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Payment of an antecedent debt cannot be a fraudulent transfer per Civil Code section 3432

Universal Home Improvement v. Robertson, 51 Cal. App. 5th 116 (July 2020)

Issue:   Can a transfer of property with actual intent to delay, hinder or defraud creditors be avoided when the transfer is in satisfaction of a bona fide debt?

Holding:   No, Civil Code section 3432 specifically permits a person to “pay one creditor in preference to another.”

In the middle of certain litigation, Robertson transferred her interests in certain property to her sister.  Plaintiff filed this complaint later seeking to avoid the transfer as a fraudulent transfer arguing that the transfer was with actual intent to delay, hinder or defraud creditors.  Robertson’s defense was that even if done with actual fraud, the transfer to her sister was in payment of a bona fide debt which is permitted under Civil Code section 3432, which provides as follows: “A debtor may pay one creditor in preference to another, or may give to one creditor security for the payment of his demand in preference to another.”  The court heard significant evidence and concluded that the debt was actually owed to the sister and that the value of the property transferred was less than the debt.  Plaintiff argued that the debt was barred by the statute of limitations.  The court ruled that the statute had not run because of previous transfers and that even if it did, the statute of limitations is a defense that can be waived.  Plaintiff also argued that it established 7 of the 12 “badges of fraud” in section 3439.04(b) and that should be given precedence over the argument that the transfer was in payment of an antecedent debt.  The court ruled that “[T]he existence of one or more badges of fraud is not a mathematical formula and does not compel a finding one way or another.”  “Put simply, this court believes and therefore finds that the transfer that is the subject of this litigation was a good faith satisfaction of a legitimate debt.”

The court of appeals affirmed.  Recognizing that such transfers should be given strict scrutiny, it said, “Judge Swope’s conclusions are spot on. And plaintiffs’ arguments to the contrary are easily rejected.”

The lower court also awarded costs to defendant based on the cost of proving up facts at trial that were denied in a previous Requests for Admissions.  The court of appeals reversed that noting that the requests were made “within 30 days of the filing of the complaint”  It stated:

Frankly, we are troubled that a defendant can at the very inception of litigation, at a time when, as best we can tell, no discovery had taken place, and certainly no deposition, serve RFAs essentially seeking responses admitting that plaintiff had no case, and then, if plaintiff ultimately proves unsuccessful, recover costs of proof attorney fees, as here. This, it could be said, is tantamount to a form of strict liability: make a claim; deny an early-served RFA that the claim has no merit; vigorously pursue the claim; lose the claim; and pay. That cannot be the law. And we will not affirm the award here, for several reasons.

Is a transfer of an overencumbered asset with actual intent to defraud creditors an avoidable transfer?

Working away on my 9th Circuit Case Summaries (before the Lakers game starts).  Stadtmueller v. Sarkisian (In re Medina), — B.R. —, 2020 WL 4742491 (9th Cir. BAP  Aug, 2020) caught my eye.  The transferor relied on and the BAP discussed a California case Mehrtash v. Mehrtash, 93 Cal. App. 4th 75, 80 (2001).  There the debtor transferred a home which was over-encumbered.  The BAP noted that CCC section 3439.01(m) defines asset as “Asset’ means property of a debtor, but the term does not include the following: (1) Property to the extent it is encumbered by a valid lien.”  The California court ruled in Mehrtash (according to the BAP) that the transfer could not be unwound even if made with actual fraud because the home is not an “asset” under the UVTA.  That does not mean that unwinding an actual fraud transfer requires a showing of damages.

San Fernando Valley Bar Assn program this Friday on 9th Circuit BAP opinions.

Email from Steve Fox:

Dear All:

The bankruptcy program we present on Friday will look at recent, relevant and riveting Ninth Circuit BAP opinions.  Our panelists are the Honorable Deborah Saltzman, Jessica Bagdanov  and Roksana Moradi-Brovia.  The materials are good, really gook, 26 pages of detailed briefs, case by case.  So what are the topics? Read more…

California Court of Appeals rules that settlement agreement included an unenforceable penalty

Red & White Distribution v. Osteroid Enterprises, 2019 WL 3759458 (Aug 2019)

Issue:  Did the settlement agreement here include an unenforceable penalty for non-payment of the settlement amount?

Holding: Yes.

A lender, Osteriod, sued a borrower, R&W.  The borrower cross-complained.  “The parties then settled all claims for $2.1 million pursuant to a ‘Payment Agreement.’”  They also executed a “stipulation for entry of judgment” which provided “in the event of a default on the payment plan, R&W is ‘liable to pay $2,800,000 to the Osteroid Parties, plus interest… reduced by any payments [made].’”  R&W defaulted and Osteriod sought and obtained a default judgment for $3.6 million.

The court of appeals reversed as to the amount holding that the additional sum of $700,000 upon default was an unenforceable penalty under Civil Code section 1671 and the Supreme Court of California case of Ridgley v. Topa Thrift & Loan Assn. 17 Cal.4th 970 (1998).  “In this case, the stipulated judgment for $2.8 million bears no reasonable relationship to the range of actual damages the parties could have anticipated from a breach of the agreement to settle the dispute for $2.1 million.  “[D]amages for the withholding of money are easily determinable—i.e., interest at prevailing rates ….”  “The judgment, however, provided for interest at the legal rate from the date of the execution of the stipulated judgment, attorneys’ fees to enforce the judgment, plus $700,000 more than the parties agreed to in their settlement agreement. This additional $700,000 was an unenforceable penalty.” Read more…

Paying the mortgage in advance as prepetition exemption planning

I have asked bankruptcy attorneys many times over the years whether they think that it is okay to use non-exempt cash in the bank to prepay the mortgage before filing a petition.  It would only work of course if the mortgage payment created equity that was then exempt.  Every attorney I have ever asked has said something like, “Of course it’s okay.”  Some have looked at me strangely like “Why are you asking when the answer is obvious?” If you need to pay for debts quickly here you can learn What is a life settlement and how to work around it.

I don’t see it as obvious.  It is a transfer to delay, hinder or defraud creditors.  “But it is exchanging non-exempt assets for exempt assets which is okay,” is the usual response.  The answer to that is “sort of.”

Most financial experts say the most effective way to lower your mortgage payment is by refinancing. However, you typically need good credit to qualify, and you have to have some equity in the home unless you’re prepared to put money down. For those reasons, refinancing isn’t an option for everyone. If you can qualify, do the math to find out how much you can save both monthly, and over the life of the loan. Avoid refinance loans that extend the term, since you’ll often pay more in interest although you’re saving monthly. Living away from home and paying for your own housing, food and other necessities can be a tough adjustment. But being on your own for the first time is a new and exciting experience and it offers a perfect opportunity to set yourself up for success. If you need financing help, then consider hiring these mortgage brokers for assistance.  If you still aren´t sure on how to handle your mortgage, then consider hiring a mortgage agency for professional assistance. More so, if you have unsecured debt that you need relief from, there are professionals that can help you with a personalized debt settlement program.

The BAP has recently affirmed Judge Robert Kwan in an unpublished opinion, In re Ellison, who denied this guy’s discharge based on a bunch of prepetition transfers, (“But it’s allowed exemption planning says the debtor’s atty.”)  The debtor paid six months worth of his first and second mortgages and he will be looking for more details about debt consolidation to decrease his total debt.  Why you ask?  The debtor’s words, “to assure that my wife and my daughter and myself had a home to live in through the end of the year . . . I did prepay [the mortgage in the past] but not to that degree, not six months, or four months, five months, whatever it was in advance, normally.”  According to Judge Kwan, “This out of the ordinary course transaction and Defendant’s admissions are additional evidence of his intent to hinder or delay his creditors by putting these funds out of their reach for his personal benefit.”   See In re Ellison, 2:15-ap-01001-RK.  Docket No. 30.

There were other transfers to be sure which had the effect of protecting about $250,000 of equity in the debtor’s home (after the homestead exemption).  Judge Kwan concluded that the debtor “crossed over the line’ of what is permissible behavior.  See In re Beverly, 374 B.R. at 244-246 (discussing the difficulty in drawing the line between legitimate bankruptcy planning and intent to hinder, delay or defraud creditors).”

cdcbaa 9th Circuit Review Coming Up January 12, 2019

Saturday, January 12, 2019

11:00 a.m. to 1:00 p.m.

13th Annual Review of 9th Circuit Decisions on Bankruptcy in 2018

SPEAKERS:

Hon. Neil Bason, U.S. Bankruptcy Court – Central District of California
Hon. Christopher M. Klein, U.S. Bankruptcy Court – Eastern District of California
M. Jonathan Hayes, Resnik Hayes Moradi, LLP Read more…

Can the Court Avoid a Judgment Lien under 522(f) When the Debtor Owns no Real Property?

I have seen this issue come up on numerous listserves.  Judge Mund explains why the answer is no.

In re Kenney,  1:10-bk-11635-GM (Bkrtcy, C. D. Cal. Nov, 2018)

Issue:   Is a 522(f) appropriate to avoid a prepetition judgment lien when the debtor owned no real property on the petition date?

Holding:   No.  There is no lien to avoid.

Judge Mund

The debtors filed chapter 7 and got their discharge in 2010.  At the time a creditor had a judgment against them and had recorded an abstract of judgment.  They had no real property at the time.  In 2018, they are trying to buy a house.  They reopened their case and filed a Motion to Avoid Judgment Lien under 522(f).

Judge Mund denied the motion on the basis that there is/was no lien to avoid.

Because there is no valid lien to be avoided, Debtor is not entitled to the protections of 522(f).  The Court recognizes that Debtor is trying to ensure that no encumbrance results from a pre-petition recorded abstract of judgment; such a result would have the absurd consequence of creating an unenforceable lien on property acquired post-petition, but only in the specific counties which the creditor recorded the abstract of judgment.

Is Fraud under California Law the Same as Fraud under 523(a)(2)? Yes says Judge Maureen Tighe.

In Moussighi v. Talasazan (In re Talasazan), 1:16-ap-01119-MT (Bkrcy June 2018, C.A. Cal Tighe J.), Judge Tighe said,

Fraud under California law and § 523(a)(2)(A) are identical for purposes of collateral estoppel. In re Younie, 211 B.R. 367, 373 (B.A.P. 9th Cir. 1997), aff’d, 163 F.3d 609 (9th Cir. 1998); In re Jung Sup Lee, 335 B.R. 130, 136 (B.A.P. 9th Cir. 2005).

This came up in an argument I had with someone recently re res judicata.  I stated that a state court judgment that says ONLY “Plaintiff wins $1 million based on the fraud of defendant,” is res judicata in bankruptcy court whether entered by default or not.   I was told I was mistaken in no uncertain terms because fraud under California law is not the same as fraud under 523(a)(2).  Wrong!

By the way, the judgment example above IS res judicata as to the amount owed in any event – at least for claims purposes.  The typical state court judgment says “Plaintiff wins $1 million” (nothing else).  Collateral estoppel in that case as to fraud still MIGHT apply depending on whether it was actually litigated etc.  Underlying documents, rulings etc are needed.  But the judgment ITSELF is res judicata as to how much defendant/debtor owes the creditor.  That statement does NOT mean that if there was fraud, the damages for fraud are $1 million.  But it does mean debtor owes creditor $1 million (which is discharged unless 523(a) applies).

The Talasazan matter has an interesting twist.  The debtor moved for summary judgment on the grounds that fraud was litigated in state court and the ruling was in the debtor’s favor and therefore could not be relitigated.  The problem is that the state court judge did not say that.   Judge Tighe wrote:

“[W]hile fraud was pled, argued, and briefed after trial, the Third Amended Judgment does not include fraud in the list of causes of action on which Plaintiffs prevailed.

It appears that the Superior Court ruled in Plaintiffs’ favor on the negligent misrepresentation cause of action rather than fraud.

For purposes of collateral estoppel, as detailed below, the Superior Court’s silence with respect to the fraud action, in the context of undisputed evidence from both sides that the issue was fully litigated, was a ruling in favor of the Debtor and not the Plaintiffs.”

Beware of Putting an Unenforceable Penalty into Your Settlement Agreement

I was pretty surprised to find this case.  As a mediator, this comes up all the time.  Plaintiff will take a smaller amount in payments but wants a big penalty if the agreed upon amount is not paid.  I wonder if it is different if approved by the bankruptcy court.   A tip of the hat to attorney D. Brian Reider for sending me this case.

PURCELL v. SCHWEITZER, 224 Cal.App.4th 969 (2014)

Issue:  Where a settlement agreement provides that in the event of a default, an additional amount is owed, can the additional amount be found to be an unenforceable penalty?

Holding:  Yes.  “The amount set as liquidated damages `must represent the result of a reasonable endeavor by the parties to estimate a fair average compensation for any loss that may be sustained.” Read more…

Sham Guaranty? More Stuff I Didn’t Know

LSREF2 CLOVER PROPERTY 4, LLC v. FESTIVAL RETAIL FUND 1, LP, (2016) 3 Cal.App.5th 1067

Issue:  Is the guaranty of a loan by the parent entity here a “sham” guaranty?

Holding:  No, “[T]he overriding concern when deciding whether the sham guaranty defense applies is whether the guaranty is an attempt to circumvent the antideficiency laws.”

Festival Retail Fund 1, LP (the “Fund”) was formed to find real property to invest in.  From the outset, the Fund purchased properties only through newly formed “special purpose entities” (“SPE”).  Here the Fund entered into an agreement to buy a property.  The agreement provided that the property would be purchased by a SPE.  The SPE was also a limited partnership and was wholly owned by the Fund.  Bank then made a payday loans without direct deposit to the SPE to buy the property, .  The Fund guaranteed $1.5 million of the $25 million loan.  The Bank later filed a non-judicial foreclosure complaint and included the Fund alleging breach of the guaranty.  The Fund argued that it was the alter ego of the SPE under the “single business enterprise” theory and therefore it was “protected by antideficiency laws because it was, in reality, the primary obligor on the loan and the loan guaranty was effectively a sham.”  The court agreed and entered judgment for the Fund. Read more…