Bankruptcy

Is AIG Insolvent?

By Angie Littwin

Apparently just about every law professor in the country had the same reaction I did upon reading that the AIG bonuses were paid because the contracts were binding, a reaction that can probably be summed up as: ?What??? As a profession, we have been blogging up a storm. Several professors contributed to a New York Times forum on disputing the bonuses via contract law. Larry Tribe chimed in at the Atlantic on whether a 100 percent, retroactive bonus tax would be constitutional. (Surprisingly, the answer is a qualified yes.) At the risk of having only a hammer and thinking the bonus problem looks like a nail, I thought it was time to contribute my two cents on the applicability of fraudulent conveyance law. To be fair, Andrew Cuomo had the same idea, and his opinion has a bit more weight than mine.

A quick look reveals that New York has a pretty standard fraudulent transfer statute. Despite the use of the word ?fraudulent? in the title, actual fraud is not required. Cuomo will just have to show that AIG was insolvent at the time of the payments and that it did not receive fair value for its money. How much value AIG received in exchange for these bonuses is a little tricky because the employees presumably did show up for work on a daily basis. Do we look at whether they literally did the work specified in their contracts, or can we examine whether their services provided any value after taking into account the damage they caused the company?

The insolvency question is even more difficult. As a matter of common sense, if the government is spending billions of dollars rescuing a company, it darn well better be insolvent. But on a literal level, we bailed out AIG for the precise purpose of preventing it from becoming insolvent. One standard test for insolvency (which New York uses a version of) is whether the entity can pay its debts as they come due. AIG is able to pay its debts, but only because it received bailout funds ? and the reason it got that money was because the government was afraid it couldn?t pay its debts without it. The problem becomes almost circular because fraudulent conveyance law wasn?t written with bailouts in mind. It doesn't address the position of a company that would have been insolvent if the government hadn?t stepped in. As Adam Levitin pointed out on Credit Slips yesterday, there are about a million things Congress could have done to prevent this when it authorized the bailouts, but as it is, we?re stuck applying ordinary laws to an extraordinary situation.

By the way, I agree with Adam that undoing the AIG bonuses is much less important than sensibly re-regulating the financial industry and helping ordinary people weather the storm, but I still think there are important symbolic reasons for going after the bonus payments. Plus, maybe all this populist rage will finally push Congress into action on some important reforms to help people not in line for bonus payments ? like the primary-residence cramdown bill.

Full post as published by Credit Slips on March 18, 2009 (boomark / email).