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The Punchline: Judge Wiles’ decision limits the applicability of the Section 546(e) safe harbor by refusing to collapse a series of transfers based on the economic substance of the overarching transaction instead focusing on the transfer that the plaintiff trustee seeks to avoid.
Key Excerpts:
In In re IIG Global Trade Finance Fund LTD (in Official Liquidation), Adv. Case No. 23-01165 (MEW), 2024 WL 4751276 (Bankr. S.D.N.Y. Nov. 8, 2024), the liquidators of two Cayman investment funds (the “Funds”) sought to avoid transfers by those funds to a Delaware statutory trust (“TFT”) made in exchange for “participation interests” in loans held by TFT (the “Transfers”). IIG Global. 2024 WL 4751276 at *2-3. TFT had purchased those loans from its affiliate, TFFI, which had originally acquired the loans by selling $220 million of notes. Id. Deutche Bank Trust Company Americas (“DBCTA”) had served as the indenture trustee on the TFFI note offering. Id. at *1. When TFT received the Transfers from the investment funds, it immediately paid them to DBCTA, which itself paid out funds to the TFFI Noteholders. Id. at *3, *9.
On a motion to dismiss, the IIG Global Trade defendants conceded that, in isolation, the transfers by the Funds to TFT were not subject to Section 546(e), but argued that the safe-harbor applied because TFT was merely a nominal participant in a larger transaction, namely was the payment of cash from the Funds to the Noteholders to redeem the TFFI Notes. Id. at *9. Judge Wiles was thus asked whether Merit Management required the court to collapse all of the underlying transactions and to treat them as one.
To resolve the issue, Judge Wiles performed an in-depth analysis of Merit Management, observing that the “Supreme Court held that in applying section 546(e) a court should focus on ‘the overarching transfer that the trustee seeks to avoid under one of the substantive avoidance provisions.’” IIG Global, 2024 WL 4751276 at *13 (citing Merit Mgmt., 583 U.S. at 378). As Judge Wiles described it, the defendants argued that “Merit Management [ ] (and the reference in that decision to the “overarching transfer” that the trustee sought to avoid) compels me to collapse the entire series of transfers that occurred in this case, and compels me to ignore all of the separate sets of transfers that are alleged, in order to decide if section 546(e) applies.” IIG Global, 2024 WL 4751276 at *14. But Judge Wiles rejected that argument, writing “[t]hat is not a proper reading of Merit Management.” Id. Judge Wiles then examined the differences between the facts at bar in Merit Management versus the facts present in IIG Global, concluding that the IIG Global defendants were focused on facts bearing on the alleged subsequent transferees (DBCTA/Noteholders), but not the Transfers subject to the fraudulent transfer claims, which were between only the Funds and TFT. Id.
Continuing his analysis, Judge Wiles declared that “[t]here is nothing in Merit Management that amounts to a command to look at subsequent transfers as though they determine the applicability of section 546(e) to the initial transfers that a trustee seeks to avoid.” Id. (emphasis added). Rather, Judge Wiles declared that “Merit Management quite clearly commands that in deciding whether section 546(e) applies [the court] should look at the transfer that the plaintiff seeks to avoid and whether that transfer “itself” was a payment to a protected entity of a kind that invoked the protections of section 546(e).” Id. (emphasis added). Judge Wiles then observed that the IIG Global defendants urged him “to let the [IID Global] [d]efendants re-define the transactions in order to try to bring them within the scope of section 546(e). That is exactly what the Supreme Court said in Merit Management that [Judge Wiles] should not do.” Id.
[In reviewing other recent decisions], Judge Wiles observed that:
There are points in the various Boston Generating decisions that discuss Merit Management as though it prohibits courts from focusing on the “component” parts of a transaction, but that is not what Merit Management held. The Supreme Court held in Merit Management that if a trustee attacks a “component” part of a transaction the trustee must establish that the elements of a fraudulent transfer are established, but otherwise it held that courts should look no further than the transfer that a trustee seeks to challenge. IIG Global, 2024 WL 4751276 at *17.
Judge Wiles concluded his discussion of Section 546(e), writing:
The Supreme Court confirmed in Merit Management that in challenging a transfer a trustee must identify characteristics of a challenged transfer that actually make it subject to avoidance, and in that sense a trustee is not free to define a “transfer” in any way the trustee chooses. In this case… Merit Management makes clear, under these circumstances, that section 546(e) is not applicable. IIG Global, 2024 WL 4751276 at *17.
It remains to be seen whether other jurists will adhere strictly to Merit Management and examine Section 546(e) arguments in a highly case-specific manner that resists an overbroad reading of that safe harbor provision. However, Judge Wiles decision in IIG Global provides a roadmap to do so, and represents a step in paring back Section 546(e)’s perceived scope.
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