This is the third in a three part series of postings in which we examine preference claims in detail. In prior posts we discussed what is a preference claim (Help I’ve Been Sued by a Bankruptcy Trustee in New York, What Do I Do Now?) and the new value defense to a preference claim (New Value Defense to Preference Adversary Proceeding Filed in the U.S. Bankruptcy Court for the Southern District of New York). In this post we will look at the ordinary course defense.
The ordinary course defense is intended to permit creditors to continue doing business with financially troubled debtors without fear that a bankruptcy trustee will later be able to recover such payments as preferential.
Elements of the Ordinary Course Defense
The ordinary course defense requires that the creditor/defendant show:
a) payment by the debtor
b) to or for the benefit of the creditor
c) made in accordance with the course of dealings between the parties, or
d) made in accordance with applicable industry practices.
The way this works is as follows – image a company in the business of selling machine parts. The company has a course of dealings with the debtor over a long enough period of time, so that there is an established payment history. The company sells machine parts to the debtor on net 30 day terms. The debtor routinely pays the company’s invoices within 30-40 days.
If payments are made within the stated invoice term, such as net 30, then the payments are within the ordinary course because the three required elements (discussed above) are present.
If the payments are made outside of the stated time terms, such as 40 days after invoice even though the invoice terms are net 30 days, the payment can still be within the ordinary course defense if the creditor/defendant is able to establish that there was an established course of late payment by the debtor. This will require a comparison of the course of dealings prior to the debtor’s bankruptcy filing, such as during a 1-2 year period, to the course of dealings during the 90 day pre-bankruptcy preference period.
If, on the other hand, payments are made much earlier than the stated time term, such as 15 days after invoice date, or much later than stated invoice terms, such as 90 days after invoice date, the creditor may not be able to establish an ordinary course defense for such payments.
The interpretation of the ordinary course defense is based on judicial precedent based on decisions of bankruptcy courts and appellate courts. It is important in defending a preference claim to be represented by knowledgeable bankruptcy counsel experienced in preference defense matters.
At Starr & Starr, PLLC, we have been helping clients defend such cases for over 17 years. Please feel free to contact us at 888-867-8165 with any questions or for a consultation.