When a business entity faces the need to liquidate its assets and go out of business, an assignment for the benefit of creditors (hereinafter referred to as an "assignment") can be used to accomplish that task. In fact, prior to the codifcaton of bankruptcy law, assignments were the preferred method of liquidation of business assets. They were used so frequently in the late 19th century, states passed legislation to govern the assignment process. In the early 20th century, seven states passed legislation governing assignments.1 With the development of the comprehensive U.S. Bankruptcy Code (the "Code") passed in 1978, assignments became only one of the options to liquidate business assets and distribute the proceeds to creditors, but not the only option.
Assignments are still used in Illinois to liquidated business assets because they are recognized as an accepted liquidation procedure. Although Illinois has not passed legislation governing assignments, assignments are recognized in Illinois courts.2 Courts have defined an assignment as a voluntary transfer by the debtor of his property to an assignee in trust for the purpose of applying the proceeds thereof to the payment of debts and returning the surplus to the debtor.3
An assignment involves the creation of an express trust, and, as such, requires an absolute transfer to a trustee, known as an assignee, of title to the trust property. The trust property consists of the assets of the debtor’s estate and the transfer must be such that the assignor has no control over the assets.4 Illinois requires the assignee, as the trustee, to be appointed in writing, although it is not necessary that the writing refer to the assignee as the trustee or to the transfer of control over the debtors assets as an assignment.5 It is necessary, however, that the assignor, assignee, and a clear description of the property assigned such that it can be identified and located must be part of the writing.6
Unlike a Chapter 7 bankruptcy proceeding which is supervised by the Bankruptcy Court and the U.S. Trustee’s Office and in which creditors rights are granted by statute, an assignment requires the assent of creditors to be effective. A judgment creditor who neither assented to nor accepted dividends under an assignment can reach the proceeds of the debtor’s assets in the hands of the assignee.7 Consent is acquired by notice being sent to the creditors by the assignee of the assignment, and the filing of claims against the estate by the creditors through an affidavit of claim. Assent may be presumed if all creditors receive and accept a pro rata distribution from the assignee. However, the assignee has no rights to deprive creditors of any rights they may possess against the business entity.8
There are few qualifications to be an assignee, and, in general, they are the same as that of any trustee.9 The only ability required is that of taking, holding and administering the property in the assignment trust.10 The selection of the assignee is made by the assignor. The assignee, once appointed, is entitled to compensation from the assigned estate for services rendered in the administration of the estate.11
Once the assets of the estate are liquidated, the creditors are paid according to a set of priorities, determined by statute or common law. First, the costs and expenses incurred by the assignee in the administration of the estate are paid prior to any other claim.12 Next, wage claims of employees are normally paid up to a certain limit due to their inclusion as a priority in the Bankruptcy Code.13 After wages, federal taxes and certain local taxes are paid. Last, unsecured creditors are paid pro rata or according to the terms of the assignment. Any payments are subject to the rights of the secured creditors in the debtor’s collateral, pursuant to Article 9 of the Uniform Commercial Code and, generally, if the liquidation value of the assets is not sufficient to pay any claims other than the secured creditors security interest, even the administrative claim of the assignee must be approved by agreement of the secured creditor. These priorities are often supplemented by the list of priorities contained in Section 507 of the Code, particularly as to contributions to an employee benefit plan.14
Assignment is an appropriate liquidation method for business assets given the right conditions. First, and most important, the lack of a discharge that an individual receives in a Chapter 7 Bankruptcy proceeding is not available in an assignment and, thus, assignments are impractical for individuals. The typical assignor is a business with assets that need to be liquidated where the business entity that is the assignor would not receive a discharge in bankruptcy such as a corporation, a limited partnership, or a partnership with non-recourse liabilities. In addition, an assignment is very appropriate where there is a properly secured creditor with an interest in all the assets of the debtor who would be the sole or primary beneficiary of the assignment. Because there would be little left over the unsecured creditors in that circumstance, an assignment functions as a method to give notice to creditors that a business entity’s assets are being liquidated by a third party fiduciary who has a duty to the creditors to get the maximum value for the assets, account for the proceeds and distribute them to the creditors according to established legal priorities. It also provides the additional benefit to a business creditor of having a third party procedure that attests that there are no assets to fund a distribution and that any debt owed by the assignor business entity can be written off for tax benefit.
Chapter 7 liquidations under the Code have largely usurped assignments as the choice of a business entity to liquidate the assets of a business. The streamlined procedure of the Code and the court mandated supervision of a court appointed trustee has become a familiar and readily available remedy for both Debtors and creditors. The Chapter 7 proceeding provides a Debtor with notice to creditors and a determination by a trustee whether there are any assets in the Debtors estate. If there are, the Trsutee will liquidate the assets. If there are no assets, the Trsutee files a no asset report which is a court ordered determination that can be used by the debtor in the future as a defense to any action by a creditor seeking assets.
As a result, for a business entity that wants to put their creditors on notice that they are going out of business and get a court filed determination by a trustee that there are no assets in the business entities estate, a Chapter 7 Bankruptcy proceeding is a judicially supervised procedure that accomplishes this task. However, business entities with assets to be liquidated are in a different situation.
One of the primary tactical considerations in considering assignments has to do with the disclosure required in assignments versus that required in a Chapter 7 proceeding under the Code. Assignments do not require the extensive disclosure that is part of the statutory scheme of bankruptcy. Under the Code, Schedules and a Statement of Financial Affairs must be filed describing in detail the assets of the debtor and the business affairs of the debtor for the period preceding the filing of the petition in bankruptcy.15 In addition, the debtor must submit to an examination by creditors where they and the trustee have the opportunity to question the debtor’s affairs.16 Further, the bankruptcy trustee has the look back provisions of the Code to void any preferential payments to creditors or to insiders. In an assignment, although an accounting based on the assets and liabilities of the debtor should be provided as part of the fiduciary duty of the assignee, the detail required by the assignee does not provide the answers to potential creditor questions that a bankruptcy filing does.
In Illinois, the assignment is essentially a non-judicial liquidation. Unlike bankruptcy, there is no court supervision and thus no entity overseeing the enforcement of creditors rights. Although the assignee does have a fiduciary duty to treat the creditors equitably, this is only after the assignment has been executed. If a creditor wanted to pursue fraudulent conveyances or other preferential transfers, a lawsuit would have to be instigated and a forum chosen.
Because of the lack of mandatory disclosure and the lack of a forum to pursue preferences, a creditor is at a distinct disadvantage in pursuing such transfers in the assignment setting. Under the Code, all transfers made to insiders as defined by the Code within one year of the filing of the petition must be disclosed in the Statement of Financial Affairs. In addition, any transfers made within 90 days of the filing of the petition are also scrutinized. No such mechanism for disclosure or corresponding legal rights vests in creditors in an assignment.
Every creditor is driven by some of these fears. However, when there are no assets available for distribution beyond that owed to the secured creditor, assignments are a preferable alternative. Assignments also can be concluded much more quickly which can result in additional cost savings.
If there is any concern about the motives of the debtor, an assignment can always be converted into a bankruptcy by way of an involuntary petition. This is the primary leverage that an attorney representing a creditor has. Usually, an assignee is very responsive to a request for information if they are aware that the threat of bankruptcy looms overhead.
It is important to weigh the reasons why a debtor has chosen an assignment. If the assignee has been appointed for the purposes of cost and time savings, then a creditor will benefit from such a non-judicial proceeding. If, however, the debtor is using the non-judicial nature of assignments to avoid disclosure and the Bankruptcy Code’s mandatory preference analysis, it is important for creditors counsel to act swiftly and surely to prevent diminishment of estate assets.
1Those seven states are CA, FL, MI, NJ, NY, OH, PA, and TX
2Tribune Co v. R & J Furniture Sales. 155 N.E. 2d 844, 20 Ill. App. 2d 370 (1st Dist. 1959)
3Illinois Bell Telephone Co. v. Wolf Furniture House, Inc., 509 N.E.2d 1289, 157 Ill. App.3d 190 (1st Dist. 1987)
5Black v. Palmer, 145 N.E.2d 797, 15 Ill.App.2d 207 (1st Dist. 1957)
6Tribune Co. v. R & J Furniture Sales, cited supra
7Tribune Co. v. Canger Floral, 37 N.E.2d 906, 312 Ill.App. 149 (1st Dist. 1941)
8Debtor-Creditor Law, Vol. 5, 24.04 (A) (4) at 24-44
9Assignments for the Benefit of Creditors, "6 Am.Jur.2d 383
10Debtor-Creditor Law, Vol. 5, 24.06 (A) (1) at 24-78
11Matter of Peerless Mfg., 523 F.2d 110 (C.A.Ill. 1975)
12Debtor-Creditor Law, Vol. 5. 24.09 (B)
1311 U.S.C. Sec. 507
15Rule 1007, Rules and Forms of Practice and Procedure in Bankruptcy, U.S. Bankruptcy Code
1611 U.S.C. Sec. 341(a)
Michael J. Davis is a partner with the law firm of Kofkin Springer Scheinbaum & Davis concentrating in Business Reorganizations and Workouts, and Bank-ruptcy and Commercial Litigation. He received his B.A. from the University of Notre Dame and his J.D. from Vanderbilt University School of Law. He is a member of the Business Law Committee and the Bankruptcy Law Committee of the DuPage County Bar Association, and a Member of the American Bankruptcy Institute.