The § 546(e) Safe Harbor After Merit
Where fraudulent-transfer clawbacks stand after Merit Management — the overarching-transfer rule, Nine West’s holding that § 546(e) is an affirmative defense with a transfer-by-transfer agency test, and the Eighth Circuit’s low-bar reading of the financial-institution customer workaround in Kelley.
Clawbacks, Conduits, and Customers: § 546(e) After Merit
The Supreme Court collapsed the conduit defense in one sentence: "The only relevant transfer for purposes of the §546(e) safe harbor is the transfer that the trustee seeks to avoid." Courts now "look to that overarching transfer to evaluate whether it meets the safe-harbor criteria," so routing an LBO payout through a bank no longer shields the shareholder at the end of the chain. But the shield still holds where a covered entity is a real party to the challenged transfer: "[i]f the transfer the trustee seeks to avoid was made ‘by’ or ‘to’ a covered entity, then §546(e) will bar avoidance without regard to whether the entity acted only as an intermediary" Merit Management Group, LP v. FTI Consulting, Inc., 583 U.S. 366 (2018). The Court reserved whether a debtor could itself be a "financial institution" as a bank’s "customer" under § 101(22)(A) — the workaround that has driven LBO clawback litigation ever since.
The Second Circuit gave the workaround teeth and limits at the same time. In re: Nine West LBO Sec. Litig., 87 F.4th 130 (2d Cir. 2023) held that "11 U.S.C. § 546(e) is an affirmative defense" — "Defendants therefore bear the burden of demonstrating that the transfers fall within the safe harbor" — and that "‘financial institution’ includes bank customers only in transactions where the bank is acting as their agent," measured transfer by transfer rather than contract by contract. Agency takes its common-law meaning: the bank must "act on the principal’s behalf and be subject to the principal’s control." On that record, "Nine West was a ‘financial institution’ with respect to the Certificate and DTC Transfers and those payments are therefore safe harbored under § 546(e)" — while the payroll transfers, run through a processor instead of an agent bank, stayed avoidable, and the unjust-enrichment claims "arising from the Payroll Transfers are not preempted."
The Eighth Circuit accepted the theory with fewer guardrails. Douglas Kelley v. Safe Harbor Managed Acct. 101, 31 F.4th 1058 (8th Cir. 2022) agreed "that the customer of a financial institution may itself qualify as a financial institution for purposes of § 546(e) if it meets the definition set forth under § 101(22)(A)" — that is, when the bank "is acting as agent or custodian for [the] customer . . . in connection with a securities contract." The nexus element is forgiving: quoting the Second Circuit’s Madoff decision, the court explained that a transfer is "in connection with" a securities contract if "related to" or "associated with" it, because "[§] 546(e) sets a low bar for the required relationship between the securities contract and the transfer sought to be avoided." Even a note purchase agreement qualifies as a securities contract, since a "security" includes a "note" — though the panel remanded for a fact-intensive look at transfers made by a non-party to the contract.
The safe harbor fight has moved from statutory text to agency facts. Trustees should frame the overarching transfer and attack control — who actually directed the bank, transfer by transfer — while transferees should paper the agent-bank relationship before closing and, in the Second Circuit, remember the burden of proof is now theirs. The same LBO payment can be safe-harbored under one circuit’s test and exposed under another’s, so forum matters as much as structure.