By amendments in Sections 544 and 548, Congress made some contributions to “qualified religious or charitable” entities immune from attack as fraudulent transfers. For reasons explained by Bankruptcy Judge Kevin R. Huennekens of Richmond, Va., the religious exemption didn’t protect two churches that were subsequent recipients of fraudulent transfers by a corporate debtor.

In prior litigation that had become a final order, the court found that the corporate debtor had made fraudulent transfers under Sections 544 and 548 to an individual who owned the chapter 11 debtor and to a company that the individual controlled.

The bankruptcy court confirmed a chapter 11 plan creating a liquidating trust. Under Section 550(a)(2), the trust sued two churches that allegedly received subsequent transfers from the individual and his company that had been transferred fraudulently initially by the corporate debtor.

As Judge Huennekens said in his June 10 opinion, neither church knew it had received fraudulently transferred property from the two contributors.

The churches filed motions to dismiss, contending that they were protected from disgorgement of fraudulent transfers because they were qualified religious institutions. Judge Huennekens denied the motions. After trial, he found them liable for almost $1.4 million.

The Applicable Statutes

The case turned on the Religious Liberty and Charitable Donation Protection Act of 1998, which was codified in part in Sections 544(b) and 548(a)(2). 

Judge Huennekens said that whether the churches were protected by the statutes was a question of “first impression” but was “not complicated,” for one simple reason: “[T]he defenses available to a defendant under section 548 of the Bankruptcy Code are not available to a defendant under section 550 of the Bankruptcy Code.”

Section 548(a)(2) provides that a “transfer of a charitable contribution to a qualified religious or charitable entity or organization shall not be considered [a constructively fraudulent transfer] in any case in which — (A) the amount of that contribution does not exceed 15 percent of the gross annual income of the debtor for the year in which the transfer of the contribution is made . . . .”

The trust was seeking to recover from the two churches, as subsequent transferees. Section 550(b)(1) contains defenses for subsequent transferees, like the churches. It says, in relevant part, that there may be no recovery from “a transferee that takes for value, including satisfaction or securing of a present or antecedent debt, in good faith, and without knowledge of the voidability of the transfer avoided.” Notably, Section 550 contains no defense for religious institutions.

Analysis

Notably, Judge Huennekens said that the “Charitable Contributions Exception in section 548 of the Bankruptcy Code requires that the ‘charitable contribution’ be made by the debtor, and [Section 548(d)(3)] also requires that the debtor be a natural person.” Furthermore, he said,

Section 544(b)(2) of the Bankruptcy Code incorporates the Charitable Contribution Exception from section 548 as an exception to the trustee’s ability to “avoid any transfer of an interest of the debtor in property . . . that is voidable under applicable law by a creditor holding an unsecured claim.” [Emphasis in original.]

“Not inconspicuously,” Judge Huennekens said, “the Donations Protection Act did not amend section 550 of the Bankruptcy Code.”

Section 550(a) only has a “limited defense,” Judge Huennekens said. It protects “a transferee that takes for value, including satisfaction or securing of a present or antecedent debt, in good faith, and without knowledge of the voidability of the transfer avoided.” He said that the two churches “cannot avail themselves of the exception because neither of them took the donations they received for value.”

Judge Huennekens declined to “expand the statutory defense Congress included in section 550 to an action brought thereunder to encompass the Charitable Contribution Exception.” He added that “the Charitable Contribution Exception is limited to individual debtors only, it would not apply to a donation made by a corporate debtor, nor would it apply to a donation made by a non-debtor.” In the case at hand, the transfers were not made by the debtor.

Judge Huennekens denied the motions to dismiss. In the remainder of his 41-page opinion, he made findings of fact and conclusions of law from trial, directing the entry of judgment against the churches for almost $1.4 million.