It is common for parties to include provisions that prohibit the assignment of a document or the rights thereunder. Section 9-408 is entitled Restrictions on Assignment of Promissory Notes, Health-care Receivables, and Certain General Intangibles Ineffective. In fact the Official Comments to 9-408 states:
This section makes ineffective any attempt to restrict the assignment of a …. promissory note, whether the restriction appears in the terms of the promissory note…….
9-408 states, in part:
… a term in a promissory note … which term prohibits, restricts, or requires the consent of the person obligated on the promissory …. the assignment or transfer of… the promissory note, … is ineffective to the extent that the term:
A recent decision from the Delaware Bankruptcy Court sheds light on why you may not take comfort in the protection described in the Official Comment.
The Delaware case involved the proof of claim filed by a purchaser of three notes. The Debtor objected to the claim on the grounds that the notes were not assignable. The Note provided:
Neither this Note, the Loan Agreement ….. nor all other instruments executed or to be executed in connection therewith . are assignable by Lender without the Borrower’s written consent and any such attempted assignment without such consent shall be null and void.
The Court noted that claims trading has changed the face of bankruptcy and that the claims trading industry is “robust and fruitful” and added: that
Delaware courts, while ‘recognize[ing] the validity of clauses limiting a party’s ability to assign its rights, generally construe such provisions narrowly because of the importance of free assignability.’
However, the Court focused on the distinction between the power to assign and the right to assign.
Citing a prior decision the Court said:
When a provision restricts a party’s power to assign, it renders any assignment void. . However, in order for a court to find that a contract’s clause prohibits the power to assign, there must be express language that any subsequent assignment will be void or invalid. Without such express language, the contract merely restricts the right to assign.
The Court concluded that by including the language contained in the Note – “attempted assignment without such consent shall be null and void” – denied the seller of the Note the power to assign, rendering the assignment void.
The buyer of the Note argued that the anti-assignment provision should not be effective because the debtor breached the terms of the note and its loan agreement. The Court dismissed this argument.
The Court then engaged in an analysis of 9-408 that we believe to be flawed, and we will not discuss it here.
The Court concluded that the anti-assignment clause denied the seller the power to assign and was legally binding. Thus, the Court held that the transfer of the Note was void.
Had the agreement between the seller and the buyer provided that the buyer could enforce the seller’s rights in the Note, the outcome may have been different. Instead, the debtor’s objection to the proof of claim filed by the buyer was allowed and, we assume, that the time for the seller to file a proof of claim had passed, resulting in a windfall to the debtor’s estate at the expense of the buyer of the notes.
The point is that when taking a note (or other included obligation) by assignment be sure to do sufficient due diligence to assure that the seller of the note has the power to assign.
In re Woodbridge Group of Companies, LLC, 2018 WL 3131127, June 20,2018