Daily Development for Friday, March 12, 1999

by: Patrick A. Randolph, Jr.
Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin
Kansas City, Missouri

DD 0312 In re BFP Applies to Preference Analysis, Too!!

Thanks to my good friend Jack Murray (who still is not named Murphy) for the information on this case.

BANKRUPTCY; PREFERENCES; FORECLOSURE: BFP applies to preference analysis as well as to fraudulent conveyance analysis, so the price paid at a duly conducted foreclosure sale conclusively establishes that the creditor who buys at the sale gets no more than could have been produced in a bankruptcy liquidation, even if the creditor, prior to bankruptcy, has resold the foreclosed property for a substantially higher price.

In re FIBSA Forwarding, Inc., 1999 WL 68341 (Bkrtcy S.D. Tex. 2/5/1999)

The rule for preferential transfers is that a bankruptcy court will set aside transfers to creditors on account of antecedent debts made within 90 days prior to a bankruptcy filing if the debtor/transferor was insolvent at the time of the transfer and the creditor received more than what it would have received in a bankruptcy liquidation proceeding. Presumably, in the bankruptcy liquidation proceeding, the creditor would receive the property and be credited with its current fair market value. This "liquidation value" test is different from the "reasonably equivalent value" test that applies to fraudulent transfer analysis.

The court notes preliminarily that, following a 1984 amendment to the Bankruptcy Code, a "transfer" includes "every mode, direct or indirect, absolute or conditional, voluntary or involuntary, of disporing of or parting with property . . . ." Sec. 10 (54) It concludes that there is no question that a foreclosure is a transfer.

The court then proceeds to analyze two more complex issues. As to one, it views itself as making a determination of first impression. As to the second, it departs from the analysis of a number of other cases, but appears to reach the same conclusion as a majority of them.

The first issue has to do with the requirement that for a court to find a transfer to a creditor "preferential" the transfer must occur at "while" the debtor is insolvent. In the instant case, the creditor at the time of foreclosure had a mortgage debt to Bank of $19,500 and other debts of about $45,000. The debtor owner real property it alleged was worth $50,000, and other assets of $17,500. It was not insolvent. But real property was subjected to a bank foreclosure, and the bank acquired the real property by bidding in the $19, 500 debt. Deprived of its alleged $50,000, asset, the debtor became insolvent as a consequence of the foreclosure.

The fraudulent conveyance statute in the Bankruptcy Code provides that a fraudulent conveyance will be found if (inter alia) the debtor is insolvent at the time of the alleged fraudulent conveyance or becomes insolvent as a result of the conveyance. The court observes that when the Congress used that language in connection with fraudulent conveyances, but did not use the same language in connection with preferences, it must have intended to give direction to the courts that in making preference analysis the court should look to whether the debtor is insolvent just prior to the alleged preferential transfer, and should not take into account that the alleged preferential transfer rendered the debtor insolvent.

The court could have stopped here, of course, as it had now determined that there was no preference. But it proceeded to make further observations on another aspect of the preference question the question of whether there the court can ever determine that there is a preference when the property is sold at a duly conducted foreclosure. Under In re BFP, the Supreme Court had concluded that a duly conducted foreclosure sale is conclusively presumed to be at a price equal to the "reasonable equivalent value" of the asset sold, since it is a public auction conducted in conformance with the state law's policies for liquidating debtors' assets. The court here basically concludes that it should make the same determination under the different "liquidation value" standard used for preferences. The court refers to Justice Scaglia's language in In re BFP that the federal courts should not assume that Congress has elected to preempt the important and delicate balance in debt liquidation processes that states have made in developing their individual state foreclosure processes. Unless the Congressional mandate is clear, the federal courts, rather, should assume that the Congress intended to continue to respect the integrity of state foreclosures, and not permit them to be set aside in bankruptcy.

As a consequence of the court's ruling here, if there has been a duly conducted foreclosure, the property is conclusively presumed to have sold for its liquidation value. This is true even if (as here) the creditor has resold the property within a matter of weeks for substantially more than it paid for the property at foreclosure.

The court notes some concern about this result in terms of the impact on unsecured creditors of the borrower. Although the borrower itself can declare bankruptcy prior to a foreclosure and prevent a sale from occurring, the court complains that unsecured creditors lack the ability to know when a foreclosure is imminent, and therefore cannot force the debtor into involuntary bankrtuptcy in order to preserve for the bankruptcy estate the equity in the debtor's real estate.

Comment 1: In some states, such as Missouri, anyone desiring specific notice of the foreclosure of a particular deed of trust can file a request for notice in the land records. So the court's concerns about unsecured creditors having now way to stay abreast of imminent foreclosures is not appropriate in those states. In any event, unsecured creditors do have access to legal postings in newspapers, and in virtually every jurisdiction there is some requirement for published notice of a proposed foreclosure sale before it occurs.

Comment 2: The court cites most of the cases that have dealt with this issue. It really takes a somewhat different approach than those reaching the same result, and distinguishes those that come out differently. Those that reach a different result all predate In re BFP. Nevertheless, it should be noted that the court fails to cite two contra cases: In re Park North Partners, Ltd., 80B.R. 551 (N.D. Ga. 1987) and Matter of Fountain, 32 B.R. 965 (W.D. Mo. 1983). As both these cases predate In re BFP, and as the instant court's opinion is predicated on the Supreme Court's language in In re BFP, the instant court certainly would have distinguished these cases as well. But these cases are still precedent in the jurisdictions in which they were rendered.

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