Minnesota Company Learns a Hard Lesson About Accepting a Payment Plan Without Obtaining a Security Interest
The Minnesota Court of Appeals recently ruled against an unsecured creditor’s claim that a debtor violated the Minnesota Fraudulent Transfer Act in assigning all of its assets to a secured entity without first satisfying the creditor’s claim. The ruling is a reminder for creditors to create additional protections when settling financial disputes. Settling business disputes prior to incurring the time and expense of a court action is common and often makes good business and financial sense. Yet, businesses and individuals need to ensure that their position in a settlement agreement is not eviscerated by the legitimate transfer of an entity’s assets. Such transfers can leave a creditor without recourse.

Background of the Dispute
In Lorenz Bus Service, Inc. v. Richfield Bus Company, No. C2-02-56 (Minn. Ct. App., Sept. 3, 2002), decided recently by the Minnesota Court of Appeals, an unsecured creditor’s tenuous position was illustrated. As described in the case, Lorenz Bus Service, Inc. (“Lorenz”) sued Grand Tours, Inc. (“GT”) to collect accounts receivable. The parties settled the lawsuit in 1997 by an agreement that required GT to make periodic payments to Lorenz. Later, GT defaulted on scheduled payments it owed to Lorenz pursuant to the settlement agreement. Shortly after GT’s default, GT consented to the foreclosure and surrender of all its collateral to the bank that held a security interest in its assets. That bank, in turn, assigned the assets to Richfield Bus Company (“Richfield”).

The Court Concludes That the Creditor Is Left Out in the Cold
Lorenz argued that the transfer of assets to Richfield was fraudulent under the Minnesota Fraudulent Transfer Act (the “Act”) and that Richfield was liable for the judgment as GT’s successor. The Court of Appeals disagreed, ruling that because all of GT’s property was encumbered by a valid lien held by the bank, no “assets,” as defined under the Act, were transferred. While the Act forbids the transfer of assets made with intent to defraud a creditor of the debtor, it generally does not extend to cover assets encumbered by a perfected security interest that are subsequently transferred.

The Lesson: Take a Security Interest if You Cannot Obtain a Lump Sum
The ruling reinforces an important message for businesses and individuals. Namely, the value of a settlement agreement to a creditor is affected by the degree to which the creditor can ensure its receipt of payment. Creditors should consider taking and perfecting a security interest in debtor’s property so as to protect the value of a settlement. Additionally, creditors may find demanding a lump sum — or at least a higher initial payment and a shorter repayment schedule — advantageous in lieu of additional settlement dollars. Taking these steps may help a creditor avoid the danger of being left unsecured when a debtor files for bankruptcy or otherwise ceases operations.

If you have any questions about the Lorenz decision, please contact one of the business law attorneys of Trepanier MacGillis Battina P.A.
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About the Author:
Minnesota business litigation attorney James C. MacGillis practices extensively in the field of business and commercial litigation. Jim may be reached at 612.455.0503 or jmacgillis@trepanierlaw.com. Trepanier MacGillis Battina P.A. is a Minnesota commercial litigation law firm located in Minneapolis, Minnesota.