Selected topic
It is generally known that lawsuits for the recovery of
preference and other avoidance claims must be commenced within two years of the entry of the order for
relief.1 What is less known, and might cause heartburn
to more than a few recipients of alleged preferential
transfers, is that this two-year limitation period may be
extended for up to one additional year, for as much as a
total of one day less than three years, provided that a
trustee is appointed or elected within the initial twoyear limitation period. The courts have grappled with
whether this additional one-year extension of statute of
limitations for preference and other avoidance actions
can be triggered by the appointment of an interim trustee under Section 701 of the Bankruptcy Code, or whether the election or appointment of a permanent trustee
under Section 702 is required to trigger the extension.
A meeting of creditors was held on June
30, 2011, but a permanent trustee was not
elected. As a result, the Trustee became
the permanent trustee by operation of law
pursuant Section 702(d), and commenced
preference actions against certain
defendants on May 11, 2012.
The United States Court of Appeals for the Seventh
Circuit recently advanced this issue by holding, in Fogel
v. Shabat, et al. (In re Nachson Draiman), that the
appointment of an interim trustee within two years of
the order for relief does not trigger the additional oneyear extension of the statute of limitations, even when
the interim trustee later assumes the role of the permanent trustee. This is consistent with most decisions
addressing this issue, including an earlier holding of
the United States Court of Appeals for Third Circuit in
In re American Pad & Paper Co., which similarly held
that the appointment of an interim trustee does not
trigger the extension of the statute of limitations for the
commencement of preference and other avoidance
actions where the permanent trustee was elected at the
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B u s i n e s s C r e d i t j u ly / a u g u s t 2 0 1 3
Bruce Nathan, Esq. and Terence Watson, Esq.
N at i o n a l A s s o c i at i o n o f C r e d i t M a n ag e m e n t
July/August 2013
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Extending the Statute
of Limitations for
Preference Actions?
The Seventh Circuit Rules!
The Publication For Credit & Finance Professionals $7.00
Section 341 meeting of creditors more than two years
after the order for relief.2 Therefore, a permanent trustee, rather than an interim trustee, must be elected or
appointed within two years of the order for relief in
order to trigger the additional one-year extension of
the statute of limitations to commence preference and
other avoidance lawsuits.
The Relevant Statutory Provisions
Section 701 of the Bankruptcy Code, entitled “Interim
trustee,” provides in relevant part for the prompt
“appoint[ment]” of an interim trustee following the
order for relief in a Chapter 7 case. The interim trustee’s
appointment is terminated upon the election or designation of a permanent trustee.
Section 702 of the Bankruptcy Code, entitled “Election
of trustee,” provides in relevant part that (i) a trustee
may be “elected” during a meeting of creditors held
under Section 341, and that (ii) if a trustee is not elected
under Section 702, then “the interim trustee shall serve
as the trustee in the case.”
Finally, Section 546(a) of the Bankruptcy Code establishes a two-year limit for the commencement of certain
specified actions, including preference and other avoidance actions. Congress amended Section 546(a) in 1994
to extend the statute of limitations to commence such
actions for an additional year running from the date of
the appointment or election of certain trustees, if such
appointment or election occurs within two years of the
order for relief. Specifically, Section 546 provides, in
pertinent part, as follows:
(a) An action or proceeding under Section 544, 545, 547,
548, or 553 of this title may not be commenced after the earlier of—
(1) The later of—
(A) 2 years after the entry of the order for relief; or
(B) 1 year after the appointment or election of the first
trustee under Section 702, 1104, 1163, 1202, or 1302 of this
title if such appointment or such election occurs before the
expiration of the period specified in subparagraph (A); or
(2) The time the case is closed or dismissed.
11 U.S.C. § 546.
The Factual Background of In re Draiman
On May 14, 2009 (the petition date) Nachshon Draiman (the
debtor) commenced a Chapter 11 proceeding in the United
States Bankruptcy Court for the Northern District of Illinois.
The debtor’s bankruptcy case was converted to Chapter 7 on
May 13, 2011. That same day, Richard Fogel (the Trustee) was
appointed as interim trustee under Section 701(a)(1).
A meeting of creditors was held on June 30, 2011, but a permanent trustee was not elected. As a result, the Trustee became
the permanent trustee by operation of law pursuant Section
702(d), and commenced preference actions against certain
defendants on May 11, 2012. The Trustee commenced the lawsuits more than two years after the entry of the order for relief
on May 14, 2009. However, the lawsuits were commenced
within one year of the Trustee’s appointment as interim trustee
on May 13, 2011, and that appointment was within two years
after the entry of the order for relief on May 14, 2009.
The defendants moved to dismiss the actions on various
grounds, and requested an initial ruling on the issue of whether the lawsuits were barred by the statute of limitations. Specifically, the defendants argued that the lawsuits were required
to be commenced within two years of the order for relief (i.e.,
within two years of the petition date), or by May 14, 2011, and
that the Trustee’s commencement of the actions on May 11,
2012 was barred by the two-year statute of limitations. The
defendants further argued that the Trustee was not entitled to
the additional one-year extension of the statute of limitations
because (i) no permanent trustee was appointed or elected
within two years of the order for relief, or by May 14, 2011,
and (ii) the Trustee’s appointment as interim trustee on May
13, 2011 did not trigger the additional one-year extension of
the statute of limitations.
The Bankruptcy Court’s Decision
The Bankruptcy Court denied the motions to dismiss, concluding that the Trustee was entitled to the additional oneyear extension because the Trustee (i) was appointed as interim trustee under Section 701 within two years of the order for
relief, and (ii) later became the permanent trustee. Although
the Trustee’s assumption of the role of permanent trustee
occurred on June 30, 2011, more than two years from the
order for relief, the Bankruptcy Court considered the Trustee’s earlier appointment as interim trustee on May 13, 2011 as
the event that triggered the additional one-year extension of
the statute of limitations, thereby rendering the actions timely
commenced.
The Bankruptcy Court acknowledged that its holding conflicted with the Third Circuit’s decision in In re American Pad
& Paper Co., affirming the dismissal of preference actions
commenced more than two years after the entry of the order
for relief as time-barred by the statute of limitations. Specifically, the Third Circuit held that the trustee was not entitled to
the additional one-year extension of the statute of limitations
from the date of the appointment of the interim trustee
because “the plain language of the statute of limitations does
not include Section 701 interim trustees, and makes reference
only to ‘1 year after the appointment or election of the first
trustee under Section 702, 1104, 1163, 1202, or 1302…[therefore], [r]eading the appointment of an interim trustee under
Section 701 as an event that triggers the additional one-year
period has no basis in the language of the statute.”
The Third Circuit was not troubled by the fact that the statute
of limitations had expired before the trustee was even elected
since “other parties in interest could arguably have brought
avoidance actions before the running of the two-year period
from the entry of the order of relief.” As a result, the Third
Circuit noted that “Section 546(a)(1)(B) of the Bankruptcy
Code is amenable to a ‘plain language’ analysis, and we decline
to read Section 701 into the specific statutory provisions
delineated therein.”
Nevertheless, the Bankruptcy Court, in In re Draiman, justified its conclusion that the Trustee was entitled to the additional one-year extension of the statute of limitations from the
date of his appointment as interim trustee on multiple
grounds. First, precluding the appointment of an interim
trustee from triggering an extension of the statute of limitations would cause debtors to “hang[ ] on” or otherwise endeavor to avoid the appointment of a permanent trustee for two
years, so as to preclude the timely review and commencement
of preference and other avoidance actions. Second, Section
546(a) was not amenable to a plain meaning analysis because
of the presence of the term “appointment,” which is not referenced anywhere in Section 702 dealing with permanent trustees, but is referenced in Section 701 dealing with interim
trustees. The inclusion of the term “appointment” in Section
546(a) therefore evidenced the intent to permit the appointment of an interim trustee under Section 701 to trigger the
additional one-year extension of the statute of limitations.
This led the Bankruptcy Court to hold that “if the interim
trustee continues to serve pursuant to Section 702(d) following the Section 341 meeting of creditors,” then the interim
trustee is entitled to the one-year extension “from the date of
its appointment [as interim trustee] under Section 701.” In
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other words, under the ruling by the Bankruptcy Court, the
one-year extension of the statute of limitations is triggered
when the trustee is an interim trustee whose appointment as
interim trustee occurred within two years of the order for
relief, and who later becomes the permanent trustee by default
under Section 702(d) because the creditors never elected a
permanent trustee at the Section 341 meeting of creditors.
The Seventh Circuit’s Decision
The Seventh Circuit reversed the Bankruptcy Court’s decision
after granting leave to appeal directly from the Bankruptcy
Court. In this regard, the Seventh Circuit stated that, in order
to trigger the additional one-year extension of the statute of
limitations, (i) a permanent trustee must be elected or
appointed within the two-year statutory period, and the
Trustee was elected after that period had run, and the Trustee
“had had a different status before then,” and (ii) Section 546(a)
(1) does not reference Section 701, which governs the appointment of interim trustees. Thus, the Trustee’s appointment as
interim trustee, although within the two-year statutory period, did not trigger the additional one-year extension of the
statute of limitations.
Although the Trustee’s assumption of
the role of permanent trustee occurred
on June 30, 2011, more than two years
from the order for relief, the Bankruptcy
Court considered the Trustee’s earlier
appointment as interim trustee on May
13, 2011 as the event that triggered the
additional one-year extension of the
statute of limitations, thereby rendering
the actions timely commenced.
The Trustee agreed that Section 546(a)(1) is unambiguous,
but argued that it should be interpreted to mean that the additional one-year extension of the statute of limitations ran
from the date he was appointed interim trustee. Specifically,
the Trustee argued that, because Section 702 does not provide
for the “appointment” but only for the “election,” of a permanent trustee, when Section 546(a)(1)(B) provides that the
limitations period runs from the “appointment or election of
the first trustee under Section 702,” the statute necessarily
refers to the appointment of an interim trustee under Section
701. The Seventh Circuit was not persuaded, and noted that
the Trustee’s interpretation “reads the reference to Section 702
right out of Section 546(a)(1)(B).”
The Seventh Circuit was also concerned that the Trustee’s
interpretation could encourage creditors to “game the system”
by delaying the meeting of creditors to elect a permanent
trustee in order to obtain the maximum limitation period.
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The Seventh Circuit noted that Section 546(a) was intended to
prevent such abuse by discouraging creditors from “dawdling”
after conversion to Chapter 7 because any meeting to appoint
a trustee after the initial two-year period would be tardy.
Likewise, the Seventh Circuit noted that the Bankruptcy
Court’s concern that a debtor could delay conversion from
Chapter 11 to Chapter 7 for two years plus one day to prevent
a trustee from bringing preference and other avoidance
actions was unfounded since a creditor in a Chapter 11 case
can move for the appointment of a trustee under Section
1104, while the case is still in Chapter 11, “and if the ground
of the motion is…that the appointment is necessary to prevent creditors’ claims from being time-barred, the bankruptcy
judge would be remiss if he failed to grant the motion.”3 The
Seventh Circuit further noted that the Section 546(a) statute
of limitations can be tolled on equitable grounds that would
permit an extension of the statute of limitations, provided that
the creditors were unable to timely elect a permanent trustee
through no fault of their own.
Finally, the Seventh Circuit criticized the logic of the Bankruptcy Court’s ruling that the Trustee was entitled to the additional one-year extension of the statute of limitations because
(i) he was appointed interim trustee within two years of the
order for relief, and (ii) he became permanent trustee by
default under Section 702(d), which was more than two years
after the order for relief. Under its ruling, however, the Bankruptcy Court would not have granted the Trustee the additional one-year extension had he been elected as permanent
trustee on the day he assumed that role by default.
The Seventh Circuit also referenced and dismissed the Ninth
Circuit’s decision in Avalanche Maritime, Ltd. v. Seaplace Shipping Ltd. (In re Parmetex, Inc.). In In re Parmetex, the Ninth
Circuit concluded that the statute of limitations began running upon the appointment of an interim trustee pursuant to
Section 701, rather than the later election of a permanent
trustee under Section 702.4 The Ninth Circuit reached this
conclusion despite the fact that the predecessor of Section
546(a), like the current version, did not reference Section 701,
which governs the appointment of interim trustees.5 Consequently, the Ninth Circuit affirmed the dismissal of the adversary proceeding as time-barred by the statute of limitations,
and rejected the plaintiffs’ argument that the statute of limitations “begins to run on the date of qualification of the permanent trustee under 11 U.S.C. § 702, not from the [earlier] date
of appointment of the interim trustee under 11 U.S.C. § 701.”
The Seventh Circuit in In re Draiman dispensed with the Ninth
Circuit’s ruling in In re Parmetex by noting that “[a]ll the district court and bankruptcy decisions that we’ve found, whether
inside or outside the Third Circuit, have followed American
Pad & Paper rather than Parmetex.” Accordingly, the Seventh
Circuit reversed the Bankruptcy Court’s denial of defendants’
motions to dismiss the pending preference actions and concluded that the actions were barred by the statute of limitations.
The Court relied on the fact that the Trustee’s appointment as
interim trustee did not trigger the one-year extension of the
limitations period, and as a result, the action was barred by the
two-year statute of limitations contained in Section 546(a). In
doing so, the Seventh Circuit noted that the “only argument
that the [T]rustee develops is semantic—and unconvincing.”
Conclusion
The Seventh Circuit’s ruling in In re Draiman continues the
trend of court holdings that a permanent trustee seeking to
extend the statute of limitations for the commencement of
preference and other avoidance actions by an additional year
must be appointed or elected within two years of the order for
relief. Does this mean that trade creditors can breathe a sigh
of relief? The answer is, not necessarily.
The Seventh Circuit’s ruling might end up being a mixed bag
for trade creditors. Trade creditors could benefit from the holding that preference and other avoidance actions cannot be commenced beyond the two-year period after the entry of the order
for relief when a permanent trustee is not appointed or elected
within the two-year period. However, the tradeoff is that the
Seventh Circuit’s holding might compel an interim trustee to
“jump the gun” and commence preference or other avoidance
actions prior to the expiration of the two-year period after the
order for relief. A trustee might also rely on the doctrine of
equitable tolling of the statute of limitations to justify the commencement of a preference or other avoidance action beyond
the two-year period after the entry of the order for relief. This
may lead to time-consuming and costly fact-specific litigation
unrelated to the merits of the underlying claim.
Bruce S. Nathan, Esq. is a partner in the Bankruptcy, Financial
Reorganization and Creditors’ Rights Group in the New York office of
the law firm of Lowenstein Sandler LLP. He is a member of NACM
and is a former member of the Board of Directors of the American
Bankruptcy Institute and is a former co-chair of ABI’s Unsecured
Trade Creditors Committee. Bruce is also the co-chair of the Avoiding
Powers Advisory Committee working with ABI’s commission to
study the reform of Chapter 11. He can be reached via email at
[email protected].
Terence D. Watson, Esq. is counsel in the Bankruptcy, Financial
Reorganization and Creditors’ Rights Group in the New York office
of the law firm of Lowenstein Sandler LLP. He can be reached at
[email protected].
*This is reprinted from Business Credit magazine, a publication of the
National Association of Credit Management. This article may not be
forwarded electronically or reproduced in any way without written
permission from the Editor of Business Credit magazine.
Thus, in the end, all that glitters is not necessarily gold!
1. In voluntary bankruptcy cases, the order for relief is generally the
date of the filing of a bankruptcy petition.
2. Defendants have attempted to limit the scope of the Third Circuit’s
holding in In re American Pad & Paper to situations where the interim
trustee does not later become the permanent trustee. In that situation,
the Third Circuit, in In re American Pad & Paper, held that the interim
trustee’s appointment did not trigger the additional one-year extension
of the statute of limitations. In In re Draiman, however, the interim
trustee later became the permanent trustee. Nevertheless, the Seventh
Circuit similarly held that the interim trustee’s appointment did not
trigger the one-year extension.
3. The appointment of a Chapter 11 trustee within two years of the
entry of the order for relief also triggers the additional one-year extension of the statute of limitations to commence preference and other
avoidance actions.
4. In other words, the Third Circuit in In re American Pad & Paper Co.
and the Seventh Circuit in In re Draiman both held that the appointment of an interim trustee was not a triggering event under Section
546(a) (e.g., for the additional one-year extension of the statute of
limitations to commence preference and other avoidance actions). The
Ninth Circuit, in In re Parmetex, however, held that the appointment of
an interim trustee was a triggering event under the predecessor version
of Section 546(a) dealing with the commencement of the running of the
statute of limitations to file preference and other avoidance actions.
5. In re Parmetex dealt with an earlier version of Section 546, which
required preference and other avoidance actions to be commenced
within two years of the appointment of a trustee, but did not provide
a one-year extension of the two-year statute of limitations upon the
appointment or election of a trustee.
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