CHAPTER 3, B. Global Practitioners Beware

• Jurisdiction: United States

B. Global Practitioners Beware

U.S. Code's Avoidance Provisions Might Have International Reach

ABI Journal

July 2019

Patrick M. Birney

Robinson & Cole LLP

Hartford, Conn.

Katherine M. Fix

Robinson & Cole LLP

Philadelphia, Pa.

In the September 2014 issue,¹ an article discussed the extraterritorial application of federal statutory law and the presumption against extraterritoriality in the context of the July 6, 2014, decision in SIPC v. Bernard L. Madoff Investment Securities² (the "avoidance action") and a trustee's avoidance powers vested under the Bankruptcy Code.³ Much has happened on extraterritoriality in the Southern District of New York since the decision and the initial article on the topic nearly five years ago, including the post-remand decision dismissing the avoidance action.

Meanwhile, both Hon. Robert E. Gerber (now retired) in Weisfeiner v. Blavatnik (In re Lyondell)⁴ and Hon. Sean H. Lane in In re Arcapita Bank B.S.C.(c)⁵ rejected extraterritoriality defenses raised to defeat avoidance actions. On the other hand, Hon. Stuart M. Bernstein concluded that the avoidance provisions of the Code, including § 547(b), did not apply extraterritorially in In re Ampal-Am. Israel Corp.⁶

Now, an update is warranted on the status of the avoidance action following the Second Circuit's decision in In re Irving H. Picard, Trustee for the Liquidation of Bernard L. Madoff Investment Securities LLC (the "Second Circuit's extraterritoriality decision"),⁷ which vacated the bankruptcy court's dismissal of the avoidance action commenced by trustee Irving H. Picard (Baker & Hostetler LLP; New York), who was overseeing bankruptcy litigation related to Bernard L. Madoff's massive Ponzi scheme. The Second Circuit concluded that the presumption against extraterritorial application of the Bankruptcy Code did not apply to the avoidance action.

This article will refresh the recollection regarding the extraterritorial application of federal statutory law and the presumption against extraterritoriality. Using the Second Circuit's extraterritoriality decision as the framework, the article will re-examine the applicability of the presumption against extraterritoriality in the context of avoidance proceedings commenced under the Code. However, this might not be the last chapter regarding the avoidance action. In late April, the tribunal that issued the Second Circuit's extraterritoriality decision granted a stay of the decision pending a writ of certiorari that the affected parties intend to file in July.

Madoff's Massive Ponzi Scheme

Although still etched in our minds, posterity protocol requires a summary of the facts underlying the Second Circuit's extraterritoriality decision. The trustee's claims arose from the epic collapse of Bernard L. Madoff Investment Securities LLC (the "Madoff Securities") following Madoff's disclosure of a Ponzi scheme in December 2008, in the midst of the tumultuous financial crisis spawned from the collapse of the U.S. housing market. Madoff's was a classic Ponzi scheme, although answers remain elusive to this day regarding his ability to hide the fraud from investors and regulators over multiple decades. Instead of investing money from his clients into financial instruments (as his investors (and regulators) believed), Madoff — by and through Madoff Securities — simply commingled funds into a checking account, then made investor distributions from the checking account.

Many of the investors in Madoff Securities were feeder funds from outside the U.S. A nondomestic feeder fund would obtain investments from foreign investors and pool the investments, then feed the investments to Madoff Securities. When Madoff Securities made disbursements, they would pass through the feeder fund and back to the original, foreign investors. The trustee sued the foreign investors, among others, under the Code's statutory avoidance powers. The Second Circuit's extraterritoriality decision involves the trustee's litigation related to the foreign investors.

Legislating Extraterritorially

The application of one country's laws to conduct occurring beyond the local jurisdiction is commonly referred to as "extraterritoriality."⁸Historically, sovereigns have legislated extraterritorially in certain instances,⁹ including policing the conduct of its own citizens.¹⁰ In the U.S., Congress has both implicit authority¹¹ and express authority¹² to legislate extraterritorially. For example, the power to define and punish felonies on the high seas and the power under the necessary and proper clause have been referenced in the past as the source of Congress's authority to enact extraterritorial criminal legislation primarily in the maritime context.¹³

Congress's constitutional authority to legislate extraterritorially is not plenary,¹⁴ although U.S. courts have consistently recognized Congress's authority to extend statutory reach outside the territorial boundaries of the U.S.¹⁵ At the outset, the Second Circuit's extraterritoriality decision reminds practitioners...