The Supreme Arbitration Court of the Russian Federation regarding disputing debtor's transactions under bankruptcy procedures

According to the legislator the adopted novels aimed at improving bankruptcy procedures, increasing efficiency of enforcement debtor to the proper performance of obligations to creditors. It is understood that the possibility of effectively disputing the transaction by the debtor, and the subsequent return of expropriated property and other assets, will increase the bankrupt estate and, therefore, satisfy claims of a larger number of creditors.

Adoption of these changes prompted the Supreme Arbitration Court of the Russian Federation to prepare a clarification, which would be regulating application of a new chapter. These clarifications are embodied in the Resolution of the Supreme Arbitration Court of the Russian Federation № 63 of 12.23.2010 (hereinafter - the Resolution), published on the website of the court on 03.02.2011. The text of the Resolution contains important provisions containing broad interpretation of innovations adopted by the Law № 73-FZ.

Let us consider in detail the changes proposed by lawmakers and try to assess their relative importance, including for the protection of the interests of creditors and debtors.

Subject-matter of disputing

According to the adopted changes, transactions that may be disputed by the rules of Chapter Sh.1 of the Bankruptcy Law, shall constitute, among other things, actions to fulfill obligations and duties arising under civil, labor, family legislation, legislation on taxes and duties, customs legislation of the Russian Federation, procedural legislation of the Russian Federation and other legislation of the Russian Federation, as well as actions committed in the execution of judicial acts or acts of other public authorities(1). The Resolution of the Supreme Arbitration Court specifies a list of these actions, under which man be, in particular(2):

• Actions constituting fulfillment of civil obligations (including cash or non-cash payment by the debtor of cash debt to the creditor, transfer of a debtor's property into the ownership of the creditor), or other actions aimed at cessation of obligations (offset statement, agreement on novation, compensation, etc.);
• Banking transactions, including debit of funds from the bank client account in arrears to the bank or other (as non-acceptance as well as on the basis of the client instruction);
• Payroll, including bonuses;
• Prenuptial agreement, agreement on division of common property of spouses;
• Payment of taxes, levies and customs duties both by payer itself and by debiting the payer's account on behalf of the relevant public authority;
• Actions for the implementation of judicial act, including resolution to approving settlement agreement, as well as the settlement agreements itself;
• Transfer to a claimant in the enforcement proceedings funds from the sale of debtor's property

Obviously, the list of disputable acts committed by the debtor is a little more extensive compared with the list given earlier by the Supreme Arbitration Court of the Russian Federation in its Resolution of 30.04.2009 № 32(3) that regulated the old procedure to disputing debtor's transactions. Moreover, according to the changes, in addition to transactions committed by the debtor, transactions committed by others at the expense of the debtor may be disputed now as well(4). The Supreme Arbitration Court considers these transactions as follows(5):

• Offset statement of the debtor’s creditor;
• Writing-off by the bank without further authorization of funds from client-debtor’s account in the bank to repay the debt to the bank or to other persons, including based on presentation of a writ of execution by recoverer to the bank;
• Transfer to the recoverer in the enforcement proceedings funds from the sale of the debtor's property or written off from the account of the debtor;
• Reservation for the recoverer under enforcement proceeding property of the debtor or collateral by the pledgee.

Grounds for disputing

Changes also touched upon the grounds of recognition of transactions void, as well as so-called “period of suspicion” - a period during which the transaction shall be committed in order to obtain disputable characteristic. If before countdown of the period commenced six months prior to applying for bankruptcy(6), now “periods of suspicion" are determined according to the grounds on which the transaction is deemed to be void. We will consider them below in relation to each base to disputing separately.

If in the old version of the Bankruptcy Law grounds for the recognition of the transaction null and void have all been incorporated in one article, unspecified, without specifying the determining characteristics (sub clause 2 - 5 of article 103 of the Bankruptcy Law as amended on 30.12.2010), and now lawmakers have corrected this deficiency by expanding the list of disputable grounds of transactions, as well as disclosure and clarification of the determining characteristics of each ground.

Bankruptcy Law in the new version sets out two groups of transactions that may be invalidated during the bankruptcy proceeding. These are the suspicious transactions and transactions with preference. Let us stop at them in details.

Suspicious transactions

This group of transactions is the most extensive and includes the following types of transactions that may be declared invalid:

1) A transaction committed by the debtor in the presence of unequal counter-performance by the other party to the transaction(7).

In this case, the transaction may be declared null and void, provided it is made by the debtor within one year prior to filing declaration of bankruptcy or after registration of the declaration. To acknowledge the transaction invalid under the specified ground it is not necessary that it had already been executed by both or one of the parties, therefore, disparity of the counter-performance of obligations can be established under the transaction terms and conditions.

Disparity of counter performance by the other party to the transaction takes place, if the transaction value or other terms and conditions substantially worsen the debtor's side from the value or other terms and conditions under which similar transactions occur in comparable circumstances. In this case, when comparing the terms of the transaction with similar transactions it is expected to take into account terms and conditions of similar transactions made by the debtor as well as terms and conditions upon which similar transactions were committed by other participants of turnover(8).

Any transfer of property or other performance of obligations shall constitute disparity of counter-performance of obligations, if the market value of property transferred by the debtor or other performance of obligations substantially exceeds value of the received counter-performance of obligations determined according to the conditions and circumstances of this counter-performance of obligations.

A transaction with the disparity counter-performance shall be considered a transaction, the conditions of which formally provide equal counter performance, however the debtor at the time of its conclusion knew that the counterparty to the transaction does not and will not have property sufficient to implement the counter-performance.

As we can see, giving the definition of this type of transaction, the legislator often operates evaluative concepts. In this regard, in each case the court at its discretion will assess and determine such features as “disparity of counter-performance”, “comparable circumstances”, “similar transactions”. Due to the fact that, in giving a definition of “suspicious transaction”, legislator often operates evaluative concepts, in each particular case the court at its discretion, will assess and determine features such as “disparity of counter-performance”, “comparable circumstances”, “similar transactions”.

Also it should be noted that under the ground, based on the meaning of civil law only transaction in principle and generally providing a counter-response may be disputed, the transactions, in which the subject of a counter-performance, in principle, is not included (e.g. deed of gift) or that usually do not provide it (e.g. contract of guarantee or collateral) may not be disputed under this ground. However, this does not exclude the possibility of disputing such transactions for the following ground.

2) A transaction committed by the debtor in order to damage the property rights of creditors(9).

Such transaction may be invalidated if it is made by the debtor within three years prior to the filing of the declaration of bankruptcy or after its registration. To acknowledge the transaction void under the ground it is necessary that a person disputing the transaction proves totality of the following circumstances:

• The transaction was made with the intent to cause damage to the property rights of creditors;
• Damage to property rights of creditors was caused as a result of the transaction;
• Other party to the transaction knew or should have known of the debtor's stated objective at the time of the transaction

In the case of failure to prove at least one of these circumstances, the court refuses to acknowledge the transaction as invalid under the ground.

The purpose of causing damage to property rights of creditors is expected if the following two conditions are complied with simultaneously:

1) At the time of the transaction the debtor met the grounds of insolvency or insufficiency of property;
2) There is of one of the following circumstances:

• The transaction was committed free of charge or against the person concerned or sent to payment of (allocation) of the share (stock) in the debtor's property to founder (shareholder) of the debtor in connection with the output from the founders (shareholders) of the debtor, or
• Value of securities resulting from the transaction or several interrelated transactions of property or obligations or duties shall constitute twenty percent or more of the book value of assets of the debtor, while for the credit institution - ten percent or more of the book value of the debtor's assets, determined according to the debtor's financial statements for the last reporting date before the commission of such transaction or transactions, or
• Debtor changed its place of residence or location without notifying creditors immediately before the transaction or after its commission, or concealed its property, or destroyed or falsified title documents, accounting documents or other records or as a result of improper performance of duties of the debtor for the storage and maintaining accounting records such documents were destroyed or distorted;
• After the transaction for the transfer of property the debtor continued to use or possess property or give instructions to the owner of determining the fate of the property.

Damage caused to the property rights of creditors, shall be understood as a reduction in cost or size of the debtor's property or increase the amount of property claims against the debtor, as well as other consequences of the debtor transactions or legal actions that lead to total or partial loss of the creditors to obtain satisfaction of their claims on the debtor's obligations at its property(10).

It is assumed that the other party to the transaction knew of the transaction in order to damage the property rights of creditors if it is acknowledged as the person concerned or if it knew or should have known about the infringement of interests of creditors of the debtor or about signs of failure or insolvency of the debtor's property. When deciding whether the other party to the transaction should have known about these circumstances it should be taken into consideration the extent to which it could, acting reasonably and expressing necessary diligence to establish the existence of such circumstances. Thus, in accordance with the law, information about the introduction of monitoring, financial recovery, external administration to declare the debtor bankrupt and commence winding up shall be subject to mandatory publication(11). In this respect, the presence of such publications in disputing under the ground at issue transactions made after these publications, one should start from the following: if not proved otherwise, any person should have known that the procedure of bankruptcy was introduced and, therefore, that the debtor has signs of insolvency.

Transactions with preference

Transaction with preference are the transactions of debtor against certain creditor or other person, if such transactions entail or may entail preference to one creditor over other creditors in respect of meeting claims. For the acknowledgement of this preference, there must be at least one of the following conditions:

• The transaction is aimed at ensuring fulfillment of obligations of the debtor or a third person to a certain creditor that has arisen before the disputed transaction;
• The transaction has resulted or may result in a change of priority of meeting creditor’s claims on obligations arising prior to the disputed transaction;
• The transaction has resulted or may result in the fulfillment of claims, period of fulfillment of which at the time of the transaction is not due, of some creditors in case there are obligations not executed within the prescribed period to other creditors;
• The transaction led to the fact that a certain creditor has or might have more preference in respect of meeting claims existing prior to the disputed transaction than would have been in case of settlements with creditors in order of priority in accordance with the laws of the Russian Federation on Insolvency (Bankruptcy) .

In addition, since the above list is open, preference may also occur in other cases other than those listed in this list. So, for example, under this ground transaction to satisfy the claims of the debtor term of which is due, in case there are other claims, term of which is not due, if the creditor that received satisfaction knew or should have known that the fulfillment might make it impossible in the future fulfillment of debtor's obligations to other creditors may be declared invalid.

The burden of proving that the transaction results or could result preference is upon the disputing person.

Regarding the duration of the “period of suspicion” in relation to such a transaction, it may be invalidated if it is made by the debtor within one month prior to filing the declaration of bankruptcy or after its registration.
But, if the transaction with preference was made not earlier than six months and not later than one month prior to registration by the arbitration court of declaration of bankruptcy of the debtor, then it can also be invalidated, but under the following conditions:

• The transaction is aimed at ensuring fulfillment of the debtor obligations or a third person to a certain creditor that has arisen before the disputed transaction and the transaction has resulted or may result in a change of priority of meeting creditor’s claims on obligations arising prior to the disputed transaction; or
• There are other conditions, and thus is was established that the creditor or another person, towards the transaction was made, knew or should have known about the features of insolvency or lack of the property or the circumstances that lead to the conclusion of insolvency or lack of the property. It is assumed that the person concerned knew about the feature of insolvency or lack of the property, unless proved otherwise.

The court may be declare invalid a transaction to meet the current payment along with the transaction with the preference, under the following conditions:

• The transaction is made for one month prior to the declaration of bankruptcy or after its registration;
• The transaction was made in violation of priority established by the Bankruptcy Law(12);
• As a result of the transaction the debtor has no funds sufficient to meet current payments that took precedence over the settlement of claims in the amount for which they were entitled to prior to the disputed transaction;
• If it is proved that the creditor that obtained satisfaction knew or should have known of the violation of such priority.

In case by the moment of consideration of statement on disputing of the transaction creditors that had priority will be satisfied in the appropriate amount or evidence of necessary funds in the bankruptcy estate will be represented, the transaction can not be invalidated. Refusal to invalidate the transaction to the satisfaction of current payments made in violation of priority shall not itself deprive the relevant creditors to make a claim for damages inflicted by the liquidator by the transaction(13).

Features of invalidation of certain types of transactions

1) Transactions made at the stock exchange can not be disputed on the grounds stipulated by the Bankruptcy Law.
2) Transactions on transfer of property and undergoing of obligations and duties, carried out in ordinary business activities by the debtor, can not be disputed on the basis of paragraph 1 of Article 61.2 or Article 61.3 of the Bankruptcy Law, if the price of property transferred under one or several interrelated transactions or the size of the undergone obligations shall not exceed one percent of the value of the debtor's assets, determined on the basis of the debtor's financial statements for the last reporting period(14). This does not exclude the possibility of invalidation of such transactions on the grounds provided by paragraph 2 of Article 61.2 of the Bankruptcy Law.
It should be borne in mind that for transactions to transfer (alienate) the property by the debtor (payment or transfer of other property into ownership pursuant to contractual obligations, contracts of sale (for seller), exchange, gift, loan (for lender) and the etc.) with a carrying value of the debtor's assets value of such property is associated, determined by the accounting data, and if it is stated that the market value of the property was much greater than this value then the market value.

Transactions regarding undergoing obligations and duties include, inter alia, any agreements providing for payment of money by the debtor, including purchase and agreements (for buyer), outsourcing (for customer), loan (for borrower), as well as contracts of guarantee, collateral and the like.

In determining whether a transaction was executed in the ordinary business activity of the debtor, the courts will presume that such transaction, according to its basic conditions does not differ significantly from similar transactions, that have been repeatedly committed by the debtor before for a long period of time.

In this case, the transaction in the area referred to as basic types of debtor’s activity in accordance with its constituent documents, by itself is not sufficient to consider it concluded in its ordinary course of business.

3) Transactions of the debtor aimed at fulfillment of the obligations on which the debtor received equivalent counter performance of the obligations immediately after the conclusion of the contract may be disputed only on the basis of paragraph 2 of Article 61.2 of the Bankruptcy Law. Such transactions can not be invalidated on the basis of paragraph 1 of Article 61.2 or Article 61.3 of the Bankruptcy Law(15). The foregoing applies to transactions on fulfillment of obligations that were made immediately after conclusion of the contract (in particular, to transactions of retail sales).

Disputing the debtor's transactions with respect to successors

Important and significant innovation in the procedure of disputing transactions in the bankruptcy proceedings was the consolidation by thee legislator possibility to disputing the transaction, and filing a claim for the return executed under the transaction to the counterparty successor of the debtor to the transaction.

So, the disputed transactions of the debtor can be carried out against the heirs and in other cases of universal succession in respect of a person for whose benefit the disputed transaction is made(16). In this regard, if the right to a thing disposed by the debtor in the transaction after the transaction transferred by way of universal succession (inheritance, reorganization of legal entity) to successor on the other party to the transaction, the statement of its disputing shall be filed with this successor.

If the right to a disposed thing by the debtor under the transaction after its completion has been transferred by another party to the transaction to a person on the following transaction (for example, sales contract), then a statement disputing the first transaction shall be filed with the other party. In that case, if the first transaction to be invalid, then the debtor is entitled to claim a the disputed thing from its second purchaser only by filing with him a vindication of the claim outside the bankruptcy proceedings by the rules of articles 301 and 302 of the Civil Code of the Russian Federation.

Consequences acknowledgement of transaction as invalid

According to paragraph 1 of Article 167 of the Civil Code of the Russian Federation the invalid transaction is invalid from the date of the transaction. This rule also applies to the invalid disputed transaction.

Everything that was transferred by the debtor or other person at the expense of the debtor or against the obligations to the debtor, and seized from the debtor in the transaction that is acknowledged invalid, shall be returned to the bankrupt's estate. If it is not possible to return the property to the estate in kind, the purchaser shall pay actual cost of property at the time of its acquisition, as well as damages caused by subsequent changes in the value of property in accordance with the provisions of the Civil Code of the Russian Federation on obligations arising from unjust enrichment.

In case of the debtor's actions on payment, transfer of things and any other transaction of the debtor aimed at cessation of obligations on the grounds, specified in Bankruptcy Law are found to be null and void (by offset of counter uniform claim, compensation or otherwise) obligation of the debtor to the relevant creditor is deemed to be restored from the date of execution of invalid transaction, and the creditor’s right to claim under this obligation to the debtor (hereinafter - the restored claim) is considered to be valid irrespective of this transaction(17).

If a monetary obligation, to terminate which specified transaction was directed to, occurred after registration of bankruptcy declaration, then the recovered claim applies to current payments, and creditors on the transaction do not acquire right of claim against the debtor.

If a monetary obligation, to terminate which specified transaction was directed to, occurred prior to the registration of declaration of bankruptcy, then the recovered claim does not apply to current payments and such creditor is a bankruptcy creditor of the debtor.

In case when the transaction is aimed at cessation of the obligation was acknowledged invalid on the grounds of paragraph 2 of Article 61.2 or paragraph 3 of Article 61.3 of the Bankruptcy Law, the restored claim to be included in the register of creditors' claims, but it is satisfied at the debtor's assets remaining after satisfaction of creditors the third stage of the register(18); such claim may be filed against the debtor according to article 100 of Bankruptcy Law at any time during the external administration or bankruptcy proceedings. However, this claim does not grant the right to vote at a meeting of creditors.

In addition, if upon the invalidated transaction the creditor received from the debtor property, then the creditor may file against the debtor the restored claim only after return of the bankrupt's estate (to the debtor) of the property or its value(19).

Procedure for disputing transactions

Claims of official liquidator to invalidate the debtor's transactions upon special grounds stipulated by the Bankruptcy Law (including both Article 61.2 and 61.3, as well as other grounds contained in this law other than Chapter III.1.) as well as on general grounds provided by the civil law (in particular, on the grounds provided by the Civil Code of the Russian Federation or legislation on legal entities) are subject to consideration under proceedings of chapter III.1. of Bankruptcy Law(20).

In this case, to avoid ambiguity of the situation and possible misunderstanding, it should be pointed out that it concerns disputing debtor's transactions only by the official liquidator under bankruptcy proceedings. Because under common grounds provided by civil legislation, any related party(21) is entitled to the right to claim to acknowledge the transaction null and void and on the grounds specified in Chapter. III.1. of Bankruptcy Law - only the administrator.

Statement on disputing the transaction of the debtor is filed with court which considers the case on bankruptcy of the debtor and is subject to examination in bankruptcy case of the debtor (including real estate transactions)(22).

Persons authorized to file statements on disputing transactions of the debtor

Statement of disputing transaction under rules of Chapter III. 1 of Bankruptcy Law may be filed with the court by official receiver or bankruptcy administrator(23).

In this connection the statement on disputing transaction on the above grounds may be filed only in the procedures of external management or bankruptcy proceedings.

At procedures for monitoring or financial recovery the transaction (including those made after introduction of these procedures) under these grounds can not be disputed; in the case of a corresponding statement of temporary or administrative receiver on disputing transactions on these grounds in these procedures, the court shall make a resolution to leave it without consideration in relation to paragraph 7 of part 4 of article 148 of Arbitration Procedure Code of the Russian Federation. However, arguments about the presence in the transaction attributes of grounds for invalidity under articles 61.2 or 61.3 of Bankruptcy Law may be considered by the court when considering statement of a temporary or administrative receiver, bankruptcy creditors, or authorized authorities on interim measures, aimed at ensuring property interests of creditors related to future disputing of a relevant transaction according to the rules of Chapter III.1 of Bankruptcy Law. In particular, the court may seize the property, alienated by the debtor on the transaction to its other party; in which case the other party to the transaction in part of consideration of the statement for interim measures enjoys the rights and obligations of a person participating in the bankruptcy case.

It should be taken into account that bankruptcy law also envisages possibility of disputing the transactions made during the procedures of monitoring or financial recovery under ad hoc grounds(24).

For these ad hoc grounds transactions may be disputed during relevant procedures according to the rules of Chapter III. 1 of Bankruptcy Law on Banks in the bankruptcy case. Transactions committed during the monitoring procedures or financial recovery can also be subsequently disputed on the grounds specified by the rules of Chapter III. 1 of Bankruptcy Law in proceedings of external administration or bankruptcy proceedings.

Statement on disputing transaction under articles 61.2 or 61.3 may be filed by bankruptcy receiver at its own initiative or by resolution of the meeting of creditors or the creditors' committee. At the same right to the liquidator to file such a statement does not depend on the resolution of meeting of creditors; the bankruptcy receiver may also file it in case there is an issue in the agenda of meeting of creditors' regarding disputed transaction a positive resolution will not be taken. In case of failure or refusal of the bankruptcy receiver to implement resolution of the meeting (committee) of creditors on disputing certain transaction the bankruptcy creditor will or the authorized body may apply to the court with a complaint on inaction (refusal) of the bankruptcy receiver; acknowledgement of this inaction (refusal) illegal may be a ground for dismissal of the bankruptcy receiver.

A certain creditor or authority may also apply to bankruptcy receiver with the proposal to dispute the transaction by receiver on the basis of Articles 61.2 or 61.3 of the Bankruptcy Law; in the event of refusal or inaction of the receiver the creditor or the competent authority may also apply to the court against refusal or failure to act by the receiver, acknowledgement of this inaction (refusal) illegal may be a ground for dismissal of the bankruptcy receiver.

Besides, if the ground for disputing the transaction is a violation of Bankruptcy Law committed by the bankruptcy receiver, then in case the court refuses to dismiss the bankruptcy receiver this application for disputing on this ground may be filed by the creditor, that petitioned its dismissal.

As we can see adopted innovations differ significantly from pre-existing relating to the range of persons authorized to apply for acknowledgement of the debtor's transactions void. If before, some creditors may have their own, along with external administrator, to dispute transaction of the debtor, now only external or bankruptcy administrator have the right. Also, important and at the same time worrying factor for the creditors who have significant volume of claims against the debtor and interested in controllability over the bankruptcy receiver, is the fact that any creditor, regardless of the size of its claims, theoretically could easily independently replace the bankruptcy receiver, thereby exposing possibility of successful completion of bankruptcy procedures for large and are most interested creditors to considerable risk.

Period of legal limitation

Statement on disputing transaction on the grounds discussed above may be filed within one year of the period of legal limitation(25).

At the same time, period of legal limitation upon application to dispute the transaction is calculated from the date when initially confirmed external of bankruptcy receiver knew or should have known that there are grounds for disputing the transaction. If the ground for invalidating the transaction due to a violation of Bankruptcy Law committed by bankruptcy receiver on behalf of its debtor, period of legal limitation on the application of its disputing starts from the moment when the next bankruptcy receiver knew or should have known about the grounds for its disputing.

Important provision in the consideration of the Resolution of the Supreme Arbitration Court is that the rules of interpretation of the law proposed therein shall be retroactive and are the ground for revision of judicial acts on newly discovered circumstances.

(1) - Clause 3, Article 61.1. of Bankruptcy law.
(2) - Clause 1 of the Resolution.
(3) - Clause 5 of the Resolution of the Plenum of the Supreme Arbitration Court of the Russian Federation of 30.04.2009 № 32 “On some issues relating to the disputed transactions on the grounds provided by the Federal Law “On Insolvency (Bankruptcy)”.
(4) - Clause 1, Article 61.1. of Bankruptcy law.
(5) - Clause 2 of the Resolution.
(6) - Clause 3, 4, Article 103 of Bankruptcy Law (as amended on 30.12.2008).
(7) - Clause 1, Article 61.2. of Bankruptcy law.
(8) Clause 8 of the Resolution of the Plenum of the Supreme Arbitration Court of the Russian Federation dated 23.12.2010, № 63 “On some issues relating to the application of Chapter III.1 of Federal Law “On Insolvency (Bankruptcy)”.
(9) - Clause 2, Article 61.2. of Bankruptcy law.
(10) - Paragraph 32, Article 2 of Bankruptcy Law.
(11) - Clause 3, Article 28 of Bankruptcy Law.
(12) - Clause 2 of Article 134 of Bankruptcy Law.
(13) - Clause 4 of Article 20.4. of Bankruptcy Law.
(14) - Clause 2, Article 61.4. of Bankruptcy Law.
(15) - Clause 3 of Article 61.4 of Bankruptcy Law.
(16) - Article 61.5 of Bankruptcy Law.
(17) - Clause 4, Article 61.6. of Bankruptcy law.
(18) - Clause 2, Article 61.6. of Bankruptcy law.
(19) - Clause 2, Article 61.6. of Bankruptcy law.
(20) - Clause 1, Article 61.1. of Bankruptcy law.
(21) - Article 166 of the Civil Code of the Russian Federation.
(22) - Paragraph 1 of Article 61.8. of Bankruptcy law.
(23) - Article 61.9. of Bankruptcy law.
(24) - For example, the second paragraph of clause 1 of Article 66, paragraph 5 of Article 82, paragraph seven of paragraph 4 of Article 83 of Bankruptcy Law.
(25) - Clause 2, Article 181 of the Civil Code the Russian Federation.