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Preference Actions May be Sold under the Bankruptcy Code

The Fifth Circuit, joining the Eighth and Ninth Circuits, recently held that preference actions may be sold under the Bankruptcy Code, and that purchasers who are not representatives of the bankruptcy estate have standing to pursue them.  The case is Briar Cap. Working Fund Cap., L.L.C. v. Remmert (In re S. Coast Supply Co.), 91 F. 4th 376 (5th Cir. 2024).

Preferences are payments that favor certain creditors over others.  While outside of the confines of bankruptcy a company is generally free to pay its creditors in any order of priority, the Bankruptcy Code subjects pre-bankruptcy payments made within 90 days – or to “insiders” within a year – to potential avoidance.  Congress described the purpose of the preference-avoidance power as twofold: first, to discourage creditors from racing to the courthouse to dismember the debtor during its slide into bankruptcy, and second, to facilitate the prime bankruptcy policy of equality of distribution among creditors of the debtor.

The debtor in Briar Cap. had sued its former CFO to recover preferential payments made to him under a loan agreement.  Debtor’s pre-bankruptcy secured lender reached a settlement with the debtor in connection with the debtor’s Chapter 11 bankruptcy plan which provided that the secured creditor would receive debtor’s interest in the preference action against the CFO in exchange for concessions by the secured creditor.  The order confirming the plan effectuated the transfer of the preference action to the secured creditor and permitted the secured creditor to keep any recovery even if the recovery exceeded the amount the secured creditor was owed.  As a result of the plan’s approval, the secured creditor was substituted as assignee of the debtor in the preference action.

The former CFO brought a motion to dismiss the preference action after it was assigned to the secured creditor claiming the creditor lacked standing to prosecute the preference action.  The District Court agreed and dismissed the adversary proceeding for lack of subject matter jurisdiction.

Recognizing the novel legal issue before it, the Fifth Circuit reversed holding that preference actions are property of a debtor’s estate under 11 U.S.C. § 541 that can be sold under § 363.  The Fifth Circuit further held that, even if the secured creditor did not quality as a representative of the bankruptcy estate, it has standing to pursue the preference claim because it validly purchased the claim outright.

Our team at Wolfson Bolton Kochis PLLC has significant experience with preference litigation, which often means we can resolve the matter without litigation, saving meaningful time and expense.

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