When a customer files for bankruptcy, how should a business respond to a letter demanding return of a payment received from the customer three weeks earlier?
"Don't automatically write a check," advised Toledo bankruptcy lawyer Patricia Fugee.
She and fellow bankruptcy attorney Patrick Hendershott presented a day-long seminar yesterday at the Wyndham Hotel in downtown Toledo for lawyers on "Bankruptcy: A Creditor's Perspective in Ohio." The seminar was sponsored by Lorman Education Services, Eau Claire, Wis.
Bankruptcy laws require creditors in many instances to return money received from a debtor in the 90 days leading up to bankruptcy under a doctrine called "preferential payment."
But not every payment made by bankrupt firms during that period is preferential, meaning that it represents preferential treatment of one creditor over another of equal standing.
And even when a payment seems to fit the definition, there are defenses to justify it.
In short, businesses that receive such demand letters should consult an attorney. The number of such demand letters is growing because rights to collect preferential payments in more bankruptcies are sold to third parties who send blanket demands to creditor-vendors without first researching payments individually, Ms. Fugee said.
The hurdle for classifying a payment as preferential is not a high one. Key criteria include whether the debtor was insolvent 90 days prior to bankruptcy and whether the payment was made on an account for goods or services purchased in the past on credit.
The best way to avoid being sucked into a debate about whether a payment was preferential is to demand cash up-front from customers who appear headed for bankruptcy, Mr. Hendershott said.
But there are other defenses. For example, goods and services supplied to the firm after the payment often offset the preferential payment claim. So that a $100 payment claim can be cut in half if the vendor supplied $50 in goods and services after receipt of the payment. This defense is known as "new value."
Creditors whose claims are guaranteed, or secured, by a building, machinery, and other big-ticket item can't be required to return payments made near the bankruptcy filing unless the payment exceeds the value of the collateral, experts said.
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