Southern District of New York Holds in Madoff That the Bankruptcy Code Cannot Be Used to Recover Extraterritorial Transfers

Dealing a major blow to the trustee’s efforts to recover fraudulent transfers on behalf of the bankruptcy estate of the company run by Bernard Madoff, Judge Jed S. Rakoff of the United States District Court for the Southern District of New York held in SIPC v. Bernard L. Madoff Investment Securities LLC that the Bankruptcy Code cannot be used to recover fraudulent transfers of funds that occur entirely outside the United States. The decision is likely to have far-reaching implications for other cross-border insolvency cases.

Background -

Certain foreign investment funds (so-called “feeder funds”) that had pooled their customers’ assets for the purpose of investing with Madoff withdrew funds from their Madoff accounts and subsequently transferred the funds abroad to various foreign entities, including their customers and certain banks. The Madoff trustee sued both the feeder funds (most of which were themselves in liquidation proceedings in their home countries following the collapse of the Madoff empire) and the subsequent transferees under section 550 of the Bankruptcy Code in an attempt to recover the transfers as fraudulent conveyances. Although section 550 authorizes trustees and debtors-in-possession to recover a debtor’s fraudulent transfers not only from the direct recipients of the transfers but also, in some instances, from subsequent transferees, the subsequent transferees moved to dismiss the complaint on the ground that section 550 did not apply extraterritorially and thus did not enable the trustee to set aside transfers from a foreign transferor to a foreign transferee.

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