Eleventh Circuit In TOUSA Reinstates Bankruptcy Court Ruling

Lenders Who Are Refinanced With Proceeds of New Debt Secured by Liens on Assets of an Entity, not an Obligor, on the Refinanced Debt Could be Required to Return Those Proceeds to the Extent the Lien Constituted a Fraudulent Transfer

What Can Lenders Do to Protect Themselves Against the "TOUSA Risk?"

On May 15, 2012, the Court of Appeals for the Eleventh Circuit in In re TOUSA, Inc., Case No. 11-11071 (11th Cir. May 15, 2012),1 reversed the order of the United States District Court for the Southern District of Florida and reinstated the decision of the United States Bankruptcy Court for the Southern District of Florida. Specifically, the Eleventh Circuit held that: (i) the Bankruptcy Court did not clearly err in finding that certain subsidiaries of TOUSA did not receive reasonably equivalent value in exchange for granting liens to secure a new loan, the proceeds of which were used to repay obligations of their parent TOUSA Inc.; and (ii) the Bankruptcy Court correctly concluded that the lenders that were repaid with the proceeds of a new loan secured with the liens were "entities for whose benefit" the liens were granted such that the repayment could be recovered from the lenders under section 550 of the Bankruptcy Code.

1. Background

   1. The Transeastern Joint Venture

      Prior to its demise, TOUSA Inc. and its subsidiaries were the thirteenth largest homebuilders in the United States. In June 2005, TOUSA Inc.'s wholly owned subsidiary, TOUSA Homes LP ("Homes LP"), entered into a joint venture with a third party for the purpose of acquiring certain assets from Transeastern Properties, Inc. This joint venture was financed with $675 million of debt (the "Original 2005 Loan") from various lenders (the "Transeastern Lenders"). TOUSA Inc. and Homes LP were obligated as guarantors under multiple completion and carve-out guarantees in favor of the Transeastern Lenders. However, TOUSA Inc.'s other subsidiaries were not liable for such debt. In September 2006, the joint venture debt went into default and litigation ensued between, on the one hand, TOUSA Inc. and Homes LP, and, on the other hand, the Transeastern Lenders, which argued that more than $600 million was owing under the joint venture debt agreements and that liability under the completion guarantees was a multiple of the $600 million.

      In June 2007, TOUSA Inc. and Homes LP entered into a settlement with the Transeastern Lenders, pursuant to which the Transeastern Lenders would be paid approximately $421 million. To finance this settlement, on July 31, 2007, TOUSA entered into a $200 million first lien term loan facility and a $300 million second lien term loan facility (collectively, the "New Term Loans") with a group of new lenders (the "New Lenders"). The New Term Loans were effectively guaranteed and secured by liens on the assets of many of TOUSA's subsidiaries (the "Conveying Subsidiaries"), the proceeds of which were required to be used to pay the $421 million settlement. It is significant to note that the Conveying Subsidiaries were not parties to the Original 2005 Loan in any manner – they were not direct borrowers, guarantors or pledgors. At the time of these transactions, TOUSA also had unsecured bonds of $1.061 billion principal amount outstanding, guaranteed on an unsecured basis by the Conveying Subsidiaries, and $224 million of revolving credit borrowings, guaranteed on a secured basis by the Conveying Subsidiaries.

      Six months after these transactions, TOUSA Inc. and the Conveying Subsidiaries filed for relief under...