Protection of Payments Received Monthly From Promissory Note

One of my clients holds an unsecured promissory note give to him as consideration for the sale of a business, and he receives monthly payments. He has a judgment against him. The judgment creditor may garnish note payments by serving a writ of garnishment upon the person who pays the note. I suggested that my client sell the note before payments are garnished. The client wants to know how much money he has to sell the note for to avoid having the sale undone as a fraudulent transfer.

Assets must be sold for reasonably equivalent value which is a slight discount to full fair market value. Promissory notes receivable have a market value, but the value is difficult to appraise. Unsecured notes are only as valuable as the reliability of their payments and the credit worthiness of the payer. If the payer defaults, the value of the note is decreased by legal expenses to foreclose against the collateral and collect from the payer personally. Future note payments must be discounted to consider the time value of money and the interest rate on the note also affects the present value. Still, there are professional business appraisers who appraise notes. In almost all cases the fair market value of a promissory note is substantially below the note’s face value.

There are investors who purchase discounted notes. If the client sells the note to an unrelated third party investor there would be a presumption that the note is sold at market value. If the client finds a family member or business associate to purchase the note, in part to do a favor for the client, the transaction would invite much greater scrutiny. Sale of the note in exchange from a note from the note purchaser, as opposed to cash, certainly would be challenged as a sham. The client should have the note appraised by an independent appraiser regardless the buyer. The sale price will be evaluated in the context of the appraisal to see if the sale is for less than reasonably equivalent value and reversible as a fraudulent transfer.

Selling the note is only the first step in the protection of the asset. Assuming the client receives a lump sum of cash for the note the cash would be subject to garnishment in the debtor’s bank account, and an assignment of the cash sale proceeds would be reversible as a fraudulent transfer. The client would have explore solutions to protect the note after it is sold and converted to cash.