Bankr. E.D.N.C.: Williams Land Clearing, Grading, and Timber Logger v. Apex Funding Source, LLC et al- Merchant Cash Advances are Usurious Loans

Summary:

In this extensive Chapter 11 adversary proceeding, the Bankruptcy Court for the Eastern District of North Carolina ruled on cross-motions for summary judgment concerning a Merchant Cash Advance (MCA) agreement between the debtor, Williams Land Clearing, and Apex Funding Source. The court held that the MCA was a loan, not a true sale, and that it was criminally usurious under New York law with an effective interest rate of 101.1% per annum. As such, the MCA agreement was void ab initio.

• Fraudulent transfer claim under § 548: Denied. The debtor received "reasonably equivalent value" because it had not repaid the full loan amount.
• Preference claim under § 547: Granted in part. A $30,159.42 payment made by the debtor’s customer (Domtar) to Apex within 90 days of the petition date was avoidable.
• Recovery under § 550: Correspondingly, the debtor could recover that amount for the benefit of the estate.
• Equitable subordination and objection to claim: To proceed to trial.
• Unfair and Deceptive Trade Practices (UDTPA): Partially allowed. The claim could not stand solely on the allegedly inflated proof of claim, but broader allegations of predatory lending survived summary judgment.
• Intervenor creditor CFI’s claims: Its attempt to claim the proceeds from the preference recovery as its own (due to a senior lien) failed. The court reiterated that Chapter 5 recoveries belong to the estate, even if based on collateral. CFI's claim for conversion also failed for lack of key elements, including possession and demand.
• All claims against Apex's attorney Yehuda Klein: Dismissed without evidentiary support.

Commentary:

This decision is the latest in a growing line of opinions treating MCA agreements as disguised, high-interest loans rather than true sales of receivables. While this case arises in a Chapter 11 context, it resonates strongly with issues in consumer bankruptcy:

• Recharacterization of MCAs as Loans: The court embraced the now-established methodology—relying heavily on Fleetwood Services, LG Funding, and In re Shoot the Moon—to look past contractual form and assess substance over labels. This reinforces the need for consumer bankruptcy attorneys to scrutinize "factoring" and "advance" agreements that mask usurious credit terms.
• Void Ab Initio Doctrine as Defensive Weapon: Importantly, the court clarified that while a debtor generally cannot bring a standalone affirmative claim under New York’s criminal usury law, a usurious MCA can be invalidated when asserted defensively in response to a proof of claim. This is a critical avenue in consumer bankruptcy, where lenders may file inflated claims based on void contracts.
• UDTPA as a Complementary Tool: The partial survival of the unfair and deceptive trade practices claim highlights that North Carolina’s UDTPA remains a viable mechanism to challenge predatory financial practices—even when bankruptcy displaces state contract law. While the court did not grant summary judgment on the claim, it allowed allegations of aggressive and misleading MCA marketing to proceed to trial, potentially enabling treble damages and attorney’s fees under N.C. Gen. Stat. § 75-16.
• Preference Recovery Benefits the Estate, Not Secured Creditors: For trustees and consumer debtor counsel alike, the ruling reaffirming that prepetition security interests do not attach to postpetition avoidance recoveries under § 550 is a strong reaffirmation of Hutson v. First-Citizens and the estate-centric philosophy of Chapter 5 powers. This helps preserve plan funding in Chapter 13 and liquidation dividends in Chapter 7.
• Attorney Involvement: The dismissal of all claims against Yehuda Klein reminds practitioners to carefully distinguish between the conduct of lenders and their counsel, unless evidence shows the attorney participated directly in tortious activity or was independently liable.

Even though this was a corporate debtor, many consumer debtors are entangled in MCA-like arrangements through small business ventures or gig economy work. This case provides a roadmap for:

• Objection to claims based on invalid contracts.
• Preference litigation against aggressive collectors.
• Rebuttal of "true sale" assertions that attempt to defeat avoidance actions.
• Use of UDTPA claims as leverage for settlements or affirmative recovery.

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