Receipt of Goods Means Physical Possession in Determining Whether a Trade Vendor Has a Section 503(b)(9) Claim
A recent decision by the United States Court of Appeals for the Third Circuit in In re World Imports, Ltd. ruled on a hotly contested issue of bankruptcy law that has significant ramifications for trade creditors selling goods to a debtor just prior to the debtor filing for bankruptcy. Section 503(b)(9) of the Bankruptcy Code provides that a creditor is entitled to a priority administrative expense claim for the value of goods sold to and “received by the debtor within 20 days before” the bankruptcy petition is filed if sold within the ordinary course of business.
The Third Circuit court (which covers bankruptcy courts in Delaware, New Jersey, and Pennsylvania) resolved the growing split among lower courts regarding when “receipt” occurs: when the buyer (or its agent) takes physical possession of the goods, or when the goods are shipped and title passes to the debtor (even if the debtor never takes physical possession of the goods, such as in a drop-shipping scenario). The Third Circuit held that receipt requires physical possession by either the debtor or the debtor’s agent.
In World Imports, certain Chinese trade vendors sold furniture and similar goods to World Imports (the debtor) in the ordinary course of business. The goods were shipped via common carrier from China to the United States “free on board” (FOB) at the port of origin, meaning that risk of loss or damage and title passed to World Imports upon transfer at the port in China to a common carrier.
The goods left China more than 20 days before the bankruptcy, but the debtor (or its agent) took physical possession of the goods in the United States within 20 days of the date when World Imports filed for Chapter 11. The bankruptcy court’s decision noted that “some of the goods were shipped directly to the Debtor’s customers (i.e., drop-shipped) while the remainder went directly to the Debtor.” In re World Imports, Inc., 511 B.R. 738, 741 (Bankr. E.D. Pa. 2014). The trade creditors filed motions to compel allowance and payment of administrative claims under section 503(b)(9) of the Bankruptcy Code. The debtor opposed those motions.
The bankruptcy court held that the goods were “constructively received” by the debtor when shipped from China and, therefore, did not qualify for the section 503(b)(9) 20-day claim and the creditors’ motions for payment of administrative claims were denied. The district court affirmed the decision of the bankruptcy court. The rationale of the bankruptcy and district courts in denying the creditors 20-day administrative priority claim treatment was based in part on the Convention on Contracts for the International Sale of Goods (CISG) and trade terms, here FOB the common carrier vessel. On appeal by the creditors, the Third Circuit Court of Appeals reversed.
The Third Circuit held “that goods are ‘received’ when the debtor or its agent takes physical possession of them.” Slip op. at 5. The court began its analysis by looking at the language of the statute, and noted that Congress did not define the word “received” in the Bankruptcy Code so that the court should construe it according to its ordinary or natural meaning. The court noted that both the legal and dictionary definitions of “received” with respect to goods is “taking physical possession of them.”
The court further noted that Bankruptcy Code section 546(c) references the similar word “receipt.” Based on a prior decision of the Third Circuit Court of Appeals in which the court held that “receipt” within the meaning of section 546(c) has the same definition as in the Uniform Commercial Code, namely taking physical possession, the court then reasoned that different but similar terms in the Bankruptcy Code should be read to “mean … the same thing.”
Having defined “received” within the meaning of section 503(b) (9) as the debtor taking physical possession, the court turned to the facts of the case. The court noted that the debtor argued the goods were constructively received upon delivery to the common carrier vessel at the port in China because they were delivered “FOB.” The court noted that delivery and receipt of goods can occur at different times. The court found that under the Uniform Commercial Code, and thus Chapter 11, receipt does not occur until after a seller’s ability to stop delivery ends, which is upon the buyer''s physical possession of the goods.
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