What’s in a Name (Besides Centuries of Confusion)?
The Alabama Lawyer: Technology Issue
The Alabama Uniform Voidable Transactions Act (“AUVTA”) 1 replaces the Alabama Uniform Fraudulent Transfer Act (“AUFTA”), 2 and applies to transfers and transactions occurring after January 1, 2019. 3 The AUVTA is not a wholesale revision of the AUFTA. Its changes are narrow, targeted and intended to clarify points of confusion and harmonize the law with other statutes. In addition to the name change, the AUVTA (i) adds a choice of law provision, (ii) defines and allocates the burdens of proof, (iii) refines the definition of “insolvency,” (iv) refines defenses and (v) expands the prior law to apply to series organizations. These changes will be described in more detail below.
Although the AUVTA’s changes are relatively minor, the name change itself–the replacement of “fraudulent” with “voidable”–represents a major course correction intended by the drafters to clear up centuries-old confusion about the very nature of a fraudulent transfer, likely rooted in an incorrect translation of the Latin phrase “in fraudem creditorum” in the mid-1500s. To understand where we are, it helps to know where we’ve been, so a brief review of the history of fraudulent (or voidable) transfer law is in order.
A Brief History of Fraudulent Transfer Law
While American law is primarily based on English law, a deeper study of the origins of the American–and English–legal tradition sometimes reveals a more complex story. This is certainly true of the origins of American fraudulent transfer law. As it turns out, as long as there has been property, there have been defaulting debtors. In recognition of this reality, the ancient Romans had a well-developed body of fraudulent transfer law, embodied in the Institutes of Justinian in Corpus Juris Civilis, the Roman Civil Code. The Institutes of Justinian, compiled by order of Byzantine Emperor Justinian I, stated the general principles of Roman fraudulent transfer law:
Again, if anyone has transferred his property to another in fraud of creditors, upon judgment to that effect by the chief provincial magistrate, the creditors of the transferor may seize his property, avoid the transfer, and recover the thing transferred; that is, they may claim that the things have not been transferred at all and accordingly are still within the legal possession of the debtor. 4
This core statement of fraudulent transfer law remains remarkably unchanged from when it was first published in 533 A.D.
Roman law, as published in the Justinian writings, was likely carried over to England during the missions of St. Augustine during the late fifth century A.D.5 By 600 A.D., the King of Kent, a convert of St. Augustine, was known to have modeled the laws of his kingdom “according to the Roman mode.”6 Roman law continued to influence the development of the English common law during the centuries that followed,7 but the English common law courts did not always acknowledge their use and application of Roman law:
And this habit and practice gradually increased proportionally with the rise and increase of English prejudice against whatever bore the name “Roman.” Originally this prejudice began in a well-founded English abhorrence of the absolution of the Roman public law. But the repudiation of this tended to involve the rejection of the Roman private law–at least openly. English suspicion, prejudice, and jealousy of “foreign laws” finally aroused much hostility to Roman law . . . This hostility was especially aimed at the encroaching pretensions of the Canon Law–that ecclesiastical offshoot of Roman law; soon, unfortunately, it also became aimed at the Roman in addition to the Canon law. Both became suspiciously regarded . . . as mere instruments to enslave the English people to popes and emperors: hence the efforts to curtail the authoritative influence in England of the Roman laws. To such a state of ingratitude did insularity and religious prejudice finally reduce most English jurists until modern times, when at last the debt owed by our law to Roman law began to be paid.8
By the 1500s, during the reign of Queen Elizabeth I, the lack of written statutory law in England became increasingly unworkable as England’s stature as a mercantile power grew. As the English developed their own statutory code, they borrowed heavily from the Roman Civil Code. However, due to continuing hostility to foreign laws generally, and Roman law more particularly, the English wanted to maintain plausible deniability that they were copying the Romans9 so they sometimes changed the legal terms, and important meaning got lost in the translation.
English fraudulent transfer law incorporated the Roman concept embodied in the Latin phrase “in fraudem creditorum,” or “in fraud of creditors.” As explained by one historian, however, “fraudem” in Latin meant something entirely different than it would come to be understood by the English:
The point is that the term fraus, in Latin, does not really mean “fraud” at all in the sense of “deceit”– at any rate, not deliberate fraud. The word for that is dolus. The word fraus means “prejudice” or “disadvantage” . . . Unfortunately the word came to be applied both in legal as in non-legal writers [sic] to the quality of the act that caused the prejudice, as well as to the damage itself and so became almost–but not quite–interchangeable with dolus. An ambiguity was thus foisted upon the phrase in fraudem creditorum, which has compelled us to distinguish between “actual” fraud and “constructive” fraud, and forced other indirections upon us which have obscured the purpose and function of this form of relief.10
In fraudem creditorum, properly translated, means something roughly equivalent to “to the disadvantage of creditors.” As interpreted by the English, however, it came to mean something more akin to “in deceit of creditors,” suggesting an element of intentional fraud or misrepresentation. So when the English Fraudulent Conveyances Act of 1571 (Statute of 13 Elizabeth C. 5) was carried across the Atlantic to the American colonies, its misleading focus on “deceit” instead of “disadvantage” came too.
Statutory Precursors to the AUVTA
The principles of fraudulent transfer law as embodied in the Statute of 13 Elizabeth continued as part of the American common law for several hundred years. Then in 1918, the Uniform Law Commission published the Uniform Fraudulent Conveyance Act of 1918 (“UFCA”), which was enacted in 25 states. Subsequently, in 1984, the Uniform Law Commission published the Uniform Fraudulent Transfer Act (“UFTA”), which was enacted in 43 states, as well as the District of Columbia and the U.S. Virgin Islands. Alabama adopted the UFTA, with some modifications, in 1989.
The impetus for the UFTA in 1984 was to conform state laws more closely to the fraudulent transfers provision in the new Bankruptcy Code, enacted in 1978. This major, newly-enacted federal statute retained the “fraud” terminology in federal fraudulent transfer law.11 The Drafting Committee of the Uniform Law Commission was charged with harmonizing the UFTA with the Bankruptcy Code, so another generation would pass before there would be a renewed opportunity to fix the problems caused by the regrettable mistranslation of in fraudem creditorum centuries earlier.
Fraud by Any Other Name… Would Really Help Clear up Things Here
With the concept of deceit or intentional misrepresentation unwittingly baked into the name “fraudulent transfer” from the beginning, courts regularly misapplied the laws in a variety of contexts. One common error was in the interpretation of pleading standards. Some courts required plaintiffs to specifically plead “fraudulent intent” when alleging a fraudulent transfer because the Federal Rules of Civil Procedure, as well as many state rules of civil procedure, including Alabama’s, require that parties alleging fraud state with particularity the circumstances constituting fraud.12 Even though fraudulent transfers are unrelated to “fraud” as intentional misrepresentation, and fraud is not an element of a claim under the UFTA, courts would dismiss otherwise valid fraudulent transfer claims for failure to meet the heightened pleading standard for “fraud.”
Moreover, under several theories of recovery of fraudulent transfers, there is no intent element at all, much less a required showing of “fraudulent” intent by the transferor. The continued use of the word “fraud” in connection with these transactions was needlessly confusing and misleading. For example, under the AUFTA, creditors may avoid transfers made without adequate consideration under one of the following conditions: (1) the debtor was left by the transfer with unreasonably small assets for a transaction or business in which the debtor was engaged or about to engage; (2) the debtor intended to incur, or believed or reasonably should have believed that the debtor would incur, more debts than the debtor would be able to pay they become due; or (3) the debtor was insolvent at the time or as a result of the transfer or obligation. As noted by the Drafting Committee of the Uniform Law Commission when considering changes to the UFTA, these theories of recovery under the UFTA “have nothing whatever to do with fraud (or with intent of any sort) . . . [yet] came to be widely known by the oxymoronic shorthand ‘constructive fraud.’”13
Likewise, even under the theory of recovery relating to a transfer of property made by a debtor with “actual intent to hinder, delay, or defraud” a creditor of the debtor, the “fraud” tag can distort results. This section applies even if the debtor intends to merely “hinder” or “delay” a creditor, even absent intent to “defraud,” but, as noted by the drafters of the UVTA, this provision “came to be widely known by the shorthand tag ‘actual fraud’ . . . [and that] shorthand is misleading, because that provision does not in fact require proof of fraudulent intent.”14
The revisions set forth in the UVTA make more sense against this historical background. When the Drafting Committee of the Uniform Law Commission met to consider changes to the UFTA, the name change was a major priority. The drafters explained:
[T]he retitling is not motivated by the substantive revisions to the 2014 amendments, which are relatively minor. Rather the word “Fraudulent” in the original title, though sanctioned by historical usage, was a misleading description of the Act as it was originally written. Fraud is not, and never has been a necessary element of a claim for relief under the Act. The misleading intimation to the contrary in the original title of the Act led to confusion in the courts.15
While news of the name change was met with grumblings by some change-averse practitioners, the Uniform Law Commission unanimously adopted the UVTA without dissent on July 16, 2014. Alabama adopted the UVTA during the 2018 legislative session, and the AUVTA applies to all transactions occurring on or after January 1, 2019.
The AUVTA and Its Revisions to the AUFTA
As under the AUFTA, four general types of transactions are voidable under the AUVTA:
- Transfers made with actual intent to hinder, delay or defraud creditors;16
- Transfers made by an insolvent debtor without receiving reasonably equivalent value in exchange for the transfer;17
- Transfers made by an insolvent debtor to an insider of the debtor that has reasonable cause to believe that the debtor is insolvent;18 and
- Transfers made by a debtor, without receiving reasonably equivalent value in exchange for the transfer, when the debtor is either undercapitalized or about to incur debts beyond his ability to pay as they become due.19
The major revisions introduced by the AUVTA include the following:
Choice of terms
As discussed at length above, the word “voidable” replaced “fraudulent” to reduce confusion about the meaning of the UVTA and to discourage the application by courts and parties of an erroneous intent element. In addition, the word “transaction” replaced “transfer” because the UVTA drafters determined that “transfer” was under-inclusive and failed to cover the incurrence of obligations by the debtor, which are also covered by the UVTA.20
Choice of Law
The AUVTA adds a new section 11, which establishes a choice of law rule providing that the local law of the jurisdiction in which the debtor is “located” at the time of the transfer shall govern claims for relief. It provides that an individual debtor is located at the individual’s principal residence, a debtor that is an organization and has only one place of business is located at its place of business, and a debtor that is an organization and has more than one place of business is located at its chief executive office.21 This new rule intends to provide a simple and predictable choice of law rule. Section 11, with its focus on the location of the debtor, is analogous to the choice of law rule set forth in section 9-301 of the Uniform Commercial Code. The UVTA drafters noted that the analogy to the law of secured transactions is apt, “because the substantive rules of this Act are a species of priority rule, in that they determine the circumstances in which a debtor’s creditors, rather than a debtor’s transferee, have superior rights in property transferred by the debtor.”22 Moreover, the focus on the debtor’s location “when the transfer is made” is intended to reduce the incentives for a debtor to make a voidable transfer in one jurisdiction and then evade the consequences by moving to a jurisdiction with more favorable laws.
Burden of Proof
The AUVTA also adds several provisions defining and allocating the burden of proof. Specifically, new sections 5(c), 6(c) and 9(h) clarify that the burden of proof for claims and defenses under the AUVTA is a simple “preponderance of the evidence” standard. Because of the use of the word “fraud” in earlier iterations of the law, courts sometimes applied a heightened “clear and convincing evidence” standard in evaluating claims and defenses. The UVTA categorically rejected the application of a heightened standard, even for claims seeking to avoid transfers made with the intent to hinder, delay or defraud creditors.23
In addition, the AUVTA removes uncertainty regarding the allocation of the burden of proof. Under sections 5(c) and 6(c), the creditor making claims for relief under sections 5 and 6 bears the burden of proof. Section 9(g) of the AUVTA sets forth clear rules allocating the burden of proving defenses under Section 9. The party asserting defenses to voidable transfer claims set forth in Section 9 of the AUVTA bears the burden of proving the defenses.24 The creditor has the burden of proving the value of the transferred asset when seeking a money judgment.25 The transferee has the burden of proving any good faith defense.26 A party seeking adjustment of a money judgment bears the burden of proving the adjustment.27
The definition of “insolvent” continues to be important in the AUVTA, because many bases for relief turn on whether the debtor is insolvent. The AUVTA clarifies the definition of insolvency to provide that a debtor is insolvent “if the sum of a debtor’s debts at a fair valuation is greater than the sum of the debtor’s assets at a fair valuation.”28 While the comments have always provided that “fair valuation” applies to both the debtor’s debts and assets, the statutory text itself has now been revised to make this more apparent. In addition, the AUFTA had contained a special definition of insolvency applicable to partnerships that gave a partnership full credit for the net worth of each of its general partners. The AUVTA has deleted that definition. As a result, the general definition of “insolvency” applicable to other debtors applies to partnerships as well.29
Both the AUFTA and the AUVTA establish a rebuttable presumption that a debtor that is generally not paying his debts as they come due is insolvent.30 Once the presumption of insolvency is triggered by a showing that the debtor is not paying his debts as they come due, the AUVTA shifts the burden of proof to the defendant (i.e., the transferee) to prove solvency.31
The AUFTA made it a complete defense to so-called “actual fraud” (transfers made with actual intent to delay, hinder or defraud creditors) if the transferee takes in good faith and for reasonably equivalent value. The AUVTA adds an additional requirement that the reasonably equivalent value must be given to the debtor.32
In addition, the AUVTA creates a defense for subsequent transferees (i.e., transferees other than the first transferee) that take in good faith and for value. The defense, derived from section 550 of the Bankruptcy Code, also protects any later transferee from such a protected transferee, even if the later transferee did not take for value.33
Finally, the AUVTA retains the language in the AUFTA providing that transfers resulting from enforcement of a security interest under Article 9 are not avoidable, but carves out from this defense “acceptance of collateral in full or partial satisfaction of the obligation it secures,”34 also known as a strict foreclosure. While Article 9 contains protections for a debtor’s other creditors in the case of a foreclosure sale (e.g., the requirement of commercial reasonableness), there is no requirement of commercial reasonableness for a strict foreclosure, which requires only the debtor’s consent. So if the debtor facing a strict foreclosure does not withhold his consent to protect his equity, there is little protection for the debtor’s other creditors. The revision to the AUVTA attempts to provide a measure of protection to other creditors in these scenarios.
The AUVTA adds a new section providing that a “series organization” and each “series of the organization” is to be treated as a separate person for purposes of the Act, even if it is not treated as a person for other purposes.35 This addition recognizes the increasing prevalence of series organizations in complex transactions. A series of a series organization may not be a legal entity, even though it has its own assets and liabilities. If a series is not a legal entity, then a creditor could not challenge a transfer of property from one series to another under fraudulent transfer law, which only applies to a “person” (i.e., a legal entity). The AUVTA seeks to close this loophole by adding a new section providing that a “series” that has its own assets and debts is to be treated as a person for purposes of the AUVTA, regardless of how it is treated for other purposes. Committee work at the Uniform Law Commission is currently underway to add series provisions to all uniform acts applicable to unincorporated business organizations.
Alabama Exclusions from the UVTA
Alabama adopted the UVTA in large measure, with a couple of notable exceptions. First, it retained the existing statute of limitations.36 Second, as with the AUFTA, the AUVTA omitted language from the UVTA referring to “obligations,” opting instead to leave the question of whether an obligation is void as a voidable conveyance to existing common law.37
The revisions embodied in the AUVTA help to bring the law in line with the original intent of its ancient founders by removing the “fraud” language that created centuries of misdirection, while also making the adjustments necessary to account for the realities of modern business transactions.
The original article, "What's in a Name (Besides Centuries of Confusion)?" first appeared in the July 2019 issue of The Alabama Lawyer: Technology Issue.