay an antecedent debt may be subject to being repaid to the
bankruptcy estate. Creditors should, however, be aware of bankruptcy pitfalls like preference and fraudulent
conveyance claims when determining how and under what payment terms to settle an antecedent obligation.
Preferences
A payment made by a debtor to an unsecured creditor within 90 days (or one year if the creditor and debtor are in-
siders) prior to the date of the debtor’s bankruptcy is presumed to be a preferential payment pursuant to 11 U.S.C.
§547. Under the Bankruptcy Code, a preference payment is a payment:
(1) to, or for the benefit of, the creditor;
(2) for, or on account of, an existing debt;
(3) made while the debtor was insolvent;
(4) made at any time during the 90-day period before the bankruptcy filing; and
(5) the creditor receives more than it would receive in a Chapter 7 liquidation bankruptcy.
There are many defenses to a preference claim, including but not limited to: 1) a substantially contemporaneous
exchange of new debt for a product or service; 2) payments made in the ordinary course; 3) new value has been
given; and 4) a purchase money security interest is taken. Preference actions and available defenses can become
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Riley Bennett Egloff LLP - April 2019
There are two types of fraudulent conveyance claims in bankruptcy: one premised on actual fraud and the other
premised on constructive fraud. An actual fraudulent conveyance action is committed when: 1) a transfer is made
within two years before the date of the filing of a bankruptcy petition (or four years from the date of a state court
claim under the Uniform Fraudulent Transfer Act); and 2) made with the intent to hinder or defraud a creditor.
Actual proof of intent must occur. 2
Constructive fraud requires that two years before the date of the filing of a bankruptcy petition (or four years from
date of a state court claim under the Uniform Fraudulent Transfer Act): 1) in exchange for the transfer, the debtor
received less than “reasonably equivalent value”; and 2) the debtor is unable to pay debts either at the time the
transfer was made or as a result of the transfer itself. 3
Creditors should be aware that a debtor who appears to be or is threatening insolvency may attempt to liquidate its
assets or property, even favoring certain creditors or “friends” of the debtor. If a creditor receives this treatment,
the property conveyed to the creditor could be subject to being returned to the bankruptcy estate.
It is not a guarantee that the Trustee or a Debtor in Possession will pursue preference and fraudulent conveyance
claims; however, the larger the bankruptcy the more likely these claims will be pursued. However, the adage—a
bird in the hand is worth two in the bush—certainly applies here. Creditors are better off to settle pre-bankrupt-
cy and have the settlement proceeds in their hand while later, if necessary, negotiating what must be returned to
the bankruptcy estate. A settled preference or fraudulent conveyance claim will most often result in the creditor
keeping a more significant percentage of an unsecured debt than not settling and merely taking what the creditor
gets from submitting its proof of claim.
Myth: When a Debtor Files Bankruptcy, Creditors May Not Take Further Action That May
Affect the Debtor or Pursue Claims in Which the Debtor is Involved
Yes and no, so this statement is partially true. It is important to acknowledge that the bankruptcy stay under
11 U.S.C. § 362 of the Bankruptcy Code imposes a “super stay” against any activity that could detract from a
debtor attending to its bankruptcy or that might otherwise dissipate assets of the bankruptcy estate. A creditor is
precluded from among other activities: 1) commencing or continuing an action or proceeding against a debtor that
was or could have been commenced before the commencement of the bankruptcy case; 2) enforcing a judgment
obtained before the commencement of the bankruptcy case; 3) taking action to obtain possession of property of
the estate or to exercise control over property of the estate; 4) taking action to create, perfect, or enforce any lien
against the estate; 5) taking action to create, perfect, or enforce against property of the debtor any lien to the extent
the lien secures a claim that arose before commencement of the bankruptcy case; 6) taking action to collect, assess
or recover a claim against the debtor that arose before commencement of the bankruptcy case; 7) setting off of any
debt owing to the debtor that arose before commencement of the bankruptcy case against any claim against the
debtor; and 8) commencing or continuing a proceeding before the United States Tax Court concerning the debtor.
The automatic stay is activated immediately on the filing of a voluntary petition under the Bankruptcy Code, and
remains in effect until the entry of an order granting or denying a discharge or closing or dismissing the . . . case,
or until the entry of an order granting relief from the stay; however that does not mean that a creditor is precluded
from ceasing all activity that affects the debtor. 4
Permissible Activity That Does Not Violate the Bankruptcy Stay
There are many instances in which the bankruptcy stay will not prevent creditors from taking specific action. For
example, the bankruptcy stay may not preclude the creditor from acting to perfect an interest in real estate, such
as recording a mechanics’ lien when labor or improvements have already been made to the real estate, but the lien