Third Circuit: ‘Deepening Insolvency’ Is Unrelated To Negligence

The U.S. Court of Appeals for the Third Circuit has shed some light, and perhaps created more confusion, on a topic that has garnered a lot of attention lately—claims for "deepening insolvency." Deepening insolvency usually rests on an allegation that the debtor corporation was injured because of an artificial expansion of corporate debt and prolongation of corporate life.

In Gary Seitz v. Detweiler, Hershey and Assocs. (In re CITX Corp., Inc.), No. 05-2760 (3rd Cir. Apr. 27, 2006), the Third Circuit arrived at two important conclusions: (i) deepening insolvency is not a valid theory of harm for negligence; and (ii) negligence cannot support a claim for deepening insolvency.

CitX, an Internet company, issued shares of stock during the dot.com boom with the help of another company, PRSI. Through its offering, CitX raised nearly $700,000 while PRSI netted close to $18 million. PRSI turned out to be a fraudulent enterprise and eventually was forced into receivership by the Florida