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Keeping The Debtor Afloat
When keeping the debtor afloat to help yourself, do it right.

Bankruptcy Articles
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By Sandy Soo
Reprinted by permission from Trade Vendor Quarterly Blakeley & Blakeley LLP

In the mater of Spancrete of Florida, Debtor entered into two construction contracts with CORE Construction Services Southeast, Inc. (CORE) to supply and install pre-cast, hollow-core concrete planks at two condominium complexes. After Debtor began experiencing financial problems, CORE assisted Debtor by making payments to Debtor�s suppliers and vendors because it was anxious for Debtor to complete its obligations under the construction contracts. CORE believed that the payments to third parties were payments made to Debtor, and the amounts would offset any amounts due and owing to Debtor under the construction contracts. Debtor, on the other hand, believed that the payments were contributions of capital.

Under the arrangement, Employee Professionals would be paid because it handled Debtor�s payroll and managed the compensation services for Debtor�s employees. If Debtor received an invoice from Employee Professionals that it could not pay, then Debtor would forward the invoice to CORE for payment.

The Debtor forwarded invoices, dated January 14, 21 and 28, 2005, to CORE for payment. CORE paid those Employee Professionals the invoices by wire transfer. On February 1, 2005, Employee Professionals, concerned that Debtor would not be able to make future payments, requested $45,000 be deposited with them for use if Debtor could not pay for services rendered, or if Debtor had an outstanding balance with Employee Professionals when it ceased to operate. Included in its wire transfer payment of the February 4, 2005 invoice, CORE provided the $45,000 deposit that Employee Professionals requested. CORE also wire transferred payment for the February 17, 2005 invoice from Employee Professionals.

Debtor filed its Chapter 11 petition on April 7, 2005. Employee Professionals used the $45,000 deposit to provide funds for two weekly payroll obligations. The first instance required approximately $28,000, and the second required approximately $16,000. Because the deposit was now depleted, Employee Professionals requested Debtor to restore the deposit to the required $45,000 level. As requested, Debtor provided $45,000 to Employee Professionals.

CORE sought a determination that the $45,000 held by Employee Professionals was not a property of the Debtor�s estate, therefore allowing CORE to recover the funds and use them to pay amounts due to the Debtor.

Property belonging to a debtor�s estate is defined broadly as �all legal or equitable interests of the debtor in property as of the commencement of the case�wherever located and by whomever held.� 11 U.S.C. section 541.

The court likened the situation to that of an escrow agreement. After conditions precedent occur, one party is entitled to receive the funds held in trust. Here, the funds were intended to be held in escrow by Employee Professionals and to be used by Employee Professionals to pay any outstanding invoices. The $45,000 deposit provided by CORE was used by Employee Professionals to pay outstanding invoices. Any interest CORE had in the funds held by Employee Professionals disappeared when the initial $45,000 was depleted. The second deposit of $45,000 was provided by the Debtor, and CORE has no cognizable interest in the replenished funds.

How could CORE have protected itself? In T & B Scottdale Contractors, Inc. v. United States, the debtor-subcontractor had a joint bank account with a general contractor. The debtor-subcontractor would submit invoices to the general contractor, who would then deposit enough funds in the account to cover the invoice. The agreement between the general contractor and the debtor-subcontractor specifically stated that account funds were only for paying materialmen. The court held that the deposited funds were held for the benefit of another and therefore were not the property of the estate.

The helping hand gets burned when not adequately protected. Here, it was as simple as inserting a clause in the agreement which stated the financial assistance provided was solely for the purpose of paying suppliers.

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