Perkins v. Haines - Answer Brief

Case: 10-10683
Date Filed: 07/01/2010
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No. 10-10683-BB UNITED STATES COURT OF APPEALS FOR THE ELEVENTH CIRCUIT
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WILLIAMS F. PERKINS, PLAN TRUSTEE FOR INTERNATIONAL MANAGEMENT ASSOCIATES, LLC Plaintiff-Appellant, v. ANEA Y. HAINES, ET AL. Defendants-Appellees.
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On Appeal from the United States Bankruptcy Court for the Northern District of Georgia, No. 06-62966-PWB (The Honorable Paul W. Bonapfel, District Judge)
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BRIEF OF DEFENDANTS-APPELLEES GEORGE R. CURTIS, SR. LIVING TRUST, GEORGE R. CURTIS, SR., BETTY CURTIS, DAVID LAIRD FAMILY TRUST, DAVID LAIRD, DEBORAH H. LAIRD, KEITH O. BURKS, JAMES H. SHELTON, JAMES SHELTON, III, CORNELL SHELTON,TBC CAPITAL INC., X-SPURTS INVESTMENT CLUB OF ATLANTA, LLC, JOHN L. CARTER, DEXTER M. PAGE, WILLIAM L. HUTCHINSON, JR., RICARDO A. ARZU, PHILLIP E. HADLEY, ERICH G. RANDOLPH, LAVERNE HAMILTON-JONES, MARTIN D. JEFFRIES, MARCO D. COLEMAN, DAVID WISNESKI, MICHELE F. WISNESKI, LAWRENCE HOOPER, GREGORY HOOPER, ATLANTA PERINATAL ASSOCIATES, P.C., SYRETHA ANDREWS, ALICIA DORSEY, CAROL GRONE, BRADFORD BOOTSTAYLOR, WILLIE J. CLAY, RAYSHAWN F. CLAY, CARTOPIA, LLC, DECKO QUALITY SERVICES, LLC, CLAY REAL ESTATE HOLDINGS, INC., ANNETTE K. BOND, MT. NEBO BAPTIST LIFE CENTER, INC. AND VALERIE PEOPLES
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TIMOTHY W. MUNGOVAN NIXON PEABODY LLP 100 SUMMER STREET BOSTON, MASSACHUSETTS 02110 PH. 617-345-1000; FAX 617-345-1300 FOR GEORGE RUSSELL CURTIS, SR. LIVING TRUST , GEORGE RUSSELL CURTIS, SR., BETTY CURTIS, DAVID LAIRD FAMILY TRUST, DAVID LAIRD, AND DEBORAH H. LAIRD July 1, 2010
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TIMOTHY W. MUNGOVAN (MASS. BAR # 600702) JONATHAN SABLONE (MASS. BAR # 632998) LEE HARRINGTON (MASS. BAR # 643239) JOSHUA BARLOW (MASS. BAR # 667472) NIXON PEABODY LLP 100 SUMMER STREET BOSTON, MA 02110 617.345.1000 ATTORNEYS FOR DEFENDANTS APPELLEES GEORGE RUSSELL CURTIS, SR. LIVING TRUST, GEORGE RUSSELL CURTIS, SR. AND BETTY CURTIS ATTORNEYS FOR DEFENDANTS APPELLEES DAVID LAIRD FAMILY TRUST, DAVID LAIRD, AND DEBORAH H. LAIRD JONATHAN H. FAIN, ESQ. (GA. BAR # 254114) JONATHAN H. FAIN & ASSOC., PC 66 LENOX POINTE ATLANTA, GEORGIA 30324 404.968.2600
THOMAS M. BYRNE (GA. BAR # 101350) ANGELA R. FOX (GA. BAR # 131077) SUTHERLAND ASBILL & BRENNAN LLP 999 PEACHTREE STREET, NE ATLANTA, GEORGIA 30309-3996 404.853.8000 ATTORNEYS FOR DEFENDANTS APPELLEES KEITH O. BURKS, JAMES H. SHELTON, JAMES SHELTON, III, CORNELL SHELTON AND TBC CAPITAL INC.
KEVIN A. STINE (GA. BAR # 682588) JOSHUA TROPPER (GA. BAR # 716790) BAKER, DONELSON, BEARMAN, CALDWELL & BERKOWITZ, PC SUITE 1600, MONARCH PLAZA 3414 PEACHTREE ROAD, N.E. ATLANTA, GA 30326 404.577.6000
ATTORNEYS FOR DEFENDANTS ATTORNEYS FOR DEFENDANTS APPELLEES X-SPURTS INVESTMENT APPELLEES ERICH G. RANDOLPH AND CLUB OF ATLANTA, LLC, JOHN L. LAVERNE HAMILTON-JONES CARTER, DEXTER M. PAGE, WILLIAM L. HUTCHINSON, JR., RICARDO A. ARZU AND PHILLIP E. HADLEY
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HEATHER D. BROWN (GA. BAR # 100169) MARK A. KELLEY (GA. BAR # 412325) KITCHENS KELLEY GAYNES, PC ELEVEN PIEDMONT CENTER, SUITE 900 3495 PIEDMONT ROAD, N.E. ATLANTA, GA 30305 404.237.4100 ATTORNEYS FOR DEFENDANT APPELLEE MARTIN D. JEFFRIES CHRISTOPHER D. PHILLIPS (GA. BAR # 575913) LAMBERTH, CIFELLI, STOKES, ELLIS & NASON, P.A. 3343 PEACHTREE ROAD, N.E. EAST TOWER, SUITE 550 ATLANTA, GA 30326-1022 ATTORNEYS FOR DEFENDANTS APPELLEES DAVID WISNESKI AND MICHELE FRANCINE WISNESKI
SHARON M. LEWONSKI (GA. BAR # 451818) EPSTEIN BECKER & GREEN, P.C. 945 EAST PACES FERRY RD., SUITE 2700 ATLANTA, GA 30326-13805 404.923.9000 ATTORNEYS FOR DEFENDANT APPELLEE MARCO D. COLEMAN
SBLEND A. SBLENDORIO (CA. BAR # 109903) CATOSHA L. WOODS (CA. BAR # 228640) HOGE, FENTON, JONES & APPEL, INC. 4309 HACIENDA DRIVE, SUITE 350 PLEASANTON, CA 94588 TELEPHONE: 925.460.3365 ATTORNEYS FOR DEFENDANTS APPELLEES LAWRENCE HOOPER AND GREGORY HOOPER ADMITTED PRO HAC VICE
WILLIAM R. LESTER (GA. BAR # 447725) SEGAL, FRYER, SHUSTER & LESTER, P.C. 1050 CROWN POINTE PKWY., SUITE 410 ATLANTA, GA 30338 77.668.9300 ATTORNEYS FOR DEFENDANTS APPELLEES ATLANTA PERINATAL ASSOCIATES, P.C., SYRETHA ANDREWS, ALICIA DORSEY, CAROL GRONE, DEXTER M. PAGE AND BRADFORD BOOTSTAYLOR
PAUL M. SPIZZIRRI (GA. BAR # 672752) SPIZZIRRI LAW OFFICES MIDTOWN PROSCENIUM CENTER, 1170 PEACHTREE STREET N.E., SUITE 1200 ATLANTA, GA 30309 800.714.7471 ATTORNEYS FOR DEFENDANTS APPELLEES WILLIE J. CLAY, RAYSHAWN FRANCIS CLAY, CARTOPIA, LLC, DECKO QUALITY SERVICES, LLC, AND CLAY REAL ESTATE HOLDINGS, INC.
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JAMES K. KNIGHT, JR. (GA. BAR # 425750) 401 ATLANTA STREET MARIETTA, GA 30060 770.428.5250 ATTORNEY FOR DEFENDANT APPELLEE ANNETTE K. BOND
GREGORY T. BAILEY (GA. BAR # 032075) 571 CULBERSON STREET ATLANTA, GA 30310 404.397.1975 ATTORNEY FOR DEFENDANT APPELLEE MT. NEBO BAPTIST LIFE CENTER, INC.
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CERTIFICATE OF INTERESTED PERSONS AND CORPORATE DISCLOSURE STATEMENT Abdur-Rabbani, Ibrahim Adams, Edwana Anand, Esq., Justin Anderson, Ivy Andrews, Syretha Atlanta Perinatal Associates, P.C. Atlanta Verve, LLC Atwater, Stephen Arzu, Ricardo A. Bailey, Erroll J. Bailey, Esq., Gregory T. Baker, Scott G. Baker, Donelson, Bearman, Caldwell & Berkowitz, P.C. Barlow, Esq., Joshua S. Barrett, Thomas Bates, Esq. Bryan E., counsel to Committee of Investors formed pursuant to Plan of Reorganization Bernardino, Esq., Colin M., counsel to William F. Perkins, Plan Trustee Bishop, Blaine E., member of Committee of Investors formed pursuant to Plan of C-1 of 12
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Reorganization Bishop, J. Michael Bonapfel, Judge Paul W., Bankruptcy Judge Bond, Annette K. Bootstaylor, Bradford Bradylyons, Esq., Morgan Braxton, James Broadfoot, Esq., Herbert C. Bronner, James Bronner, Nathaniel Bronner, Simone Brossard, Mario & Charisse Brown, Esq., Heather D. Brumbaugh, Esq., Thomas D. Bryan, Delmena Burkes, Keith O. Burnett, Theodore Busskohl, Charles, member of Committee of Investors formed pursuant to Plan of Reorganization Byrne, Esq., Thomas M.
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Carter, John L. Carter, Michael Cartopia, LLC Central Georgia Anesthesia Services, PC Champagne, Jessie & Joyce Clay, Rayshawn F. Clay, Willie J. Clay Real Estate Holdings, Inc. Coleman, Esq., Michael V. Coleman, Marco D. Costell, Esq., Jeffrey Lee Cranshaw, Esq., David W. Culton, Leroy Curtis, Betty Curtis, George R., Sr. Cutright, Eric Daniels, Jerry A. Daniels, LLC, Jerry A. Danowitz, Esq., Edward F. David Laird Family Trust
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Davis, Craig Davis, Jo Ann Braxton Dearing, Jr., PC, James E. Decko Quality Services, LLC Delk, Esq., Glenn A. DeRobbio, Paul Dorsey, Alicia Eason, Esq., Rodney L. Edwards, Cheryl Edwards, III, Robert L. Edwards, Joan Edwards, Terrence J. Elko, Alison M., former counsel to William F. Perkins, Plan Trustee Emerald II Fund, LP, Debtor Epstein, Becker & Green, P.C. Eskridge, DeCarlo Eskridge, G. Amanda Fain, Esq., Jonathan H. Farmer, Esq., Kevin M. Flint, Cara
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Fox, Esq., Angela R. Friday, Kheisha Frison, Jr., Lee A. Fryer, Schuster & Lester, P.C. Gallassero, William J. Gardner, Joseph and Lydia Gayle, Raquel M. Gebhardt, Esq., Guy G. Geddes, Dr., Lloyd George R. Curtis, Sr. Living Trust Georgia Department of Revenue Gist, Keenan P. Gordon, David E., counsel to Committee of Investors formed pursuant to Plan of Reorganization Greenberg Traurig LLP Grone, Carol Grover, Jaswinder S., member of Committee of Investors formed pursuant to Plan of Reorganization GTO Development, LLC Hadley, Phillip E.
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Haines, Aena Y. Hall, Duvall & Claude Hall, Evelyn Hall, Keeling Hamilton-Jones, Laverne Harley-Lewis, Erinn F. Harrington, Esq., Lee Hays & Associates Herbert, Glenn M. Hinckson, Terrence Hines, Bruce A. and Cynthia Hoge Fenton Jones & Appel, Inc. Holbein, Esq., Michael F. Hooper, Gregory Hooper, Lawrence Hutchinson, Jr., William L. IMA Real Estate Fund, LLC, Debtor Internal Revenue Service International Management Associates, LLC, Debtor International Management Associates Advisory Group, LLC, Debtor
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International Management Associates Platinum Group, LLC, Debtor International Management Associates Emerald Fund, LLC, Debtor International Management Associates Taurus Fund, LLC, Debtor International Management Associates Growth & Income Fund, LLC, Debtor International Management Associates Sunset Fund, LLC, Debtor International Medical Systems, LLC Investment Law Group of Gillett, Mottern Jackson, Linda C. Jeffries, Martin D. Jeter, George L. Johnson, William E., member of Committee of Investors formed pursuant to Plan of Reorganization Jonathan H. Fain and Associates, P.C. Jones, Laverne Jones, Vicki L. July, Clarence & Valerie Kaufman, Esq., Mark S., counsel to Committee of Investors formed pursuant to Plan of Reorganization Kelley, Esq., Mark A. Kilpatrick Stockton LLP, counsel to William F. Perkins, Plan Trustee
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Kitchens, Kelley, Gaynes, P.C. Knight, Jr., Esq., James K. LaBriola, Esq., Stephen T. Laird, David Laird, Deborah H. Lamberth, Cifelli, Stokes & Stout, P.A. Layne, Esq., Bernadine H. Lester, Esq., William R. Lewonski, Esq., Sharon M. Louis, Charles H. Mair, Manuel F. Mair, Suzanne Maughan, John & Roxanne McBryan, Esq., Louis G. McDade, William McDonnell, Esq., Robert H. McKenna Long & Aldridge LLP, counsel to Committee of Investors formed pursuant to Plan of Reorganization McManners, Thomas P. Meir, Esq., Dennis S., counsel to William F. Perkins, Plan Trustee
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Miller, Hyacinth Mills, III, Esq., John W., former counsel to William F. Perkins, Plan Trustee Monnin, Esq., Paul Moore, Joseph Mottern, Esq., Robert J. Mt. Nebo Baptist Life Center, Inc. Mungovan, Esq., Timothy W. Noble, Horace Nixon Peabody, LLP ONeal, Roger L., member of Committee of Investors formed pursuant to Plan of Reorganization Office of United States Trustee Page, Dexter M. Paris, Calvin Passyn, Esq., Juanita A. Peoples, Valerie Peoples-Wisneski, Michelle Perkins, William F., Plan Trustee Perkins, William T. Perman, Jenny Lynn
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Perman, Todd Phillips, Esq., Christopher D. Pinkney, Carol Pinkney, Laura Pinkney, Roland Platinum II Fund, LP, Debtor Pollack, Charles I. Porter, Jr., John C. Qudsi, Mustafa Randolph, Erich G. Redfern, Fred C. & Sherri D. Reese, James Eric Regan, Sr., Stephen Ricciardi, Anthony Robison, David and Joni Roger ONeal Family Trust Rossi, Elayne R. Rue, James A. Sablone, Esq., Jonathan Sacca, Esq., James R.
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Sblendorio, Esq., Sblend A. Secret, Esq., Akil Kenneth Seymour, Booker T. Shelton, Cornell Shelton, III, J. Shelton, James Spikes, Takeo Spizzirri, Esq., Paul M. Spizzirri Law Offices Star 6 Investments, Ltd. Steele, Algernon O. Stein, Esq., Grant T. Stine, Esq., Kevin Sutherland Asbill & Brennan, LLP Tarabadkar, Dr., Sanjiwan TBC Capital, Inc. Thompkins, Karen Tillett, Colleen H., former counsel to William F. Perkins, Plan Trustee Treace, R. Jeneane Trigg, Esq., Mark G.
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Tropper, Esq., Joshua U.S. Securities and Exchange Commission Wang, Ben Chang Whonder, Ernest Williams, Chasta N. Williams-Cochrane, Rodney Williamson, J. Robert Wilson, Craig A. & Carole Wisneski, David Wisneski, Michelle F. Withers, Bruce & Renee Woods, Esq., Catosha L. Work, Frederick T. Worthy-Pickett, Cheryl X-Spurts Investment Club of Atlanta, LLC
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TABLE OF CONTENTS TABLE OF CONTENTS........................................................................................... i TABLE OF CITATIONS......................................................................................... iii I. II. STATEMENT OF THE ISSUES ................................................................... 1 STATEMENT OF THE CASE ...................................................................... 1 A. B. C. III. IV. PROCEDURAL HISTORY.......................................................................... 1 STATEMENT OF THE FACTS.................................................................... 5 STANDARD OF REVIEW .......................................................................... 7
SUMMARY OF THE ARGUMENT ............................................................. 7 ARGUMENT.................................................................................................. 9 A. AS VICTIMS OF A PONZI SCHEME, THE DEFRAUDED INVESTORS GAVE VALUE WHEN THEY REDEEMED SOME OR ALL OF THEIR INVESTED PRINCIPAL ACCORDING TO THE GENERAL RULE. ................................. 9 1. Under the general rule, the Defrauded Investors held a claim for rescission immediately upon making their investment in the fraudulent scheme and, when the Defrauded Investors redeemed some or all of their principal, their rescission claim was reduced by each dollar of principal redeemed......................................... 9 The general rule is consistent with well settled concepts used to evaluate whether a transferee gave value............................. 12 The definitions of value, claim and debt set forth in the Bankruptcy Code and applicable state statutes support the general rule. .......................................................................... 15
2.
3.
B.
THE DISTINCTION BETWEEN DEBT AND EQUITY IS IRRELEVANT TO THE FOR VALUE ANALYSIS IN THE CONTEXT OF A PONZI SCHEME. .... 19 1. As the Bankruptcy Court found, [t]he case law does not make the distinction the Trustee proposes. ...................................... 19
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2.
The Trustees distinction based on the form of the Defrauded Investors investment is based on a fundamental misunderstanding of Eby.......................................................... 25 Terry Manufacturing is inapposite to the facts before this Court. .................................................................................................. 34
3. C.
THE TRUSTEES POLICY ARGUMENTS CANNOT OVERCOME HIS CLASH WITH WELL-SETTLED LAW. .................................................................. 36 1. The Bankruptcy Courts ruling is premised on bedrock bankruptcy principles of claim priority and equal treatment of similarly situated claimants...................................................... 36 The Trustee relies on inapplicable portions of the Bankruptcy Code to support his contrived argument. ................................. 37
2. D. E.
THE TRUSTEES PROPOSED MODE OF REDISTRIBUTION IS NO FAIRER THAN THAT IMPOSED BY THE GENERAL RULE. .................................. 38 THE TRUSTEES ARGUMENT IS PRECLUDED BY THE DOCTRINES OF RES JUDICATA AND ESTOPPEL...................................................................... 41 1. The Trustee is barred by the doctrine of res judicata from claiming that the Defrauded Investors are not debt-holders. ... 43 The Trustee is also barred by the doctrine of estoppel from claiming that the Defrauded Investors are not debt-holders. ... 45
2. V.
CONCLUSION............................................................................................. 47
ii
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TABLE OF CITATIONS Page(s) CASES Ainsworth v. Perreault, 563 S.E. 2d 135 (Ga. Ct. App. 2002)................................................................. 11 Atlanta Retail, Inc. v. Eastman Kodak Co. (In re Atlanta Retail, Inc.), 294 B.R. 186 (Bankr. N.D. Ga. 2003) ............................................................... 46 Battle v. Liberty Mut. Fire Ins. Co., 623 S.E.2d 541 (Ga. Ct. App. 2005).................................................................. 46 Burnes v. Pemco Aeroplex, Inc., 291 F.3d 1282 (11th Cir. 2002) ......................................................................... 45 Camp v. Carithers, 65 S.E. 583 (Ga. Ct. App. 1909)........................................................................ 11 Daniel v. Dalton News Co., 172 S.E. 727 (Ga. Ct. App. 1934)...................................................................... 11 Dicello v. Jenkins (In re International Loan Network, Inc.), 160 B.R. 1 (Bankr. D.C. 1993) .......................................................................... 10 Donell v. Kowell, 533 F.3d 762 (9th Cir. 2008) ...................................................................... passim Eubanks v. FDIC, 977 F.2d 166 (5th Cir. 1992) ............................................................................. 43 First Union Commercial Corp. v. Nelson Mullins, Riley & Scarborough (In re Varat Enters., Inc.), 81 F.3d 1310 (4th Cir. 1996) ............................................................. 4, 34, 37, 43 Gray v. Manklow (In re Optical Techs., Inc.), 246 F.3d 1332 (11th Cir. 2001) ..................................................................... 7, 41 Gunnin v. Dement, 422 S.E. 2d 893 (Ga. Ct. App. 1992)................................................................. 11
iii
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Hildebrandt v. Ill. Dep't of Natural Res., 347 F.3d 1014 (7th Cir. 2003) ........................................................................... 41 Hovis v. General Dynamics Corp. (In re Hovis), 396 B.R. 895 (D.S.C. 2007)............................................................................... 45 In re Chase & Sanborn Corp., 904 F.2d 588 (11th Cir. 1990) ........................................................................... 16 In re Hedged-Investments Associates, Inc., 84 F.3d 1286 (10th Cir. 1996) ............................................................... 31, 32, 33 In re Terry Mfg Co., Inc., 2007 WL 274319 (M.D. Ala 2007) ............................................................. 34, 35 In re USinternetworking, Inc., 310 B.R. 274 (Bankr. D. Md. 2004) .................................................................. 45 In re Young, 294 F. 1 (4th Cir. 1923)...................................................................................... 27 Jobin v. Cervenka (In re M&L Bus. Mach. Co.), 194 B.R. 496 (D. Colo. 1996)............................................................................ 10 Jobin v. McKay (In re M&L Bus. Mach. Co.), 84 F.3d 1330 (10th Cir. 1996) ............................................................... 10, 17, 20 Johnson v. Studholme, 619 F.Supp. 1347 (D. Colo. 1985)......................................................... 31, 32, 41 Kingsley v. Wetzel (In re Kingsley), 518 F.3d 874 (11th Cir. 2008) ............................................................................. 7 Kovacs v. Hanson (In re Hanson), 373 B.R. 522 (N.D. Ohio 2007)......................................................................... 13 Levine v. Custom Carpet Shop, Inc. (In re Flooring Am., Inc.), 302 B.R. 394 (Bankr. N.D. Ga. 2003) ............................................................... 17 Lisle v. John Wiley & Sons, Inc. (In re Wilkinson), 196 Fed. Appx. 337 (6th Cir. 2006)................................................................... 13
iv
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Mazzeo v. United States (in Re Mazzeo), 131 F.3d 295 (2d Cir. 1997)......................................................................... 17, 18 Merrill v. Abbott (In re Independent Clearing House, Inc.), 77 B.R. 843 (D. Utah 1987)................................................................... 10, 17, 20 Midwest Holding # 7, LLC v. Anderson (In re Tanner Family, LLC), 556 F.3d 1194 (11th Cir. 2009) ......................................................................... 16 Official Comm. of Asbestos Pers. Injury Claimants v. Sealed Air Corporation (In re W.R. Grace & Co.), 281 B.R. 852 (Bankr. D. Del. 2002) .................................................................. 14 Rauch v. Shanahan, 189 S.E. 2d 111 (Ga. Ct. App. 1972)................................................................. 11 Rosenberg v. Collins, 624 F.2d 659 (5th Cir. 1980) ............................................................................. 10 Scholes v. African Enter., Inc., 854 F. Supp. 1315 (N.D. Ill. 1994) .............................................................. 10, 31 Scholes v. Ames, 850 F.Supp. 707 (N.D. Ill. 1994) ....................................................................... 31 Southmark Corp. v. Trotter, Smith & Jacobs, 442 S.E.2d 265 (Ga. Ct. App. 1994).................................................................. 45 Wootton v. Barge (In re Cohen), 875 F.2d 508 (5th Cir 1989)................................................................................ 42 Wyle v. C.H. Rider & Family (In re United Energy Corp.), 944 F.2d 589 (9th Cir 1991) ....................................................................... passim STATUTES 11 U.S.C. 101 ................................................................................................ passim 11 U.S.C. 544 ......................................................................................................... 2 11 U.S.C. 548 ................................................................................................ passim 11 U.S.C. 1102 ....................................................................................................... 1
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11 U.S.C. 1141 ..................................................................................................... 43 O.C.G.A. 13-5-5................................................................................................... 11 O.C.G.A. 18-2-73................................................................................................. 16 O.C.G.A. 18-2-78.......................................................................................... passim O.C.G.A. 23-2-60................................................................................................. 11 OTHER AUTHORITIES Fed. R. Bankr. P. 7056 .............................................................................................. 7 Fed. R. Civ. P. 56 ...................................................................................................... 7
vi
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I.
STATEMENT OF THE ISSUES Whether, as a matter of law, defrauded investor defendants who each made
an investment in a debtor entity, which at all relevant times was operated as a Ponzi scheme, and thereafter received redemptions of their principal investment received such redemptions for value as required to establish a defense to fraudulent transfer claims under 11 U.S.C. 548(c) and O.C.G.A. 18-2-78(a) or similar state laws. II. STATEMENT OF THE CASE A. PROCEDURAL HISTORY
On March 16, 2006 (the Petition Date), the substantively-consolidated debtors (the Debtors) each filed voluntary petitions for relief under Chapter 11 of Title 11 of the United States Code (the Bankruptcy Code). On March 27, 2006, the United States Trustee appointed a committee of investors pursuant to 11 U.S.C. 1102(a) (the Committee). On April 20, 2006, the United States Trustee appointed William F. Perkins (the Trustee) as Chapter 11 trustee of the Debtors. The Defendants-Appellees set forth on Exhibit A hereto are each defrauded investor defendants (the Defrauded Investors)1 in certain adversary proceedings
1
In an effort to streamline the appeal process, and to minimize the burden on the Court, the Defrauded Investors have agreed to prepare and file a unified brief in response to the Trustees Principal Brief. Because the arguments advanced in this Brief are common to all Defendants-Appellees not just the
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(the Avoidance Actions) commenced against them by the Trustee. The Trustee filed 108 adversary proceedings in which he seeks to avoid and recover transfers which the Debtors made to the investor Defendants-Appellees as a return of some or all of their principal investments and, in some cases, as a distribution of allegedly fictitious profits. The Trustee seeks recovery of the challenged transfers based on his powers of avoidance and recovery under fraudulent transfer law at 11 U.S.C. 548(a)(1)(A) and (B) or applicable state law pursuant to 11 U.S.C. 544(b). The Trustee argues that the Debtors estate should recover the challenged transfers because they were not an exchange for value. In response, the Defrauded Investors have asserted their affirmative statutory defenses including, inter alia, a defense under 11 U.S.C. 548(c) and analogous state law. Section 548(c) provides that a transferee that takes for value and in good faithmay retain any interest transferredto the extent that such transferee gave value to the debtor in exchange for such transfer. 11 U.S.C. 548(c). Similarly, under applicable state law, [a] transferis not voidableagainst a
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Defrauded Investors the Court should treat this Brief as having been filed for the benefit of all Defendants-Appellees.
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person who took in good faith and for a reasonably equivalent value. O.C.G.A. 18-2-78. Pursuant to Rule 7056 of the Federal Rules of Bankruptcy Procedure, the Trustee filed a motion (the Motion for Partial Summary Judgment) seeking an order by the Bankruptcy Court that, as a matter of law, the Defrauded Investors cannot establish the for value element of their affirmative defense on grounds that redemptions of principal received by the Defrauded Investors were not transfers of value. Doc. 4. For purposes of considering the Trustees Motion for Partial Summary Judgment, the Bankruptcy Court consolidated the Avoidance Actions into a single Miscellaneous Proceeding.2 Doc. 1. On December 1, 2009, the Bankruptcy Court entered an Order (the Order) denying the Trustees Motion for Partial Summary Judgment. Doc. 38. In its Order, the Bankruptcy Court recognized the general rule in the context of a Ponzi scheme which is that a defrauded investor receives value to the extent of the principal amount of its investment but not with regard to any payments in excess of principal.3 Doc. 38 at p. 6. The Bankruptcy Court rejected
Miscellaneous Proceeding No. 09-MP-601, United States Bankruptcy Court for the Northern District of Georgia. The Bankruptcy Court limited its focus to the issue of avoidance and recovery of principal contributions by the Defrauded Investors and did not address the
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the Trustees argument that the general rule cannot apply in the Avoidance Actions because the investors acquired equity positions in the Debtors for three reasons. The Bankruptcy Courts analysis was straight-forward and clear. First, well-established case law has uniformly established the general rule allowing a defrauded investor to retain payments it receives up to the amount of its invested principal and interpretation of the fraudulent transfer laws has made no distinction based on the form of the investment. Id. at pp. 11-12. Second, the Bankruptcy Court concluded that no principled basis exists for a different result depending on the technical form of the fraudulent investment because it is the substance, not the form, of the transactions that governs the reallocation of assets in the aftermath of the collapse of the Ponzi scheme. Id. at p. 12. Third, the Bankruptcy Court found that bankruptcy law principles recognizing the priority of debt creditors over the equity interests of an enterprises owners do nothing to further the Trustees argument because in a Ponzi scheme any reallocation of the debtors assets is limited to the same class, that is, persons who have been
issue of whether payments in excess of principal could be avoided and recovered by the Trustee. Doc. 38 at p. 8, n. 9.
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fraudulently induced into unknowingly participating in the fictitious scheme. Id. at pp. 12-13. Concurrent with the issuance of its Order, the Bankruptcy Court certified the legal question presented for immediate review by this Court. Doc. 39. The Trustee then filed a Petition for Leave to Appeal from the Bankruptcy Courts Order, which this Court granted by order dated February 17, 2010. The Trustee filed his Principal Brief with this Court on April 23, 2010. The Defrauded Investors now jointly submit this Responsive Brief. B. STATEMENT OF THE FACTS
In order to address the legal issue before it, the Bankruptcy Court assumed, for purposes of the Trustees Motion for Partial Summary Judgment only, the Trustee established his prima facie case for the recovery of fraudulent transfers from the Defrauded Investors.4 Doc. 38 at p. 8. As set forth in the Bankruptcy Courts Order and Certification of Direct Appeal, for the purposes of this appeal the following facts are assumed: (i) Kirk Wright formed the Debtors purportedly to manage and operate as hedge funds, each of which was structured either as a
4
The Bankruptcy Courts assumption of these facts, however, did not constitute a determination of any of the assumed facts. Doc. 38 at p. 8. Therefore, even if the Trustee prevails he must still establish the existence of a Ponzi scheme and, for each [Defrauded Investor], the factual and legal bases for a determination that each transfer in question is recoverable as a fraudulent transfer. Id. at pp. 8-9.
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limited liability company or a limited partnership; (ii) in reality, Wright used the Debtors at all material times to operate a fraudulent Ponzi scheme whereby capital contributions made into the Debtors by later investors were used to knowingly pay earlier investors more than their investments were actually worth, including nonexistent principal and fictitious profits, to perpetuate the illusion that the Debtors had positive investment gains, to keep existing investors from seeking recovery of their investments, and to induce prospective investors to make new investments; (iii) each of the Defrauded Investors made a capital contribution through execution of a limited liability company agreement, a limited partnership agreement, and/or a subscription agreement with one or more of the Debtors such that the Defrauded Investors held an interest in one or more of the Debtors denominated as a membership unit or a limited partnership interest; (iv) during the operation of the scheme, investors requested and received transfers from the Debtors, representing returns of principal and/or purported profits on their investments; and (v) at some time during the operation of the scheme, each Defrauded Investor received one or more transfers of property from one or more of the Debtors on account of such Defrauded Investors interest in one or more of the Debtors. Id. at pp. 9-10; Doc. 39 at pp. 2-3.
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C.
STANDARD OF REVIEW
A bankruptcy court's ruling as to summary judgment is reviewed de novo, applying the same legal standard used by the bankruptcy court. See Kingsley v. Wetzel (In re Kingsley), 518 F.3d 874, 876 (11th Cir. 2008) (applying the same standard for summary judgment as the bankruptcy court); Gray v. Manklow (In re Optical Techs., Inc.), 246 F.3d 1332, 1334 (11th Cir. 2001) (explaining "that an appellate court reviews a bankruptcy court's grant of summary judgment de novo"); Fed. R. Bankr. P. 7056 (making Fed. R. Civ. P. 56's summary judgment standard applicable in bankruptcy adversary proceedings). Summary judgment is proper "if the pleadings, the discovery and disclosure materials on file, and any affidavits show that there is no genuine issue as to any material fact and that the movant is entitled to judgment as a matter of law. Fed. R. Civ. P. 56(c)(2). This Court must view all evidence and make all reasonable inferences in favor of the nonmoving party in making this determination. In re Optical Techs., Inc., 246 F.3d at 1334. III. SUMMARY OF THE ARGUMENT The Trustees Principal Brief conflicts with decades of well-settled case law. At the behest, and upon the advice of the Committee,5 the Trustee urges the Court
While the Trustee was the nominal proponent of the Motion for Partial Summary Judgment and this appeal, the Committee and its legal counsel were
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to hold that victimized investors, like the Defrauded Investors, who have restitution and rescission claims against an enterprise that is determined to be a Ponzi scheme, cannot meet the for value prong of a fraudulent transfer defense under either state or bankruptcy law. In essence, the Trustee argues, without support and against the weight of precedent, that value for the purposes of establishing a defense to avoidance and recovery does not exist under a restitution theory when the initial investment at issue is equity rather than debt. The Trustee argues that such equity investments should not be transmuted retroactively into debt for the purposes of establishing a defense to avoidance and recovery. According to the Trustee, this transmutation should not occur because the claims at issue are unasserted latent restitution claims and, therefore, are not yet antecedent. Thus, the Trustee concludes that no value was given in exchange for the challenged transfers because the equity redeemed was worthless. As discussed below, the Trustees position collides with a wave of contrary case law, as the Trustee largely concedes. The only bankruptcy court case that the Trustee can find to support his position did not involve a Ponzi scheme. Overwhelmed by precedent, as recognized by the Bankruptcy Court in its Order,
the principal architects of the Motion for Partial Summary Judgment and the Trustees Principal Brief. See PBr. at p. 3, n. 2.
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the Trustees argument necessarily relies on rhetorical flourishes and invented terminology such as claims 2 and transmutation without articulation that is apparently intended to create some counterweight to established law. The Trustees reliance on terminology, unavailing below, must also fail here on appeal in the face overwhelming contrary authority. For the reasons set forth below, the Defrauded Investors respectfully request that the Court affirm the Bankruptcy Courts Order denying the Trustees Motion for Partial Summary Judgment. IV. ARGUMENT A. AS VICTIMS OF A PONZI SCHEME, THE DEFRAUDED INVESTORS GAVE VALUE WHEN THEY REDEEMED SOME OR ALL OF THEIR INVESTED PRINCIPAL ACCORDING TO THE GENERAL RULE. 1. Under the general rule, the Defrauded Investors held a claim for rescission immediately upon making their investment in the fraudulent scheme and, when the Defrauded Investors redeemed some or all of their principal, their rescission claim was reduced by each dollar of principal redeemed.
In fraudulent transfer actions seeking recovery under a theory of constructive fraud,6 the plaintiff trustee must establish, inter alia, that the debtor received less than reasonably equivalent value in exchange for the challenged
The Trustee has neither alleged nor presented evidence that any of the Defrauded Investors are liable for actual fraud.
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transfer. See 11 U.S.C. 548(a)(1)(B). Conversely, a defendant in a constructive fraud case can establish a defense to the action if it can demonstrate that it received the transfer in good faith and for value. See id.; O.C.G.A. 18-2-78(a). In Ponzi scheme cases, courts have uniformly held that a claim for restitution or rescission arises against the fraudster at the time that the investment is made for the amount of money invested in the scheme. See e.g. Wyle v. C.H. Rider & Family (In re United Energy Corp.), 944 F.2d 589, 596 (9th Cir 1991); Rosenberg v. Collins, 624 F.2d 659, 661 (5th Cir. 1980); Scholes v. African Enter., Inc., 854 F. Supp. 1315, 1326 (N.D. Ill. 1994). When an investor redeems some or all of its principal, each dollar of principal redeemed reduces the defrauded investors corresponding restitution or rescission claim. See e.g. Jobin v. McKay (In re M&L Bus. Mach. Co.), 84 F.3d 1330, 1340-41 (10th Cir. 1996); In re United Energy Corp., 944 F.2d at 595; Jobin v. Cervenka (In re M&L Bus. Mach. Co.), 194 B.R. 496, 501 (D. Colo. 1996); Merrill v. Abbott (In re Independent Clearing House, Inc.), 77 B.R. 843, 861 (D. Utah 1987); Dicello v. Jenkins (In re International Loan Network, Inc.), 160 B.R. 1, * 12 (Bankr. D.C. 1993). Courts have uniformly held in Ponzi scheme cases that this return of principal satisfies an antecedent debt and constitutes value for the purposes of establishing a defense to fraudulent transfer claims under 11 U.S.C. 548(c) and O.C.G.A. 18-2-78(a) or correlative state laws. See id.
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Under Georgia law, the Defrauded Investors held the same substantive rights to rescission or restitution arising at the time of their initial investments. It is well settled that fraudulent inducement of an investment is actionable in Georgia. See Gunnin v. Dement, 422 S.E. 2d 893, 896 (Ga. Ct. App. 1992) (affirming jury verdict in favor of defrauded investor in motorcycle franchise on claim for rescission); Daniel v. Dalton News Co., 172 S.E. 727, 728-29 (Ga. Ct. App. 1934); Camp v. Carithers, 65 S.E. 583, 585-86 (Ga. Ct. App. 1909). The defrauded investor holds a right to rescission or restitution. See Ainsworth v. Perreault, 563 S.E. 2d 135, 137 (Ga. Ct. App. 2002) (a party alleging fraudulent inducement can either (1) affirm the contract and sue for damages from the fraud or breach; or (2) promptly rescind the contract and sue in tort for fraud.); Daniel, 173 S.E. at 729 (the general rule that contracts obtained by fraud may be avoided by the party defrauded, applies to a stock subscription induced by the fraud of the company through its authorized agent); accord O.C.G.A. 23-2-60 (Fraud will authorize equity to annul conveyances, however solemnly executed.); O.C.G.A. 13-5-5 (Fraud renders contracts voidable at the election of the injured party.). Where, as here, no interest is actually delivered in return for an investors initial payment, explicit election to rescind and recover the full principal is not required because no other relief is available. See Rauch v. Shanahan, 189 S.E. 2d 111, 113-14 (Ga. Ct. App. 1972).
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In this case, the Bankruptcy Court correctly applied what it called the general rule,7 in concluding that the Defrauded Investors gave value in the form of a reduction in their rescission claim at the time that they redeemed some or all of their invested principal. Doc. 38 at pp. 6-7; See Donell v. Kowell, 533 F.3d 762, 777-78 (9th Cir. 2008) ("Up to the amount that 'profit' payments return the innocent investor's initial outlay, these payments are settlements against the defrauded investor's restitution claim. Up to this amount, therefore, there is an exchange of 'reasonably equivalent value' for the defrauded investor's outlay"). As a result, the Bankruptcy Court properly denied the Trustees Motion for Summary Judgment. 2. The general rule is consistent with well settled concepts used to evaluate whether a transferee gave value.
The fundamental issue here is whether the Debtors received value. Reasonably equivalent value compares what the debtor surrendered and what the debtor received irrespective of what any third party may have gained or lost. In re United Energy Corp., 944 F.2d at 597. A transfer that alters the amount of the debtor's assets and/or liabilities, while not altering net worth, is a transfer for
Even the Trustee admits that the Bankruptcy Court followed the general rule. Principal Brief (PBr.) at p. 8.
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reasonably equivalent value. Kovacs v. Hanson (In re Hanson), 373 B.R. 522, 526 (N.D. Ohio 2007). As one court noted, a trustee cannot ignore[ ] the fact that [the debtor]'s net worth remained the same after the transfer.the focus should be on the overall effect on the debtor's net worth after the transfer. Lisle v. John Wiley & Sons, Inc. (In re Wilkinson), 196 Fed. Appx. 337, 343 (6th Cir. 2006). Here, the Debtors net worth remained unchanged as a result of the Debtors payment of principal to the Defrauded Investors because, pursuant to the general rule, the Debtors exposure to the Defrauded Investors rescission claim was reduced dollar-for-dollar by the payment of redeemed principal. As such, the Debtor received value in exchange for returning principal to the Defrauded Investors in the form of a reduced debt on the rescission claim. The Trustee primarily attacks this notion by arguing that the Defrauded Investors were equity investors and as such, the value of their investment was zero the minute that they invested their money with the fraudster. Precedent dictates, however, that the Defrauded Investors did not invest in the Debtors Ponzi scheme, as there never was any equity for them to purchase with their investments. See In re United Energy Corp., 944 F.2d at 595-96; Donell, 533 F.3d at 772. In Donell, the Ninth Circuit concluded that the defrauded investors did not invest at all with the Defendants, reasoning that Payments of amounts up to the value of the initial investment are not, however, considered a 'return of principal,'
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because the initial payment is not considered a true investment. Donell, 533 F.3d at 772. Therefore, any amounts returned to the investor up to the amount of his or her investment are considered to be exchanged for reasonably equivalent value, and thus not fraudulent, because they proportionally reduce the investors rights of restitution. Id. (citing United Energy Corp., 944 F.2d at 595). This Court should follow the reasoning of the Donell Court, and conclude that any amounts returned to the Defrauded Investors up to the amount of his or her investment are considered to be exchanged for reasonably equivalent value and thus not fraudulent, because they proportionally reduce the Defrauded Investors rights of restitution. Further, there is no basis on which to embrace the Trustees notion that the Defrauded Investors inability or failure to articulate their restitution claims somehow renders those claims meaningless or controverts the Bankruptcy Code. Once again, the Trustees theory is contrary to existing authority. In Official Comm. of Asbestos Pers. Injury Claimants v. Sealed Air Corporation (In re W.R. Grace & Co.), 281 B.R. 852, 862 (Bankr. D. Del. 2002), the Court observed that [i]t cannot matter that the claimants themselves may have been unaware of their own claima cause of action may exist before its owner is aware of it.[t]his expansive language must negate any residual inference that a right to payment must be known and asserted to be a claim. Here, contrary to the Trustees
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argument, whether the Defrauded Investors knew about their claims for restitution has no effect on either (i) the creation of the right to rescission or restitution (which arose precisely because the Defrauded Investors did not know about it at the time), or (ii) the satisfaction of it (the Debtors owed the Defrauded Investors their money; if the Debtors paid that debt without the Defrauded Investors ever learning about the fraud, then the liability for restitution would still be satisfied). 3. The definitions of value, claim and debt set forth in the Bankruptcy Code and applicable state statutes support the general rule.
In challenging the general rule concerning value, the Trustee points to the term antecedent debt in the Bankruptcy Code and applicable state law. In doing so, the Trustee effectively defines value to mean that the Defrauded Investors could have given value only where what was originally a loan or a contractual agreement gave rise to their claim against a debtor. PBr. at pp. 13-14. Tellingly, the Trustee ignores the definitions of debt and claim set forth in the Bankruptcy Code, which, when read together, support the application of the general rule. Id. Value includes the satisfaction of a present or antecedent debt of the debtor. See 11 U.S.C. 548(d)(2)(A) (defining value as property, or satisfaction or securing of a present or antecedent debt of the debtor, but does not include an unperformed promise to furnish support to the debtor or to a relative of
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the debtor . . . ); see also O.C.G.A. 18-2-73(a) (stating the value is given for a transfer if, in exchange for the transfer, property is transferred or an antecedent debt is secured or satisfied . . . .). By definition, therefore, the Defrauded Investors gave value in redeeming some or all of their principal investment if the transfer satisfied a debt of the Debtors. The intellectual underpinning for the general rule is set forth in the definitions of debt and claim under the Bankruptcy Code. The Bankruptcy Code defines debt as liability on a claim. 11 U.S.C. 101(12). The Bankruptcy Code defines claim broadly to include, without limitation, a right to payment, whether or not such right is reduced to judgment, liquidated, unliquidated, fixed, contingent, matured, unmatured, disputed, undisputed, legal, equitable, secured, or unsecured . . . 11 U.S.C. 101(5)(A) (emphasis supplied). Many courts, including this one, have acknowledged the coextensive use of the terms debt and claim in the Bankruptcy Code. See e.g. Midwest Holding # 7, LLC v. Anderson (In re Tanner Family, LLC), 556 F.3d 1194, 1196 (11th Cir. 2009) (By making the terms debt and claim coextensive, Congress has adopt[ed] [ ] the broadest possible definition of debt.Accordingly, a debtor incurs a debt to a creditor when the creditor has a claim against the debtor, even if the claim is unliquidated, unmatured, unfixed, or contingent.) (emphasis in original; internal quotations and citations omitted); In re Chase & Sanborn Corp., 904 F.2d 588, 595
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(11th Cir. 1990) (It is established that debt is to be given a broad and expansive reading for purposes of the Bankruptcy Code). This co-extensive use of the terms debt and claim has caused courts to conclude that a defrauded investors claim for rescission constitutes a debt. For example, in In re Independent Clearing House Co., the Court held that: From the time [an investor] entrusted his money to the debtors, he had a claim against the debtors for the return of his money. We believe that the Codes definition of debt and its related terms is broad enough to cover the debtors obligation to return a defendants principal undertaking, whether that obligation was based on the contract between the debtors and [the investor] or was based on [the investors] right to restitution. In re Independent Clearing House Co., 77 B.R. at 857 (emphasis supplied); see also In re M&L Bus. Mach. Co., 84 F.3d at 1340-41; In re United Energy Corp., 944 F.2d at 595-96 (The Code does not require that a debt be a contractual liability. Instead, debt is defined as a liability on a right to payment, whether or not such right is reduced to judgment, liquidated, unliquidated, fixed, contingent, matured, unmatured, disputed, undisputed, legal, equitable, secured, or unsecured. . . .) (emphasis supplied); accord Mazzeo v. United States (in Re Mazzeo), 131 F.3d 295, 302 (2d Cir. 1997) ("[T]he term 'debt' is sufficiently broad to cover any possible obligation to make payment.") (emphasis supplied; quotation marks and citation omitted); Levine v. Custom Carpet Shop, Inc. (In re Flooring Am., Inc.), 302 B.R. 394, 400 (Bankr. N.D. Ga. 2003).
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These cases establish that an exchange for value is not limited to an exchange in satisfaction of a traditional debt instrument, as the Trustee contends. Instead, the value element under Section 548(c) and applicable state law is satisfied by an exchange in satisfaction of any possible obligation of the debtor to make payment, In Re Mazzeo, 131 F.3d at 302, including the liquidated, unliquidated, fixed, contingent, matured, unmatured, disputed, undisputed, legal, equitable, secured, or unsecured rights of transferees. See 11 U.S.C. 101(5)(A). The Defrauded Investors claims for rescission against the Debtors, which even the Trustee admits arose at the time of the initial investment in the Ponzi scheme, PBr. at p. 17, fit within the broad, coextensive definitions of claim and debt set forth in the Bankruptcy Code. Thus, the exchange of these rescission claims for redeemed principal constitutes an exchange for value under Section 548(c). Given this simple and logical explanation, the Trustees theory of transmutation is exposed for what it is -- a rhetorical device intended to complicate and de-legitimize the Defrauded Investors valid claim that they gave value when then redeemed some or all of their principal. As between the Defrauded Investors Code-based explanation, and the Trustees transmutation theory, the Court should apply the principle of Occams razor, which has been loosely translated to mean that the simplest explanation is often the best. Here, the simple explanation is the right one. There is no need for a claim to transmute
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into debt because the definition of claim is co-extensive with the definition of debt. Under the Bankruptcy Code, they are already one and the same. B. THE DISTINCTION BETWEEN DEBT AND EQUITY IS IRRELEVANT TO THE FOR VALUE ANALYSIS IN THE CONTEXT OF A PONZI SCHEME.
Faced with a general rule expressly counter to his position, the Trustee has labored to present a distinction between this case and the litany of cases reciting and endorsing the general rule based on the form of the Defrauded Investors initial investment. This distinction is irrelevant for at least three reasons. 1. As the Bankruptcy Court found, [t]he case law does not make the distinction the Trustee proposes.
The Bankruptcy Court correctly found that [t]he case law does not make the distinction the Trustee proposes concerning debt versus equity in a Ponzi scheme context. Doc. 38 at p. 10. Courts have routinely found that a fraudulent inducement claim lies for each defrauded defendant in an avoidance action, regardless of whether the investor was induced to invest in a debt instrument or an equity instrument. For example, in In re Independent Clearing House Co., the Court held that: If there was not a valid contract between the debtors and [an investor], before the transfer [the investor] would have had a claim for restitution, to prevent the debtors unjust enrichment. See Restatement of Restitution 1 (1936). If there was a valid contract that gave the [investor] an equity interest in the debtors business, as the trustee contends, the [investor] would still have had a right to restitution if
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the debtors fraud induced him to enter into the contract. See Restatement (Second) of Contracts, 164 & 376 (1979). In re Independent Clearing House, 77 B.R. at 857, n. 24 (emphasis supplied). The Trustee cites to no legal authorities or public policy rationale for treating defrauded investors differently, based simply on whether their investments are characterized as debt or equity. Nor does the Trustee offer any legal support for the proposition that an innocent investor who is duped into acquiring an interest in a limited liability company or limited partnership has no right of rescission for fraudulent inducement, just as any other defrauded party to a contract would have under applicable bankruptcy or state law. The Trustees attempts at distinguishing cases from other Circuits that support the Defrauded Investors position similarly fail. For example, In re M & L Business Machine Co. involved an investor entering into a contract to invest with the debtor that was later determined to be a Ponzi scheme. In re M & L Business Machine Co., 84 F.3d 1330. The Tenth Circuit affirmed the lower courts determination that the pre-petition payments from the debtor to the investor constituted value within the meaning of Section 548 because the investor had the right to rescind the contract and seek restitution of the amounts invested under Colorado law. Id. at 1341-1342. The Defrauded Investors here have the same substantive rights under Georgia law as the investors in M & L Business Machine Co. See id.; Section IV. A. 1., supra. 20
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Similarly, the Trustee cites Donell as another example of investors who held antecedent debt claims, rather than equity interests, in a limited liability company or limited partnership. PBr. at 24-25. The Ninth Circuit, however, never made such a distinction in its opinion. To the contrary, the Donell Court broadly stated: Where causes of action are brought under UFTA against Ponzi scheme investors, the general rule is that to the extent innocent investors have received payments in excess of the amounts of principal that they originally invested, those payments are avoidable as fraudulent transfers[.] Donell, 533 F.3d at 770. And where innocent investors receive payments that are less than their respective investments in the fraudulent enterprise, the Ninth Circuit held that payments are not avoidable, without any characterization of such payments as dividends, debt service, redemptions, or otherwise: If the net [of deposits vs. withdrawals] is negative, the good faith investor is not liable because payments received in amounts less than the initial investment, being payments against the good faith losing investors as-yet unsatisfied restitution claim against the Ponzi scheme perpetrator, are not avoidable within the meaning of UFTA. Id. at 771 (internal citations omitted).8
The Ninth Circuit further explains: Payments of amounts up to the value of the initial investment are not, however, considered a return of principal,
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Two other Ninth Circuit decisions demonstrate that the critical test for value in a fraud case is not was it debt or equity? but rather was there fraud and, if so, did the fraud exist at the time of the initial investment? In In re United Energy Corp., the Ninth Circuit reasoned that because the investors were duped into the initial investment, they had acquired a claim for rescission and restitution at the time they invested. In re United Energy, 944 F.2d at 596 ([The investors] clearly had claims for rescission and restitution which arose when they [invested]). The United Energy Court explicitly held that the investors claims for rescission and restitution existed at the time of investment regardless of whether there existed a contractual right to the return of principal because the Code does not require recovery on a contractual liability for an exchange of value. Id. at 595. Relying on In re United Energy Corp., the trustee in In re AFI Holdings sued a limited partner to avoid a fraudulent transfer. See 525 F.3d 700 (9th Cir 2008). The partner argued that he was entitled to keep the funds transferred to him
because the initial payment is not considered a true investment. Donnell, 533 F.3d. at 772. Any amounts returned to the investor up to the amount of his or her investment are considered to be exchanged for reasonably equivalent value, and thus not fraudulent, because they proportionally reduce the investors rights of restitution. Id. (citing In re United Energy Corp., 944 F.2d at 595).
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because he paid reasonably equivalent value for the transfers. See id. The trustee argued that the transfers were essentially a distribution on account of a partnership interest relative to an investors capital contribution and were not reasonably equivalent. See id. at 704. The court held that, because the partner was duped into his initial investment, the good faith exception was not barred as a matter of law, in determining whether the trustee could avoid the transfers under the Bankruptcy Code. See id. at 708. The Ninth Circuit found that, because the partner was initially duped into becoming a partner, and because the fraudulent enterprise was already in existence at the time of the initial investment, the partner had a claim for restitution that arose at the time of his initial buy-in. See id. at 708-709. In reaching this conclusion, the court found that the rights of a defrauded investor are created at the time of the investment. See id. at 708. A defrauded investor is entitled to a claim for rescission and restitution based on the fraud. Just as in AFI Holdings, the Defrauded Investors here were defrauded into making their initial investments with the Debtors and, therefore, acquired restitution claims the moment they invested funds into the enterprise, regardless of the form of the investment (i.e., as equity partners or contract obligees). Id. at 708. The Defrauded Investors did not intend to invest in a Ponzi scheme; the legitimate enterprise in which they thought that they were investing never existed. The type
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of fictitious interest that a defrauded investor receives from a Ponzi scheme operator is irrelevant to determining whether that investor is entitled to assert a restitution claim up to the amount of its initial investment. As demonstrated by In re AFI Holdings, the Ninth Circuits most recent pronouncement on this issue, and In re United Energy Corp., the critical inquiry is whether Ponzi scheme investors were duped into their initial investment and acquired a right for rescission and restitution concurrent with their investment. Id. at 708-709; In re United Energy Corp., 944 F.2d at 596, n. 7. The Trustee attempts to diminish In re AFI Holding by claiming that it blithely applied the general rule and failed to conduct any reasoned analysis regarding the Trustees contrived distinction based on the form (i.e., equity or debt) of the subject initial investment. PBr. at pp. 39-40. This conclusory assertion adds nothing to the discussion, and is essentially identical to the position that the trustee advanced in In re AFI Holding. The Ninth Circuit rejected that position, stating: The Trustee argues that the parties did not expressly exchange the restitution claim for the $89,824.17, and instead, AFI transferred the money on account of [the defrauded investors] partnership interest. Although circumstances of the exchange were cloaked in terms of a partnership interest, we delve beyond the form to the substance of the transaction. See United Energy, 944 F.2d at 596. As noted above, the record demonstrates that Eisenbergs operation was a Ponzi scheme before [the investor] provided his principal investment, and thus well before 24
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the transfers were made from AFI to [the investor]. Because of this, [the investor] acquired a restitution claim at the time he bought into Eisenbergs Ponzi scheme, just as the investors in United Energy acquired a restitution claim at the time they bought their solar modules. Id. at 596. It is this restitution claim, in toto, that [the investor] exchanged when AFI returned [the investors] principal investment amount. AFI Holdings, 525 F. 3d at 708. Consistent with the Ninth Circuits reasoning, the Bankruptcy Court held that [t]he substance, not the form, of the transaction properly governs the reallocation of assets in the aftermath of the collapse of [a] Ponzi scheme. Doc. 38 at p. 12. 2. The Trustees distinction based on the form of the Defrauded Investors investment is based on a fundamental misunderstanding of Eby.
The holding in Eby is straightforward: that a rescission claim based on fraudulent inducement arises at the time of a defrauded investors initial investment. Eby, 1 F.2d at 973. This holding directly supports the Defrauded Investors position that the Debtors fraud gave rise to a claim for rescission equal to the amount of their invested capital at the time of the investment and that the subsequent exchange of such rescission claims upon redeeming their investment constitutes giving value under Section 548(c). The Trustee spends a significant portion of his brief attempting to distinguish the facts in Eby and its progeny from the present case, and then arguing that those courts following Eby misinterpreted the decision. The Trustee is wrong. 25
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The Trustee claims that Eby has no application to the current case because the investors in Eby maintained a debt-based investment claim that arose from the initial investment in the scheme. PBr. at p. 20. According to the Trustee, the existence of another claim based on the latent fraud claim in Eby in no way affects the ultimate outcome of the value exchange analysis and, therefore, Ebys recognition that a fraudulent inducement claim arises at the time of a defrauded investors initial investment must be recognized as surplusage. PBr. at pp. 2021. Nothing in Eby supports this assertion. To the contrary, the scheme described in Eby and the nature of the defrauded investors interests in that scheme are closely analogous to the (assumed) facts in this case. In fact, the Eby fraudster, Mr. Young, ran what can be fairly described as a progenitor to the modern hedge fund. Young solicited investors to whom he issued receipts and whose monies were to be placed to the credit of the customer in an account opened and managed by [Young], for the purpose of buying and selling any securities traded on the New York Stock Exchange. Eby, 1 F.2d at 971-72 (internal quotation omitted). Young was allowed as compensation for his management of the account one-third of the
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net profits produced to the customer.9 Id. at 972. The enterprise made monthly settlements to each investor and each investor maintained the right to withdraw all or any part of his account upon 30 days' written notice.10 Id. Young regularly distributed referral commissions and profits to his customers despite the enterprises substantial actual losses. In re Young, 294 F. 1, 1 (4th Cir. 1923).11 These distributions were taken from the principal sums deposited by his customers in furtherance of Youngs Ponzi scheme. Id. Mr. Ashley was one such customer. Eby, 1 F.2d at 972. Ashley made payments to Young totaling $3,000 and received distributions totaling $4,576.68 (his entire principal investment and $1,576.68 in so-called profits). Id. It was the order of Youngs payments to Ashley, however, which required to Eby Court to issue its key holding. Ashley received distributions of $1,576.68 in profit prior to his written request for redemption of his principal investment. Id. Subsequently,
9
Under the exemplar documents relied upon by the Trustee here, the Debtors were similarly entitled to retain a portion of profits as an incentive allocation, while the Debtors manager collected management fees and performance fees. See e.g. Doc. 6-3 at pp. 5-6; Doc. 6-4 at p. 15. Here, the Debtors also allowed investors to withdraw all or part of their investments upon 30 days written notice to the Debtors. See e.g. Doc. 6-8 at p. 44; Doc 6-7 at p. 18. In re Young is a companion case to Eby, which determined the relative rights of defrauded investors to distributions from the residual estate, holding that distribution to defrauded investors was to be in proportion to their principal investment net of any profits they received. See In re Young, 294 F. 1 at 4.
10
11
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Ashley received a lump sum payment of his $3,000 principal pursuant to his written request. Id. The trustee in bankruptcy sued Ashley to recover all of the payments made to him through three separate claims: (1) For the recovery of the payment of $3,000, as a preference within four months of bankruptcy; (2) for the recovery, as a preference within four months, of $1,423.32, the difference between $3,000, the sum paid to Young by Ashley and $1,576.68, the amount paid to Ashley by Young under the form of "profits"; (3) for the recovery of the sum of $1,576.68 paid by Young to Ashley as profits, on the allegation that it was paid by Young to Ashley without consideration as a gratuity, and in fraud of the rights of Young's creditors. Id. The Eby Court addressed each of the trustees claims independently. With regard to the claim (3), the trustees claim for recovery of the initial $1,576.68 received by Ashley, the Eby Court determined that this amount should not be returned as a preference because Ashley had no reason to suppose Young to be insolvent at the time. Id. at 973. The Eby Court then addressed the intuitive notion of simply disposing of these initial payments of profit, where there was no actual profit to be had, as a fraud upon the rights of Youngs creditors (i.e., a fraudulent transfer). Id. at 97273. The Eby Court dismissed this notion, holding that, at the time Young paid $1,576.68 to Ashley, Young owed Ashley $3,000 which Ashley had a right to recover from him from the moment that he was deceived into paying it. Id. at 28
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973 (emphasis supplied). Thus, at the time of that payment Ashley received the money in good faith and Youngs debt of $3,000 to Ashley was reduced by the amount of $1,576.68.12 Id. Despite the Trustees belabored arguments to the contrary, this holding is anything but surplusage. The Eby Court addressed each of the trustees claims independently, including his claim that Ashleys initial redemption of principal was in fraud of the rights of Youngs creditors. Id. at 972-73. The Eby Court held this redemption was not in fraud on grounds that Ashley maintained a countervailing rescission claim from the moment that he was deceived into investing. Id. at 973. The Eby Court engaged in a separate analysis of Ashleys redemption pursuant to his request for return of $3,000 in principal and irrespective of whether that later transfer was made pursuant to an equity or debt interest. Therefore, Ebys holding is quite simple and precisely on point in the aftermath of a Ponzi scheme defrauded investors have claims for rescission or
12
Based on the same concept, the Eby Court affirmed a jury verdict in favor of Ashley with regard to the trustees claim (2), allowing him to retain the remaining $1,423.32 Young later paid to him (as part of a lump $3,000 payment). Eby, 1 F.2d at 973. As to claim (1), the Eby Court upheld a jury verdict in favor of the trustee, in part, for recovery of the $1,576.68 Young paid to Ashley (as part of a lump $3,000 payment) on grounds that it was without consideration and therefore a fraud on Youngs creditors. Id.
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restitution, which arise at the time of their initial investment, and, therefore, they have given due consideration for any redemptions of principal. See id. Nothing in the decision supports the claim that investors held a debtbased13 investment claim against Young (as distinct from a debt-based restitution claim) or that the investors principal was not at risk. There is also nothing in the decision that would support the view that the Eby Court based its holding on a finding or belief that the investors held debt interests, as opposed to equity interests, in the debtor. Because there is no basis on which to conclude that the investors in Eby held debt interests or that Ebys holding is in any way surplusage, the Trustees tortured claims 2 construct collapses. As with his treatment of Eby, the Trustee attempts in vain to distinguish the cases that similarly protect distributions of principal to equity holders from avoidance actions in the aftermath of a Ponzi scheme. PBr. at pp. 36-57. The Defrauded Investors have already discussed above the relevance of AFI Holding and other Eby progeny and the Trustees flawed efforts to distinguish them. The The Trustee mischaracterizes the Eby Courts reference to debt. PBr. at p. 19. Rather than using the word debt to describe the nature of Ashleys initial investment in the fraudulent enterprise, the Eby Court simply characterizes Ashleys rescission claim, arising at the very moment he was deceived into investing, as a debt Young owed to him. Eby, 1 F.2d at 973. The Trustee takes the Eby Courts reference to debt out of context in an effort to give it deeper meaning.
13
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Trustee also briefly addresses, but fails to diminish, two other cases - Scholes and In re Hedged-Investments Associates, Inc. PBr. at pp. 36-37. The first of these two cases, Scholes v. Ames, 850 F.Supp. 707 (N.D. Ill. 1994), involves an equity receiver operating under Illinois law, as opposed to a bankruptcy trustee. There, the equity receiver sued two investors who purchased limited partnership interests in what turned out to be a fraudulent Ponzi scheme. Id. at 709. The equity receiver only sought to recover fictitious profits from those investors, based on fraudulent conveyance, unjust enrichment, and constructive trust claims under Illinois law. Id. at 710. The district court in Scholes did not even discuss, let alone reject, the proposition that the defrauded investors had claims for rescission and restitution under applicable non-bankruptcy law. It would appear those claims were unnecessary in Scholes because the equity receiver never tried to recover the principal sums invested, unlike the Trustee here. The equity receiver focused solely on the fictitious profits.14
14
The district court in Scholes relied, in part, on another equity receiver case, Johnson v. Studholme, 619 F.Supp. 1347 (D. Colo. 1985). See Scholes, 850 F.Supp at 714-715. The Johnson decision provides insight into the inherent problem with any attempt to re-allocate losses among the various investors, even as to fictitious profits: Some investors who received fictitious profits may have spent the money on education or other necessities many years ago. What else in equity and good conscience should plaintiffs who received money in good faith
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The Trustees interpretation of In re Hedged-Investments Associates, Inc., 84 F.3d 1286 (10th Cir. 1996), is similarly flawed. See PBr. at pp. 36-37. In re Hedged-Investments involved purported equity participation in limited partnerships, as some of the debtor entities were organized here, and the Tenth Circuit affirmed the generally accepted principle that an investor has a valid restitution claim against the defrauding party to recover the amount of principal that he or she invested. In re Hedged Investments, 84 F.3d at 1289. While focusing on the Tenth Circuits treatment of the subject investors fictitious profits, the Trustee utterly ignores key portions of the decision that debunk the Trustees so-called transmutation theory altogether:
pursuant to an investment contract have done? In contrast, some investors who lost money may have been speculators who were prepared to lose their investments. There is simply no neat answer to the various equities involved here where the investors never knew each other and were equally at fault for trusting [the Ponzi scheme operator]. Unexpected gains or losses by equally innocent parties may present similar problems, not capable of resolution by unjust enrichment principles. Law of Remedies, 4.1 (1973). There is no precedent in law or equity for applying unjust enrichment principles in these circumstances. In such circumstances the courts may simply leave the parties where they were found. Johnson, 619 F.Supp. at 1350 (emphasis supplied).
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Ms. Buchanan [the investor defendant] received the transfers at issue after already receiving approximately $1 million more than her original $750,000 investment. The district court found that since Ms. Buchanan received more than she invested she did not have a viable claim for fraud. In effect, the district court determined Ms. Buchanan had already received restitution and therefore was entitled to no remedy. The district courts observations are correct insofar as restitution is the remedy to which Ms. Buchanan would be entitled [.] Id. at 1289 (emphasis supplied). In other words, the Trustee completely missed (or ignored) the point that the Tenth Circuit had determined that an investor who held a limited partnership interest (as opposed to a promissory note or other debt instrument) has the same claim of restitution against the Ponzi scheme operator. Id. Because the investor there had already received payments in excess of her principal investment, she had already received restitution [.] Id. at 1289. The nature of the investment a limited partnership interest as opposed to a promissory note was, is, and should continue to be immaterial to the investors right to restitution. The Trustee is no more successful in his analysis of the key third case from the Ninth Circuit, AFI Holding. As the Defrauded Investors discussed in greater detail above, AFI Holding also involved investment in a limited partnership operating as a Ponzi scheme and, once again, the Ninth Circuit endorsed and applied the uniform rule that investors in a Ponzi scheme acquire claims for rescission at the time of their initial investment and that upon redemption of their 33
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investment those rescission claims were exchanged for their return of their principal. 525 F.3d at 708. In light of Eby, and the unbroken line of more recent cases that follow it, the Trustees contrived claim2 analysis and transmutation theory are completely unsupported. The Trustee has manufactured a convoluted theory to confuse a simple and straightforward principle -- a party who is fraudulently induced to make an investment, of any kind and in any form, may rescind the transaction and recover his or her principal investment in restitution. 3. Terry Manufacturing is inapposite to the facts before this Court.
The Trustee relies on In re Terry Mfg Co., Inc., 2007 WL 274319 (M.D. Ala 2007), for the proposition that equity holders are not entitled to recharacterize dividend distributions as claims for the purpose of establishing a for value defense to an avoidance action. See PBr. at 42-44. However, Terry is distinguishable from this case for at least two reasons. First, Terry did not involve a Ponzi scheme. Terry Manufacturing was a viable business entity that had contracted with both the Department of Defense and McDonalds to manufacture uniforms. In re Terry Mfg Co., Inc., 2007 WL 274319 at *4. The principals/managers looted the companys finances, filed false financial statements and paid shareholder dividends to keep up the faade that Terry was a profitable business entity, when it was insolvent. Id. at *5. 34
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Second, the holding in Terry is fundamentally inapposite to the present matter because the trustee in that case sued to avoid dividend payments to equity partners; Terry was not a case where the trustee was seeking to avoid payments from investors whose initial investment was procured through fraud. Id. at * 5-7. Terry did not involve a Ponzi scheme in which new investors money was used to fund distributions to prior investors. There is no finding in Terry that new shareholder dollars were used to pay dividends to existing shareholders. In Terry, the trustee sought to recover dividends paid to shareholder defendants. The nature of a dividend (commonly defined as money earned on stock holdings, that represents a share of profits paid in proportion to the share of ownership) does not lend itself to a Section 548(c) defense because a right to a dividend accompanies the equity interest manifest in the shares; the shareholder does not give up anything when receiving a dividend on equity. They do not give up shares, nor is their investment diluted by the dividend. Here, the challenged payments were not treated as dividends and the Trustee does not allege so. Terry is therefore readily distinguished from the present cases.
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C.
THE TRUSTEES POLICY ARGUMENTS CANNOT OVERCOME HIS CLASH WITH WELL-SETTLED LAW. 1. The Bankruptcy Courts ruling is premised on bedrock bankruptcy principles of claim priority and equal treatment of similarly situated claimants.
The Bankruptcy Court, in considering and dispensing with the Trustees erroneous position that payments made on account of equity investments (as distinct from debt obligations) requires a different result in the context of a Ponzi scheme held that any different treatment traditionally rendered to debt holders versus equity holders is irrelevant because all of the claimants made the same type of investment in the Debtors scheme. Doc. 38 at p. 12. While, traditionally, the Bankruptcy Code draws distinctions between debt and equity for purposes of establishing claims priority, that notion is not relevant here because, as the Bankruptcy Court correctly concluded, all of the Defrauded Investors occupy the the same class in terms of claims priority. Even assuming that the Trustee was correct that the claims at issue here are equity claims and not debt claims, the net effect of ignoring the general rule embraced by the Bankruptcy Court to effect the Trustees redistribution scheme would not accomplish the Bankruptcy Codes goal of prioritizing debt claims over equity claims because all the claims here belong to Defrauded Investors who, by the Trustees logic, all hold equity claims.
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2.
The Trustee relies on inapplicable portions of the Bankruptcy Code to support his contrived argument.
Toward the end of the Trustees Principal Brief, the Trustee makes two statutory arguments that no court has ever accepted. See PBr. at pp. 50-55. First, the Trustee argues that allowing transmutation of the equity claims into debt is inconsistent with Section 510(b) of the Bankruptcy Code. Id. at pp. 50-52. But this argument conflates two provisions and aims of the Bankruptcy Code, effectively transmuting statutory apples to oranges. Section 510(b) is a claims priority provision dealing with claims arising in connection with the purchase and sale of stock. The Defrauded Investors are not seeking to elevate equity claims above creditor claims. They hold claims based on their rights of rescission and are merely articulating an element of a defense to a fraudulent transfer action based on those claims. The present action does not raise issues of claims priority or distribution of estate assets. Second, the Trustee looks to the equitable treatment of similarly situated creditors in plan provision sections of the Bankruptcy Code, such as Section 1123 and 1129. Id. at pp. 53-55. The cited provisions deal with voting rights under a plan by holders of allowed claims against the estate. They do not consider the merits of the underlying claims, nor do they deal with establishing defenses to avoidance actions under Section 548. The Defrauded Investors do not challenge the overarching bankruptcy policy that seeks equitable treatment of similarly 37
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situated creditors. But the Trustees avoidance actions are not part of the claims resolution or plan voting processes. More importantly, the Trustees misplaced reliance on these unrelated provisions of the Bankruptcy Code draws the fundamental flaw in his position into specific relief; the Defrauded Investors are not asserting claims or defenses based on an equity interest. The Defrauded Investors are seeking to establish a defense based on a long-recognized legal claim for rescission. D. THE TRUSTEES PROPOSED MODE OF REDISTRIBUTION IS NO FAIRER THAN THAT IMPOSED BY THE GENERAL RULE.
The Trustee posits that eschewing the general rule and subscribing to his proposed mode of redistribution is the more equitable approach. PBr. at p. 11. In essence, the Trustee argues that his redistribution scheme is more fair because, in his view, it levels the playing field for all defrauded investors. Not only does this facile redistribution scheme fly in the face of decades of established law,15 but there is simply no way to establish that the Trustees method produces a fairer result.
15
A fact not lost on the Bankruptcy Court which considered and dismissed the seeming elegance of the Trustees redistribution model, holding to the general rule and finding no sound basis . . . for creating a different rule based on the equity nature of the fraudulently induced investments. Doc. 38 at p. 13.
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Under the Trustees proposed scheme, the playing field is not leveled; there will still be winners and losers as there are under the general rule, divided by an arbitrary moment in time where, on one side, some defrauded investors retain some portion of their redemptions while others are subject to avoidance and recovery. The Trustees scheme does not, and cannot, eliminate the divide between winners and losers. It only shifts the arbitrary moment in time dividing the two groups. The Trustee's approach is no more fair, and may be less fair, than the current system (applying the general rule). For example, one only need to consider the effect of the application of the statute of limitations pursuant to the applicable fraudulent conveyance provisions of the Bankruptcy Code. See 11 U.S.C. 548(a)(1) (a trustee may only avoid transfers made or incurred on or within 2 years before the date of the filing of the petition). Given the statute of limitations, earlier investors in a Ponzi scheme, whose redemptions cannot be clawed back because they were received outside the period circumscribed by the statute of limitations, will retain their entire redemptions and false profits, while those defrauded investors whose redemptions were received within the statutory look back period are subject to avoidance actions. The Trustees proposed redistribution scheme, without any basis in law, arbitrarily imposes a burden on a new group of innocent investors while failing to address the
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impact of the redistribution to the ones that got away. The innocent defrauded investors whose redemptions occurred closer to the operative petition date will be made to bear the very burden the Trustee purports to seek to eradicate; paying the freight for other investors who are allowed to keep all of their distributions from debtors simply by dint of good fortune and timing of redeeming outside the statute of limitations. Additionally, there is no certainty that the Trustees proposed arbitrary redistribution scheme would provide any increased benefit to creditors. The arbitrary scheme would no doubt invite significant litigation with the attendant administrative costs. These costs would be incurred in pursuing claims against defrauded investors who, in many instances are or may be incapable of paying funds back to the Estate because they do not have the resources to do so. The Trustees proposed scheme would cause uncertainty, provoke litigation and provide little real hope of realizing any additional dividend for creditors because the administrative costs would actually cause a dilution of estate assets. Where, as here, there is little or nothing in the Estate to distribute to investors, how is it more fair to claw back redemptions, especially when some Defrauded Investor/Defendants are judgment proof and will have nothing to return to the Estate? And where some Defrauded Investors/Defendants will have to pay
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and others will not? Like many utopian ideas, the Trustees proposal collapses in the face of practical challenges. Where, as in the present matter, all investors are innocent victims, they ought, as the general rule holds, to be left as they were at the time that the fraud was exposed. Any other result is an artificial plan of redistribution, plain and simple. See Johnson, 619 F.Supp. at 1350. The Trustees proposed approach is no more elegant, and no fairer, than the system of rules imposed by the Bankruptcy Code, the rules of Civil Procedure and simple notions of fairness imbedded in due process. What the Trustee proposes is to supplant a redistribution scheme that is framed by statute, rules and a long-standing general rule of law with a more arbitrary system that is based on none of those certainties. There is nothing inherently more fair about the Trustees redistribution scheme. E. THE TRUSTEES ARGUMENT IS PRECLUDED BY THE DOCTRINES OF RES JUDICATA AND ESTOPPEL.
In addition to the uniform sound precedent underlying the rulings of the Bankruptcy Court, this Court has other bases on which to uphold a denial of the Motion for Summary Judgment. See In re Optical Techs., Inc., 246 F.3d at 1334; see also Hildebrandt v. Ill. Dep't of Natural Res., 347 F.3d 1014, 1032 (7th Cir. 2003) (court of appeals may affirm district court's ruling on summary judgment on any ground supported by record). The Trustees arguments on appeal are precluded by the res judicata effect of the Trustees own confirmed plan of 41
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liquidation (the Plan), as well as by the doctrine of estoppel.16 The confirmed Plan characterizes the Defrauded Investors as holders of Investor Tort Claims, a defined term in the Plan. See Doc. 6-2. Even without the Plans definition, the meaning of the term is plain on its face; the Defrauded Investors are tort claimants, in the Trustees own words. Nevertheless, the Trustee continues to urge the Court to find that the Defrauded Investors be treated as mere equity holders, even though the Plan mentions nothing about characterizing the Defrauded Investors as equity holders, nor anything about an articulation prerequisite to achieve tort claimant status. To the contrary, in the Plan and the accompanying Second Amended Disclosure Statement with Respect to the Trustees Plan of Liquidation (the Disclosure Statement), the Trustee expressly articulates that the Defrauded Investors are
16
The same principles apply to the positions taken by the Trustee in pursuing preference claims against the Defrauded Investors in connection with this bankruptcy. Pursuit of a preferential transfer under Section 547 of the Bankruptcy Code requires that the transfer the trustee seeks to avoid and recover be made on account of an antecedent debt. Courts applying preference law in the context of Ponzi schemes have held that a defrauded investor is a creditor holding an antecedent debt based on the same principal discussed above that the defrauded investors principal investment gives rise to an immediate claim for rescission or restitution. See e.g. Wootton v. Barge (In re Cohen), 875 F.2d 508, 509 (5th Cir 1989). If the Defrauded Investors hold claims on account of antecedent debt in the Trustees preference actions, surely they hold such claims for the purposes of establishing defenses under Section 548(c).
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tort claimants. See Doc. 6-1 and 6-2. The Trustee, having solicited votes for the Plan, and having obtained an order of the Bankruptcy Court approving that plan, should not be allowed to change his fundamental position now. 1. The Trustee is barred by the doctrine of res judicata from claiming that the Defrauded Investors are not debt-holders.
The confirmed Plan sets forth the terms of the liquidation in this case, and the Trustee is bound by those terms. 11 U.S.C. 1141(a); see e.g. Eubanks v. FDIC, 977 F.2d 166 (5th Cir. 1992) (res judicata effect of confirmed plan precluded debtors from bringing suit against banks on claim that should have been raised as defense or counterclaim to banks proof of claim that was not objected to); see also First Union Commercial Corp. v. Nelson Mullins, Riley & Scarborough (In re Varat Enters., Inc.), 81 F.3d 1310 (4th Cir. 1996) (confirmed plan has res judicata effect). The Plan expressly states that the Defrauded Investors in these adversary proceedings hold Investor Tort Claims. The term Investor Tort Claim is defined as Claims of Persons who purchased Interests in one or more of the Debtors for damages arising from the purchase of such Interests. Doc. 6-2 at p. 10. The Plan even refers to the Defrauded Investors in some instances as Investor Creditors, and creditors are defined by the Bankruptcy Code as any entity that has a claim against the debtor that arose . . . before the order for relief. Doc. 62; 11 U.S.C. 101(10)(A). The Bankruptcy Code in turn defines debt as any 43
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liability on a claim. 11 U.S.C. 101(12). Thus, by recognizing that the Defrauded Investors hold tort claims and are creditors, the Plan affirmatively recognizes that the Defrauded Investors are debt-holders. The Disclosure Statement offered in connection with the Plan articulates the Defrauded Investors status as tort claimants in order to claim that the alleged Ponzi scheme was insolvent from its inception. See Doc. 6-1 at p. 32 ([B]ecause a Ponzi scheme entity has liabilities based on investor claims against it (though, here, unasserted prior to IMAs bankruptcy), that are premised on fraudulent inducement to invest [a Ponzi scheme is insolvent from its inception.]). Similarly, in the Disclosure Statement section titled Answer to Questions About the Plan there is a statement that [u]nder the Plan, each Holder of an Investor Tort Claim will have an Allowed Claim in the amount of the outstanding balance of its actual cash Investment. Id. at p. 20. (emphasis supplied). To inform the Defrauded Investors that they will have Allowed Claims in the amounts of their actual cash investments, and then take the position that the Defrauded Investors actual cash investments were worthless for purposes of Section 548(c) is not only inconsistent but misleading. The Trustees position that the Defrauded Investors restitution or rescission claims do not constitute value for purposes of Section 548(c) is facially at odds with the Plans clear characterization of the Defrauded Investors as tort claimants.
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2.
The Trustee is also barred by the doctrine of estoppel from claiming that the Defrauded Investors are not debt-holders.
The binding effect of the confirmed Plan is reinforced by the fact the Trustee proposed the Plan and solicited investor Defrauded Investors votes for confirmation. The Trustee should be estopped, therefore, from asserting an inconsistent position now, after creditors have voted on the Plan and it has been confirmed by an order of the Bankruptcy Court. As the Eleventh Circuit has explained, [j]udicial estoppel is applied to the calculated assertion of divergent sworn positions. The doctrine is designed to prevent parties from making a mockery of justice by inconsistent pleadings. Burnes v. Pemco Aeroplex, Inc., 291 F.3d 1282, 1285 (11th Cir. 2002) (quoting Am. Natl Bank of Jacksonville v. FDIC, 710 F.2d 1528, 1536 (11th Cir. 1983)). Courts have applied the doctrine of judicial estoppel to prevent debtors from taking positions that were not specifically referred to in their confirmed plans. See Hovis v. General Dynamics Corp. (In re Hovis), 396 B.R. 895 (D.S.C. 2007) (debtor was precluded on judicial estoppel grounds from bringing breach of contract claim not listed in confirmed Chapter 11 plan); In re USinternetworking, Inc., 310 B.R. 274 (Bankr. D. Md. 2004) (judicial estoppel barred debtor from bringing breach of contract claim not specifically referred to in plan); see also Southmark Corp. v. Trotter, Smith & Jacobs, 442 S.E.2d 265, 267 (Ga. Ct. App. 1994) (failure to disclose claim in Chapter 11 plan precluded plaintiffs from 45
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asserting those claims in later state court action); Battle v. Liberty Mut. Fire Ins. Co., 623 S.E.2d 541, 543 (Ga. Ct. App. 2005) (Chapter 7 debtor that failed to list house as asset was precluded by judicial estoppel from bringing claim against insurer to recover damages to property). More generally, principles of equitable estoppel also apply to preclude the Trustee from taking a position inconsistent with his confirmed Plan. Equitable estoppel applies under the following conditions: The person against whom the estoppel is to apply must have actual or constructive knowledge of the facts and must have induced, through his words or conduct, another to rely upon the purported representation. The party seeking to assert estoppel must have neither knowledge or reasonable means or opportunity of obtaining knowledge of the facts and must have relied upon the other partys representation to his detriment. Atlanta Retail, Inc. v. Eastman Kodak Co. (In re Atlanta Retail, Inc.), 294 B.R. 186, 197 (Bankr. N.D. Ga. 2003) (quoting Choat v. Rome Indus., Inc., 462 F. Supp. 728, 730 (N.D. Ga. 1978)). Here the Plan clearly characterized the Defrauded Investors as tort claimants. The Defrauded Investors votes were solicited by the Trustee based on the contents of the Plan and Disclosure Statement. The Bankruptcy Court confirmed the Plan. The Trustee accordingly should be estopped from denying that the Defrauded Investors are tort claimants by now claiming that they are mere equity holders. Even ignoring the overwhelming body of case law standing 46
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opposed to the Trustees novel theories of fraudulent transfer law, the Trustees Motion should be denied because he is not entitled, given prior positions staked out in the underlying bankruptcy case, to make it. V. CONCLUSION For the foregoing reasons, the Court should affirm the Bankruptcy Courts Order finding that the Defrauded Investors, who received redemptions of their principal investment, received such redemptions for value as required to establish a defense to fraudulent transfer claims under 11 U.S.C. 548(c) and O.C.G.A. 18-2-78(a) or similar state laws. Respectfully submitted, /s/ Joshua S. Barlow /s/ Lee Harrington /s/ Timothy W. Mungovan____________ Timothy W. Mungovan (Mass. Bar # 600702) Jonathan Sablone (Mass. Bar # 632998) Lee Harrington (Mass. Bar # 643239) Joshua S. Barlow (Mass. Bar # 667472) NIXON PEABODY LLP 100 Summer Street Boston, MA 02110 617.345.1000 Attorneys for Defendants Appellees George Russell Curtis, Sr. Living Trust, George Russell Curtis, Sr. Betty Curtis, David Laird Family Trust, David Laird, and Deborah H. Laird Dated: July 1, 2010
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CERTIFICATE OF COMPLIANCE WITH RULE 32(a) 1. This brief complies with the type-volume limitation set forth in Fed. R. App. P. 32(a)(7), because the brief contains 11,267 words, excluding the parts of the brief exempted by Fed. R. App. P. 32(a)(7)(B)(iii). 2. This brief complies with the typeface requirements of Fed. R. App. P. 32(a)(5) and the type style requirements of Fed. R. App. P. 32(a)(6) because this brief has been prepared in a proportionally spaced typeface using Times New Roman in 14 point font.
/s/ Joshua S. Barlow
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CERTIFICATE OF SERVICE I hereby certify that on July 1, 2010, I caused to be served a copy of the foregoing via the Courts ECF System and/or first class mail on the following parties.
John W. Mills, Esq. Colin Bernardino, Esq. Counsel for the Trustee, William F. Perkins Kilpatrick Stockton 1100 Peachtree St. NE, Suite 2800 Atlanta, GA 30309-4528 Paul M Spizzirri, Esq. Counsel for Willie J. Clay, et al. Spizzirri Law Offices 1170 Peachtree St., Suite 1200 Atlanta, GA 30309 Mark S. Kaufman, Esq. Brian E. Bates, Esq. Counsel for Committee of Investors McKenna Long Aldridge 303 Peachtree St. NE, Suite 5300 Atlanta, GA 30308-3265 Sharon M. Lewonski, Esq. Counsel for Marco D. Coleman Epstein, Becker & Green, P.C. 945 East Paces Ferry Rd., Suite 2700 Atlanta, Georgia 30326 Thomas M. Byrne, Esq. Angela R. Fox, Esq. Counsel for Keith O. Burks, et al. Sutherland Asbill & Brennan LLP 999 W Peachtree St., NW Atlanta, Georgia 303093819 Christopher D. Phillips, Esq. Counsel for David Wisneski, et al. Lamberth, Cifelli, Stokes & Stout, P.A. 3343 Peachtree Rd. NE, Suite 550 Atlanta, GA 30326-1428 Morgan Bradylyons, Esq. Counsel for Amicus Curiae U.S. Securities and Exchange Commission 100 F St. NE Washington, DC 205498030
Jonathan H Fain, Esq. Counsel for X-Spurts Investment Club of Atlanta, LLC, et al. Jonathan H. Fain and Assoc., PC 66 Lenox Pointe Atlanta, GA 30324 Sblend A. Sblendorio, Esq. Catosha L. Woods, Esq. Counsel for Lawrence Hooper, et al. Hoge Fenton Jones & Appel, Inc. 4309 Hacienda Dr., Suite 350 Pleasanton, CA 94588 Kevin A. Stine, Esq. Joshua Tropper, Esq. Counsel for Erich G. Randolph, et al. Baker, Donelson, Bearman, Caldwell & Berkowitz, P.C. 3414 Peachtree Rd. NE Atlanta, GA 30326-1153
Robert J. Mottern, Esq. Counsel for James Bronner, et al. Investment Law Group of Gillett, Mottern 115 Perimeter Center Place South Terraces, Suite 170 Atlanta, GA 30346 Gregory T. Bailey, Esq. Counsel for Mt. Nebo Baptist Life Center, Inc. 571 Culberson Street Atlanta, GA 30310
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Valerie Peoples 3320 Hagger Way East Point, GA 30344
Heather D. Brown, Esq. Mark A. Kelley, Esq. Counsel for Martin D. Jeffries Kitchens, Kelley, Gaynes, P.C. 3495 Piedmont Road NE, Suite 11-900 Atlanta, GA 30305-1755
William R. Lester, Esq. Counsel for Dexter M. Page, et al. Fryer, Schuster & Lester, P.C. 1050 Crown Pointe Pkwy., Suite 410 Atlanta, GA 30338
James K. Knight, Jr., Esq. Counsel for Annette K. Bond 401 Atlanta St. Marietta, GA 30060
/s/ Joshua S. Barlow
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EXHIBIT A Schedule of Joining Defrauded Investors Willie J. Clay, Rayshawn Francis Clay, Cartopia, LLC, Decko Quality Services, LLC, Clay Real Estate Holdings, Inc. (07-06156) Marco D. Coleman (07-06285) X-Spurts Investment Club of Atlanta, LLC, John L. Carter, Dexter M. Page, William L. Hutchinson, Jr., Ricardo A. Arzu, and Phillip E. Hadley (07-06287) David Wisneski (08-06099) Keith O. Burks (08-06113) Michelle Peoples-Wisneski (08-06128) Annette K. Bond (08-06130) Cornell Shelton (08-06154) Valerie Peoples (08-06162) Atlanta Perinatal Associates, P.C., Syretha Andrews, Alicia Dorsey, Carol Grone, Dexter M. Page, Bradford Bootstaylor (08-06185) Gregory Hooper (08-06187) Lawrence Hooper (08-06188) SyTBC Capital, Inc. (08-06191) Mt. Nebo Baptist Life Center, Inc. (08-06206) George Russell Curtis, Sr. Living Trust, George Russell Curtis, Sr., Betty Curtis (08-06215) LaVerne Jones (08-06221) Erich G. Randolph (08-06239) David Laird Family Trust, David Laird, Deborah H. Laird (08-06225) James Shelton, III (08-06232) James Shelton (08-06234)
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Martin D. Jeffries (08-06241)

Perkins v. Haines - Answer Brief

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Perkins v. Haines - Answer Brief

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Case: 10-10683

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