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July 13, 2022

Second Circuit Determines in Rem Tax Lien Foreclosure Sale to Be Fraudulent Conveyance

In February 2022, we reported on a decision in the US District Court for the Western District of New York that affirmed a bankruptcy court’s approval of a Chapter 13 debtor’s petition to avoid the transfer of a homestead in an in rem tax lien foreclosure proceeding conducted under New York State’s Real Property Tax Law (RPTL). That decision was consistent with others in recent years by various federal courts that had determined that these sales could be challenged as fraudulent transfers for not having realized “reasonably equivalent value” as measured by the fair market value of the property at the time of the sale. Among those other decisions were two from the US District Court for the Northern District of New York: Gunsalus v. County of Ontario and Hampton v. County of Ontario.  
On June 27, 2022, the Second Circuit Court of Appeals affirmed the district court’s decisions in Gunsalus and Hampton. In so doing, it joined the Third, Sixth, and Seventh Circuits, which had previously held that tax lien foreclosure sales under state law can be challenged as fraudulent conveyances under Section 548 of the United States Bankruptcy Code.  

Before discussing Gunsalus, we note that the Fifth, Ninth, and Tenth Circuits have held that these sales under state law cannot be challenged as fraudulent transfers. Their positions are based on the United States Supreme Court’s decision in BFP v. Resolution Trust,i  which involved a California mortgage foreclosure sale. In BFP, the court essentially eliminated the possibility of a bankruptcy debtor or trustee successfully challenging under Section 548 a mortgage foreclosure sale if the foreclosure action satisfied all requirements of state law, holding that the sale price obtained at the foreclosure sale was, by definition, “reasonably equivalent value” for the property. Significantly, the Supreme Court emphasized that its ruling applied only to “mortgage foreclosure of real estate,” specifically stating that “considerations bearing upon other foreclosures and forced sales (to satisfy tax liens, for example) may be different.”

In Gunsalus, the unpaid taxes that caused the owners’ homestead property to be included in the county’s in rem proceeding totaled $1,290. Under the RPTL, following entry of the foreclosure judgment, the title to the property was transferred to the county, which subsequently scheduled a private sale of the property. Approximately three weeks before the sale, the owners filed a Chapter 13 bankruptcy petition. After the county sold the property for $22,000 and retained the $20,710 surplus for itself, the debtors commenced a proceeding in bankruptcy court to set aside the transfer to the county on the grounds that it was a fraudulent conveyance under Section 548.  The bankruptcy court dismissed the complaint based on the Supreme Court’s opinion in BFP, holding that a tax lien foreclosure proceeding conducted in compliance with RPTL Article 11 is conclusively presumed to provide reasonably equivalent value for purposes of section 548. On appeal, the district court reversed, reasoning that the mortgage foreclosure procedures at issue in BFP differed materially from the “strict foreclosure” procedures imposed by the RPTL:

[t]he Court in BFP expressly stated that state foreclosure laws had evolved to “avoid the draconian consequences of strict foreclosure,” . . . but the RPTL has not. Unlike the foreclosure law in BFP and the “typical” state laws that the Supreme Court described before reaching its holding, the RPTL is a strict foreclosure regime that does not provide for a pre-seizure auction whereby the debtor may recover equity. This difference between the RPTL and the state laws the BFP Court considered is significant to fraudulent conveyance.”

On remand, the bankruptcy court found that the debtors’ property was worth at least $22,000 and that its transfer to satisfy a $1,290 tax debt was not for “reasonably equivalent value.” Following affirmance by the district court, the county appealed to the Second Circuit, which affirmed.  

After first rejecting the county’s argument that the debtors lacked standing to challenge the post-judgment transfer of their property, the Second Circuit found the RPTL’s “strict foreclosure” procedure—according to which an owner’s failure to redeem property from a tax lien by an arbitrarily imposed date results in entry of judgment transferring the title to the taxing authority, which may then sell the property and retain the entire sale proceeds—were “fundamentally different” than the protections afforded by the procedures at issue in the BFP case and did not provide the debtors the possibility of realizing value substantially comparable to the worth of their property. Therefore, the sale of the debtors’ property in accordance with the RPTL’s procedures was not entitled to a presumption of exchange for “reasonably equivalent value” under Section 548. The Second Circuit also found the RPTL procedures “fundamentally at odds with the goals of bankruptcy law” in that they give the taxing authority a windfall at the expense of the bankruptcy estate, other creditors, and the debtors—“precisely what the [Bankruptcy] Code’s fraudulent conveyance provisions are intended to prevent.”

In light of the 4–3 split between federal circuits regarding the applicability of the Supreme Court’s reasoning in BFP to tax lien foreclosure proceedings, particularly those with “strict foreclosure” procedures, it is reasonable to assume this important issue will reach the Supreme Court.  

Barclay Damon’s Restructuring, Bankruptcy & Creditors’ Rights Practice Area will continue to provide timely updates regarding this important issue.

Barclay Damon’s Restructuring, Bankruptcy & Creditors’ Rights Practice Area issues alerts on an ongoing basis to keep clients and friends up to date on important developments in the insolvency space. If you have any questions regarding the content of this alert, please contact the author, Frank Heller, partner, at; Janice Grubin or Jeff Dove, co-chairs of the Restructuring, Bankruptcy & Creditors’ Rights Practice Area, at and, respectively; or Bob Wonneberger, partner, at


iBFP v. Resolution Trust, 511 U.S. 531 (1994).

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