The Fourth Circuit affirmed that the trustee could not recover the Customer Transfers because they were not transfers of "an interest of the debtor in property or any obligation incurred by the debtor" as required under sections 544(b)(1) and 548(a) of the Bankruptcy Code. It rejected the trustee's argument that under the agreements governing the Wachovia accounts, Wachovia simultaneously acquired an interest in the securities when the Debtor acquired an interest in the securities through the transfers. The trustee relied on Bear, Stearns Securities Corp. v. Gredd (In re Manhattan Investment Fund Ltd.) in which the bankruptcy court allowed a trustee to avoid transfers by a debtor into a broker's margin account. The Fourth Circuit distinguished the Customer Transfers from the transfers in Manhattan Investment, reasoning that the Customer Transfers involved transfers of securities by third parties (the Debtor's customers), rather than transfers by the Debtor. It explained that the transferred securities came to the Debtor, not from or through the Debtor.

Because the Debtor did not have rights in the securities until after they were transferred into the Wachovia accounts, the Fourth Circuit ruled that the Customer Transfers were simply not transfers of estate property. The purpose of avoidance provisions in the Bankruptcy Code is to prevent debtors from making transfers that diminish the bankruptcy estate to the detriment of creditors. Because the Customer Transfers were not transfers of estate property, they could not diminish the bankruptcy estate, and therefore could not be avoided.

The Fourth Circuit also rejected the trustee's argument that portions of the Customer Transfers could be avoided as "settlement payments" or "margin payments" under sections 548(a)(1)(A) and 546(e) of the Bankruptcy Code because funds from the Wachovia accounts were used to satisfy margin debt. However, the Fourth Circuit explained that because settlement payments and margin payments are protected only if they were made from debtor property, the defense did not apply.

The trustee argued that it could recover the Cash Transfers because Wachovia was the "initial transferee" of the property as required by section 550(a) of the Bankruptcy Code. Because the Bankruptcy Code does not define the term "initial transferee," the Fourth Circuit applied the "dominion and control test" to determine whether the Debtor qualified as the initial transferee. Under this test, an initial transferee must:

The trustee argued that the agreements governing the accounts granted Wachovia legal dominion and control over the assets transferred into those accounts and Wachovia exercised such control by removing commissions, margin interest and prepayment fees from those accounts. The Fourth Circuit, however, agreed with the bankruptcy court's conclusion that even if Wachovia had legal dominion and control over accounts, it did not exercise it because Wachovia did not control the flow of assets into or out of the accounts, nor use the accounts for its own purposes. Wachovia acted only at the direction and consent of the account holder. Therefore, Wachovia was not the initial transferee of the Cash Transfers, and they could not be avoided as fraudulent transfers.

First, the Fourth Circuit considered whether Wachovia's commissions and fees were protected from recovery by the stockbroker defense of section 546(e) of the Bankruptcy Code. Because the Fourth Circuit found the plain language of section 546(e) to ambiguous, it looked to legislative intent and case law to determine the definition of "settlement payment." It noted that the stated purpose of section 546(e) is to "preserve the stability of settled securities transactions" and "to clarify and, in some instances, broaden the commodities market protections and expressly extend similar protections to the securities market...to minimize the displacement caused in the commodities and securities markets in the event of a major bankruptcy affecting those industries." The Fourth Circuit also looked to the standard practices of the securities industry, industry texts and Black's Law Dictionary to hold that commissions and fees paid to a stockbroker as part of settling a regular securities transactions are protected settlement payments. However, it noted that certain commission payments, such as those that are paid for the solicitation of investors, are not protected settlement payments because they are not part of the settlement of securities transactions.

The trustee then argued that even if commissions and fees are generally protected settlement payments, Wachovia's commissions and fees were not customary and reasonable because they were uncommonly low, and therefore should not be protected under section 546(e) of the Bankruptcy Code. However, the Fourth Circuit was satisfied with evidence produced before the bankruptcy court that steeply discounted rates are not unusual for clients that provide a significant amount of business, and affirmed the bankruptcy court's holding that the commissions were customary and reasonable under industry standards.

Next, the Fourth Circuit affirmed the bankruptcy court's holding that the margin interest payments qualified as "margin payments" protected under section 546(e) of the Bankruptcy Code. It noted that like settlement payments, courts have interpreted margin payments broadly. The parties agreed that whether a margin interest payment constitutes a margin payment is determined by whether it reduces a deficiency in a margin account. The Fourth Circuit agreed with the analysis of the bankruptcy court that because accrued interest increases the total amount of debt owed, margin payments reduce the deficiency in a margin account, and therefore qualify as protected margin payments under section 546(e).

Finally, the trustee argued that the Fourth Circuit should exclude Wachovia's commissions, fees and margin payments from the stockbroker defense because "applying [the stockbroker defense] in the context of an alleged Ponzi scheme would allow a broker to retain ill-gotten profits and undermine the equitable goals of the Bankruptcy Code." The Fourth Circuit responded that section 546(e) includes several exceptions to the stockbroker defense, such as fraudulent transfers made with actual intent to hinder, delay or defraud. However, because the lower courts did not reach the issue of whether Wachovia committed actual fraud, the Fourth Circuit could not apply this exception to the stockbroker defense to allow the trustee to recover these payments.