United States: Mutuality – Irrefutable Requirement For Setoff Under Section 553

Last Updated: June 13 2019
Article by Raniero D'Aversa

Another decision has been issued that reinforces that section 553 does not allow setoff without mutuality, or "triangular setoff." On November 13, 2018, Judge Gross of the United States Bankruptcy Court for the District of Delaware denied a motion in In re Orexigen Therapeutics, Inc. to affect a triangular setoff under section 553 of the Bankruptcy Code due to the lack of mutuality.1 The Court found that even though a contractual right allowing McKesson Corporation and its subsidiary corporation to affect a prepetition triangular setoff was enforceable under state law, the arrangement did not comport with the strict mutuality required under the Bankruptcy Code.

Section 553

Section 553 of the Bankruptcy Code provides, subject to certain exceptions, that the Bankruptcy Code "does not affect any right of a creditor to offset a mutual debt owing by such creditor to the debtor that arose before the commencement of the case under this title against a claim of such creditor against the debtor that arose before the commencement of the case." The setoff provision of the Bankruptcy Code does not create right of setoff; it preserves for creditor's benefit any setoff right that it may have under applicable non-bankruptcy law and imposes additional restrictions that must be met in order for the creditor to impose a setoff against a debtor in bankruptcy.2 Specifically, the Bankruptcy Code requires that the debts and credits must both have arisen before bankruptcy and that there would be "mutuality" between the debiting and crediting parties.3 While the Bankruptcy Code does not define "mutuality,"4 courts interpreting this provision find debts to be mutual only where the debts exist between the "same parties" in the "same capacity."5 Mutuality is strictly construed against the party seeking setoff.

Analysis

Here, McKesson sought to effectuate a triangular setoff by offsetting it's almost $7 million debt to the Debtor against the Debtor's approximately $9 million debt to McKesson's subsidiary. McKesson argued that because the Debtor owed its subsidiary in excess of the amount owed to McKesson, section 553(a) enables McKesson to set off the subsidiary's claim against McKesson's payment.

The Court's review of the relevant case law and underlying policies behind section 553 made it clear that "[m]utuality is the lynchpin of setoff under section 553(a)."6 McKesson did not have a mutual debt under section 553(a) because the debt was owed to its subsidiary – a separate and distinct legal entity. Judge Gross found that McKesson ran into "fatal contrary bankruptcy precedent" that found triangular setoffs to be impermissible under section 553(a) without mutuality.7 Without such mutuality between McKesson and the Debtor, the Court could not allow the setoff.

Judge Gross further explained that "section 553(a) aligns with the fundamental bankruptcy policy of ensuring similarly-situated creditors receive an equal distribution from the debtor's estate." The Court refused to read a contractual exception to the strict mutuality requirement of section 553 because that would create the situation where creditors could receive a greater distribution than other equal-footed creditors and thus dilute the bankruptcy estate to the detriment of all creditors.8

McKesson also tried to argue that the subsidiary was a third-party beneficiary under the contract between McKesson and the Debtor, and that the contractual third-party beneficiary doctrine provides the required mutuality.9 The Court found this argument to be another attempt by McKesson to validate a contractual exception to mutuality. The Court found this "unavailing" because "if there w[as] a contractual third-party beneficiary status exception, parties would merely add language intending that a third-party be a third-party beneficiary of a contract allowing for triangular setoff." The Court refused to provide an avenue for deliberate circumvention of the Bankruptcy Code.

Takeaways

The decision is another upset for the accessibility of triangular setoffs in bankruptcy. Setoff under section 553 of the Bankruptcy Code requires real mutuality; the Court's decision makes it abundantly clear that mutuality requires the "same parties" in the "same capacity." This case supports the trend that parent companies cannot simply argue triangular setoff to mix and match the debits and credits arising from discrete contracts held by the individual entities within its organizational structure.

Footnotes

[1] No. 18-10518 (KG), 2018 Bankr. LEXIS 3579, at *1 (Bankr. D. Del. Nov. 13, 2018).

[2] In re SemCrude, L.P., 399 B.R. 388, 393 (Bankr. D. Del. 2009), aff'd, 428 B.R. 590 (D. Del. 2010).

[3] The Court also discussed how section 553(a) requires the party seeking setoff to be a "creditor." In re Orexigen Therapeutics, Inc., 2018 Bankr. LEXIS 3579, at *9. The Court found that McKesson was a creditor only because the parties treated McKesson as a creditor in its' stipulations; the Court noted that it would not have otherwise deemed McKesson as a creditor because McKesson had paid off its debt to the Debtor, extinguishing its claim. Id.

[4] 5 Collier on Bankr. ¶ 553.03 (16th 2018).

[5] See In re SemCrude, 399 B.R. at 393 ("[T]he authorities are also clear that debts are considered 'mutual' only when 'they are due to and from the same persons in the same capacity.'" (quoting Westinghouse Credit Corp. v. D'Urso, 278 F.3d. 138, 149 (2d Cir. 2002)).

[6] Id. at *24.

[7] In re Orexigen Therapeutics, Inc., 2018 Bankr. LEXIS 3579, at *9 (citing In re SemCrude, L.P., 399 B.R. 388, 393 (Bankr. D. Del. 2009) and In re Lehman Bros. Inc., 458 B.R. 134, 139 (Bankr. S.D.N.Y. 2011)).

[8] Id.

[9] A third-party beneficiary to a contract is a party who directly or incidentally benefits from a contract between two other parties.

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.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
Events from this Firm
18 Aug 2019, Speaking Engagement, Florida, United States

ILTACON is the premier legal technology conference for professionals undertaking initiatives in support of the practice of law.

28 Aug 2019, Webinar, San Francisco, United States

This CLE webinar will analyze the potential antitrust ramifications of joint ventures (JVs) and other collaborations between competitors and how to balance the pro-competitive efficiencies against the anti-competitive effects of a proposed JV.

1 Oct 2019, Other, Washington, DC, United States

Orrick is proud to host the AIPN for its final breakfast meeting of 2019 for a session titled “Helping the World Gasify”. As natural gas production and use is very unevenly distributed throughout the world, often gas produced in association with crude oil is sold below cost or flared.

Similar Articles
Relevancy Powered by MondaqAI
 
In association with
Related Topics
 
Similar Articles
Relevancy Powered by MondaqAI
Related Articles
 
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Mondaq Free Registration
Gain access to Mondaq global archive of over 375,000 articles covering 200 countries with a personalised News Alert and automatic login on this device.
Mondaq News Alert (some suggested topics and region)
Select Topics
Registration (please scroll down to set your data preferences)

Mondaq Ltd requires you to register and provide information that personally identifies you, including your content preferences, for three primary purposes (full details of Mondaq’s use of your personal data can be found in our Privacy and Cookies Notice):

  • To allow you to personalize the Mondaq websites you are visiting to show content ("Content") relevant to your interests.
  • To enable features such as password reminder, news alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our content providers ("Contributors") who contribute Content for free for your use.

Mondaq hopes that our registered users will support us in maintaining our free to view business model by consenting to our use of your personal data as described below.

Mondaq has a "free to view" business model. Our services are paid for by Contributors in exchange for Mondaq providing them with access to information about who accesses their content. Once personal data is transferred to our Contributors they become a data controller of this personal data. They use it to measure the response that their articles are receiving, as a form of market research. They may also use it to provide Mondaq users with information about their products and services.

Details of each Contributor to which your personal data will be transferred is clearly stated within the Content that you access. For full details of how this Contributor will use your personal data, you should review the Contributor’s own Privacy Notice.

Please indicate your preference below:

Yes, I am happy to support Mondaq in maintaining its free to view business model by agreeing to allow Mondaq to share my personal data with Contributors whose Content I access
No, I do not want Mondaq to share my personal data with Contributors

Also please let us know whether you are happy to receive communications promoting products and services offered by Mondaq:

Yes, I am happy to received promotional communications from Mondaq
No, please do not send me promotional communications from Mondaq
Terms & Conditions

Mondaq.com (the Website) is owned and managed by Mondaq Ltd (Mondaq). Mondaq grants you a non-exclusive, revocable licence to access the Website and associated services, such as the Mondaq News Alerts (Services), subject to and in consideration of your compliance with the following terms and conditions of use (Terms). Your use of the Website and/or Services constitutes your agreement to the Terms. Mondaq may terminate your use of the Website and Services if you are in breach of these Terms or if Mondaq decides to terminate the licence granted hereunder for any reason whatsoever.

Use of www.mondaq.com

To Use Mondaq.com you must be: eighteen (18) years old or over; legally capable of entering into binding contracts; and not in any way prohibited by the applicable law to enter into these Terms in the jurisdiction which you are currently located.

You may use the Website as an unregistered user, however, you are required to register as a user if you wish to read the full text of the Content or to receive the Services.

You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these Terms or with the prior written consent of Mondaq. You may not use electronic or other means to extract details or information from the Content. Nor shall you extract information about users or Contributors in order to offer them any services or products.

In your use of the Website and/or Services you shall: comply with all applicable laws, regulations, directives and legislations which apply to your Use of the Website and/or Services in whatever country you are physically located including without limitation any and all consumer law, export control laws and regulations; provide to us true, correct and accurate information and promptly inform us in the event that any information that you have provided to us changes or becomes inaccurate; notify Mondaq immediately of any circumstances where you have reason to believe that any Intellectual Property Rights or any other rights of any third party may have been infringed; co-operate with reasonable security or other checks or requests for information made by Mondaq from time to time; and at all times be fully liable for the breach of any of these Terms by a third party using your login details to access the Website and/or Services

however, you shall not: do anything likely to impair, interfere with or damage or cause harm or distress to any persons, or the network; do anything that will infringe any Intellectual Property Rights or other rights of Mondaq or any third party; or use the Website, Services and/or Content otherwise than in accordance with these Terms; use any trade marks or service marks of Mondaq or the Contributors, or do anything which may be seen to take unfair advantage of the reputation and goodwill of Mondaq or the Contributors, or the Website, Services and/or Content.

Mondaq reserves the right, in its sole discretion, to take any action that it deems necessary and appropriate in the event it considers that there is a breach or threatened breach of the Terms.

Mondaq’s Rights and Obligations

Unless otherwise expressly set out to the contrary, nothing in these Terms shall serve to transfer from Mondaq to you, any Intellectual Property Rights owned by and/or licensed to Mondaq and all rights, title and interest in and to such Intellectual Property Rights will remain exclusively with Mondaq and/or its licensors.

Mondaq shall use its reasonable endeavours to make the Website and Services available to you at all times, but we cannot guarantee an uninterrupted and fault free service.

Mondaq reserves the right to make changes to the services and/or the Website or part thereof, from time to time, and we may add, remove, modify and/or vary any elements of features and functionalities of the Website or the services.

Mondaq also reserves the right from time to time to monitor your Use of the Website and/or services.

Disclaimer

The Content is general information only. It is not intended to constitute legal advice or seek to be the complete and comprehensive statement of the law, nor is it intended to address your specific requirements or provide advice on which reliance should be placed. Mondaq and/or its Contributors and other suppliers make no representations about the suitability of the information contained in the Content for any purpose. All Content provided "as is" without warranty of any kind. Mondaq and/or its Contributors and other suppliers hereby exclude and disclaim all representations, warranties or guarantees with regard to the Content, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. To the maximum extent permitted by law, Mondaq expressly excludes all representations, warranties, obligations, and liabilities arising out of or in connection with all Content. In no event shall Mondaq and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use of the Content or performance of Mondaq’s Services.

General

Mondaq may alter or amend these Terms by amending them on the Website. By continuing to Use the Services and/or the Website after such amendment, you will be deemed to have accepted any amendment to these Terms.

These Terms shall be governed by and construed in accordance with the laws of England and Wales and you irrevocably submit to the exclusive jurisdiction of the courts of England and Wales to settle any dispute which may arise out of or in connection with these Terms. If you live outside the United Kingdom, English law shall apply only to the extent that English law shall not deprive you of any legal protection accorded in accordance with the law of the place where you are habitually resident ("Local Law"). In the event English law deprives you of any legal protection which is accorded to you under Local Law, then these terms shall be governed by Local Law and any dispute or claim arising out of or in connection with these Terms shall be subject to the non-exclusive jurisdiction of the courts where you are habitually resident.

You may print and keep a copy of these Terms, which form the entire agreement between you and Mondaq and supersede any other communications or advertising in respect of the Service and/or the Website.

No delay in exercising or non-exercise by you and/or Mondaq of any of its rights under or in connection with these Terms shall operate as a waiver or release of each of your or Mondaq’s right. Rather, any such waiver or release must be specifically granted in writing signed by the party granting it.

If any part of these Terms is held unenforceable, that part shall be enforced to the maximum extent permissible so as to give effect to the intent of the parties, and the Terms shall continue in full force and effect.

Mondaq shall not incur any liability to you on account of any loss or damage resulting from any delay or failure to perform all or any part of these Terms if such delay or failure is caused, in whole or in part, by events, occurrences, or causes beyond the control of Mondaq. Such events, occurrences or causes will include, without limitation, acts of God, strikes, lockouts, server and network failure, riots, acts of war, earthquakes, fire and explosions.

By clicking Register you state you have read and agree to our Terms and Conditions