The Ohio Bankruptcy Court recently provided guidance on the amended ordinary course payment defense, which aims to encourage vendors and creditors to continue doing business with financially distressed entities. This defense protects pre-bankruptcy payments made in the ordinary course of business of the debtor and the transferee from avoidance by a bankruptcy trustee or chapter 11 debtor-in-possession (“DIP”).
Prior to the 2005 amendment of the Bankruptcy Code, transferees invoking the ordinary course payment defense had a heavier burden of proof. They were required to prove both that the payment was made in the ordinary course of business of the debtor and the transferee (the subjective test) and that the payment was made according to ordinary business terms (the objective test).
In a recent case, the U.S. Bankruptcy Court for the Southern District of Ohio addressed a preference defendant’s burden of proof under the amended section 547(c)(2). The court ruled that the defendant only needed to demonstrate that the payment satisfied one of the tests stated in the provision, not both.
The ordinary course payment defense is intended to protect normal commercial and financial relationships and recurring credit transactions that are incurred and paid in the ordinary course of business of both the debtor and the transferee. It is designed to encourage creditors to continue dealing with distressed debtors to enhance their chances of survival without resorting to bankruptcy.
Under section 547(c)(2) of the Bankruptcy Code, a trustee may not avoid a transfer that was made in payment of a debt incurred by the debtor in the ordinary course of business of both the debtor and the transferee, and that was made according to ordinary business terms.
The 2005 amendments to section 547(c)(2) made it easier for transferees to invoke the ordinary course payment defense. Transferees now only need to prove that the transfer was made in the ordinary course of business or financial affairs of the debtor and the transferee, or that it was made according to ordinary business terms.
In a specific case involving ASPC Corp., formerly known as AcuSport Corp., the bankruptcy court granted summary judgment in favor of a creditor, ruling that the defendant had successfully demonstrated that the transfers were made according to ordinary business terms.
The court emphasized the importance of the 2005 amendment, which changed the burden of proof for preference defendants invoking the ordinary course payment defense. It clarified that a preference defendant only needs to prove that a transfer satisfies either the subjective or objective test, not both.
The ruling in the ASPC case underscores the importance of understanding the requirements of the ordinary course payment defense and providing sufficient evidence to support the defense. It also highlights the Sixth Circuit’s approach of giving preference defendants latitude in defining the relevant industry for assessing the ordinariness of transfers.
Overall, the amended ordinary course payment defense provides transferees with a more straightforward path to shielding payments made during the preference period from avoidance. However, it is essential for preference defendants to present compelling evidence to establish that the transfer meets the requirements of the defense.
