In re Nieves, 4th Circuit, January 27th, 2010
This case came before the Fourth Circuit Court of Appeals from a Chapter 7 trustee’s suit, under §§ 544 and 550 of the Bankruptcy code, against immediate and mediate transferees to avoid the transfer of a parcel of real property in Maryland. The District Court affirmed the Bankruptcy Court’s avoidance of the initial and second transfers, as well as the third transfer to the Appellant Transferee. Transferee challenged the lower courts’ avoidance of the transfer, based on its belief that the lower courts improperly ruled that it did not prove the three elements of the affirmative defense to transfer avoidance in Bankruptcy Code § 550(b)(1).
Transferee argued that was entitled to the § 550(b)(1) affirmative defense, because at the time of the transfer, it was a transferee that “takes for value, . . . in good faith, and without knowledge of the voidability of the transfer avoided.” §550(b)(1). In the view of the Transferee, both the Bankruptcy and District Courts improperly interpreted the legal standards of the knowledge and good faith prongs of §550(b)(1). Transferee argued the good faith prong requires only an absence of actual knowledge of the voidability of the transfer, and therefore the knowledge prong is superfluous and repetitive of the good faith prong.
Because the Bankruptcy Code does not define what it means to take “in good faith” or “without knowledge of the voidability of the transfer avoided,” the Court was forced to determine the correct legal standard for each of the two prongs. In examining the knowledge prong, the Court looked to Smith v. Mixon, where the Court previously held that for the purposes of § 550(b)(1), knowledge “does not mean constructive notice,” but “the term ‘knowledge’ includes only actual notice.” 788 F.2d 229, 232. The Court held that Mixon’s actual notice standard requires a showing of actual knowledge of facts that would lead a reasonable person to believe that the transferred property was voidable, rather than a showing that a transferee had actual knowledge of the transfer’s voidability.
In a matter of first impression, the Court then addressed the good faith prong of §550(b)(1). The Court held that good faith, as used in § 550(b)(1), should be determined using an objective standard that asks “what the transferee knew or should have known, taking into consideration the customary practices of the industry in which the transferee operates.” In examining if a transferee took in good faith, courts should determine if the transferee possessed actual knowledge that would lead a reasonable person to inquire into the public record to see if the transferred property is voidable.
In affirming the lower court’s avoidance of the transfer, the Court determined that the Transferee failed to prove all three elements of 550(b)(1). Even though the Court found that the Trustee did not have knowledge of the voidability of the transfer, it held the transfer voidable. The court held the Transferee did not satisfy the good faith prong, citing facts known to the Transferee that would have led a reasonable person to inquire into the transfer’s voidability: Transferee’s failure to follow the routine business practice of checking the second transferee’s certificate of good standing before closing the loan secured by the deed of trust, Transferee’s knowledge of the second transferee’s confusion about the name of his LLC, and failure to examine the deed of the property to confirm the second transferee’s ownership of the property. The Court held that the Transferee willfully turned a blind eye to a suspicious transaction by ignoring these facts, and therefore it did not take the property in good faith.
