Sales “Free and Clear” Through an Assignment for the Benefit of Creditors

Now more than ever, companies have been in distress and facing financial troubles since the COVID-19 pandemic struck the globe. Following the expiration of federal and state financial assistance to businesses, such as the Paycheck Protection Program (PPP), Economic Injury Disaster Loan (EIDL), and other grants and loan programs, companies must understand their options for reorganizing or liquidating their businesses in an orderly manner.

Background

An assignment for the benefit of creditors (ABC) is an effective tool, and a common law or statute alternative to bankruptcy, for companies to consider in order to liquidate their business and assets. An ABC is a state court liquidation procedure in which an assignee, [1] similar to a trustee in a bankruptcy case, serves as a court-appointed fiduciary to administer assets in the ABC to maximize value for creditors and the estate. ABCs are state-specific, so it is important to analyze your state’s ABC statutes and rules. ABCs are available in every state in one form or another. Some states utilize common law principles, while others are regulated by statute. Each are unique and must be studied carefully. This article will focus mostly on obtaining a sale free and clear of liens, claims and encumbrances in New Jersey (author’s home state) through an ABC [2], and more particularly on obtaining sale orders “free and clear” of all liens, claims and encumbrances.

Sales in a Bankruptcy

Most bankruptcy professionals are familiar with a sale of assets under 11 U.S.C. § 363(b). A “363 sale” refers to the sale of an organization’s assets in chapter 11. The bankruptcy court has authority to grant a debtor-in-possession or a trustee the power to sell assets. Specifically, § 363(f)(3) of the Bankruptcy Code permits a sale “free and clear of any interest in such property of an entity other than the estate” as long as certain statutory provisions are satisfied.

Sales in an ABC

In an ABC, it is the assignee’s responsibility to ensure, among other things, that the sale process is commercially reasonable. The assignee and/or his/her professionals conduct the sale and transfer the assets to the buyer upon notice to creditors and a court order. In most matters, a sale of the assets will require the secured creditor’s (if any) consent and agreement to release its liens, as no potential buyer would want to [3] agree to acquire assets that are subject to a secured creditor’s existing liens or encumbrances.

Free and Clear in an ABC

One of the most critical questions asked when filing an ABC is whether a sale can be consummated “free and clear” of liens, claims, encumbrances and interests of any kind. In New Jersey, the assignment statute is N.J.S.A. § 2A:19-1 et seq. Pursuant to N.J.S.A. § 2A:19-13, an assignee has general powers as successor to the assignor as follows:

Every assignee shall have as full power and authority to dispose of all the assignor’s property, except as otherwise may be provided, as the assignor had at the time of the general assignment. [4]

Moreover, with regard to the sale of real property, N.J.S.A. § 2A:19-18 provides as follows:

Whenever any assignee shall take any real estate of the assignor under a general assignment, he shall, except as hereinafter provided, proceed to sell the same, at public or private sale, in the manner prescribed for an executor or administrator directed by the court to sell lands for the payment of the debts of a decedent. [5]

With regard to the sale of personal property, N.J.S.A. § 2A:19-19 states that “[t]he assignee shall submit all contracts for sale of personal property of the estate, whether by public or private sale, to the court for confirmation.” [6] Accordingly, with court authority, an assignee can sell real or personal property of the estate.

An assignee for the benefit of creditors administers the assigned estate pursuant to enabling legislation, and he stands in the shoes of the assignor with general powers to act in his stead as his successor. [7] As noted in N.J.S.A. § 2A:19-19, “[t]he assignee shall submit all contracts for sale of personal property of the estate, whether by public or private sale, to the Court for confirmation.” [8]

In addition, Rule 4:54 of the Rules Governing the Courts of the State of New Jersey, states in part: “The practice relating to assignments for the benefit of creditors under N.J.S.A. § 2A:19-1 et seq. shall conform as nearly as practicable to the procedure relating to insolvent corporations. [9] ” Insolvent corporations are administered under N.J.S.A. § 14A:14-1, which includes receiverships:

14A:14-7. Powers of receiver; sale of property free of encumbrances
When property of a corporation for which a receiver has been appointed is, at the time of such appointment, subject to one or more encumbrances, the Superior Court, upon the application of the receiver, may authorize the receiver to sell such property at public or at private sale, clear of encumbrances, for such price and upon such terms as the court may approve. No such sale shall be authorized or made except upon prior notice to the holders of the encumbrances affecting such property, and unless the receiver demonstrates to the satisfaction of the court that the sale of such property may be reasonably expected to benefit general creditors of the corporation without adversely affecting the interests of the holders of the encumbrances. The proceeds of such sale shall be paid into court, there to remain until the further order of the court, subject to the same encumbrances which affected the property at the time of the sale. [10]

Moreover, case law provides that the statutes dealing with ABCs and receiverships are “identical.” In In re Holly Knitwear v. Solomon, [11] the court stated that “it is now settled that the rationales behind the statutes dealing with corporate receiverships, N.J.S.A. § 14A:14-1 et seq., and assignments for the benefit of creditors, N.J.S.A. § 2A:19-1 et seq., are identical. Therefore, the receivership cases supply instructive precedent for the assignment proceeding before this court.” [12] Accordingly, reading the statutes in conjunction with one another, an assignee, by incorporating the receivership statute, is authorized to sell property free and clear of encumbrances under N.J.S.A. § 14A:14-7.

If New Jersey is not the state in which the ABC was filed, you must check the common law or state statute for your state. There are several creative ways to obtain a court order approving a sale of the estate’s asset free and clear of liens, claims and encumbrances with the consent of a secured party. Many state statutes allow flexibility in their rules to accomplish “just determination” or “fairness in administration,” or such states’ court rules. [13]

A potential buyer can also purchase the assignor’s business. Buying a going-concern business or specified assets “free and clear” from an assignee allows the purchaser to avoid certain issues, including successor liability, alter-ego claims or lien/debt encumbrances. An ABC is a creative process and allows for flexibility.

In certain circumstances, a secured creditor may prefer to have an independent, objective third party, such an assignee, with expertise and experience liquidating ongoing businesses and assets to conduct an auction or sale. Generally, a sale through an ABC with a secured creditor’s consent results in an expedited and far less costly process than a foreclosure.

Conclusion

Filing an ABC has many beneficial aspects and may be a strategic alternative to filing a bankruptcy. Fast action and avoidance of “formal federal bankruptcy” proceedings are viable selling points to consider filing an ABC.