We often get calls and e-mails from people who have been sued by a trustee or debtor-in-possession in a chapter 11 case pending in the United States Bankruptcy Court for the Southern District of New York and United States Bankruptcy Court for the District of Delaware.
1. What is a preference claim?
In bankruptcy cases a trustee has the ability to file a lawsuit in the Bankruptcy Court – called an adversary proceeding – seeking to recover certain payments made by the debtor prior to bankruptcy as preferential.
The elements of a preference claim are:
a) a payment by a debtor to a creditor made within 90 days of bankruptcy filing (1 year in the case of payment to “insiders”);
b) for a debt that was owed to the creditor prior to the time the payment was made;
c) made while the debtor was insolvent; and d) that allowed the creditor to receive a greater recovery than if the payment had not been made and the debtor had instead been liquidated in a chapter 7 bankruptcy case and the creditor received payment as allowed by law in a chapter 7 case.
The first thing to understand about a preference claim is that the trustee (or debtor in possession in a chapter 11 case) is not challenging that you, the creditor, actually provided the goods or services for which you were paid. Instead, the preference recovery provisions of the Bankruptcy Code are intended to promote the Bankruptcy Code’s goal of “equality of distribution” among similarly situated creditors. The bankruptcy law, as drafted by Congress, views it as unfair that you had your invoices paid in the 90 days prior to the debtor’s bankruptcy filing while other creditors did not. The preference avoidance provisions of the bankruptcy law allow the payment to you to be potentially recaptured by the trustee (or debtor in possession in a chapter 11 case).
2. So If I am Sued for Preference Claim By a Trustee in New York Should I Just Pay the Amount Demanded?
Some people mistakenly believe that just because they have been sued by a bankruptcy trustee or debtor-in-possession their only option is to pay the full amount demanded. However, in most cases, even if the creditor/defendant does not have a complete defense it still may be able to achieve a successful settlement for less than the amount demanded in the complaint.
To do this it is important to focus on the potential defenses that you may have to the adversary proceeding. This is the first of a three part series in which we will examine preference claim issues. In subsequent posting we will examine the new value defense and the ordinary course defense.
The attorneys of Starr & Starr, PLLC are experienced in representing defendants sued in preference cases in the U.S. Bankruptcy Court for the Southern District of New York and other bankruptcy courts. Please feel free to contact us at 888-867-8165 if you have any questions or to schedule a consultation.