U.S. District Court Limits the Extraterritorial Application of U.S. Bankruptcy Law but Important Considerations for Foreign Investors Remain

On July 6, 2014, Judge Jed S. Rakoff, United States District Judge for the Southern District of New York, declined to extend the reaches of section 550(a) of the Bankruptcy Code abroad to permit the recovery of funds that were alleged to be fraudulently obtained by Bernard L. Madoff Investment Securities LLC in connection with Bernard Madoff’s Ponzi scheme. Securities Investor Protection Corporation v. Bernard L. Madoff Investment Securities LLC (In re Madoff Securities), No. 12-mc- 115 (JSR) (S.D.N.Y. Jul. 6, 2014). The decision involves the attempted extraterritorial application of section 550(a), which allows a trustee to recover “property transferred . . . to the extent that a transfer is avoided” under bankruptcy law. In essence, Irving Picard, the Trustee, sought to not only seek recovery from feeder funds that invested directly into Madoff funds, but also sought to recover from subsequent transferees. The Madoff decision should give comfort to foreign investors that there is a reduced risk that proceeds of their indirect investments in U.S. companies will be clawed back under bankruptcy law—even if such proceeds were obtained fraudulently. There are, however, important limitations to consider. Notably, in In re Icenhower, No. 10-55933 (9th Cir. Jul. 3, 2014), a decision issued by the United States Court of Appeals for the Ninth Circuit a mere three days prior to the Madoff decision, the Ninth Circuit held that it was appropriate to apply section 550(a) extraterritorially to a subsequent transferee of real property located in Mexico.

The Madoff Decision -

Background -

In his effort to further recover funds for victims of Bernard Madoff’s Ponzi scheme, the Trustee overseeing the liquidation of Madoff Securities under the Securities Investor Protection Act (SIPA) attempted to clawback funds transferred to foreign customers of foreign feeder funds—investment vehicles that pooled their own customers’ assets for investment with Madoff Securities. These foreign-based feeder funds would, from time to time, withdraw monies from Madoff Securities in New York and transfer those funds to their foreign-based customers on account of their investments. Following the collapse of Madoff Securities in 2008, many of the foreign feeder funds entered liquidation proceedings in their respective home countries. Thereafter, the Trustee sought to recover allegedly avoidable transfers made to these foreign feeder funds as well as to their subsequent foreign transferees...

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