When Can Creditors Assert Preference Claims in Business Bankruptcy Cases?

During business bankruptcy proceedings, it is important that creditors protect their rights by all means available. While this will involve asserting defenses to discharge in some cases, these defenses won’t always be available. When creditors cannot protect their claims entirely, they must focus their efforts on ensuring that they are able to collect as much as possible. In many cases, this will involve working with the bankruptcy trustee to assert a preference claim.

Understanding Preference Claims in Business Bankruptcy Cases

Preference claims fall under Section 547 of the U.S. Bankruptcy Code. Specifically, Section 547(b) establishes when creditors can seek to void payments and other transfers made by business debtors that unfairly advantage one creditor at the expense of others.

Under Section 547(b), the bankruptcy trustee may void a payment or transfer when the payment or transfer is made:

• “[T]o or for the benefit of a creditor;
• “[F]or or on account of an antecedent debt owed by the debtor before such transfer was made;
• “[W]hile the debtor is insolvent;
• “[O]n or within 90 days before the date of filing of the petition; or . . . between 90 days and one year before the date of the filing of the petition, if such creditor at the time of such transfer was an insider; and
• “[T]hat enables such creditor to receive more than such creditor would receive if . . . the transfer had not been made; and . . . such creditor received payment of such debt to the extent provided by [Chapter 7 of the U.S. Bankruptcy Code].”

Based on this statutory language, some of the key requirements for asserting a preference claim during a business bankruptcy are:

1. The Payment or Transfer Must Be Made to One of the Business’s Creditors

For Section 547(b) to apply, the payment or transfer in question must be made to (or for the benefit of) one of the business’s creditors. If a business debtor transfers assets to a different party (i.e., an insider or one of its insiders’ family members), the transfer isn’t considered a “preference.” Instead, it would most likely fall under the fraudulent transfer provisions of Section 727(a)(2).

2. The Payment or Transfer Must Be Made While the Business is Insolvent

Section 547(b) only allows creditors to pursue preference claims with respect to payments and transfers made during insolvency. Under Section 101 of the U.S. Bankruptcy Code, a business (other than a partnership) is considered insolvent when its “financial condition is such that the sum of [its] debts is greater than all [of its] property, at fair valuation.” Under Section 547(f), there is a presumption that a business is insolvent during the 90 days prior to its bankruptcy filing.

3. The Payment or Transfer Must Be Made within 90 Days of the Business’s Bankruptcy Filing (in Most Cases)

To qualify as a preferential transfer, a payment or transfer must be made during the 90 days prior to the filing of the business’s bankruptcy petition (in most cases). This time period extends to one year for payments and transfers made to company insiders.

4. The Payment or Transfer Must Benefit the Recipient Creditor

Finally, the payment or transfer at issue must benefit the recipient creditor. Specifically, it must result in the creditor receiving more than it would have received through the bankruptcy process had the payment or transfer not been made. Importantly, even if a business files for bankruptcy protection under Chapter 11, this analysis is still performed under Chapter 7.

Exceptions to the Prohibition on Preferential Transfers

While creditors can assert preference claims to protect their rights in many cases, there are several exceptions to the prohibition on preferential transfers under the U.S. Bankruptcy Code. Section 547(c) establishes nine separate exceptions, though some of these apply exclusively to consumer bankruptcies. The exceptions to the prohibition on preferential transfers in business bankruptcy cases include (but are not limited to):

• Contemporaneous Exchange – A pre-bankruptcy transfer is not considered a preferential transfer if it is made as part of a “contemporaneous exchange” for new value (i.e., additional credit) given to the debtor.
• Ordinary Course of Business – A pre-bankruptcy transfer also is not considered a preferential transfer if it is made “in the ordinary course of business or financial affairs” and “according to ordinary business terms.”
• New Value Not Secured By an Unavoidable Security Interest – Even if a debtor’s payment or transfer and its receipt of new value are not contemporaneous, the transfer is still permissible if the new value is “not secured by an otherwise avoidable security interest.”
• Perfected Security Interest in Inventory or Receivables – Payments that create “a perfected security interest in inventory or a receivable or the proceeds of either” are not considered preferential transfers, “except to the extent that the aggregate of all such transfers . . . cause[s] a reduction . . . of any amount by which the debt secured by such security interest exceed[s] the value of all security interests for such debt.”
• Fixing a Non-Avoidable Statutory Lien – A pre-bankruptcy transfer is not considered a preferential transfer if it is made to “fix[] . . . a statutory lien that is not avoidable under Section 545 [of the U.S. Bankruptcy Code].”

These are just general rules, and, in many cases, additional conditions apply. When faced with debtors’ challenges to preference claims, creditors should rely on their counsel to assess the validity of the debtor’s challenge in light of the relevant provisions of Section 547 and applicable case law. In many cases, voiding preferential transfers can provide substantial relief to creditors, and working alongside the bankruptcy trustee to claw back improperly-transferred assets for bankruptcy estate will be well worth the time and effort involved.

Contact the Creditors’ Rights Attorneys at Edelboim Lieberman

If you would like to know more about the process for asserting a preference claim in a business bankruptcy in Florida, we invite you to get in touch. To speak with a creditors’ rights attorney at Edelboim Lieberman, please call 305-768-9909 or send us a message online today.