A bankruptcy trustee can recover an avoided fraudulent transfer from both the initial transferee and subsequent transferees. But can a trustee recover from a subsequent transferee if the initial transferee isn’t named as a party to the case?
A bankruptcy judge in Delaware recently ruled that the trustee can proceed against just the subsequent transferee. In re OHC AFC CS Investors v. SS Assocs., LLC, Adv. Pro. No. 25-51090 (CTG), 2026 Bankr. LEXIS 293 (Bankr. D. Del. Feb. 4, 2026). The decision explains why the initial trustee is not a necessary party and why, in the view of the Delaware judge, cases that have reached the opposite conclusion are “wrongly decided.”
In July 2023, the debtors filed for chapter 11 under subchapter V of the Bankruptcy Code and a trustee was appointed. Before the case was filed, the debtors had raised funds from investors to develop commercial real estate projects.
At issue before the court was a $250,000 transfer from the debtors to the bank account of the debtors’ principal, Elchonon Schwartz, and a second transfer from Schwartz to an unrelated entity, SS Associates.
The bankruptcy trustee reached a settlement with Schwartz on claims the estate held against him. The terms of the settlement were embodied in chapter 11 plan that the trustee confirmed.
The trustee then commenced an avoidance action against SS Associates to recover the $250,000. The complaint included fraudulent transfer claims brought under Bankruptcy Code sections 544, 548, and 550.
SS Associates filed a motion to dismiss the complaint for failure to state a claim. At the outset of its analysis, the court noted that the complaint alleged that the debtors had made an actual fraudulent transfer of the funds to Schwartz and that SS Associates was a subsequent transferee of those funds.
The key issue in dispute was whether the trustee could proceed with the lawsuit even though Schwartz, the initial trustee, was not a named defendant. The court said it “is true that the trustee must avoid the initial transfer in order to recover against either an initial transferee or a subsequent transferee.” 2026 Bankr. LEXIS 293, at *15. But whether the initial trustee was a necessary party to the adversary proceeding was a question “on which there is a square circuit split and no Third Circuit authority.” Id. at *3.
The Tenth Circuit, in In re Slack-Horner Foundries, Co., 971 F.2d 577 (10th Cir. 1992), and other courts have held that the initial transferee must be a party to a suit when a trustee seeks to recover from a subsequent transferee. The judge in Delaware disagreed with that view, stating that “Slack-Horner and similar cases . . . conceptualize the ‘avoidance’ of a transfer as if it were an in rem determination, where the initial transferee is a necessary party to the avoidance, and once a court has found the transfer to be avoided, that determination is thereafter binding on the world. . . . In this Court’s view, however, that is a misunderstanding. Avoidance is just an element of liability that must be shown to permit a trustee, as plaintiff, to recover against a defendant under § 550. That is simply an in personam action against the defendants named in that lawsuit. And the court’s judgment, like any in personam judgment, binds only those who are parties thereto.” 2026 Bankr. LEXIS 293, at *6.[1]
Under the Delaware court’s analysis, once a transfer is “avoided” and not merely “avoidable,” the trustee can seek recovery from a subsequent transferee even if the initial transferee is not a party to the lawsuit. “That finding of avoidance binds only the subsequent transferee, not the non-party initial transferee.” Id. at *24. Accordingly, the court rejected SS Associates’ argument that the complaint “fails to state a claim on account of Schwartz’ absence as a defendant.” Id. at *27.
The complaint had a wrinkle that prompted the court to dismiss it without prejudice and allow the trustee to file an amended complaint. The complaint sought to avoid the transfer to SS Associates as if SS Associates were the initial transferee.
The complaint needed to be reworked to assert claims against SS Associates as the subsequent transferee. The court noted that once an amended complaint is filed, SS Associates could assert “any further arguments . . . regarding the sufficiency of any such amended complaint.” Id. at *28-29.
[1] See In re Trans-End Technology, Inc., 230 B.R. 101 (Bankr. N.D. Ohio 1998); and In re Enron Corp., 343 B.R. 75 (Bankr. S.D.N.Y. 2006), rev’d, In re Enron Creditors Recovery Corp., 388 B.R. 490 (S.D.N.Y. 2008). The court in In re ONH AFC CS Investors, LLC also noted that many other courts have concluded that the initial transferee does not need to be named in a suit seeking recovery from a subsequent transferee. See Image Masters, Inc. v. Chase Home Fin., 489 B.R. 375 (E.D. Pa. 2013); In re Advanced Telecommunications. Network, Inc., 321 B.R. 308 (M.D. Fla. 2005); In re AVI, Inc., 389 B.R. 721 (B.A.). 9th Cir. 2008); and Securities Investor Prot. Corp. v. Bernard L. Madoff Inc. Sec. LCC, 501 B.R. 26 (S.D.N.Y. 2013).
