Statutory Showdown: Another Bankruptcy Court Weighs In on § 544(b)(1) and the Limitations Period

Section 544(b)(1) of the Code enables a trustee to “avoid any transfer of an interest of the debtor in property or any obligation incurred by the debtor that is voidable under applicable law by a creditor holding an unsecured claim that is allowable under section 502....”^[1] Pursuant to § 544(b), a trustee steps into the shoes of an unsecured creditor (the “triggering creditor” or “golden creditor”) to pursue the avoidance of fraudulent transfers utilizing the substantive law applicable to the triggering creditor. Depending on the state, the statute of limitations for fraudulent transfers is generally three to six years from the date of transfer. Under federal law, the Internal Revenue Service (IRS) has a 10-year look-back period to collect tax liability.[2] When the IRS is the triggering creditor, the law is split on whether a trustee may seek to recover transfers made within 10 years of the petition date. Although there are few opinions, in the last five years conflicting decisions have resulted in a split of authority as to whether the longer limitations period applies.[3] This article briefly summarizes the conflicting law and the recent decision in In re CVAH Inc.                    

The Conflicting Law

The majority of bankruptcy courts considering the issue have held that a trustee has the right under § 544(b) to step into the shoes of another creditor and take advantage of the longer limitations period.[4] For example, the Southern District of Florida in In re Kipnis held that § 544(b) permits a trustee to step into the shoes of the IRS and use the 10-year collection period of 26 U.S.C. § 6502 to avoid transfers.[5] Similarly, the Northern District of Illinois in In re Kaiser held that § 544 did not limit the use of the IRS as a triggering creditor or the applicable law the IRS could use in pursuing an action.[6] In In re Porras, the Western District of Texas concluded that a trustee under § 544(b) may use whatever limitations period is available to any creditor in whose shoes it stood to bring the action.[7]

Other courts, however, have reached a contrary result.[8] The Fifth Circuit, the only circuit court to address the issue, held in In re Mirant Corp. that the Federal Debt Collection Procedures Act (FDCPA) could not be applicable law under § 544(b).[9] Citing to § 3003(c) of the FDCPA, which states that it “shall not be construed to supersede or modify the operation of ... title 11,” the court found that “treating the FDCPA as applicable law … would impermissibly modify the operation of Title 11.”[10] Although the Fifth Circuit acknowledged that legislative history was “not dispositive” on the issue, it found support for its decision in a committee chairman statement and concluded “that the Bankruptcy Code should be read as if the FDCPA did not exist.”[11] Following Mirant, the New Mexico bankruptcy court in In re Vaughn Co. acknowledged that a trustee may stand in the shoes of any unsecured creditor to set aside transfers to third parties, but held that a trustee was not allowed to use the 10-year limitations period under IRC § 6502.[12] The Vaughn court did not “believe that Congress, by enacting § 544(b), intended to vest sovereign powers in a bankruptcy trustee….”[13]

The CVAH Decision

Recently, in Hillen v. City of Many Trees LLC (In re CVAH Inc.),^[14] the Idaho bankruptcy court adopted the majority view and held that under § 554(b)(1), a trustee “may step into the shoes of [the] IRS and utilize the transfer of avoidance provisions of both the FDCPA and the IRC” and, “[i]n doing so, … benefits from all the rights … available to IRS outside of bankruptcy.”^[15]

In CVAH, the debtor failed to pay corporate income taxes for several years prior to filing bankruptcy and owed the IRS approximately $1.5 million. The chapter 7 trustee filed adversary proceedings seeking to avoid allegedly constructive fraudulent transfers the debtor made to pay its owner’s personal debts prior to filing bankruptcy. Several defendants who received transfers moved to dismiss challenging the trustee’s legal right to invoke either the FDCPA or IRC, with their extended limitations, as a basis to avoid transfers under § 544(b)(1).^[16] In determining the scope of the trustee’s avoiding powers, the Court considered whether the FDCPA and IRC constitute “applicable law” for purposes of § 544(b)(1) and concluded that “applicable law” should be read broadly and, under the plain language of § 544(b)(1), that the trustee may step into the shoes of the IRS and invoke any “applicable law” that the IRS could use outside of bankruptcy to avoid the transfers. The court reasoned “that had Congress intended to restrict the reach of “applicable law” in § 544(b)(1), it would have done so expressly.”^[17]

The court also considered whether utilizing the FDCPA as applicable law under § 544(b)(1) would modify the operation of Title 11. Rejecting the Mirant decision, the court determined that application of a longer look-back period than provided by § 548(a)(1) or most fraudulent-transfer laws does not modify the operation of § 544(b)(1).^[18] The court reiterated:

[Section] 544(b)(1) is an enabling statute; its role in the Code is not to identify the specific laws a bankruptcy trustee may use to avoid a transfer. Rather, its purpose is to allow trustees to generally invoke applicable laws, i.e., all statutes that an unsecured creditor with an allowed claim in the case could utilize outside of bankruptcy.^[19]

The court also addressed a trustee’s exercise of sovereign power under § 544(b)(1) to collect taxes. Following the rationale of Kipnis and Kaiser, the court decided that “the trustee, standing in the shoes of IRS, is immune from the Idaho four-year extinguishment period for fraudulent transfers.”^[20] The court concluded “that Congress and the Supreme Court would intend that, if [the] IRS could avoid a fraudulent transfer outside of bankruptcy, § 544(b)(1) enables the bankruptcy trustee, acting on behalf of the IRS, to also do so.”^[21]

Conclusion

The CVHA opinion provides a thorough analysis of the conflicting case law addressing § 544(b)(1) and the rationale various courts have used in determining whether a longer limitations period applies when the IRS is the triggering creditor. Absent congressional intervention, it is yet to be determined whether the majority view, interpreting the statutory provision broadly and giving it plain meaning, or the minority view, focusing on legislative intent and public policy, will prevail.