Distressed Lenders Beware: Connecticut Bankruptcy Court Limits BFP in Preference Claims

Decisions from the United States Supreme Court related to Title 11 of the United States Code (the “Bankruptcy Code”) are not abundant by any means. As courts throughout the country have noted, “[b]ankruptcy is a specialized area of the law.”¹ Because “[b]ankruptcy courts are specialized courts,”² it is not beyond reason that great deference is given to their decisions and interpretations of the Bankruptcy Code; thus obviating frequent resort to review by America’s highest court. Notwithstanding, the historical landscape of bankruptcy law is pockmarked with landmark decisions of the Supreme Court that, among other things, settle circuit splits or define the outer limits of a bankruptcy court’s jurisdiction and authority.

Even the greenest bankruptcy associate is quick to learn—and memorize—the holdings in Butner v. U.S.,³ U.S. v. Whiting Pools,⁴ Stern v. Marshall,⁵ and BFP v. Resolution Trst. Corp.,⁶ among several others. Most relevant hereto, restructuring professionals should quickly recognize that “a ‘reasonably equivalent value,’ for foreclosed property, is the price in fact received at the foreclosure sale” because Justice Antonin Scalia so stated for the 5-4 majority in 1994 in BFP.⁷

The holding in BFP is important for purchasers taking title to real property in state-law foreclosure auctions, particularly where the former owner of the property files for relief under the Bankruptcy Code following the foreclosure sale. In many instances the former owner seeks to reverse the prepetition foreclosure sale of its property through Bankruptcy Code section 548’s constructive fraud provisions. Specifically, section 548 allows the avoidance of a pre-bankruptcy transfer of a debtor’s property provided, among other things, the debtor “received less than reasonably equivalent value in exchange for such transfer . . . .”⁸

Whether value given in exchange for a transfer is “reasonably equivalent” is a heavily litigated issue, the outcome of which may stop a constructively fraudulent transfer claim dead in its tracks: if the value received in exchange for the transfer is “reasonably equivalent,” the claim fails; if it is not, then it does not—provided one of four additional requirements are met. In general, courts have found that “a party receives reasonably equivalent value for what it gives up if it gets ‘roughly the value it gave.’”⁹

At its core, the analysis focuses on the value of what was given, and the value received in exchange. The exchange need not be dollar-for-dollar, as “[t]he touchstone is whether the transaction conferred realizable commercial value on the debtor reasonably equivalent to the realizable commercial value of the assets transferred.”¹⁰ While a party must receive value that is roughly equivalent to the actual worth of transferred property to prevent liability under Bankruptcy Code section 548, BFP counsels:

The fact that a piece of property is legally subject to forced sale . . . necessarily affects its worth. Unlike most other legal restrictions, however, foreclosure has the effect of completely redefining the market in which the property is offered for sale; normal free-market rules of exchange are replaced by the far more restrictive rules governing forced sales.¹¹

In other words, a property’s worth is subject to decrease for purposes of a “reasonably equivalent value” analysis when disposed of by way of a distressed asset sale.

While BFP’s application to a claim of constructive fraud under the Bankruptcy Code is settled, its application to preferential transfer liability under section 547 thereof is murky. In the most basic of terms, an avoidable “preference” under section 547 is a transfer of an interest in property (usually a monetary payment) to a creditor, made while the transferor/payee is insolvent, made in the 90 days preceding the bankruptcy filing, that favors—or prefers—that creditor over another.¹²

For the purposes hereof, the key difference between constructively fraudulent and preferential transfer liability is the focus on the exchange of value: constructive fraud focuses primarily on what was given and what was received in return, while preference analysis focuses primarily on what was given and who it was given to—not what the transferor received.¹³ Indeed, as shown above, a plaintiff alleging constructive fraud under Bankruptcy Code section 548(a)(1)(B) must explicitly show that the transferor/debtor “received less than reasonably equivalent value in exchange for such transfer . . . .”¹⁴ In contrast, there is no such analogous requirement to find preferential transfer liability under section 547.  

The United States Bankruptcy Court for the District of Connecticut (the “Court”), in an apparent issue of first impression in the Second Circuit, analyzed BFP’s application to preference liability in Preston v. Nationstar Mort. LLC (In re Preston).¹⁵ In 2023, Nationstar Mortgage LLC (“Nationstar”) commenced mortgage foreclosure proceedings against Erica Preston (the “Debtor”) in the Superior Court of Connecticut resulting in a foreclosure judgment as to the Debtor’s real property (the “Property”). The judgment found, among other things, mortgage debt owing by the Debtor to Nationstar in the amount of $135,266.38, and a later appraisal was filed setting the Property’s value at $285,000. At a foreclosure auction, Nationstar was the winning bidder for the Property, submitting a credit bid in the amount of $146,853.41, or roughly 51% of the Property’s fair market value.

Following the auction of the Property, the Debtor filed a petition for Chapter 13 protection under the Bankruptcy Code and commenced an adversary proceeding against Nationstar asserting, among other things, that the foreclosure sale of the Property was an avoidable preference under Bankruptcy Code section 547. In its responsive motion to dismiss the Debtor’s claims, Nationstar argued that BFP was dispositive and, as a result: (i) the Debtor was unable to avoid the prepetition foreclosure sale as a preferential transfer given that its credit bid constituted reasonably equivalent value for the Property; and (ii) because the foreclosure sale established the Property’s forced sale value, Nationstar did not receive more than it would have in a Chapter 7 liquidation. Essentially, Nationstar sought to expand BFP’s ruling to prevent avoidance of any prepetition foreclosure sale, whether as fraudulent or preferential.

In declining to dismiss the Debtor’s claim for preferential transfer liability against Nationstar, the Court relied on holdings outside of the Second Circuit, particularly the Third Circuit’s findings in Hackler v. Arianna Hldgs Co., LLC (In re Hackler & Stelzle-Hackler).¹⁶ Specifically, the Court agreed with the holding in Hackler that the Supreme Court’s “decision in BFP . . . is closely tied to . . . the language of § 548 . . . .”¹⁷ Therefore, and “[g]iven that the term ‘reasonably equivalent value’ does not appear in § 547(b),” as it explicitly does in section 548(a)(1)(B), BFP does not operate as a per se bar to a claim that a prepetition foreclosure sale may be avoided as preferential transfer. Thus, the Debtor’s claim that the foreclosure sale of the Property was a preferential transfer survived dismissal.

The Court’s holding in Preston appears to be a straightforward common-sense application of BFP in the context of preferential transfer liability given the absence of “reasonably equivalent value” language found in Bankruptcy Code section 548. Notwithstanding, courts have held that BFP does, indeed, apply to preference actions based on prepetition foreclosure sales.¹⁸ However, these courts rely primarily on public policy considerations and the uncertain effect on real property title records. In contrast, like the courts in Preston and Hackler, several courts have found that BFP is inapplicable to such preference actions because the standard of “reasonably equivalent value” does not appear in the text of section 547.¹⁹

Of note, the holding in Preston and other courts making similar findings should not result in potential preference liability for every purchaser of real property at a distressed sale. As noted herein, Bankruptcy Code section 547 applies to prepetition transfers made “to or for the benefit of a creditor . . . for or on account of an antecedent debt owed by the debtor before such transfer was made . . . .”²⁰ As such, while distressed lenders credit bidding on real property in foreclosure may find themselves on the other side of an adversary proceeding when the value of the property exceeds the credit bid, unrelated third-party purchasers should be free from such potential liability under Bankruptcy Code section 547 (and protected against avoidance under section 548 by the holding in BFP).

1. In re Raytech Corp, 206 B.R. 646, 651 (Bankr. D.Conn. 1997), vacated on other grounds, 241 B.R. 785 (D.Conn. 1999).
2. Southwest Airlines Co. v. Tidewater Fin. Co. (In re Cole), 552 B.R. 903, 909 (Bankr. N.D. Ga. 2016).
3. 440 U.S. 48 (1979) (property interests are defined by state law).
4. 462 U.S. 198 (1983) (a taxpayer’s interest in property does not vanish upon government seizure).
5. 564 U.S. 562 (2011) (strictly limiting bankruptcy courts’ jurisdictional authority).
6. 511 U.S. 531 (1994).
7. Id. at 545.
8. 11 U.S.C. § 548(a)(1)(B).
9. VFB LLC v. Campell Soup Co., 482 F.3d 624, 631 (3d Cir. 2007) (calling this a “common sense approach.”) (quoting Pension Transfer Corp. v. Beneficiaries Under the Third Amendment to Fruehauf Trailer Corp. Retirement Plan No. 003 (In re Fruehauf Trailer Corp.), 444 F.3d 203, 213 (3d Cir. 2006)).
10. Mellon Bank, N.A. v. Metro Commc'ns, Inc., 945 F.2d 635, 647 (3d Cir. 1991).
11. 511 U.S. at 548 (emphasis in original).
12. A transfer is “preferential” and, thus, avoidable, if it: (i) was made: (a) in the 90 days preceding a bankruptcy filing; (b) to or for the benefit of a creditor; (c) on account of a preexisting debt; (d) while the transferor was insolvent; and (ii) allowed the transferee to receive more than it would in a distribution under chapter 7 of the Bankruptcy
    Code. 11 U.S.C. § 547(b)(1) – (5).
13. While an exchange of value is important as to certain defenses against preferential transfer liability (i.e., the contemporaneous and subsequent new value defenses of Bankruptcy Code section 547(c)(1) and (4)), it is not a primary element in initially establishing preference liability, as set forth above.
14. 11 U.S.C. § 548(a)(1)(B).
15. Case No. 24-21009 (JJT), Adv. Pro. No. 24-02016 (JJT) (Bankr. D.Conn. Apr. 16, 2025).
16. 938 F.3d 473 (3d. Cir. 2019).
17. Id. at 479.
18. See, e.g., In re Cottrell, 213 B.R. 378, 383 (Bankr. M.D. Ala. 1996); In re FIBSA Forwarding, Inc., 230 B.R. 334, 341 (Bankr. S.D. Tex. 1999); Chase Manhattan Bank v. Pulcini (In re Pulcini), 261 B.R. 836 (Bankr. W.D. Pa. 2001).
19. See, e.g., In re Andrews, 262 B.R. 299 (Bankr. M.D.Pa. 2001); In re Villareal, 413 B.R. 633, 642 (Bankr. S.D. Tex. 2009); In re Whittle Dev., Inc., 463 B.R. 796, 801 (Bankr. N.D.Tex. 2011); In re Berley Assoc., Ltd., 492 B.R. 433 (Bankr. D.N.J. 2013); In re Nguyen, 490 B.R. 230, 234 (Bankr. S.D.Tex. 2013); In re Silver State Holdings, Assignee-7901 Boulevard 26 LLC, No. 19-41579-MXM, 2020 WL 7414434 at *14-17 (Bankr. N.D. Tex. Dec. 17, 2020); In re Nunez, 635 B.R. 870, 876 (Bankr. S.D.Fla. 2021); In re Tucker, No. 21-16213- MCR, 2022 WL 4829845 at *13 (Bankr. D. Md. Oct. 1, 2022).
20. 11 U.S.C. § 547(b)(1), (2).