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The Benefits and Risks of Manufactured Eligibility

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As the world becomes more globally interconnected and the borders and barriers between countries have broken down, there has been a rapid increase in the existence of domestic companies with foreign affiliates and vice-versa. When these companies enter financial distress, a decision must be made regarding the best forum in which to file for bankruptcy.

There are several fundamental benefits to the filing by a foreign company in the United States or for the joint administration of a bankruptcy of foreign and domestic affiliated companies in the United States. The most persuasive of these is the increased certainty of how the bankruptcy process will play out and the cost-effectiveness of administering the bankruptcy cases of all of the entities of a multinational in one place. Additionally, U.S. bankruptcy law is much more accepting of the reorganization process than the laws of other countries, especially those in Europe. Many countries still view bankruptcy simply as a means of liquidation rather than reorganization.

However, it is important to note that a U.S.-administered bankruptcy may not be a panacea for every foreign company in need of some form of debt reorganization. A U.S. Bankruptcy Court can only take enforcement action for violations of the automatic stay by creditors over which the court has personal jurisdiction. See, e.g., In re Lykes Bros. S.S. Co. Inc., 207 B.R. 282 (Bankr. M.D. Fla. 1997). Additionally, while the orders of a bankruptcy court have "extraterritorial effect," those orders are only enforceable where a foreign nation gives "full faith and credit" to those orders due to "comity, treaty or convention." In re McTague, 198 B.R. 428, 430 (Bankr. W.D.N.Y. 1996). Regardless, the potential situations in which a company could benefit from an American bankruptcy filing rather than a foreign one are numerous. For example, where a domestic parent has a substantial bond debt and one of its foreign affiliates serves as a guarantor of that debt, it would be worthwhile to jointly administer the bankruptcies in the United States, especially where the affiliate is otherwise completely solvent absent the problematic bond debt.

Eligibility Under §109

There are four potential means for a company to establish its eligibility as a debtor under §109 of the Bankruptcy Code: (1) residence in the United States, (2) domicile in the United States, (3) a place of business in the United States or (4) property located in the United States. Accordingly, "a foreign entity or individual domiciled abroad but owning property or doing business in the United States is eligible to be a debtor under 11 U.S.C. §109." In re Xacur, 219 B.R. 956, 966 (Bankr. S.D. Tex. 1998); Israel-British Bank (London) Ltd. v. Federal Deposit Insurance Corp., 536 F.2d 509, 513 (2d Cir. 1976). Additionally, the presence of one of these criteria has been found to warrant U.S. debtor eligibility even where there are other forums where a company has significantly greater number and breadth of contacts. In re Aerovias Nacionales de Colombia S.A., 303 B.R. 1 (Bankr. S.D.N.Y. 2003).


[I]f no assets in any form are currently located in the United States, eligibility could be manufactured via a U.S. bank account with a small amount of money and/or via the payment of a retainer to bankruptcy counsel.

Each individual debtor must meet one of the criterion under §109, and the determination must be made on the date the debtor's bankruptcy petition is filed. In re Global Ocean Carriers Ltd., 251 B.R. 31, 37-39 (Bankr. D. Del. 2000); Bank of America N.T. & S.A. v. World of English N.V., 23 B.R. 1015, 1019-20 (N.D. Ga. 1982). The sheer fact that a company's affiliate or parent company is eligible to file for bankruptcy in the United States does not automatically ensure that company's status as a U.S. debtor. Instead, a subsidiary of an eligible debtor must separately meet the criteria to be eligible. Bank of America, 23 B.R. 1015.

The first three criteria (residence, domicile or place of business) are generally straightforward and easily determinable. In fact, in the case of a company, the first two criteria are almost rendered superfluous by courts' interpretation of the third, the "place of business" criterion. This criterion has been interpreted to mean any place of business rather than a company's principal place of business. However, the mere fact that a company does business in the United States has been found by courts to fall short of either having a place of business or having property here. Global Ocean, 251 B.R. at 37.

The Property Path

The broadest eligibility criterion, and the one that requires the most minimal of contact with the United States, is the property requirement. In order to meet the property requirement under §109, the potential debtor must demonstrate that it has actual property in the United States, rather than "some type of remote or inchoate claim against property that is in the United States." See, e.g., In re Head, 223 B.R. 648, 652 (Bankr. W.D.N.Y. 1998). However, absent this restriction, the property requirement for debtor eligibility is extremely broad. There is no statutory requirement as to the property's minimum value. See, e.g., In re Paper I Partners L.P., 283 B.R. 661 (Bankr. S.D.N.Y. 2002); In re McTague, 198 B.R. at 432. As noted by the court in In re McTague, §109 "does not appear to be vague or ambiguous, and it seems to have such a plain meaning as to leave the court no discretion to consider whether it was the intent of Congress to permit someone to obtain a bankruptcy discharge solely on the basis of having a dollar, a dime or a peppercorn located in the United States." 198 B.R. at 432. Accordingly, if a potential debtor has property of any value in the United States, it should qualify as a debtor under §109. In re McTague, 198 B.R. at 432; In re Global Ocean, 251 B.R. at 39.

The most straightforward means of meeting this requirement is via the ownership of a U.S. bank account by the potential debtor. Courts have held that this property requirement has been met via the presence of a minimal amount of money in a U.S. bank account. See, e.g., In re Iglesias, 226 B.R. 721, 722-23 (Bankr. S.D. Fla. 1998).

However, the breadth of the property requirement can be seen by the relatively atypical "property" through which courts have found the requirement satisfied. Of particular note to a discussion of parent and subsidiaries is the finding that the location of a company's original business documents in the United States satisfies the §109 property requirement. Accordingly, where the books and records or other original business documents of a foreign affiliate are kept in the United States by the domestic parent, the affiliate will be eligible to file in the United States as a debtor. In re Paper I Partners, 283 B.R. at 674; In re Global Ocean, 251 B.R. at 38.

Additionally, courts have found that the unused retainer paid to bankruptcy counsel in anticipation of filing for bankruptcy constitutes sufficient property to meet the criteria under §109. In re Global Ocean, 251 B.R. at 39. This is due to the fact that the debtor retains a property interest in such unearned portion of that retainer. See, e.g., In re Independent Engineering Co. Inc., 232 B.R. 529, 533 (1st. Cir. BAP 1999). Moreover, it is not relevant who paid this retainer, so long as the retainer was paid on behalf of the foreign entity and meant to cover the fees for its attorneys. In re Global Ocean, 251 B.R. at 39; In re Independent Engineering, 232 B.R. at 533. In essence, the payment of the retainer on behalf of the affiliate gives it a property interest in the retainer. Accordingly, it is possible for the parent or holding company to pay an overarching retainer for itself and its affiliates that would serve to satisfy the §109 eligibility requirement. However, in order to meet the property requirement this way, some portion of the retainer would need to have been unearned by the attorneys at the time the petition is filed. Nonetheless, relying on this "property" for eligibility purposes could be risky, as a court could rule that such an interpretation of the property requirement would render any company eligible to meet the requirement.

Another somewhat atypical means of meeting the property requirement may occur in a parent/subsidiary relationship where the parent was located outside the United States with a subsidiary in the United States. The parent would have property in the United States by virtue of its ownership of the stock of a U.S. corporation and could thus qualify as a debtor under §109. In re Global Ocean, 251 B.R. 31. On the other hand, where the parent and subsidiary are in inverse positions, this would not be true.

Manufactured Eligibility

Some courts have indicated that a debtor may not "manufacture" eligibility by taking such actions as opening small bank accounts in the United States or acquiring U.S. mailing addresses exclusively for bankruptcy jurisdiction purposes. In re McTague, 198 B.R. 428; In re Head, 223 B.R. at 652; Bank of America, 23 B.R. 1015. Moreover, reliance on an unused retainer could be viewed as "manufactured" eligibility. The breadth of this prohibition on manufactured eligibility is unclear; however, one court made its determination of whether eligibility had been manufactured by examining the "totality of the circumstances." In re McTague, 198 B.R. at 432-33. Regardless, the manufacturing of eligibility would likely only be a problem if that manufacturing were challenged by a party that did not want the foreign company to file in the United States. It is possible in a bankruptcy that there may only be a few creditors who have the motivation to justify expending the time and money to challenge the debtor's eligibility. Such a challenge could potentially come from a foreign creditor or labor union objecting to the bankruptcy's venue in the United States. However, any problem creditor, labor union or similar entities could potentially be identified and dealt with prior to filing or via the first-day motions.

Conclusion

When faced with imminent bankruptcy, a foreign company should first determine if it meets any of the broader eligibility criteria for debtor status; namely, residence, domicile or a place of business in the United States. Where the company lacks those contacts, it must determine whether it has any property located in the United States. As previously indicated, even a de minimus amount of property should be sufficient to meet the criteria under §109. Accordingly, a company should think as broadly as possible in determining if it maintains any property interest of any kind in the United States. However, if no assets in any form are currently located in the United States, eligibility could be manufactured via a U.S. bank account with a small amount of money and/or via the payment of a retainer to bankruptcy counsel. This is technically a feasible way to achieve eligibility as a debtor since the eligibility determination is made on the date of the filing of the petition and not at some prior date. Nonetheless, as previously noted, there is a potential that some courts may find that a foreign company is not an appropriate debtor in that case due to its "manufactured" eligibility. Thus, whenever eligibility under §109 is manufactured, a debtor should anticipate the possibility that the eligibility will be deemed invalid and act accordingly.



Journal Date: 
Wednesday, September 1, 2004

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