Eleventh Circuit Upholds “New Value” Defense to Preference Claim Without Reduction for Payment of Creditor’s § 503(b)(9) Claim

A recent decision by the Eleventh Circuit Court of Appeals addresses an issue previously addressed by only one other circuit court and should be welcome news for preference defendants asserting a “subsequent new value” defense while also having a § 503(b)(9) claim. In the case of Auriga Polymers Inc. v. PMCM2 LLC, [1] the Eleventh Circuit held that payments received post-bankruptcy for payment of an allowed § 503(b)(9) claim do not prevent the creditor from asserting the “new value” defense for the very same goods or services on which the § 503(b)(9) claim is based. The opinion concerns the interpretation of § 547(c)(4) of the Bankruptcy Code and presents an interesting approach to statutory construction that some may find surprising.

The Issue

The case arose in the bankruptcy of Beaulieu Group, LLC, which filed for chapter 11 relief in Georgia. After a plan of liquidation was confirmed, avoidance actions were assigned to a liquidating trust. The trustee of the liquidating trust filed multiple preference suits, including a complaint against Auriga Polymers, Inc. pursuant to §§ 547 and 550 of the Bankruptcy Code to avoid and recover the $2.2 million the debtor paid Auriga during the 90-day preference period. During the same period, however, Auriga sold and delivered to the debtor more than $3.523 million of goods, of which at least $694,502 worth were delivered during the 20 days prior to petition date, and for which Auriga filed an administrative priority claim under § 503(b)(9) of the Bankruptcy Code. In defense of the trustee’s preference complaint, Auriga asserted the “subsequent new value” defense under § 547(c)(4), which included the goods Auriga delivered to the debtor for which Auriga filed its § 503(b)(9) claim.

Under § 547(c)(4), to qualify for the defense, the defendant creditor must establish, for each alleged preferential payment at issue, that

after such transfer, such creditor gave new value to or for the benefit of the debtor—

(A) not secured by an otherwise unavoidable security interest; and
(B) on account of which new value the debtor did not make an otherwise unavoidable transfer to or for the benefit of such creditor….

The trustee eventually conceded that Auriga had a valid “new value” defense for all payments at issue except for $421,119, which was the disputed portion of Auriga’s § 503(b)(9) claim. The trust paid the undisputed portion of Auriga’s § 503(b)(9) claim and set aside reserves to pay the disputed portion if allowed. With respect to the remaining preference claim, the trustee argued that the “new value” defense was not available because Auriga did not meet the requirement of § 547(c)(4)(B) due to the fact that the trust, as successor to the debtor, held reserves to pay the disputed portion of § 503(b)(9) and that the reserve was “an otherwise unavoidable transfer.”

The trustee thus argued that Auriga could not “double-count” the goods for which the § 503(b)(9) claim was filed by also using it as a “new value” defense to offset preference liability. The bankruptcy court held in favor of the trustee based on the comprehensive reasoning the court articulated in a different case arising in the Beaulieu Group bankruptcy, Beaulieu Liquidating Trust v. Fabric Sources Inc. (In re Beaulieu Grp. LLC). [2] Auriga appealed, and because the case presented a novel issue of law, the district court permitted a direct appeal to the Eleventh Circuit.

Eleventh Circuit’s Analysis

The Eleventh Circuit noted that only three courts previously had considered the precise question of “whether a creditor can use § 503(b)(9) and § 547(c)(4) for the same underlying value” with conflicting conclusions, although more courts had considered the broader issue of whether any post-petition payments diminished a creditor’s “new value” defense, also with conflicting results. [3] The opinion discusses that the Third Circuit previously held in In re Friedman’s Inc. [4] that only pre-petition “otherwise unavoidable transfers” offset a creditor’s new value defense. [5] The Eleventh Circuit also noted that in Hall v. Chrysler Credit Corp. (In re JKJ Chevrolet Inc.), [6] the Fourth Circuit stated in dictum that post-petition transfers may be considered in evaluating a “new value” defense under § 547(c)(4)(B). [7] In Login Bros. Book Co., the bankruptcy court (the esteemed Eugene R. Wedoff) held that the timing of a repayment of new value is irrelevant based on the plain language of § 547(c)(4), which contains no temporal limit on the repayment or return of new value, and the policy behind the statute. [8]

Turning to the statute, the Eleventh Circuit paid homage to the “plain meaning” rule, noting that it “cannot import words into a statute where the plain language is clear.” [9] The court then went beyond the more typical application of the rule, stating that “a statute’s silence does not give us permission ignore [sic] its context,” explaining that the Supreme Court has encouraged courts to take a “broader, contextual view when examining provisions of the Bankruptcy Code, and to ‘not be guided by a single sentence or member of a sentence, but look to the provisions of the whole law, and to its object and policy.’” [10] Reading the text of § 547(c)(4) in the context of the Bankruptcy Code, the Eleventh Circuit concluded that the phrase “otherwise unavoidable transfers” clearly means pre-petition transfers, and that the statute’s silence on the timing of such transfers was not determinative.

In the court’s reasoning, while the term “transfer” as defined in the Bankruptcy Code includes no temporal limit, in the context of § 547(c)(4), the term should bear the same meaning throughout the text. Noting that the statute uses the word “transfer” three times, with the first two clearly applying only to pre-petition transfers, the court concluded that the word should be given the same meaning in § 547(c)(4)(B). The court further found support in the prevailing view of other courts that new value advanced post-petition does not increase a creditor’s “new value” defense, noting that, logically, post-petition payments likewise should not affect the preference analysis.

The Eleventh Circuit bolstered its conclusion by finding it consistent with the policy behind preference defenses, which is designed to encourage creditors to continue doing business with debtors. Lastly, the court rejected the trustee’s argument that allowing a creditor to benefit from goods shipped within 20 days of the petition date by applying the goods to a “new value” defense while also giving the creditor an administrative claim under § 503(b)(9) was equivalent to a “double payment,” by noting that the defense does not result in a payment to the creditor and “merely prevents disgorgement of monies previously paid.” [11]

Conclusion

It remains to be seen whether other circuit courts will agree with the Eleventh Circuit’s Auriga Polymers opinion. Until the issue is settled more broadly in other circuits, prudent creditors dealing with distressed debtors in advance of a potential bankruptcy should look at the state of the law in the relevant jurisdictions before taking too much comfort from Auriga Polymers.