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 In Merit Mgmt. Group, LP v. FTI Consulting, Inc., __ U.S. __, 138 S. Ct. 883 (2018), the Supreme Court declared that the only relevant transfer for purposes of the trustee’s avoidance powers “is the transfer that the trustee seeks to avoid.” The fact that a transfer involves intermediate financial institutions does not implicate the financial settlement safe harbor of § 546(e) if the trustee seeks to avoid only the ultimate transfer between the non-financial-institutions.

The debtor had competed with another company for years for a harness racing license. Eventually, the debtor agreed to buy the other company and the other company withdrew its bid for the license. For the buy-out, the shareholders deposited their stock certificates into an escrow bank and the debtor deposited cash into a different escrow bank. The escrow banks distributed the assets after both sides fulfilled their contractual requirements.

After the debtor failed, it filed a bankruptcy petition. The bankruptcy court confirmed a chapter 11 plan and established a litigation trust. The trustee filed suit against the former shareholders of the acquired company arguing that the transfer was constructively fraudulent because the debtor was rendered insolvent and overpaid for the shares. The former shareholders sought judgment on the pleadings under Rule 12(c), contending that the transfer was a “settlement payment . . . made by or to (or for the benefit of)” a covered financial institution. § 546(e). The trial court granted the Rule 12(c) motion. The Court of Appeals reversed, finding that the escrow banks were “mere conduits.”

Before the Supreme Court, the former shareholders argued that determining the applicability of the securities safe harbor in a multi-transaction transfer requires the reviewing court to consider the “component parts” of the transaction—i.e., not only the A →D “end-to-end” transfer, but the A →B →C →D transfers that included the two intermediary financial institutions. The trustee argued that only the A →D “overarching transfer” between debtor and the former shareholders mattered in the avoidance analysis.

Justice Sotomayor, writing for a unanimous Court, agreed with the trustee, but did not adopt the term “mere conduit.” The Court relied on the plain language of § 546(e) and the statutory structure of the Code in holding that “the focus of the inquiry is the transfer that the trustee seeks to avoid.” In short, § 546(e) is an exception to the trustee’s avoidance powers (“[n]otwithstanding sections 544, 545, 547, 548(a)(1)(B), and 548(b) of this title . . . .”). Thus, the “starting point for the § 546(e) inquiry” is how the trustee seeks to employ the avoidance power to which the securities safe harbor provides an exception—i.e., “the transfer the trustee seeks to avoid.” 

The Court further held that the Code’s structure—which frames the § 546(e) exception and the avoidance powers as “two sides of the same coin”—buttresses this interpretation, and also limits the scope of how a trustee may identify an avoidable transfer: “The trustee . . . must establish to the satisfaction of a court that the transfer it seeks to set aside meets the characteristics set out under the substantive avoidance provisions. Thus, the trustee is not free to define the transfer that it seeks to avoid in any way it chooses.” A defendant may, of course, argue the trustee failed to identify a transfer within the Code’s specific criteria; but if the court determines the trustee properly identified such a transfer “the court has no reason to examine the relevance of component parts when considering the limit to the avoiding power . . . .”