A Powerful Tool for Tracing Foreign Assets in US
The role of a receiver or liquidator to recover assets has become more difficult in an increasingly global economy. Today, individuals and entities often attempt to place assets beyond the reach of creditors by transferring them to foreign jurisdictions. The UNCITRAL Model Law on Cross-Border Insolvency, adopted by more than 40 countries, provides a collective international process to recognize foreign insolvency proceedings and use local courts to assist in tracing and recovering assets. In the United States, the model law is contained in Chapter 15 of the Bankruptcy Code. Under Chapter 15, once a foreign insolvency proceeding is recognized, a receiver can obtain an automatic stay of any act to transfer the foreign debtor’s property, take discovery under U.S. law and commence recovery actions in the United States.
Two recent cases in the U.S. Bankruptcy Court for the Southern District of New York demonstrate the value of Chapter 15 as a powerful tool to assist foreign receivers in tracing and recovering assets in the U.S. First, in In re Foreign Industrial Bank Ltd., or Vneshprombank,1 a trustee of a failed Russian bank filed a Chapter 15 proceeding to recognize the bank’s Russian insolvency proceeding and authorize the trustee to take discovery to determine whether millions of dollars stolen from the bank by its principal was used to purchase real estate in the United States. Second, in In re Sergey Poymanov,2 the receiver filed a Chapter 15 proceeding to enforce multiple foreign rulings finding that the debtor was not the victim of a corporate raiding scheme (referred to in Russia as reiderstvo) to pressure and/or steal businesses. The receiver in Poymanov filed a Chapter 15 in the United States to stay ongoing litigation in U.S. district court and to conduct discovery to uncover assets of the foreign debtor in the United States.
In re Vneshprombank
Vneshprombank was one of Russia’s largest banks until it collapsed in December 2015, when audits uncovered a more than $2 billion shortfall leading to allegations that its founder and president embezzled millions of dollars. The president was arrested, the bank was declared insolvent, and a Russian governmental agency was appointed as trustee for the bank.
In March 2016, the trustee learned that the former bank president may have used embezzled money to form limited liability companies in New York to purchase several luxury apartments in Manhattan. Additionally, the trustee learned that an alleged creditor of the bank called Panabroker commenced an action against the bank and the LLCs in New York to recover its claim against the bank from the proceeds of the apartments owned by the LLCs and allegedly purchased with money stolen from the bank. The trustee filed a Chapter 15 petition seeking recognition of the bank’s Russian insolvency proceeding to stay the Panabroker litigation and take discovery to investigate whether the bank’s money was used to purchase the New York apartments. If the trustee is able to prove that the bank’s money was used to purchase the apartments, he will seek to sell the apartments and use the proceeds of the sales to make distributions to creditors in the Russian insolvency proceeding in accordance with Russian bankruptcy law.
Panabroker objected to recognition principally on two grounds. First, it contended that a Chapter 15 proceeding is not the appropriate vehicle to seek discovery in aide of a foreign proceeding and that such discovery must be sought under 28 U.S.C. § 1782(a). Section 1782 authorizes a district court to “order [a person residing in its district] to give his testimony or statement or to produce a document or other thing for use in a proceeding in a foreign or international tribunal.” Section 1782, however, is not the exclusive procedure for seeking discovery in aide of a foreign proceeding. This is particularly true when discovery is sought in connection with a foreign insolvency proceeding, and Chapter 15 explicitly authorizes “the examination of witnesses, the taking of evidence or the delivery of information concerning the debtor’s assets, affairs, rights, obligations or liabilities.”3 Additionally, Section 1782 is limited to discovery in support of foreign proceedings and may not apply if the discovery is to support domestic proceedings. In Vneshpombank, the trustee sought discovery to support domestic turnover proceedings to recover the New York real estate, even though the recovery ultimately would be in aid of the Russian insolvency proceeding.
Second, Panabroker argued that the United States government’s condemnation of Russian aggression in the Crimea prevents recognition as a matter of public policy. Under Chapter 15, a court may decline “to take an action governed by this chapter if the action would be manifestly contrary to the public policy of the United States.” This public policy exception is narrowly construed and applied sparingly. It is “intended to be invoked only under exceptional circumstances concerning matters of fundamental importance for the United States.”4 Courts generally follow two principles in determining whether a fundamental United States policy is at risk: (a) “[d]eference to a foreign proceeding should not be afforded in a Chapter 15 proceeding where the procedural fairness of the foreign proceeding is in doubt or cannot be cured by the adoption of additional protections;” and (b) “[a]n action should not be taken in a Chapter 15 proceeding where taking such action would frustrate a U.S. court’s ability to administer the Chapter 15 proceeding and/or would impinge severely a U.S. constitutional or statutory right.”5 The bankruptcy court found the United States’ condemnation of Russian aggression in Crimea has no bearing on the baseline inquiry as to whether the treatment of Vneshpromabnk’s creditors in the Russian insolvency proceeding was generally consistent with the fundamental principles of the United States. The bankruptcy court’s ruling supports the concept that politics should not impact cross-border judicial cooperation to recover assets for international creditors.
After the Russian insolvency proceeding was recognized, the trustee issued subpoenas compelling the LLCs and other entities involved in the transfer of money to purchase and manage the apartments owned by the LLCs to produce documents. The LLCs objected, demanding that the trustee must first prove that the LLCs were involved in the embezzlement of Vneshprombank’s assets before seeking discovery from them or their banks. The trustee argued that proving such involvement was precisely the purpose of taking discovery — to determine whether the LLCs were involved in the embezzlement. The bankruptcy court overruled the LLC’s objection and authorized the trustee to take discovery related to the purchase of the apartments, including purchase and sale documents, bank records, mortgage documents and other financial information from the LLCs.
In re Poymanov
Sergey Poymanov was the former owner of OJSC Pavlovskgranit, one of the largest Russian granite producers. In October 2015, after Poymanov failed to pay certain corporate loan obligations of the granite company that he personally guaranteed, the lenders commenced an insolvency proceeding against Poymanov in the Commercial (Arbitrazh) Court of the Voronezh Region, Russia.
Poymanov claims to be the victim of an alleged reiderstvo by the lenders who forced him into an involuntary insolvency proceeding. To circumvent the insolvency proceeding, Poymanov purportedly assigned his legal reiderstvo claims to a newly created United States company, PPF Management LLC, which in turn filed a complaint in the U.S. District Court for the Southern District of New York ("SDNY litigation") seeking approximately $750 million in damages against more than 20 defendants, including the lenders and the receiver in Poymanov’s Russian bankruptcy case. PPF’s complaint alleges a conspiracy among lenders and the receiver of his estate to engage in a reiderstvo against Poymanov, his ex-wife and his granite company in order to dissolve the company and seize its assets. The receiver filed a motion in Poymanov’s Russian insolvency case to invalidate the assignment to PPF on the grounds that (1) the claims have been fully litigated and rejected in prior judicial proceedings, and (2) even if the claims existed, the assignment violates Russian insolvency law because it occurred without the receiver’s consent after Poymanov was declared bankrupt.
In July 2017, the U.S. Bankruptcy Court for the Southern District of New York recognized Poymanov’s Russian insolvency proceeding over PPF’s objection, but reserved judgment on whether to stay the SDNY litigation pending a ruling in Russia on the receiver’s motion to invalidate Poymanov’s assignment of claims to PPF under Russian law.
In objecting to recognition, PPF argued that a retainer held in a U.S. bank account was not Poymanov’s property. The bankruptcy court found that PPF failed to refute the demonstrated evidence that the funds were Poymanov’s property prior to their transfer into the U.S. bank account. In so holding, the bankruptcy court validated the expansive definition of property set forth in Section 109(a) of the Bankruptcy Code.
PFF also argued that recognizing the Russian insolvency proceeding would violate public policy because the proceeding (1) was merely a means for the defendants in the reiderstvo action to further affect their scheme, and (2) implicated individuals subject to the Global Magnitsky Human Rights Accountability Act.6 The bankruptcy court found that PPF failed to provide any evidence that the proceeding was a sham, that the receiver engaged in criminal activity or bad-faith dealing, that there was any impropriety or corruption attributable to the Russian judicial process, or that any individual identified in the Magnitsky Act had anything to do with Poymanov’s insolvency proceeding. Absent such evidence, the bankruptcy court concluded that the foreign proceeding was not manifestly contrary to United States public policy.
After recognition was granted, the Moscow Commercial Court ruled, as a matter of Russian law, that the purported assignment of the reiderstvo claims from Poymanov to PPF were invalid. The Moscow Commercial Court concluded that the claims have been fully litigated and rejected in prior judicial proceedings in Russia and therefore do not exist. It further ruled, to the extent any claims do exist, they are property of the estate. That ruling was upheld by the Russian appellate court.
Based on the Russian court rulings, the receiver brought a motion in the Chapter 15 case to stay the SDNY litigation. In December 2017, the bankruptcy court found that the claims in the SDNY litigation purportedly assigned by Poymanov to PPF were property of Poymanov’s bankruptcy estate as a matter of Russian bankruptcy law, and are therefore within the scope of Sections 362(a)(3) and 1520(a)(1) of the Bankruptcy Code and are stayed under Chapter 15.
The recognition decision and decision enforcing the automatic stay are currently on appeal before the U.S. District Court for the Southern District of New York.
Conclusions and Implications
Chapter 15 is most frequently used to protect assets of a foreign debtor that are located in the United States from seizure by creditors that are outside the reach of the court in the foreign proceeding. By filing Chapter 15, a foreign representative can obtain a stay of creditor enforcement action from a court that has the power to enforce it. But the relief available in Chapter 15 is much broader, including freezing assets in the United States, authorizing the foreign representative to control the foreign debtor’s assets in the United States, pursuing avoidance actions under foreign law or state law to recover property transferred before the Chapter 15 case was filed and, as noted above, taking discovery.
Vneshprombank and Poymanov are not the first Chapter 15 cases in which foreign representatives sought discovery. Foreign representatives have used Chapter 15 discovery to investigate whether the foreign debtor has assets in the United States, including potential causes of action or other property. But what these cases do signal is the use of discovery in Chapter 15 specifically for the purpose of uncovering assets that were fraudulently transferred to the United States to hide them from creditors. The need for comprehensive tools to trace and recover assets transferred across borders has been recognized for some time. Indeed, UNCITRAL recently proposed to develop a model law on tracing and recovering assets as part of its overall work on cross-border insolvency, noting the absence of adequate procedures in many jurisdictions.7 However, while formulation and adoption of a model law will take time, Chapter 15 already provides tools for representatives in foreign insolvency cases to accomplish these same goals.
While it is not yet clear if Russians stealing assets from their companies and hiding them in the United States to keep them away from creditors has been a widespread practice that will result in those companies becoming insolvent, Chapter 15 and these decisions of the U.S. bankruptcy court provide a tool for receivers appointed in Russian insolvency cases to trace those assets.
1 In re Foreign Industrial Bank Ltd., “Vneshprombank,” Case No 16-13534 (MKV) (Bankr. S.D.N.Y.).
2 In re Sergey Poymanov, Case No. 17-10516 (MKV) (Bankr. S.D.N.Y.).
3 (11 U.S.C. § 1521(a)(4)).
4 In re Ashapura Minechem Ltd., 480 B.R. 129, 138–39 (S.D.N.Y. 2012).
5 Id (emphasis added) (quoting In re Qimonda AG Bankr. Litig., 433 B.R. 547, 570 (E.D. Va. 2010)); In re Fairfield Sentry Ltd., No. 10 CIV. 7311 GBD, 2011 WL 4357421, at *8 (S.D.N.Y. Sept. 16, 2011), aff'd, 714 F.3d 127 (2d. Cir. 2013).
6 The Global Magnitsky Human Rights Accountability Act (Pub. L. 114-328, Subtitle F), enacted on Dec. 23, 2016, authorizes the president to impose financial sanctions and visa restrictions on foreign persons in response to certain human rights violations and acts of corruption.
7 See UNCITRAL “Proposal for future work submitted by the United States of America” (Vienna, 18 – 22 December 2017) at www.uncitral.org/uncitral/en/commission/working_groups/5Insolvency.html.
“A Powerful Tool for Tracing Foreign Assets in US,” by Rick Antonoff and Evan Zucker was published in Law360 on March 2, 2018. Reprinted with permission.