The creditor purchased a promissory note from the debtor. Both parties entered into a security agreement, which granted the creditor a security interest in the debtor’s assets. Later, the debtor sued former consultants for embezzling funds. The creditor and other creditors of the debtor filed an involuntary Chapter 7 bankruptcy against the debtor. The embezzlement litigation ended in a settlement, and the bankruptcy court awarded some of the settlement proceeds to other creditors. The creditor then filed a motion requesting the settlement proceeds, arguing that the proceeds were a part of his collateral. The bankruptcy court denied the motion because it concluded that the security agreement did not encompass settlements. The creditor appealed to the district court, which affirmed the bankruptcy court’s decision. The creditor then appealed to the United States Court of Appeals for the Third Circuit.
In Main St. Bus. Funding, LLC v. Lane (In re Main St. Bus. Funding, LLC), No. 23-2430, 2024 WL 4056601, 2024 U.S. App. LEXIS 22551 (3rd Cir. June 24, 2024) (opinion not yet released for publication), the Third Circuit affirmed the district court’s order affirming the lower court’s decision. Applying Pennsylvania’s “gist of action” doctrine, the court held that the embezzlement lawsuit was a commercial tort claim. However, the security agreement did not describe the commercial tort claim with “sufficient particularity,” thus, the bankruptcy court found that the embezzlement claim was not a part of the creditor’s collateral. 13 Pa. Cons. Stat. § 9108(e)(1). Further, under 13 Pa. Cons. Stat. § 9204(b)(2), a commercial tort claim could not fall under the after-acquired provision in the security agreement. The embezzlement claim had to have been already in existence when the parties authenticated the security agreement. The creditor also argued that the proceeds of the collateral settlement were “encumbered in his favor,” even if the security agreement did not directly encompass settlements because it was the proceeds of his collateral. Because the district court concluded that the debtor did not have rights to the money that the consultants stole, the creditor also did not have a right to the settlement proceeds. Finally, the creditor relied on one case where the court decided that a creditor had rights to collateral that constituted commercial tort claims. Bayer Cropscience, LLC v. Stearns Bank National Ass’n, 837 F.3d 911, 916-17 (8th Cir. 2016). But in Bayer, the embezzled funds had been subject to the security interest, unlike in this case. For these reasons, the court affirmed the denial of the creditor’s motion to receive the settlement proceeds.
By Olivia Lewis: [email protected]
Edited By Nura Elhentaty: [email protected]
Edited By Ashley Boyce: [email protected]
Edited By Hayden Mariott: [email protected]