United States: Modernizing New York's Fraudulent Conveyance Laws

I. Introduction

In January 2017, a bill was introduced in the New York State Assembly to repeal New York's version of the Uniform Fraudulent Conveyance Act (the "UFCA") and replace it with the Uniform Voidable Transaction Act (the "UVTA"), adopted by the Uniform Law Commission in 2014. This is the first in a series of articles in which we suggest that the time has come for New York to finally modernize its fraudulent conveyance laws – New York first adopted the UFCA in 1925, seven years after the law was initially approved by the Uniform Law Commission, and the law has not been materially updated since – and bring them into conformity with the law of most other states and the U.S. Bankruptcy Code. New York has long been regarded as a center of commerce and seeks to retain that position in an ever-changing world. New York's adoption of the UVTA would aid that goal by ensuring that New York law remains predicable by removing conflicts between New York law and the laws of most other US jurisdictions.

A. What Do These Statutes Seek To Do?

Fraudulent transfer laws are generally concerned with ensuring that creditors of a debtor are not harmed by transactions by the debtor. To achieve that goal, these laws generally focus on two types of transfers, currently known in New York as intentional and constructive fraudulent conveyances, respectively. Intentional fraudulent conveyances – transfers by a debtor made with the intent to hinder, delay or defraud his creditors – have been outlawed by statute in one form or another since the 1570's.

The law also recognizes other categories of transfers that should be avoided for the benefit of a transferor's creditors. These transfers, made by a person in financial distress and for which he does not receive fair value in exchange, are known as constructive fraudulent conveyances under New York law. For these transfers, it does not matter whether or not the transferor preferred one creditor over another or otherwise what his motivation was for entering into the relevant transaction. All that matters is: (i) what was the debtor's financial condition; and (ii) did he receive fair value in exchange for whatever obligations he undertook?¹

II. What Does Good Faith Have To Do With It?

A. Fair Consideration/Reasonably Equivalent Value and 'Good Faith'

New York's Debtor Creditor law provides that a transfer made or an obligation incurred may be avoided as a constructive fraudulent conveyance where (i) the transferor was insolvent or rendered insolvent as a result of the transfer; and (ii) the transferor did not receive "fair consideration" in exchange for the transfer. The law provides that "fair consideration" is received for property transferred or an obligation: "when in exchange for such property, or obligation, as a fair equivalent therefor, and in good faith, property is conveyed or an antecedent debt is satisfied." New York Debtor Creditor Law § 272(a).

Unlike those transfers that are intended to hinder, delay or defraud a creditor, in the context of a constructive fraudulent transfer, the transferor's intent (i.e., why it entered into the transaction) is irrelevant; indeed, the only inquiry as to the transferor is whether or not (assuming insolvency) the transferor received property with a fairly equivalent value in exchange for the property he transferred. Instead, the statute's "good faith" inquiry focuses on the motivations and conduct of the transferee, and it is an element of the plaintiff/creditor's avoidance claim to prove a lack of fair consideration through a showing of a lack of good faith. In other words, it is permissible under New York law for a court to avoid a transfer where the transferor received fair value in exchange for the transfer (such that his creditors are not harmed by the transfer), but the transferee provided that fair value with a lack of good faith. In this respect, New York law is inconsistent with the United States Bankruptcy Code and the laws of the many states that adopted the Uniform Fraudulent Transfer Act (the "UFTA"), adopted by the Uniform Law Commission in 1984.²

It is no wonder that many practitioners and courts have struggled with the "good faith" element of fair consideration under New York's Debtor Creditor Law. Given that the object of fraudulent conveyance law is to protect creditors from the unfair diminution of a debtor's property, why should that law be concerned with a transfer that does not unfairly diminish the debtor's assets simply because of the motivation of a third party? The simple answer is fraudulent conveyance laws – whose purpose, again, is to protect creditors from the unfair diminution of a debtor's assets – should not be concerned with transactions that do not diminish the debtor's assets, regardless of any bad faith or improper motivation by the transferee.

The UVTA, like the UFTA and the Bankruptcy Code, solves this problem, and its adoption would restore clarity and consistency to New York law, and move New York law into conformity with the law of most other states. Adoption of the UVTA would modernize New York fraudulent conveyance or avoidable transaction law by removing good faith from consideration in evaluating avoidable transactions. The relevant provision of the UVTA provides that "a transfer made or obligation incurred by a debtor is voidable as to a creditor whose claim arose before the transfer was made or the obligation was incurred if the debtor made the transfer or incurred the obligation without receiving a reasonably equivalent value in exchange for the transfer or obligation and the debtor was insolvent at the time or the debtor became insolvent as a result of the transfer or obligation." Adopting the UVTA and ridding New York law of the confusing and outdated focus on the transferee's conduct where he has indisputably provided fair value to the debtor would be an important step in ensuring that New York law remains the gold standard in commercial contracts.

In sum, New York should adopt the UVTA to modernize and rationalize its fraudulent conveyance laws and bring them into uniformity with the laws of other states and the Bankruptcy Code. Our next installment in this series will focus on the UVTA's provisions relating to choice of law, statute of limitations and burden of proof, all of which differ from current New York law.

Footnotes

1 In the United States, unlike in certain foreign jurisdictions, there is no liability for "trading while insolvent" and an insolvent or bankrupt person is free to make transfers and incur obligations so long as he receives "fair value" in exchange for any property he transfers or obligations he incurs. And, rather than the potential personal liability for the directors of a company that trades while insolvent, the remedy for a constructive fraudulent transfer is avoidance of the transfer -- that is a return of the transferred property.

2 As of 2014, when the UVTA was adopted, forty-three states had adopted the UFTA and only two states, including New York, still utilized the UFCA.

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