CLIENT ALERT | LABOR AND EMPLOYMENT | MAY 2024

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On April 23, 2024, The Federal Trade Commission (“FTC) issued a Final Rule banning noncompete agreements for workers. The Final Rule defines a “noncompete” clause or agreement as “a term or condition of employment that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from (1) seeking or accepting work in the United States with a different person where such work would begin after the conclusion of the employment that includes the term or condition; or (2) operating a business in the United States after the conclusion of the employment that includes the term or condition.”

After receiving more than 25,000 comments in favor of this ruling, the FTC determined noncompete agreements have a net-negative impact on business formation, market concentration, innovation, and result in higher prices for consumers. Cries that noncompete agreements were justified by business necessity have fallen on deaf ears at the FTC, who reasoned that any benefit gained from noncompete agreements cannot be outweighed by the harm they cause. The FTC advised that employers should instead protect their confidential interests through other means, such as nondisclosure agreements.

“We heard from employees who, because of noncompetes, were stuck in abusive workplaces,” said FTC Chair Lina Khan. “One person noted when an employer merged with an organization whose religious principles conflicted with their own, a noncompete kept the worker locked in place and unable to freely switch to a job that didn’t conflict with their religious practices.” These accounts, she said, “pointed to the basic reality of how robbing people of their economic liberty also robs them of all sorts of other freedoms.”

In making its Rule, the FTC determined that a noncompete agreement is an unfair method of competition, and therefore a violation of Section 5 of the Federal Trade Commission Act, 15 USC 45. Section 5(a) of the FTC Act provides that “unfair or deceptive acts or practices in or affecting commerce […] are […] declared unlawful.” 15 U.S.C. Sec. 45(a)(1).

After the Rule comes into effect later this year, employers will be barred from entering any new noncompete agreements and enforcing any preexisting agreements. Employers will be required to provide clear and conspicuous notice to each of their past employees that they will no longer be legally permitted to enforce their noncompete agreements. This notice must be provided to the employee before the Rule’s effective date by hand delivery, mail at the employee’s last known street address, email, or by text message. Employers who violate this new rule will be subject to civil penalties. The effective date for the Final Rule is 120 days after it is published in the Federal Register.

 

Exclusions

The FTC Act upon which the Rule relies does not apply to nonprofit corporations, which may result in the exclusion of health care centers from this Rule. However, the FTC Commissioner has clarified that the determination will not be based on the tax-exempt status, but rather, whether the corporation is organized for the profit of its members. Nonprofit organizations should be particularly careful to keep an eye on the interpretation of the Act and the resulting Rule.

The Rule carves out an exception for existing noncompete agreements between employers and their senior executives. Employers will be permitted to maintain existing noncompete agreements with those employees who make over $151,164 in annual compensation and are in a position of authority over the policies of the business.

The Rule does not apply to franchisee/franchiser relationships at this time. The Rule does not apply to noncompete agreements entered by a person pursuant to a bona fide sale of a business entity.

The Rule only applies to post-employment noncompete agreements. The Rule does not bar noncompete agreements that prohibit an employee from competing against the employer while still actively employed.

 

Resistance and Legal Challenges

The FTC vote was a 3-2 split along party lines. The FTC commissioners who dissented argued that the FTC was overstepping the boundaries of its power and predicted the ban would be challenged in court and eventually struck down. Shortly after the vote, the United States Chamber of Commerce held a press conference announcing that it is planning to initiate litigation to oppose the Rule, during which Daryl Joseffer, Executive Vice President, and Chief Counsel of the U.S. Chamber Litigation Center, argued that the FTC lacks authority to make a rule that is impermissibly retroactive. The Chamber maintains the longstanding position that noncompete agreements allow companies to protect trade secrets and help employees to benefit from an incentive for employers to invest in workplace training and improvement.

Additionally, The Chamber of Commerce President and CEO, Suzanne P. Clark, issued the following statement regarding the FTC’s final vote to ban employer noncompete agreements:

“The Federal Trade Commission’s decision to ban employer noncompete agreements across the economy is not only unlawful but also a blatant power grab that will undermine American businesses’ ability to remain competitive.

“Since its inception over 100 years ago, the FTC has never been granted the constitutional and statutory authority to write its own competition rules. Noncompete agreements are either upheld or dismissed under well-established state laws governing their use. Yet, today, three unelected commissioners have unilaterally decided they have the authority to declare what’s a legitimate business decision and what’s not by moving to ban noncompete agreements in all sectors of the economy.

“This decision sets a dangerous precedent for government micromanagement of business and can harm employers, workers, and our economy.

“The Chamber will sue the FTC to block this unnecessary and unlawful rule and put other agencies on notice that such overreach will not go unchecked.”

Bernstein-Burkley will continue to watch this space as the litigation between these bodies ensues. In the meantime, employers should be mindful of their existing noncompete agreements and move quickly to ensure compliance with the rules and avoid civil penalties. Employers should also seek counsel to assist with protecting legitimate business interests, confidential information, and trade secrets.

By: Mary Shahverdian 

ABOUT BERNSTEIN-BURKLEY, P.C.

Bernstein-Burkley, P.C. has more board-certified business bankruptcy and creditors’ rights specialists in Pennsylvania than any other law firm and is highly regarded and respected for its national reach in Bankruptcy & Restructuring, Business Law, Creditors’ Rights, Litigation, Oil & Gas, and Real Estate. The firm strives for across-the-firm board certification for eligible Bernstein-Burkley attorneys by 2025, with offices in Pittsburgh, Cleveland, and Wheeling.

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For more information, visit www.bernsteinlaw.com or contact:
Mary Shahverdian
Associate, Bernstein-Burkley
mshahverdian@bernsteinlaw.com or 412-456-8100

CLIENT ALERT | LABOR AND EMPLOYMENT | FEBRUARY 2024

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Workers and employers should be paying attention. A critical classification analysis that determines for whom the Fair Labor Standards Act (FLSA) applies is changing soon—thanks to a new rule from the United States Department of Labor.

On January 10, 2024, the U.S. Department of Labor published a new final rule, effective March 11, 2024 (the “2024 Rule”). The 2024 Rule revokes a prior rule that was published on January 7, 2021 (the “2021 Rule”).

The 2024 Rule includes an analysis for determining employee or independent contractor status that is more consistent with the text of the FLSA and decades of judicial precedent.

Why does classification matter?

For workers, proper classification is important because only employees are afforded the enumerated benefits under the FLSA. The FLSA is a federal law that enumerates certain employment rights, such as: minimum wage, overtime pay, recordkeeping requirements for employers, and youth employment standards. Generally, for a worker to be protected by the FLSA, the worker must be an “employee” of the employer. In other words, workers classified as “independent contractors” are not protected by the FLSA. Furthermore, most employment laws generally do not apply to independent contractors. The determination of a worker as an “employee” is a prerequisite for the application of anti-discrimination laws, such as Title VII of the Civil Rights Act.

It is also important for employers to know the proper analysis for classifying their workers. Neither an employer nor a worker can voluntarily waive their “employee” status in favor of being an independent contractor. For example, the 5th Circuit recently held that an in-home senior companion service’s workers are considered employees for the purpose of a Title VII retaliatory discharge claim, despite the employer’s label on their workers as independent contractors.[1] The court found that the employer exercised substantial control over the “details and means” by which the workers performed their job—it hired and fired them, set their schedules, required them to attend an orientation, and quizzed them about its policies.[2] The court agreed with the workers that “the label on an agreement does not dictate whether an individual is an employee or independent contractor.”[3] Instead, the court analyzed the “economic realities” of the working relationship to come to the conclusion that the employer had misclassified its employees as independent contractors.[4]

Why did we need a new rule?

Until 2021, the Department of Labor had never defined “independent contractor” by regulation. Instead, it covered the topic through informal guidance. Then came the 2021 Rule, which was optimistically designed to establish an economic realities test that allegedly improved on prior “unclear and unwieldy” descriptions.[5] The 2021 Rule focused on two primary factors and three secondary factors. Assessed first were (1) the employer’s right to control, and (2) the worker’s opportunity for profit or loss. If both factors led the analysis to the same conclusion, then the analysis ended. Only if these two factors did not align would the analysis continue to three “guidepost” factors: (1) the relationship’s length or permanence, (2) the worker’s special skills, and (3) the work’s integration into the principal’s operations.

The 2021 Rule was immediately criticized for incorrectly narrowing the economic reality test used in the courts by limiting the factors considered as part of the test, and applying different analysis factors that had never been used in any court and were not supported by the text of the FLSA. This is remedied in the 2024 Rule, which considers six factors in one step instead of five factors in a two-step analysis.

The Judicial Precedent is Consistent with the 2024 Rule

The 2024 Rule replaces the 2021 Rule with an analysis for determining employee or independent contractor status that is more consistent with the FLSA as interpreted by longstanding judicial precedent.

The United States Supreme Court has stressed again and again that the test for whether an individual is an employee under the FLSA is one of “economic reality.”[6] In other words, the often-fantasized technical concepts used to label a worker as an employee or independent contractor do not drive the analysis, but rather it is the economic reality of the relationship between the worker and the employer that is solely determinative.[7]

According to the Courts, the reality that employees are economically dependent upon their employer remains the ultimate inquiry of an FLSA classification analysis. Economic dependence does not focus on the amount of income the worker earns, or whether the worker has other sources of income. “Independent contractors” are workers who, as a matter of economic reality, are in business for themselves. “Employees” are workers who are, as a matter of economic reality, economically dependent on the employer for work.[8]

The Court has continuously rejected any approach based on “isolated factors” in favor of a holistic approach that considers “the circumstances of the whole activity.”[9] Before 2021, all federal districts followed the Supreme Court’s instruction.[10] The 2024 Rule was promulgated to return the analysis to the old standard relied upon in the courts.

The 2024 Rule

The 2024 Rule provides clarity and a seamless transition from judicial precedent, and is intended to reduce confusion, improve compliance, and better protect all working people and their employers. The 2024 Rule’s analysis may be applied to workers in any industry and will be easily accessible in the Code of Federal Regulations, 29 CFR Part 795.

Under the 2024 Rule, the Department of Labor will depend on the multifactor “economic reality” test traditionally used by courts to decide whether a worker is an employee or an independent contractor. This test relies on the totality of the circumstances where no single factor is determinative.

Consistent with judicial precedent, the 2024 Rule applies the following six factors assessing economic realities to determine economic dependence of a worker:

(1) Opportunity for profit or loss depending on managerial skill;

(2) Investments by the worker and the potential employer;

(3) The degree of permanence of the work relationship;

(4) The nature and degree of control;

(5) The extent to which the work performed is an integral part of the potential employer’s business;

(6) Skill and initiative of the worker; and

(7) Any additional relevant factors.[11]

The 2024 Rule provides detailed guidance regarding the application of each of these factors. Rather than a two-part analysis, the economic reality factors in the 2024 Rule are all weighed to assess whether a worker is economically dependent on a potential employer for work, according to the totality of the circumstances.

The 2024 Rule will reduce the risk that employees are misclassified as independent contractors while providing a consistent approach for businesses that engage with individuals who are in business for themselves. Misclassification occurs when an employer treats a worker who is an employee under the FLSA as an independent contractor.

The importance of correctly classifying workers in one category or another cannot be overstated. Appropriate classification of employees and independent contractors results in more people receiving the hard-earned wages and protections to which they are legally entitled. For these reasons, the 2024 Rule will provide helpful guidance for workers and businesses alike.

Proper Classification is Mandatory

It is a violation of the FLSA for an employer to willfully misclassify their workers as independent contractors to avoid the duties and obligations to employees. If a worker’s job falls within the bounds of the above “economic reality” test, that worker is an employee under the FLSA.

The 2024 Rule was promulgated with the intent to help to ensure that certain employment rights protected by the FLSA are available to the workers for whom these laws were designed to protect. The 2024 Rule is also intended to benefit responsible employers who comply with the FLSA. It ensures that they are not placed at a competitive disadvantage when competing against employers that strategically and fraudulently misclassify employees to evade compliance.

Fines levied by the Department of Labor against employers who know, suspect, or have reason to know that their actions might violate the FLSA can be severe—including unpaid overtime wages and liquidated damages.[12] The statute of limitations for an individual to file a wage claim under the FLSA is two years for a non-willful violation and three years for a willful violation.[13] There is also a risk of criminal penalties against these employers, as violations of the FLSA often extend to employers failing to withhold and remit state and federal payroll taxes.[14]

It should be noted that the 2024 Rule revises the Department of Labor’s guidance under only the FLSA. It has no effect on other laws that may use different standards for employee classification, such as the Internal Revenue Code or the National Labor Relations Act. The FLSA does not preempt any other laws that protect workers.

Employers and workers should both know their rights and duties under the Fair Labor Standard Act. Given the shifting legal landscape and the likelihood of facing significant liability, employers would be well-served to consult with counsel before attempting to classify any worker as an independent contractor.

Referenced Notes:

[1] Mason v. Helping our Seniors, L.L.C., 2023 U.S. App. LEXIS 24352 (Sept. 13, 2023)

[2] Id.

[3] Id. at *7.

[4] Id. at *4

[5] 86 FR 1172.

[6] Tony & Susan Alamo Found. v. Sec’y of Labor, 471 U.S. 290, 301 (1985) (quoting Goldberg v. Whitaker House Coop., Inc., 366 U.S. 28, 33 (1961)).

[7] Goldberg, 366 U.S. at 32-33.

[8] Bartels v. Birmingham, 332 U.S. 126, 130 (1947).

[9] Rutherford Food Corp. v. McComb, 331 U.S. 722 (1947); United States v. Silk, 331 U.S. 704, 712 (1947).

[10] See Baystate Alternative Staffing, Inc. v. Herman, 163 F.3d 668, 675 (1st Cir. 1998); Brock v. Superior Care, Inc., 840 F.2d 1054, 1058–59 (2d Cir. 1988); Donovan v. DialAmerica Mktg., Inc., 757 F.2d 1376, 1382–83 (3d Cir. 1985); McFeeley v. Jackson Street Entm’t, LLC, 825 F.3d 235, 241 (4th Cir. 2016); Acosta v. Off Duty Police Services, Inc., 915 F.3d 1050, 1055 (6th Cir. 2019); Secretary of Labor, U.S. Dep’t of Labor v. Lauritzen, 835 F.2d 1529, 1534 (7th Cir. 1987); Karlson v. Action Process Service & Private Investigation, LLC, 860 F.3d 1089, 1092 (8th Cir. 2017); Real v. Driscoll Strawberry Associates, Inc., 603 F.2d 748, 754 (9th Cir. 1979); Acosta v. Paragon Contractors Corp., 884 F.3d 1225, 1235 (10th Cir. 2018); Scantland v. Jeffry Knight, Inc., 721 F.3d 1308, 1311 (11th Cir. 2013); Morrison v. Int’l Programs Consortium, Inc., 253 F.3d 5, 11 (D.C. Cir. 2001).

[11] 29 CFR 795.110(b)

[12] 29 U.S.C § 216(b)

[13] 29 U.S.C § 255

[14] 29 U.S.C § 216(a)

By: Mary Shahverdian 

 

ABOUT BERNSTEIN-BURKLEY, P.C.

Bernstein-Burkley, P.C. has more board-certified business bankruptcy and creditors’ rights specialists in Pennsylvania than any other law firm and is highly regarded and respected for its national reach in Bankruptcy & Restructuring, Business Law, Creditors’ Rights, Litigation, Oil & Gas, and Real Estate. The firm strives for across-the-firm board certification for eligible Bernstein-Burkley attorneys by 2025, with offices in Pittsburgh, Cleveland, and Wheeling.

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For more information, visit www.bernsteinlaw.com or contact:
Mary Shahverdian
Associate, Bernstein-Burkley
mshahverdian@bernsteinlaw.com or 412-456-8100

CLIENT ALERT | BANKRUPTCY & RESTRUCTURING | NOVEMBER 2023

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Auto loan delinquencies are rising to levels greater than we saw in 2008-2009 recession. The amount of auto loans that are sixty (60) plus days past due are drastically rising. Forbes has stated that 6.1% of borrowers were behind on their auto loans in October 2023 as opposed to 2.6% in May of this year. That increase in just six months is higher than we have seen in years. This is due to higher priced vehicles and of course, the 8% plus interest rates. Typically, consumer bankruptcies rise due to pending foreclosures, but with the increase in auto loan delinquencies and looming repossessions, vehicle loans are pushing borrowers into Chapter 13. As a vehicle creditor, what happens if you repossess and then your borrower files bankruptcy? What happens if you do not repossess and your borrower files bankruptcy? Creditors have certain rights within a consumer bankruptcy, but deadlines vastly approach once a bankruptcy is filed. It is imperative that a creditor gets involved at the onset of the borrower’s bankruptcy and protect those rights. This exact topic will be discussed this year at the Allegheny County Bar Association’s 36^th Annual Western District of Pennsylvania Bankruptcy Symposium, the Consumer Case Law Update of 2023, will focus on auto loans and trending case law.

Bernstein-Burkley, P.C.’s Partner, Keri P. Ebeck, will be a panelist and will be speaking directly about protecting a creditors’ rights. To register, please contact the Allegheny County Bar Association or register at www.acba.org.

ABOUT BERNSTEIN-BURKLEY, P.C.

Bernstein-Burkley, P.C. has more board-certified business bankruptcy and creditors’ rights specialists in Pennsylvania than any other law firm and is highly regarded and respected for its national reach in Bankruptcy & Restructuring, Business Law, Creditors’ Rights, Litigation, Oil & Gas, and Real Estate. The firm strives for across-the-firm board certification for eligible Bernstein-Burkley attorneys by 2025, with offices in Pittsburgh, Cleveland, and Wheeling.

By: Keri Ebeck 

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For more information, visit www.bernsteinlaw.com or contact:
Keri Ebeck
Partner, Bernstein-Burkley
kebeck@bernsteinlaw.com or 412-456-8100

CLIENT ALERT | BANKRUPTCY & RESTRUCTURING | OCTOBER 2023

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One of the places I like to stash money for my Debtor clients is with taxing authorities.  Having a credit balance with a taxing authority can be a very useful asset protection plan.  Everyone owes a tax for something.  Whether it is real estate taxes, sales taxes, income taxes, etc., having a taxing authority hold excess cash can be very helpful.  Further, if the money is not needed for taxes, the Debtor can always ask for a refund.   

Under the axiom, “Pigs get fat and hogs get slaughtered,” Judge Tucker of Eastern District of Michigan tells us when a Debtor is a hog instead of a pig.  See In re Wylie, 649BR852(Eastern D Mich., 2023).   Here the husband-and-wife Debtors, every year, would have a tax refund due to them and each year they would roll over the tax refund into the next year’s tax return.  Starting in 2018, the Debtors filed their returns and did not ask for a refund.  As of the petition date in August 2020, the Debtors were entitled to refunds totaling $41,534.00 from both the State of Michigan and the IRS.  However, after the Debtors filed for bankruptcy and after a trustee was appointed, the Debtors filed their 2019 tax returns and again rolled over the tax credit to the 2020 tax return.  The Debtor explained that there were foreclosures of equipment, and they were unsure if there would be any tax liabilities that they would owe.  The court found that while there was an intent to transfer property with the tax returns for 2018 but, it was merely a preferential transfer and thus did not give rise to a §727 non-dischargeability action.   

The Debtors’ problem arose because after the filing of the bankruptcy, any tax refund is the property of the estate.  So, by requesting that any refund on their 2019 tax return be applied to their 2020 taxes, the Debtors intentionally transferred property of the estate.  I disagree with the Judge that this transfer was made with the intent to hinder the trustee by applying the credit to the 2020 taxes.  The Debtor just wanted to make sure that they had enough funds to pay any taxes due after all their property was foreclosed or sold by the trustee.  The Court made a point that the trustee would have to file a turnover motion or an adversary proceeding to get the funds back and as a result it cost the estate money.   However, the Court found that the Debtors did not file a false statement on their schedules and SOFA, and did disclose some tax refund might be available  Further, the Court made a finding that the statement was not made to hinder, delay or defraud the trustee, however the Court found  that asking to continue to roll over the tax refund after that refund became property of the estate, should be deemed a violation of §727.  A better result, in my opinion, would be to order the turnover of the funds.   As has been the case many times in my career, a judge disagrees with my view of the world.  In this case, the Debtors’ bankruptcy counsel was involved in the decision to roll over the refund.  The Court states, “The Court assumes the Debtors were not intimately familiar with the …bankruptcy distributions and priorities, although their attorney no doubt was.  But the Debtors’ actual subjective intent in transferring property of the bankruptcy estate, when they made their 2019 tax Refund Transfers, still was, in substance, an intent to “hinder” the Trustee.” 

The Court at least has given us instructions that transfers of refunds into the next taxable year for a legitimate concern that there might be future taxes owed might be a preference, but it is not a §727 claim unless and until a bankruptcy trustee has rights to the refund.   

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We have more to say about Asset Protection Planning in our next post or podcast.  Stay tuned…

By: Harry Greenfield

>>>

Previous Blogs:

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #1

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #2

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #3

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #4

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #5

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #6

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #7

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #8

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #9

CLIENT ALERT | BANKRUPTCY & RESTRUCTURING | SEPTEMBER 2023

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As we said last time, the Bankruptcy Code provides defenses to preference actions. The three most common are: 1) the “ordinary course of business” defense; 2) the “contemporaneous exchange for new goods or services” defense; and 3) the “new value” defense. All three of these defenses are “affirmative defenses,” meaning that the creditor has the ultimate burden of proof on the issue.  

To prove the “ordinary course of business” defense the transferer must show that the preference payments were made in the “ordinary course of business” between the transferee and the debtor. Typically, this is done by showing that the preference payments were: 1) not the result of any overt collection activity on the part of the transferee; and 2) were made in a similar amount of time and under similar terms and conditions as previous, non-preference period payments made by the debtor to the creditor. In the asset protection planning context, it is unlikely there is a good argument that the transfer was in the ordinary course of business, but it is possible in the right circumstances.  An example of those circumstances might be payments to taxing agencies or payments to a secured creditor.  Any transfer proven to be made in the ordinary course of business are not avoidable as preferences and therefore need not be repaid.  

To prove the “new value” defense, the creditor needs to show that value was provided to the debtor after one or more of the preferential transfers were made. The value of any “new” goods or services can be offset dollar-for-dollar against any preference payments made by the debtor.  

To prove the “contemporaneous exchange” defense, a creditor needs to show that they provided new goods or services (or payment) contemporaneously with (i.e., at or near the same time) a transfer and that the parties intended the transaction to be a “contemporaneous exchange.”   Examples of contemporaneous exchanges are CIA or COD shipments. 

Potential preferential payments made for the benefit of an insider; the lookback period is one year.  So, when providing asset protection help to your clients, keep those dates in mind.  Make sure there will be adequate time between the transfer and any potential recovery attempt.  For fraudulent conveyances, the look back period can be anywhere between 1 year and 10 years depending on circumstances and how any action to recover the transfer is plead.   

<<<

We have more to say about Asset Protection Planning in our next post or podcast.  Stay tuned…

By: Harry Greenfield

>>>

Previous Blogs:

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #1

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #2

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #3

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #4

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #5

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #6

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #7

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #8

CLIENT ALERT | BANKRUPTCY & RESTRUCTURING | SEPTEMBER 2023

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When examining asset protection, there should be a discussion about preferences. In Ohio, there is a preference statute that defines preferences as those that are made in contemplation of insolvency or are a fraudulent conveyance, however, a creditor or receiver can only recover a transfer of property and not a transfer of money.  Obviously, there is §547 of the Bankruptcy Code, which allows a trustee to recover transfers made within 90 days of bankruptcy or one year if made to an insider.  Since preferences are a pretty easy way for a creditor or a trustee to avoid a transfer, if the transferor is the Debtor, then a Debtor’s counsel needs to pay specific attention to transfers made within the applicable period.  The policy behind this provision is to prevent aggressive collection activities that often force the debtor into bankruptcy. 

A “preference” is defined by Section 547 of the Bankruptcy Code as: 

• Payment on an “antecedent” (meaning a previously incurred as opposed to current) debt; 
• Made while the debtor was insolvent (meaning its assets are less than its liabilities); 

• To a non-insider creditor, within 90 days of the filing of the bankruptcy; 
• That allows the creditor to receive more on its claim than it would have, had the payment not been made and the claim paid through the bankruptcy proceedings. 

Section 550 of the Bankruptcy Code allows the trustee to avoid and recover any preference payments by filing a lawsuit against the creditor. 

 To succeed in preference litigation, the transferee must be a creditor (or that the transfer be for the benefit of a creditor).  If there is no money or debt owed by the transferor to the transferee, then transfer might never become a preference.  (However, if the transfer has no discernable reason, then it might be a fraudulent conveyance.)   The prerequisites need to be carefully examined.  

There are some standard defenses, which counsel should review to determine if the transfers made in contemplation of asset protection fall within these defenses or not.  If the transfers do, then it is less concerning if there is a bankruptcy within the 90-day (or one year) period.  If they don’t fall into the defenses, then it might be more important to plan to avoid a bankruptcy filing if possible until the 90 days (or one year) has expired. 

Years ago, I was contacted by a Canadian Corporation to file a Chapter 11 on behalf of their American subsidiary.  After reviewing the company’s transactions, I saw that the parent company had received over a $1,000,000 repayment of an advance within 90 days of the contemplated bankruptcy.  In consultation with the company, it was decided to defend various lawsuits until the preference period had passed.  Both Debtor and Creditor counsel need to be aware of potential preferences.  As a creditor’s counsel if a transfer has occurred, it may behoove the creditor to commence an involuntary bankruptcy to recover the funds so transferred.    

There are many defenses to a preference. Those defenses will be covered in an upcoming post. 

<<<

We have more to say about Asset Protection Planning in our next post or podcast.  Stay tuned…

By: Harry Greenfield 

>>>

Previous Blogs:

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #1

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #2

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #3

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #4

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #5

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #6

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #7

CLIENT ALERT | BANKRUPTCY & RESTRUCTURING | AUGUST 2023

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In much of asset protection territory, it is a fraudulent transfer or avoidance transfer that we are worried about the most.  The reason for that is that much of this protection is not just about keeping the assets in the client’s control but also keeping them away from creditors.  Generally, what I mean by an asset staying in client’s control, is that the client, the client’s family or business entity practically (even if not legally) controls the property after the transfer.  So, if the asset is currently owned by Fred alone and Fred transfers the property to himself and his wife, Ethel, then Fred still practically controls the property because it is owned by Fred and Ethel.  That might successfully keep it out of the hands of creditors down the road if it gets past either the time for an attack or successfully defends and attack. 

In general, we’ve seen the best defenses against a claim of fraudulent transfer (aside from the expiration of the statute of limitations to bring the attack) to be either that the transferee gave reasonably equivalent value for the transfer or that the transferor had no equity (above liens) in the property transferred.  To deal with the statute of limitations, the sooner you get the transfer done, the sooner that clock starts (and ends).  That is why planning and thinking ahead are critically important.  Even a risky transfer can work out if done early enough to allow the clock to run out on the statute of limitations. 

The idea of transferring property that has little or no equity needs a bit more exposition. In a future post, we will cover that more in depth.

<<<

We have more to say about Asset Protection Planning in our next post or podcast.  Stay tuned…

By: Robert Bernstein

>>>

Previous Blogs:

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #1

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #2

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #3

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #4

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #5

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #6

CLIENT ALERT | BANKRUPTCY & RESTRUCTURING | AUGUST 2023

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For years, the federal courts of appeals have been divided regarding whether, in a chapter 11 plan of reorganization, the claims held by non-debtor creditors against non-debtor third parties can be extinguished without those creditors’ consent.  On August 10, 2023, the U.S. Supreme Court finally agreed to answer this question.

The issue typically arises with greatest force in mass tort situations.  For asbestos-related claims, Congress provided an answer by adding section 524(g) to the Bankruptcy Code.  That section permits chapter 11 plans to enjoin existing and future tort claimants from suing certain categories of non-debtor third parties, such as chapter 11 debtors’ insurers, parent companies, officers, directors, and owners, subject to satisfying various prerequisites.  But what about other types of mass tort bankruptcies that section 524(g) does not address explicitly?  There, courts across the county have been divided.  As a result, whether a debtor’s chapter 11 plan can involuntarily release creditors’ claims against third parties related to the debtor – but who are not themselves in bankruptcy – depends upon the view of federal circuit court of appeals in which the debtor’s bankruptcy case is filed.  In other words, the answer depends upon geography.

On May 30, 2023, the U.S. Court of Appeals for the Second Circuit chose sides on this issue in a mass tort bankruptcy involving nationwide opioid litigation against Purdue Pharma and others.  The Second Circuit reversed an order of a New York federal district court in Purdue Pharma’s bankruptcy case that had upended the bankruptcy court’s approval of Purdue Pharma’s plan of reorganization.  The Second Circuit concluded, among other things, that (a) the bankruptcy court had jurisdictional power to approve non-consensual releases of creditors’ claims against non-debtor third parties (e.g., the Sackler family, who are Purdue Pharma’s former owners) by submitting proposed findings of fact and conclusions of law to the district court for its consideration, (b) enough statutory authority existed under the Bankruptcy Code to permit such non-consensual releases in a chapter 11 plan, and (c) the factual record supported the bankruptcy court’s  approval of non-consensual releases, based upon a seven-factor test the Second Circuit announced in its decision.

The United States Trustee for Region 2 asked the Supreme Court to weigh-in on this issue and requested the Supreme Court to stay the Second Circuit’s decision in the interim.  On August 10, the Supreme Court agreed to do so.  It granted a writ of certiorari, stayed the Second Circuit’s decision, and ordered the parties to submit briefs on and to argue the following question:

Whether the Bankruptcy Code authorizes a court to approve, as part of a plan of reorganization under Chapter 11 of the Bankruptcy Code, a release that extinguishes claims held by nondebtors against nondebtor third parties, without the claimants’ consent.

The Supreme Court also instructed that oral argument on this question will take place during December 2023.  Assuming the Supreme Court reaches the merits, we can expect a decision on this divisive chapter 11 bankruptcy issue during the Spring of 2024.

Once the Supreme Court makes its ruling, we will update you.

The case is William K. Harrington, United States Trustee, Region 2 v. Purdue Pharma, L.P., et al., Sup. Ct. Case No. 23-124.

By: Jeffrey C. Toole 

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CLIENT ALERT | BANKRUPTCY & RESTRUCTURING | JULY 2023

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A series of blogs on Asset Protection….

Blog #5

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When working with a client to protect their assets, exemption planning is important.  For instance, in Ohio each spouse gets an exemption of $125,000 in real estate (plus the annual adjustment).  Therefore, a couple will receive $250,000, if the couple owns a home jointly.  If the home is worth $600,000 with a $350,000 mortgage, there is no equity which can be used by a judgment creditor.  In a bankruptcy, a nonconsensual lien, such as a judgment lien, is avoidable because it impairs the Debtor’s exemptions.  In a judicial foreclosure, the lien would be extinguished because all the funds would be paid first to costs, then to taxes, then to the first mortgage, and finally to the exemption, leaving no funds for the lien creditor.

A transfer to a spouse of an interest can be considered an avoidable transfer.  So, the proper time to consider having spouses hold the real estate jointly is at the time of the purchase.  If a transfer to the spouse is made, the transfer potentially is avoidable for whatever is the appropriate statute of limitations for a fraudulent conveyance.

When meeting with a client, consider what assets they own and what exemptions are available to the client.  Another consideration is to have the client move to another state with a better exemption statute and establish residency in that state.  In Florida for instance, there are several hoops that a party living in the state needs to jump through to become a resident of the state.  Some of these requirements include living in the state for the better part of one year, having a Florida driver’s license, voting in the state, etc.  However, if the client establishes that she is a resident, then the entirety of their real estate holdings will be exempt.

Getting ahead of a potential problem can give your client better than a fresh start from bankruptcy.

We have more to say about Asset Protection Planning in our next post or podcast.  Stay tuned…

By Harry W. Greenfield 

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Previous Blogs:

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #1

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #2

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #3

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #4

CLIENT ALERT | BANKRUPTCY & RESTRUCTURING | JULY 2023

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A series of blogs on Asset Protection….

Blog #4

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Having seen a couple of examples of a creditor (or debtor) building in delays in order to gain an advantage, let’s go back to square one and talk about limiting liability when starting the enterprise.  The basic entity choice is a part of the asset protection process.   Most readers will be familiar with limited liability entities (e.g.  Corporations, Limited Liability Company, Limited Partnerships, Trusts) and that is where we start.  

These entities limit the liability of the owners to their investment so long as they follow the rules and have not agreed to become personally liable for the entity’s debt.   Simply put, let’s say Bob and Harry start BH, LLC (a limited liability company) and each agree to invest $10,000.  BH, LLC starts to do business (following the proper rules – (more on that later) and, unfortunately, burns through the $20,000 initial capital and incurs another $50,000 in trade debt that it ultimately cannot pay.  Generally speaking, if Bob and Harry see that their business cannot continue and shut it down, they should not be liable for any part of the $50,000.  By properly utilizing the limited liability company, they have effectively limited their liability. 

As time goes on, we will talk about the “rules” that need to be followed and the scenarios when creditors might be able to legitimately pierce through the limited liability shield that these entities create.  This risk of personal liability can be limited, but if it does exist, it can be managed as part of a proper asset protection plan. 

We have more to say about Asset Protection Planning in our next post or podcast.  Stay tuned…

By Robert S. Bernstein 

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Previous Blogs:

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #1

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #2

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #3

CLIENT ALERT | BANKRUPTCY & RESTRUCTURING | JUNE 2023

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A series of blogs on Asset Protection….

Blog #3

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Previously, Harry mentioned engineering a delay to avoid creating a possible preference.  Building on that, I had a client who funded a construction-related company and was owed around $1 million unsecured.  The borrower was limping along but saw the writing on the wall and was likely to fail in the next few weeks.  Its owner said it needed an infusion of $50,000-$75,000 “to get through this downturn.”  While we knew it would take a lot more for it to survive, we used that amount and that time to our client’s advantage.  We agreed to loan it $50,000 on a fully secured basis, taking a first lien on all the assets.  We also insisted that our client receive a second blanket lien on all assets for the existing debt.   If the borrower went into bankruptcy in the next 90 days, the second lien would probably fail as a preferential transfer.  But if the new loan helped the company live more than 90 days, the client would then be secured for all its debt.  It worked and the company failed about 6 months later, giving our client a blanket lien for all its debt.  To the client, it was well worth the risk of the $50,000 new loan to get the lien position.  

It might be counterintuitive to consider lending more money to a failing debtor, but it is often worthwhile to “buy” a lien position or a delay to get past a preference date. 

We have more to say about Asset Protection Planning in our next post or podcast.  Stay tuned…

By Robert S. Bernstein 

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Previous Blogs:

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #1

Asset Armor: Protecting Your Wealth with Bernstein-Burkley’s Asset Protection Insights Blog #2