Wednesday, December 17, 2008

More Legal/Financial Silliness

Andrew Sullivan pointed me to an article on a surprising possible use of a section of bankruptcy law.

Say you were an investor in Madoff's funds. A few years back you decided to diversify. You asked Madoff for your money back and you got it. You then invested the proceeds in an array of other assets. Madoff then goes bust in a massive fraud. One day you get a letter from a bankruptcy trustee. The letter says that you need to repay a large chunk of your original investment in order to satisfy the claims of other investors who were less fortunate (or smart) than you. Is this fair? Is this right?

It's the result of a pair of laws that:

.....declare a transfer made or an obligation incurred with actual intent to hinder, delay, or defraud creditors to be fraudulent...... render a transfer made or obligation incurred without adequate consideration to be constructively fraudulent - i.e., without regard to the actual intent of the parties - under one of the following conditions:(1) the debtor was left by the transfer or obligation with unreasonably small assets for a transaction or the business in which he was engaged; (2) the debtor intended to incur, or believed that he would incur, more debts than he would be able to pay; or (3) the debtor was insolvent at the time or as a result of the transfer or obligation.

Which means in this case that if Madoff knew he couldn't cover his debts then he shouldn't have given you all your money at the expense of later creditors, so you have to give it back. This was originally set up to keep companies and investors/creditors from setting up preferential deals.
However, as the article points out....

The aggrieved parties in the Madoff case, however, are individuals and firms with no knowledge of the fraud being perpetrated and with no preferential rights. Every investors' right to redeem (or not to invest) appeared to be just the same as any other. So why should those who got out be forced to suffer the same fate as those who didn't, even though they were operating with exactly the same information and with the same rights?

I agree with the author on this.

However, those who innocently exited the situation should not have their lives turned upside down on a retrospective basis due to a highly legalistic ruling with little appeal from a common sense perspective.

But we all know how often the law deviates from common sense.

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