In an appeal from the U.S. Bankruptcy Court for the District of Hawaii, the U.S. District Court for the District of Hawaii determined when the date of the transfer occurred for the purposes of a preferential transfer asserted by a trustee pursuant to 11 U.S.C. §547. See Coulson v. Kane (In re Price), Civ. No. 17-00437-LEK-KSC (D. Hi June 29, 2018). Generally, a preferential transfer under Section 547 of the Bankruptcy Code involves a transfer of the debtor’s funds or property shortly before filing for bankruptcy (within 90 days) and such a transfer can be avoided (and the funds/property returned to the bankruptcy estate) if certain conditions are met.
In this case, the Appellant was sued by a bankruptcy trustee for receipt of funds out of escrow that occurred during the 90 days immediately preceding the debtor’s bankruptcy filing. The appellant argued, among other things, that the transfer actually occurred outside the 90-day period because the transfer occurred at some earlier time when the funds were put into escrow because bankruptcy courts have previously held that escrow funds are not property that vests in the bankruptcy trustee. Id. at 16.
The Court explained that “[t]o prevail on his escrow theory, Appellant must show the ultimate transfer of funds to him, which occurred outside the preference period, did not ‘deplete the assets of the estate available for distribution,'” or, in other words, that the “Escrow Instructions diminished the Debtor’s interest in the escrowed funds sufficiently so that they were not property of the bankruptcy estate.” Id. at 17 (citations omitted).
For example, escrow instructions that have left a debtor with only a “contingent right” to the funds might sufficiently diminish the debtor’s interest in escrow funds such that the funds are no longer estate property. Id. Here, however, the Escrow Instructions at issue did not contain any particular terms that caused the Debtor’s interest to be “without value to the bankruptcy estate.” Id. at 18.
Accordingly, the Hawaii District Court affirmed the Bankruptcy Court’s ruling that the trustee could recover the transfer of the escrowed funds to appellant because that transfer occurred within the 90-day preference period. Although sometimes receipt of a preferential transfer can’t be avoided, this case serves as an important reminder to review escrow instructions carefully to the extent they could be used as a defense.