Check Pleas: Reimbursement Check Delivered to Employee Pre-Petition is Unauthorized Post-Petition Transfer

by Patterson Belknap Webb & Tyler LLP

Patterson Belknap Webb & Tyler LLP

Section 549 of the Bankruptcy Code permits a trustee or debtor in possession to avoid (and ultimately recover) a transfer of the debtor’s property “that occurs after the commencement of the case” and “is not authorized under this title or by the court.”  11 U.S.C. § 549.  This sensible provision safeguards property of the estate for ratable distribution to creditors in accordance with the priorities established by the Bankruptcy Code and provides the Trustee with the necessary authority to pursue transferees that receive property of the estate without Court approval. 

But a complication arises when the transfer occurs both before and after the petition date.  In Lewis v. Kaelin (In re Cresta Technology Corp.), the Bankruptcy Appellate Panel for the Ninth Circuit Court of Appeals held that a $10,000 reimbursement check that was paid to the debtor’s chief financial officer before the company filed for bankruptcy was an avoidable post-petition transfer.[1]  But how can that be?  A check delivered to an employee before the bankruptcy was filed could never run afoul of Section 549, right? 

Wrong.  The Panel determined that the date of the “transfer” to the employee was not the date on which he received the check but rather the date on which the check was honored by the debtor’s bank.  The honor date for the check in question occurred four days after the petition date; therefore, the transfer was a post-petition transfer that could be avoided and recovered by the Trustee. 

The result in this case is somewhat unsatisfying.  A struggling company’s CFO had paid outside counsel out of his own pocket in order to assuage that counsel’s concern about the receipt of funds from a company on the verge of a bankruptcy filing.[2]  The company reimbursed the employee for this outlay, which it was obligated and had every right to do.  But, because the bankruptcy petition was filed before the reimbursement check was honored, the transfer was deemed to occur after the petition date. 

The Cresta Court recognized that the timing was unfortunate, observing that “[t]his case brings to mind the adage: ‘[n]o good deed goes unpunished.’”[3]  Even more so because a prior decision of the Ninth Circuit B.A.P. had reached the opposite conclusion.[4]  Nevertheless, the panel determined that it was bound by the Supreme Court’s decision Barnhill v. Johnson, which announced that the honor date is the date of transfer for purposes of Section 547 of the Bankruptcy Code, which governs the avoidability of certain pre-petition payments.[5]  With no basis to distinguish between the use of the word “transfer” in Sections 547 and 549, the BAP concluded that its “[prior holding] has been effectively overruled by the Supreme Court in Barnhill.”[6]  For both pre-petition payments challenged as preferences and post-petition payments that are not authorized by the Bankruptcy Court, the date of transfer is the honor date.

The Cresta decision is in accord with the only circuit court to address this issue post-Barnhill.[7]  And, as the panel pointed, out, “to apply the ‘date of honor’ rule to preferences and the ‘date of delivery’ rule to postpetition transfers [would create] a safe harbor for certain transfers by check. Ordinary checks delivered prepetition but honored postpetition would be recoverable neither as a preference nor as a postpetition transfer.  That is not a result Congress could have intended.”[8]

Congress may not have intended the debtor’s CFO to lose $10,000 to his employer’s creditors, either, but this possibly unintended consequence may be here to stay.  Individuals and entities transacting business with companies that may be on the verge of bankruptcy should proceed with care.

[1] 2018 Bankr. LEXIS 1057 (B.A.P. 9th Cir. Apr. 6, 2018).

[2] Id. at *2.

[3] Id.

[4] See Tarver v. Trois Etoiles, Inc. (In re Trois Etoiles, Inc.),  78 B.R. 237, 239 (9th Cir. BAP 1987) (transfer by ordinary check occurs on the “date of delivery” for purposes of § 549). 

[5] 503 U.S. 393 (1992).

[6] 2018 Bankr. LEXIS 1057 at * 9.

[7] See Guinn v. Oakwood Props., Inc. (In re Oakwood Mkts., Inc.), 203 F.3d 406, 409 (6th Cir. 2000).

[8] 2018 Bankr. LEXIS 1057 at * 11.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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