Lyondell Bankruptcy Court Holds That Safe Harbors Do Not Prohibit Creditors From Asserting State Law Constructive Fraudulent Transfer Claims

On January 14, 2014, Judge Robert E. Gerber of the United States Bankruptcy Court for the Southern District of New York in Weisfelner v. Fund 1. (In re Lyondell Chemical Co.), Adv. Proc. No. 10-4609 (REG), 2014 WL 118036 (Bankr. S.D.N.Y. Jan. 14, 2014) held that section 546(e) of the Bankruptcy Code did not bar or preempt state law fraudulent transfer claims asserted on behalf of creditors to recover certain leveraged buyout transfers made to shareholders. In so holding, the Bankruptcy Court adopted the rationale of Judge Richard J. Sullivan of the United States District Court for Southern District of New York in In re Tribune Co. Fraudulent Conveyance Litig., 499 B.R. 310 (S.D.N.Y. 2013), and rejected the rationale of Judge Jed. S. Rakoff in Whyte v. Barclays Bank PLC, 494 B.R. 196 (S.D.N.Y. 2013), thus adding to the recent debate in the Southern District of New York as to what effect the Bankruptcy Code’s safe harbor provisions have on state law fraudulent transfer actions.

In December 2007, Basell AF S.C.A. acquired Lyondell Chemical Company through an LBO, whereby Lyondell assumed $21 billion in secured debt and its shareholders received $12.5 billion of the loan proceeds. Just over one year later, Lyondell and certain of its affiliates filed for chapter 11 protection. On April 23, 2010, the Bankruptcy Court confirmed Lyondell’s plan of reorganization. Pursuant to the plan, the debtors abandoned certain state law fraudulent transfer claims that they could have asserted against Lyondell’s former shareholders pursuant to section 544 of the Bankruptcy Code, and the Creditor Trust was created to prosecute those claims on behalf of certain Lyondell creditors.

Following confirmation, the Creditor Trust commenced an action in the New York State Supreme Court asserting directly (and not pursuant to section 544 of the Bankruptcy Code) these state law fraudulent transfer claims. Upon the application of certain defendants, the action was removed to the United States District Court for the Southern District of New York and then automatically referred to the Bankruptcy Court. The defendants then filed a motion to dismiss, arguing that section 546(e) of the Bankruptcy Code provides a substantive defense to and impliedly preempts the Creditor Trust’s fraudulent transfer claims. In addition, the defendants contended that (i) the Creditor Trust may not recover because the funds transferred in the LBO were not the debtors’ property; (ii) certain defendants were only non-beneficial owners or conduits; (iii) the Creditor Trust lacked standing to sue on behalf of the LBO lenders because those lenders ratified the LBO transactions; and (iv) the Creditor Trust failed to adequately plead its intentional fraudulent transfer claims.

Before turning to the defendants’ preemption argument, the Bankruptcy Court first rejected the Defendants’ argument that section 546(e) applied to the Creditor...