Equity Receiverships vs. Limited Purpose Receiverships

A receivership can be structured in a variety of ways based on the nature of the dispute, the goals and objectives of the parties, the type of asset(s) that will be placed under the control of a receiver as well as the ruling of the court. There are two core types of receiverships – a limited purpose and equity receivership. The following is a brief description of the differences between the two.

A limited purpose receivership vests the receiver with control over a particular asset or with a particular role. Examples include being appointed over real property. This is also known as a rents & profits case. Here, the receiver takes possession of real property but does not assume control over the ownership entity of that real property. Often, a rents & profits receiver will be appointed by the court due to a default by a borrow on a mortgage. Here, the lender seeks to protect its loan security – the real property, pending foreclosure. The loan documents often include a provision permitting a lender to seek appointment of receiver in the event of a loan default. The receiver may hold possession of and operate the property until such time as the property is foreclosed or there is another high bidder at the trustee’s sale. Once the receiver is served with a copy of the trustee’s deed, the receiver would then ordinarily turn over possession to the new owner. Sometimes, the receiver will sell the property and the sales proceeds will be distributed to secured and unsecured creditors based on seniority and priority, after notice to all creditors is distributed.

Another example of a limited purpose receiver includes a receiver to collect receivables for the benefit of a lender where the borrower has defaulted. Here, the receiver may contact the customers of the business and redirect them to pay the receiver all accounts receivables. The borrower’s bank account(s) may also be seized by the receiver if funds held in the account are derived from the receivables of the company.

An equity receivership is one where the receiver is appointed over the ownership entity of the real property or business itself. Here, the receiver has possession of all the assets and liabilities of the ownership entity as opposed to simply the collateral for a loan. The receiver handles all tax filings, partnership/shareholder distributions, creditor claims, corporate governance compliance and steps into the shoes of the owner(s) with most of the obligations of the owner. In addition, regulatory receiverships which might include the Federal Trade Commission, the Securities and Exchange Commission and other state government agencies seek appointment of equity receivers in connection with investor/consumer fraud.

In many instances, an equity receiver will be appointed in connection with actions filed due to the improper acts of management, shareholder, LLC or partnership disputes where one party alleges that it is damaged by the acts/omissions of others. The bar to appoint a receiver is very high as the employment of a receivership is often deemed to be the remedy of last resort. Harm, including diminution in value, breach of fiduciary duty, waste, fraud or other similar conditions are typically required in order to have an equity receiver appointed. Courts often seek alternative remedies that fall short of appointing a receiver; however, if the company assets are in imminent danger of being lost, concealed, converted or squandered, the court, after weighing the possible harm to the business/defendant, will then determine if an equity receiver is appropriate given the facts and circumstances of the case.

Equity receivership cases may be filed in either state or federal court while rents & profits receiverships are generally filed in state court. A limited purpose receivership will often have a shorter life-span than an equity receiver as it may be tied to a pending foreclosure and it will generally be less complicated and will involve a more narrow role for the receiver. A major area of concern for equity receivers are taxes. An equity receiver is obligated to notify taxing agencies of his/her appointment as equity receiver. This puts the taxing agencies on notice of the appointment of receiver and creates a procedure for them to submit a claim to the receivership estate. If an equity receiver distributes funds to creditors without first providing notice to taxing agencies, a receiver may have personal liability in connection with the tax obligations of the company. Similarly, a receiver must provide notice to trade creditor prior to seeking to have his/her final report and account approved by the court. If a creditor does not assert a claim within the bar date, the creditor’s rights to submit a claim against the estate is generally terminated.

When a receiver is appointed, a receivership estate is created. The duties, obligations, powers and authority of the receiver are set forth in the Order Appointing Receiver and any subsequent orders. Some states have form orders including the California Judicial Council. Many limited purpose real estate receiverships will be established based on the use of the form orders while most equity receivers will be appointed through a custom order which may be 20-30 pages long. When considering the appointment of a limited purpose or equity receivers, it is important to consider the background, training, experience and knowledge of the proposed receiver. Equity receiverships are often reserved for more experienced receivers who possess the requisite skillset to effectively administer the receivership estate.