Aug. 5 (Bloomberg) -- Crunch Fitness, the bankrupt gym operator, shouldn’t be allowed to sell all its assets to CH Fitness Investors LLC because the sale terms would extinguish $17.5 million in claims, creditors told a bankruptcy judge.

The unsecured creditors committee said in court documents filed yesterday that Crunch wrongly transferred $4.6 million to insiders including New York-based fund manager Angelo, Gordon & Co. in the year before its May 6 bankruptcy filing. It also transferred $12.9 million to secured creditors during the 90 days before it filed for court protection. That money should be recovered and distributed to all creditors under bankruptcy law, the group said.

“Demand letters to such creditors related to the return of the gross payments could yield a recovery for the unsecured creditors,” lawyers for the group wrote.

Crunch agreed to sell itself to CH Fitness, a pre- bankruptcy lender, for $40 million in a credit bid. Such bids allow lenders to use outstanding loans to buy indebted companies without paying cash.

CH Fitness can’t buy so-called avoidance claims at issue in the dispute using a credit bid because they weren’t part of the collateral for its loans, the creditors group said. If CH Fitness agrees to pay “fair consideration” for the avoidance claims, Crunch may consider selling them, the group said.

U.S. Bankruptcy Judge Robert Gerber in Manhattan said during a court hearing in May that Crunch obscured details about an insider sale to Angelo, Gordon. Under questioning from the judge, Crunch Fitness’s lawyer, Shmuel Vasser, said CH Fitness is 92 percent owned by Angelo, Gordon.

The case is In re AGT Crunch Acquisition LLC, 09-12889, U.S. Bankruptcy Court, Southern District of New York (Manhattan).

To contact the reporter on this story: Tiffany Kary in New York at tkary@bloomberg.net.

Last Updated: August 5, 2009 18:14 EDT