What Is Preference Payment?
A preference payment is a transfer to a creditor made within 90 days before a bankruptcy filing — or within one year if the creditor is an insider — that gives the creditor more than they would have received in a Chapter 7 liquidation. The bankruptcy trustee can avoid (reverse) these payments and recover the funds for the estate, ensuring all creditors of the same class are treated equally.
Key Facts
- Under 11 U.S.C. § 547, the trustee can recover preference payments made within 90 days before filing — the look-back extends to 1 year for payments to 'insiders' (family members, business partners, officers, directors)
- For the trustee to avoid a transfer as preferential, five elements must all be met: (1) transfer to a creditor, (2) for an antecedent debt, (3) while debtor was insolvent, (4) within 90 days (or 1 year for insiders), (5) the creditor received more than they would in a Chapter 7 liquidation
- The debtor is presumed insolvent during the 90 days before filing under § 547(f) — the creditor bears the burden of proving the debtor was actually solvent if they want to defeat the preference claim
- Common defenses include the ordinary course of business defense (routine payments made on normal terms), the contemporaneous exchange defense (payment at the time value was given), and the subsequent new value defense (creditor provided new goods/services after the payment)
- In consumer cases, the trustee cannot avoid preference transfers totaling less than $600 to any single creditor — this de minimis threshold prevents the trustee from pursuing small-dollar recoveries
Live Data
Why Do Preference Laws Exist?
Preference avoidance serves two fundamental bankruptcy policies:
- Equality of distribution: Preventing a debtor from favoring certain creditors over others in the months before bankruptcy. All creditors of the same class should share equally.
- Discouraging dismemberment: Preventing aggressive creditors from pressuring a debtor into paying them at the expense of other creditors during the pre-bankruptcy period.
Importantly, preference law does not require fraud or wrongful intent. A debtor who pays their credit card bill instead of medical bills in the months before filing has made a preference payment — even if the payment was entirely innocent.
What Are the Five Elements?
The trustee must prove all five elements of § 547(b):
- A transfer of the debtor's property to or for the benefit of a creditor — includes cash payments, property transfers, lien grants, and even involuntary transfers like garnishment
- For or on account of an antecedent debt — the debt existed before the transfer was made (paying for groceries at the register is not a preference; paying last month's credit card bill is)
- Made while the debtor was insolvent — debts exceeded assets at fair value. The debtor is presumed insolvent during the 90 days before filing.
- Made within 90 days before filing (1 year for insiders) — the statutory look-back period
- The transfer enabled the creditor to receive more than they would in a Chapter 7 liquidation — if unsecured creditors would receive 0% in Chapter 7, any pre-filing payment is preferential
Common Defenses to Preference Claims
Section 547(c) provides several defenses that protect creditors from clawback:
- Contemporaneous exchange (§ 547(c)(1)): The parties intended the transfer to be a simultaneous exchange of value. Example: paying cash for goods at the time of delivery.
- Ordinary course of business (§ 547(c)(2)): The payment was made in the ordinary course of business — on normal terms, according to standard industry practices. This is the most commonly litigated defense.
- Purchase money (§ 547(c)(3)): A security interest given to secure new financing that enabled the debtor to acquire the property. Example: a car loan where the lien was perfected within 30 days.
- Subsequent new value (§ 547(c)(4)): After receiving the allegedly preferential payment, the creditor provided new goods or services to the debtor. The new value offsets the preference.
- Floating lien (§ 547(c)(5)): For creditors with security interests in inventory or receivables, the preference is measured by the improvement in their position between the 90-day mark and the filing date.
Insider Preferences: The 1-Year Look-Back
Payments to insiders receive heightened scrutiny with a 1-year look-back. Insiders include:
- Family members: spouse, parent, child, sibling
- Business partners and partnership affiliates
- Corporate officers, directors, and persons in control
- General partners of limited partnerships
The most common insider preference scenario: a debtor who repays a family loan within a year before filing. Even though the family member is a legitimate creditor, the payment is avoidable because it gave them more than other unsecured creditors would receive in Chapter 7.
Preference Payments and Household Distress
Preference law intersects with financial distress in practical ways. Families under pressure often pay back relatives first (out of obligation or family pressure), make large payments on one credit card while ignoring others, or rush to pay off car loans to protect the vehicle. These well-intentioned payments can be clawed back by the trustee. Bankruptcy attorneys advise clients to avoid selective payments in the months before filing.
Frequently Asked Questions
Can the trustee take back money I paid to my parents before filing?
Yes. Payments to family members (insiders) within 1 year before filing are subject to preference avoidance. If you repaid a $10,000 family loan 8 months before filing, the trustee can sue your parents to recover that $10,000 for the estate. The money would then be distributed to all creditors equally.
Are regular mortgage payments preferences?
Generally no. Regular monthly mortgage payments fall under the ordinary course of business defense — they are routine payments made on normal terms. However, an unusually large 'catch-up' payment on a delinquent mortgage within 90 days of filing could be analyzed as preferential.
What is the minimum amount for a preference claim?
In consumer cases, the trustee cannot pursue preference claims under $600 per creditor. In business cases filed after BAPCPA, the threshold is $7,575 per creditor. These minimums prevent trustees from spending estate resources chasing small recoveries.
Can I pay my lawyer before filing without it being a preference?
Attorney fees paid before filing for services to be rendered (the bankruptcy case itself) are generally protected as a contemporaneous exchange — you gave money, the attorney gave legal services. However, excessive pre-filing retainers can be scrutinized. Most bankruptcy attorneys structure their fee agreements to withstand preference analysis.
What happens if the creditor can't pay back a preference?
The trustee obtains a judgment against the creditor for the preference amount. If the creditor cannot pay, the trustee can enforce the judgment through standard collection methods — garnishment, bank levy, or property liens. In practice, the trustee often negotiates a settlement for a reduced amount.