In managing a large, complex litigation with a $1.5 billion price tag, the bankruptcy court can hold off six years before serving the summons and complaint on 500 defendants without infringing their rights, according to a decision by Bankruptcy Judge Martin Glenn in the aftermath of the General Motors Corp. bankruptcy.

The June 30 decision by Manhattan’s Judge Glenn also gives a foretaste of a juicy issue regarding the applicability of the safe harbor in Section 546(e) to bar preference suits aimed at recovering payments of interest on a loan that turned out to be unsecured.

If the ultimate safe harbor decision goes eventually goes up on appeal and the Second Circuit rules in the creditors’ favor, trustees will be barred from recovering interest payments made to holders of unsecured debt securities during the preference period.

The Facts

The case involves what may be the biggest legal blunder of all time: A mistake by a paralegal or young lawyer may end up costing $1.5 billion, because more senior lawyers and business people for the borrower and lender all failed to check closing documents carefully.

The story began in 2001 with a $300 million synthetic lease financing for GM provided by JPMorgan Chase Bank NA. In 2006, with the same bank as agent, GM obtained a new $1.5 billion term loan secured by most of the carmaker’s assets.

GM paid off the $300 million loan in October 2008, before its June 2009 chapter 11 filing. Creditors discovered that lawyers, as part of the $300 million payoff, mistakenly filed documents that, according to their terms, also terminated the security interest for the $1.5 billion financing. The creditors therefore contended that the term loan lenders did not have a valid lien to secure the $1.5 billion loan.

As part of bankruptcy financing, GM needed to pay off the $1.5 billion term loan. To preserve the creditors’ claims, the DIP financing order provided that paying off the term loan would not        prevent the creditors from clawing back repayment if they succeeded in proving that the security interest had been terminated.

The outcome of the lawsuit on the validity of the $1.5 billion security interest was one of two pivotal factors in deciding how much unsecured creditors would recover from GM’s bankruptcy.

The Litigation So Far

The bankruptcy judge ruled in favor of the bank in March 2013 by holding that the lenders’ secured status survived because neither GM nor the bank intended to release the lien.

Creditors appealed directly to the Second Circuit. In June 2015, the appeals court asked the Delaware Supreme Court to resolve an undecided issue of state law under the Uniform Commercial Code governing the validity of the bank’s security interest.

The Delaware Supreme Court ruled in favor of creditors in October 2015, saying “unambiguous provisions” in the statute “dictate” that the creditors should win because it was “enough that the secured party authorizes the filing.” The Second Circuit still had to decide whether the law firm was authorized as agent to terminate the security interest.

Holding that the filing, although mistaken, had terminated the security interest, the Second Circuit declared the security interest invalid and remanded the case to the bankruptcy court in January 2015.

When the lawsuit began in 2009, the creditors named the bank as defendant along with about 500 beneficial owners of the debt. For good reason, the bankruptcy judge gave permission to delay serving the summons and complaint on the hundreds of beneficial holders: If the bank had won the appeal in the Second Circuit, the security interest would have been declared valid and there would have been no reason for subjecting the beneficial holders to the lawsuit because the bank was litigating the pivotal issue on validity of the security interest.

Service of the Complaint Six Years Later Was Timely

Back in bankruptcy court after the reversal and remand from the Second Circuit, the creditors’ trust finally served the summons and complaint on hundreds of beneficial holders, about six years after the adversary proceeding had been commenced. The defendants responded with a spate of motions to dismiss, which Judge Glenn denied in his June 30 opinion.

Judge Glenn ruled that serving the summons and complaint years later was timely because the court had repeatedly extended the time for service before the deadlines expired. He said putting off service on the beneficial holders was a “sensible and rational case management decision.”

The decision in that regard was not a complete loss for the beneficial holders because the judge said that previous rulings in the case, presumably including the invalidity of the security interest, were technically not binding on them because they were not parties at the time.

The judge rejected the creditors’ argument that the bank was representing the beneficial holders. The bank’s status as authorized agent with regard to the collateral did not elevate the bank to the status of the other defendants’ authorized agent in the lawsuit, the judge said.

Safe Harbor Ruling Later

The defendants argued that the suit should be dismissed under the safe harbor for payments on securities under Section 546(e). Judge Glenn ruled in favor of the creditors on one aspect of the issue but left the question open on another.

The safe harbor makes a payment immune from suit other than for a fraudulent transfer with “actual intent” if it was a “settlement payment” or was made in connection with a “securities contract.”

Judge Glenn held that the Second Circuit’s opinions in Enron and Quebecor made it clear that a $28 million interest payment within the preference period was subject to disgorgement because it was not made to complete a securities transaction. That holding did not end the inquiry, however.

The defendants also argued that the interest payment just before bankruptcy was a payment “in connection with a securities contract” and therefore was beyond recovery. Citing Enron, Quebecor, and a Madoff opinion from the Second Circuit, Judge Glenn said that the record on the motion to dismiss lacked critical documents needed for ruling whether the periodic interest payment was made “in connection with” a securities contract and was therefore protected by the safe harbor.

As a hint that the creditors’ trust might eventually lose, Judge Glenn noted that the Madoff opinion “applies an extensive scope” to the notion of a securities contract. In that case, the appeals court held that payments to customers more than two years before bankruptcy were protected payments on securities even though Madoff never purchased a single share of stock with the customers’ money. It was enough, the circuit said, that the payments were covered by the customers’ account agreement promising trading in securities.

In Enron, the Second Circuit held that prepayment of debt securities was protected by the safe harbor. If Enron and Madoff together mean that the Second Circuit will protect interest payments as well, debt holders will be able to fend off preference suits without using other preference defenses such as “ordinary course.”

The Supreme Court has yet to say whether the Second Circuit has properly interpreted the safe harbor.

The opinion is Motors Liquidation Co. Avoidance Trust v. JPMorgan Chase Bank NA (In re Motors Liquidation Co.), 09-ap-0504 (Bankr. S.D.N.Y. June 30, 2016).