Creditors Benefit from Seventh Circuit’s Interpretation of “Ordinary Course of Business” Defense to Preferences

Monday, July 11, 2016

The Court of Appeals for the Seventh Circuit recently discussed the standard for whether payments made to vendors in the 90 days prior to a bankruptcy filing are within the “ordinary course of business” defense.  In making that determination, courts look at the transactions between the debtor and the creditor prior to the bankruptcy filing to set a baseline for what the parties’ “ordinary course” dealings were.  Typically, courts use one of two methods to create a baseline.  The first—the average age method— calculates the average number of days payments were late to determine which payments were within that “ordinary” range.  The second method creates an “ordinary” range using the minimum and maximum invoice ages during the historical period prior to bankruptcy.   The second approach—the “total range method”—considers any payment made in the 90 days before bankruptcy “ordinary” as long as it was paid anywhere within the minimum and maximum number of days late during the history of the parties’ dealings.  The Bankruptcy Court for the Southern District of New York discussed, and rejected, the total range method in In re Quebecor World (USA), Inc., 491 B.R. 379 (Bankr. S.D.N.Y. 2013)).  Of the two methods, the average-age method is more commonly used by courts. 

Using the average-age method, the Court of Appeals for the Seventh Circuit broadened the window for which payments fall within the “ordinary course.”  In the case, the baseline for payments was between 16 to 28 days from the invoice with an average invoice age of 22 days.  The bankruptcy court below determined that payments more than 6 days from the average were outside the ordinary course.  The Court of Appeals added two days on either side of the window to include all payments within 14 to 30 days as ordinary course.  The bankruptcy court’s approach only took 64% of the historical payments into account.  By broadening the window, the Circuit Court included 88% of the historical payments.  As a result, the ordinary course defense dropped the preference liability from approximately $306,000 to approximately $60,000.  Jason Foods Inc. v. Unsecured Creditors’ Committee, Case No. 15-2356 (7th Cir. June 10, 2016)

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