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The Bankruptcy StrategistFeaturesBankruptcyLitigation

Mitigating Lender Risk in Constructive Fraudulent Transfer Litigation

By Arthur Steinberg and Michael R. Handler

The constructive fraudulent transfer provisions of the Bankruptcy Code (§548(a)(1)(B)) and state law (made applicable in bankruptcy cases under Bankruptcy Code §544(b)) give the bankruptcy estate representative (e.g., a Chapter 11 trustee, debtor-in-possession or creditors' committee (through derivative standing, discussed below)) the right to avoid a transfer of an interest of the debtor in property, or any obligation incurred by the debtor if the debtor, among other things: 1) received less than reasonably equivalent value in exchange for such transfer or obligation incurred; and 2) was insolvent on the date that such transfer was made or such obligation was incurred, or became insolvent as a result thereof. Generally, "less than reasonable equivalent value" means less than fair consideration (there is a range of value of what would be considered fair consideration), and "insolvency" means the debtor had liabilities (including appropriately valued contingent liabilities) in excess of the fair market value of its assets.

Lenders to a debtor sometimes view constructive fraudulent transfer claims against equity holders and other non-lender third parties as an estate asset that may boost their recovery. Proceeds from these claims are often shared pari passu with the general unsecured creditors, which in certain cases will include under-secured creditors on account of the portion of their total claim that is not secured by collateral (i.e., the "deficiency claim").

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