Entire Garnishment Is a Preference, Even What the Creditor’s Lawyer Keeps

Everything garnished from the debtor during the preference period is recoverable, even if part went to the creditor’s attorney under a charging lien, according to the Sixth Circuit.

The facts were simple. A creditor garnished the debtor’s wages for about $900 in the 90-day preference period. The debtor’s employer sent the $900 to the creditor’s lawyer. The lawyer kept about half under a charging lien and turned the remainder over to the creditor.

After filing in chapter 7, the debtor demanded return of the $900 as a preference. The creditor only returned the half it had received. So, the debtor filed an adversary proceeding for the remainder. The creditor filed a motion for summary judgment, contending the remainder taken by its lawyer was not a preference.

The bankruptcy court denied the creditor’s summary judgment motion. The district court granted leave for an interlocutory appeal and reversed. The creditor went to the circuit and lost again in a January 26 opinion by Circuit Judge John B. Nalbandian.

In the circuit, the creditor argued that the portion retained by the lawyer was not a preference because (1) it was not a transfer under Section 547(b) “to or for the benefit of a creditor,” and (2) the transfer did not enable the creditor to recover more than it would through bankruptcy. Judge Nalbandian said the arguments failed for three reasons.

First, the portion retained by the creditor’s lawyer was nonetheless a transfer “to” the creditor because the law firm was the creditor’s agent. In addition, the law firm was a mere conduit.

Second, the entire transfer was for the creditor’s benefit because the entire amount paid down the judgment against the debtor. Judge Nalbandian said that “the purpose of the transfer was clearly not to benefit [the creditor’s] law firm; it was to satisfy [the creditor’s] judgment against [the debtor].” Furthermore, it was “irrelevant that [the law firm] retained a portion of the funds under its agreement with [the creditor].”

Judge Nalbandian rejected the idea that “to or for the benefit of” only applies when the “debtor subjectively intends to benefit a creditor.” The argument, he said, “is inconsistent with the statute.”

“Section 547(b)(1) does not require a particular state of mind on the part of the debtor. The statute merely requires that a ‘transfer of an interest of the debtor’ be ‘for the benefit of the creditor. . . . That language requires analyzing the reasons underlying the transfer — the purpose. But it does not require an inquiry into the debtor’s subjective intent.”

Furthermore, the statute does not require the debtor to have initiated the transfer because the Bankruptcy Code defines “‘transfer’ broadly to encompass both voluntary and involuntary transfers.” Thus, the transfer was for the benefit of the creditor, Judge Nalbandian said.

The debtor’s third argument was difficult (for this writer) to understand. The creditor argued that it did not recover more than it would have through bankruptcy because half went to the law firm.

Judge Nalbandian rejected the contention, saying that the entire $900 benefitted the creditor, in part because it satisfied the creditor’s obligation to the law firm.

In sum, Judge Nalbandian said, the creditor was not entitled to summary judgment. He remanded the case for further proceedings, presumably for the bankruptcy court to determine whether the facts satisfied the other requirements for a preference and whether the creditor had any defenses.