Third Circuit Settles Fraudulent Transfer Burden of Proof Under Pennsylvania UFTA

In Sikirica v. Wettach,[1] the Third Circuit held that a party seeking to avoid a fraudulent transfer under Pennsylvania’s Uniform Fraudulent Transfer Act (PUFTA)[2] bears the burden of persuasion on all elements, including the insolvency of the debtor and the lack of reasonably equivalent value in exchange. When the transfer is from an individual debtor to a tenancy-by-the-entireties account, the debtor receives reasonably equivalent value to the extent that the couple used the transferred assets to pay their reasonable and necessary household expenses.[3] However, a transferee couple must produce some evidence about how they spent the money. If they do not or cannot explain where the money went, the trustee automatically carries the burden of proof on the absence of reasonably equivalent value.

The case emanates from a breach-of-lease action begun in 2000 against a tenant, the former Pittsburgh law firm Titus & McConomy and its partners. The lessor obtained joint and several judgments against the firm and individual partners, including Mr. Wettach, who, along with several of his former partners, thereafter sought relief in bankruptcy court.[4] In the “Titus cases,” as they came to be known, the chapter 7 trustees brought avoidance actions against the former partner debtors and their spouses under 11 U.S.C. §§ 544(b)(1) and 550(a)(1). In each case, the trustee sought to avoid as constructively fraudulent direct deposits of the debtor’s law practice income into bank accounts held by the entireties by the debtor and his spouse.[5]

The bankruptcy court in Wettach treated the Wettachs as initial transferees by the entireties. It held that although the trustee bore the burden of proof on transfer, insolvency and lack of reasonably equivalent value, the Wettachs had the burden of producing some evidence of how they spent the money. The trustee was entitled to recover from the Wettachs the positive balance in their entireties account as of the filing date, which they clearly had not spent on household expenses. He was also entitled to recover Mr. Wettach’s compensation deposited during the four-year pre-filing lookback period for which the Wettachs had offered no explanation. The Wettachs did offer evidence of their expenses, and the bankruptcy court found that some were reasonable and others were not, such as Mr. Wettach’s business investments, certain travel expenses, expenses associated with four of the Wettachs’ seven automobiles, extensive improvements to their house, and part of an “allowance” paid to Mrs. Wettach in cash.

Before the Third Circuit, the Wettachs argued that the bankruptcy court improperly shifted to them the burden of proof on reasonably equivalent value. The court held that the Pennsylvania Supreme Court would hold that under PUFTA the party challenging the transfer has the burden of persuasion on all elements of a fraudulent transfer action. The requirement that the Wettachs produce some evidence of how they spent the funds created a rebuttable presumption in favor of the trustee that the transfer of Mr. Wettach’s salary to an entireties account was not in exchange for reasonably equivalent value. The Third Circuit explained that the presumption does not shift the burden of persuasion, but appropriately places the burden of production on the transferees, who have better access to information about how they used the funds.

Wettach settles any question in the Third Circuit of who has the ultimate burden of persuasion in a fraudulent transfer action under PUFTA. By holding that the trustee bears the burden on all elements, the court cleared up inconsistencies among bankruptcy courts in the circuit, and brought Pennsylvania law into accord with other states’ laws and with 11 U.S.C. § 548(a)(1)(B). The decision shows starkly the intrusive power of a bankruptcy court into the finances of a married debtor, and the limits of Pennsylvania tenancy by the entireties as a shield against creditors of an individual spouse.