Courts are split on whether new value must remain unpaid in order to constitute a valid defense to a preference claim. The United States Bankruptcy Court for the District of Delaware addressed this issue a couple of years ago in Waccamaw’s Homeplace, et. al., v. Salton Inc. (In re Waccamaw's Homeplace). Judge Walsh’s decision in Waccamaw is helpful in many respects. Besides addressing whether new value must remain paid or unpaid, the opinion provides a general overview of the elements of a preference claim, the presumption of insolvency, plus a discussion of the ordinary course defense.
Under Waccamaw, in order to establish a new value defense, a creditor (i.) must have received a transfer that is otherwise avoidable under § 547(b); (ii.) after receiving the transfer, the creditor must provide new value “to the debtor on an unsecured basis;” and, (iii.) the debtor must not have fully compensated the creditor for the new value as of the petition date. Like courts before it, Waccamaw relied upon the Third Circuit’s decision in New York City Shoes, Inc. v. Bentley Int’l, Inc. (In re New York City Shoes), 880 F.2d 679, 880 (3d Cir. 1989), for the holding that in order for a creditor to establish a new value defense, “the debtor must not have fully compensated the creditor for the ‘new value’ as of the date that it filed its bankruptcy petition.”
Not all preference cases before the Bankruptcy Court for the District of Delaware embrace New York City Shoes. For example, in Hechinger Investment Co. of Delaware Inc., v. Universal Forest Products, Inc. (In re Hechinger Investment Co.), the court declined to follow New York City Shoes finding that the decision was “distinguishable on its facts” and instead adopted the reasoning of Check Reporting Services v. The Water Doctor (In re Check Reporting Services, Inc.), 140 B.R. 425 (Bankr.W.D.Mich. 1992). In Check Reporting Services, the United States Bankruptcy Court for the Western District of Michigan ruled that a “subsequent advance of new value does not have to remain unpaid to satisfy [the] new value exception to the avoidance of preferential transfers …”
The preference claim in Check Reporting Services arose from a “stereotypical [] creditor dealing with a debtor on a running account basis during the preference period.” Citing several cases that addressed this issue before it, the court in Check Reporting recognized that § 547(c)(4) does not contain any language to suggest that new value must remain unpaid. Further, the court noted that its holding, “though in the minority … is more firmly rooted in the statutory language” of the Bankruptcy Code.
In Hechinger, the creditor who argued that new value could remain unpaid also had a “running account” payment history similar to the creditor in Check Reporting Services. In contrast, the creditor in New York City Shoes received “just one transfer” during the preference period. Judge Lindsey thought this distinction significant enough to find that the new value provided by the creditor in Hechinger did not have to remain unpaid in order to qualify as a defense and setoff to a preference claim.
It is worth noting that Judge Walsh’s decision in Waccamaw’s Homeplace, finding that new value must remain unpaid, did not involve the “stereotypical running account” found in Hechinger and Check Reporting Services. Instead, the two preference payments at issue in Waccamaw were each in excess of $1 million and part of the debtor’s “Big Buy” program that extended invoice terms for larger purchases by the debtor.
Given the Third Circuit’s holding in New York City Shoes, new value must remain unpaid in order to receive the new value set off. Hechinger stands for the proposition that New York City Shoes does not apply when the payments at issue are on a “running account or rolling account” basis, instead of cases concerning just one or two payments. The question that emerges, then, is why would payments made on a “rolling” basis, instead of just one or two single payments, result in two different holdings. The court in Hechinger supported its split from the Third Circuit “based on language of § 547(c)(4)(B) and the policy reasons of the code section …” It will be interesting to see whether this split in opinion is resolved as this area of the law develops.
