WHAT IS AN ASSIGNMENT FOR THE BENEFIT OF CREDITORS?
An assignment for the benefit of creditors (or ABC) is a state law process for the orderly liquidation of the assets of a business. The process is similar to a liquidation under chapter 7 of the Bankruptcy Code in a number of respects. However, whereas federal law controls the bankruptcy process, the law of each state controls how the assignee manages the liquidation and distribution to creditors.
WHO IS THE ASSIGNEE?
The “Assignee” is the person to whom the distressed company transfers all its property via the assignment and who will administer that property for the benefit of the company’s creditors. The Assignee must be a “disinterested” third party, not someone involved with the company prior to its decision to make the assignment or who has a stake in the outcome of the assignment. The assignee is a fiduciary, meaning it acts in the best interests of the creditors generally, not in the best interest of any creditor or class of creditors.
WHO IS THE ASSIGNOR?
The “assignor” is the business entity that is going to be liquidated under the general assignment. In practice, we seldom use the term, other than in the legal documents that create the assignment. It is far more common to refer to the assignor as also the “debtor” (which we do in these FAQ).
WHO CHOOSES THE ASSIGNEE?
The Assignee is generally selected by the debtor, often with the assistance of the lawyer advising the business’ management through the decision to cease its operations and liquidate.
CAN CREDITORS CHOOSE THE ASSIGNEE?
Creditors rarely have the ability to choose the Assignee. Some states provide for creditors to select a “creditor representative” to give input to an assignee, but that is not the same as actually selecting the assignee.
IS THE ASSIGNMENT PROCESS COURT SUPERVISED?
The answer to this question depends on the law of each state. Florida and Washington, for example, require the assignment to be court supervised. California and Illinois are examples of states that do not have court supervision of assignments.
DOES THE COMPANY’S BOARD OF DIRECTORS HAVE TO APPROVE THE MAKING OF THE ASSIGNMENT?
Yes, the decision to close the business and make an assignment for the benefit of creditors requires the board of directors of the company, or the members of a limited liability corporation, to approve the decision. Additionally, a majority of the shareholders of the company must ratify the board’s decision.
DOES THE ASSIGNEE HAVE TO ACT INDEPENDENT OF THE MANAGEMENT OF THE COMPANY?
Yes, the Assignee is a fiduciary with responsibility to act in the best interests of creditors generally (and not for any one creditor at the expense of another). The debtor’s management effectively gives up any independent decision making authority over the affairs of the business when the assignment is made.
MUST A CREDITOR FILE A CLAIM WITH THE ASSIGNEE?
Yes, a creditor must file a claim with the Assignee to record the amount the creditor believes it is owed. In some states the claim is filed directly with the court, but the effect is the same and the filing of the proof of claim in some states acts as an “assent” to the making of the assignment.
CAN CREDITORS FILE AN INVOLUNTARY BANKRUTPCY AFTER AN ASSIGNMENT IS MADE?
Creditors do not lose the right to file an involuntary bankruptcy case against the debtor simply because it has made an assignment. However, bankruptcy courts must refuse to take the case if the involuntary is filed more than 120 days after the assignment is made. Prior to the 120 day mark, the bankruptcy court has the discretion to either take the case or “abstain” from hearing the case.
CAN A CREDITOR GET A JUDGMENT AGAINST THE DEBTOR AFTER AN ASSIGNMENT IS MADE?
Creditors are not typically barred from seeking to collect on their claims through a lawsuit that results in a judgment. However, creditors should be cautious in this regard because an Assignee automatically obtains a lien under state law when the assignment is made. So while a creditor still can litigate the matter to judgment, the judgment will be junior to the lien of the Assignee and will not give the creditor any greater chance of recovery from the assets of the business than the creditor had at the moment right before the assignment was made.
WHAT IS THE PRIORITY OF MY UNSECURED CLAIM?
Priority of claims depends on state law, but the various priority schemes generally follow this hierarchy:
CAN AN ASSIGNEE OPERATE THE BUSINESS?
Yes, but operating a business is not the normal course of affairs for an assignment because an assignment is a means of liquidating, not reorganizing, a troubled company. As with any rule, there are of course exceptions, but they are rare and heavily dependent on the facts of the particular assignment.
IS THE ASSIGNEE LIABLE TO THE CREDITORS FOR UNPAID CLAIMS?
No, the Assignee is not liable for claims against the debtor. The Assignee is responsible to the creditors to pay claims from the assets assigned by the debtor, but does not take on any individual responsibility for the payment of the claims.
I HAVE A PERSONAL GUARANTY FROM THE PRESIDENT OF THE DEBTOR FOR MY CLAIM. AM I A SECURED CREDITOR?
No. A personal guaranty is one person’s promise to pay the debts of another. A business owner or officer can promise to pay the debts of the business. But without assets pledged to support the guaranty, it is nothing more than an unsecured promise of the guarantor. The unsecured promise does not change the status of the claim against the debtor – it remains unsecured.
HOW SOON AFTER I FILE MY CAIM WILL I GET PAID?
Payment of claims depends on what is required to administer the company’s assets. If the Assignee can recover funds by prosecuting one or more lawsuits, that would take longer than, say, the sale of hard assets. The state might also provide for a minimum period of time during which claims may be filed and no claims will be paid before this period runs. Keep in mind, though, that some claims, especially those of general unsecured creditors, may be paid only partially or not at all if there are insufficient proceeds to pay everyone.
IF MY CLAIM IS FILED FIRST, DO I GET PAID FIRST?
Unless you are a secured creditor with a valid lien on assets of the company, then it doesn’t matter if you are the first to file a claim. Timing will matter, however, if you file your claim after the period to do so has expired. Otherwise your claim will be paid, assuming funds are available, along with the class of claims to which yours belongs.
CAN THE ASSIGNEE OBJECT TO A CLAIM?
Yes. If a claim is filed for an amount that is not reflected on the company’s books and records, or if it is filed late, the Assignee can and probably will object to the claim to insure the claims that participate in any distribution are those that are actually outstanding against the company.
WHAT IS A “PREFERENTIAL” TRANSFER?
A preferential transfer (or a “preference”) is a transfer from the debtor to a particular creditor shortly before the assignment is made. If various legal requirements are met, the Assignee can “avoid” the transfer, meaning that the Assignee can recover from the creditor the property, or its value, that the debtor transferred.
Creditors are often confused by the concept of preferences, which are best understood by reference to their policy justification. Assignments, like bankruptcy and other similar proceedings, are collective proceedings – the debtor transfers all of its property to a disinterested third party who administers that property for the benefit of creditors. Without a prohibition, companies in trouble would simply pay off their favored (or, “preferred”) creditors before making the assignment, depleting assets available for everyone else.
The law generally does not punish debtors for making preferential transfers. Instead, it looks to restore the debtor’s property and the creditors’ claims to the position they would have occupied at the time of the assignment but for the preferential transfers. Avoidance of the transfers is the mechanism for accomplishing this.
Not all transfers made before the assignment are preferential. In general, for a transfer to be an avoidable preference, the following requirements must be met:
The governing state law may impose additional requirements and all states with a preference statute will also set out defenses that the creditor may assert.
This summary belies the complexity of preference law. You need to consult with your lawyer to know whether the Assignee in any particular assignment can seek to recover a preference from you and what defenses you may have.
Note: The information in response to these questions is general in nature. Creditors in assignment cases should determine the state law governing the particular matter they have a claim in and applicability of the specific law to their specific situation. DSI will address general inquiries regarding general assignments; however, such responses should not be considered the equivalent of legal advice from a lawyer or professional retained by the creditor for the specific purpose of answering questions related to any particular matter.