United States: Delinquent Property Tax Sales (Again): "Reasonably Equivalent Value" – No Way, No How

Last Updated: February 19 2014
Article by Vicki Harding

County of Clinton v. Warehouse at Van Buren Street, Inc., 492 B.R. 278 (N.D.N.Y. 2013) –

A chapter 11 debtor sought to recover real estate that was transferred prepetition to the county following the debtor's default in a property tax foreclosure proceeding.  The bankruptcy court agreed with the debtor that this was a fraudulent conveyance, and ordered the county to reconvey the property.  On appeal, the district court also agreed that the transfer was avoidable as a fraudulent conveyance.

Under Section 548 of the Bankruptcy Code, a trustee or a chapter 11 debtor-in-possession may avoid a transfer of the debtor's property that is made within two years prior to bankruptcy if it meets the tests for a fraudulent conveyance.  This includes (1) transfers made "with actual intent to hinder, delay, or defraud" or (2) what is referred to as constructive fraud – namely circumstances where the debtor (a) received less than "reasonably equivalent value" in exchange for the transfer and (b) at least one of several additional conditions is met (such as the debtor was insolvent or became insolvent as a result of the transfer).

As discussed in prior blog posts, delinquent property tax procedures that result in a debtor losing its property to satisfy its liability for delinquent property taxes almost by definition do not provide reasonably equivalent value.  (See, for example, Delinquent Property Tax Foreclosure: Is There "Reasonably Equivalent Value" or Not?.)  If the loss of the property occurs while the debtor is insolvent (or it becomes insolvent as a result of the loss), the transfer of the property will almost certainly meet the tests for a constructive fraudulent conveyance.

In this case the county pursued several avenues of attack:

  • The county argued that the property was not part of the bankruptcy estate at the beginning of the bankruptcy case since the debtor no longer had any interest due to the prepetition default.  Consequently, the debtor lacked standing.
  • It claimed that "Congress simply could not have intended for a valid tax foreclosure proceeding to fall within the scope of a 'fraudulent transfer' under Section 548."
  • Further, it contended that the statute should be read to require an intent element, even for constructive fraudulent transfers.

The court did not find any of these arguments persuasive.  While acknowledging that property that has been fraudulently transferred is not part of the estate until it is recovered, suggesting that the debtor lacked standing because it had not set aside the transfer and recovered the property as of the beginning of the case was an illogical circular argument.

In response to the intent argument, although Section 548 is titled "Fraudulent transfers and obligations," the plain language of the statute clearly provides that transfers can be avoided either because the transfer was made with actual intent or based on a constructive fraud theory.  There is nothing in the constructive fraud section that requires any misconduct or bad intent.

On the issue of reasonably equivalent value, the delinquent taxes were ~$29,000, and there was a bid for ~$120,000 at an auction of the property held the same day the chapter 11 petition was filed.  On the face of it, this appears to compel a finding that the debtor did not receive reasonably equivalent value.

However, in support of its argument that Congress could not have intended to subject valid tax foreclosures to avoidance, the county argued that the court should apply the approach taken by the Supreme Court with respect to mortgage foreclosure sales in BFP v. Resolution Trust Corp., 511 U.S. 531, 114 Sup. Ct. 1757, 128 L. Ed. 2d 556 (1994).  In BFP in essence the Supreme Court held that as a matter of law mortgage foreclosure sales are deemed to result in "reasonably equivalent value" if state law is followed.

The court cited several bankruptcy cases that have considered whether to extend BFP to tax foreclosures, with some courts agreeing to extend the holding to tax foreclosures and others refusing to do so on the basis that substantial differences exist between tax and mortgage foreclosure sales that justify different treatment.  The district court rejected the argument that allowing avoidance would impermissibly interfere with the county's ability to collect taxes and joined the courts that declined to extend BFP.

It commented that the state interest in collecting taxes must be balanced against the Bankruptcy Code's policy favoring equal treatment of creditors; and, unlike a mortgage foreclosure proceeding, the amount of a tax lien does not provide evidence of the property's value.  Consequently, the district court affirmed the bankruptcy court's finding that reasonably equivalent value was not received (and thus the property could be recovered as a fraudulent transfer).

If a delinquent property tax procedure results in the governmental authority collecting the taxes or a tax sale purchaser acquiring title to property in satisfaction of the delinquent property taxes, in most cases there will be an almost per se fraudulent conveyance if the property owner is insolvent – unless a court is receptive to the argument that this is not what Congress intended, and somehow the plain language of the statute can be overcome based on the state interest in collecting taxes.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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Vicki Harding
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