Title Ownership of Voided Transfer of Property In Bankruptcy At Issue

March 1, 2011 | Erin Herbold

 

This case involved the question of whether, under Iowa law, a bankruptcy court’s order voiding a debtor’s transfer of real estate to a transferee automatically returns the property title to the debtor. The debtors were farmers. After getting hit with a $127,125 judgment in 1998 for breaking a grain contract, they began suffering financially. In 2001, they formed a limited liability company (LLC) and appointed themselves managers.  They transferred all of the farm property to the LLC.  In 2003, the family filed a Chapter 7 liquidation bankruptcy.  The bankruptcy trustee challenged the transfer of the real estate to the LLC, calling it an “avoidable” transfer that was made with the intent to shield it from creditors.  The bankruptcy court agreed, declaring the transfers void. Finally, in 2006, the trustee filed a “Satisfaction of Judgment” without liquidating the real estate and the debtors were eventually discharged from bankruptcy.  

That raised the question as to who had title to the property.  The trial court held that, despite the bankruptcy court’s ruling, the LLC still owned the property. They reasoned that the rights of the parties were not altered when the property wasn’t used to satisfy the debtors’ obligations to their creditors. Unhappy with the outcome, the debtors filed a “motion for enlargement” of the trial court’s findings- asking the court to review their findings once again because of a misunderstanding of the law. The trial court modified its order and held, in 2008, that the trustee acquired the real estate once the bankruptcy court entered the judgment voiding the transfer. Since the transfer was deemed void and the judgment was satisfied without selling the land, the court quieted title to the real estate in the debtors. 

The debtors appealed and the Iowa Court of Appeals held that the LLC was the owner of the property because the trustee would have had to obtain title to the property to include them in the bankruptcy estate. 

On further review, the Iowa Supreme Court focused on the bankruptcy court’s initial ruling that the transfer of property was void for being fraudulent. In order to make a fraudulent conveyance, the debtor must make the transfer with the “actual intent to hinder, delay, or defraud any creditor of the debtor (Iowa Code §684.4(1)(a)-(b)). Further, Iowa law traditionally favors the transferee in these cases, because there is a strong emphasis in the court’s opinion that a “fraudulent transferor should not be allowed to benefit from his own misdeed.” Creditors have the right to recover fraudulently conveyed property. 

In this case, the bankruptcy trustee initiated an adversary proceeding against the debtors, because the trustee suspected a fraudulent transfer. Thus, the trustee stood in the place of the unsecured creditors. After the bankruptcy court deemed the conveyance fraudulent and voided the transfer, the trustee had the right to “recover” the property and bring it into the bankruptcy estate, if necessary to satisfy the debtor’s obligations. 

The Iowa Supreme Court was asked whether that recovery was immediate or self-executing- meaning that the trustee did not have to make any overt action to bring the property into the bankruptcy estate. The court held that the property never became property of the bankruptcy estate, because voiding the transfer did not automatically change title to and possession of the land. Thus, the LLC retained title to the property.  Schaefer v. Schaefer, 795 N.W.2d 494 (Iowa Sup. Ct. 2011).