In the consolidated bankruptcy proceeding of Frederick
Darren Berg and the Meridian Funds, the trustee filed several fraudulent
transfer actions. In one of them, against Jack W. Brown and Margaret A. Heftel,
the trustee claimed that fictitious interest payments were constructive
fraudulent transfers. Calvert v. Brown
(In re Consolidated Meridian Funds),
2013 Bankr. LEXIS, 675 (Bankr. W.D. Wash. Feb. 19, 2013). The defendants had
made loans to the Meridian Funds in exchange for promissory notes promising interest
between 9.5% and 12.5% per annum.
Brown and Heftel filed a motion for summary judgment. The
court had previously denied a different defendant's motion for summary
judgment, where, like here, the defendants had received back more than their
initial investment and it was recovery of the profits that was at issue. Brown
and Heftel argued a different twist on the analysis of whether the debtors
received reasonably equivalent value in exchange for their interest payments.
The court had previously ruled in Calvert v. Foster Radford that interest payments were not in "satisfaction
of an antecedent debt within the meaning of either the state or federal
fraudulent conveyance statutes, and therefore did not constitute reasonably
equivalent value." Id. at *10. In
their motion, Brown and Heftel contended that the court did not consider the
argument that in analyzing the issue of reasonable equivalent value, a lender should
be treated differently than an equity investor. "They argue that a debtor's
repayment of an equity investment would not qualify as satisfaction of an
antecedent debt under the state UFTA, whereas the debtor's repayment of a loan
with reasonable interest should qualify as satisfaction of an antecedent debt."
Id. at *11.
The court first analyzed the split of authority on
whether reasonably equivalent value can ever be exchanged in connection with
the payment of interest in a Ponzi scheme case. It noted that most courts find
that "any return to a lender or investor in a Ponzi scheme in excess of the
principal investment will not be treated as value, and therefore cannot be
counted in determining whether the return was 'reasonably equivalent.'" Id. at *14-15; see also, Donell v. Kowell, 533 F.3d 762 (9th Cir. 2008), In re United Energy Corp., 944 F.2d 589,
596 (9th Cir. 1991). On the other hand, the court considered the few decisions
that have held that "commercially reasonable interest on an enforceable
promissory note should be treated as payment on an antecedent debt and
therefore not be recoverable as a fraudulent conveyance." Id. at *13-14 (citing In re Unified
Commercial Capital, Inc., 260 B.R. 343 (Bankr. W.D.N.Y. 2001); In re
Carrozzella & Richardson, 286 B.R. 480 (D. Conn. 2002).
The court then accurately captured the struggle in trying
to do equity in these circumstances:
There is no question that the courts have struggled with
the differing facts in these cases, where the consequences of the scheme
deprive some investors of their life savings and render other investors defendants
in lawsuits where significant sums of money, long since paid to them, are
subject to recapture. Acknowledging these harsh results, the Ninth Circuit
adopted a rule intended to even out the results as between investors who get
paid and those who do not. Investors who get paid are protected by the various
statutes of limitation; they may keep those payments made to them outside the
statute of limitations, but they must share the pain by giving up anything they
received in excess of their investment within the applicable statute of
limitations. The case law reflects that the courts are not in agreement as to
how the pain should be shared in these unfortunate cases.
Meridian at
*16-17.
The court then engaged in analysis of other cases cited
by the defendants, distinguishing each of them on the following basis:
- In re Image
Masters, Inc., 421 B.R. 164 (Bankr. E.D. Pa. 2009):
Lending institutions had received payments on homeowner loans as part of
the scheme, but the court found that none of the debtors had a direct
relationship with the lenders. Rather, homeowners refinanced their homes
directly with the lenders who took mortgages in the homes, and the
homeowners then separately contracted with the debtors regarding
wraparound mortgages on their homes. "The court concluded that because the
debtors' payments to the lenders reduced the debtors' debt to the
homeowners, the debtors received 'value' for those payments, and that
because the reduction in the debt was dollar-for-dollar, it was also
equivalent." Meridian at *21.
- In re Financial
Federated Title & Trust, Inc., 309 F.3d 1325 (11th
Cir. 2002): This case deals with the trustee's claim to recover
commissions paid to a former employee of the debtor. The "court followed In
re Universal Clearing House Co., 60 B.R. 985 (D. Utah 1986), in
concluding that the determination of 'value' should focus on the value of
the goods and services provided rather than the impact the goods and
services had on the bankrupt entity (i.e., deepening insolvency and
furtherance of the Ponzi scheme)." Meridian
at 21.
- In re M&M
Marketing, LLC, 2013 Bankr. LEXIS 172 (Bankr. D. Neb.
Jan. 15, 2013): The court noted that this court "cited Donell with
approval, but noted that other courts, in the right circumstances, might
find the repayment of interest equivalent value, citing Carrozzella.
The facts in the case before the M&M court, however, did
involve what the court thought was an excessively high rate of interest,
25% in 90 days." Meridian at
*22.
In the Meridian
case, Brown and Heftel argued that they are not were not "investors in the
equity sense" but rather were more like traditional lenders. Id. at *18-19. The court noted, however,
that "The notes attached to the Brown Declaration and the Heftel Declaration,
however, look more like investments than traditional loans" and set forth a few
facts in this case which informed that conclusion. Id. at *19. The court found:
-
"The notes refer to disclosure packages and
subscription agreements, which are normally associated with investments rather
than commercial loans." Id.
-
"The complaints in these cases allege that
the sole business of the Meridian Funds was to offer and sell promissory notes
to investors and that investors were told that the sole purpose of the
investment was to enable the Meridian Funds to invest on their behalf in
seller-financed real estate contracts, hard money loans, real estate and
mortgage-back securities." Id.
-
"Investors like Mr. Brown and Ms. Heftel were
promised rates of return on their investments in the form of interest
payments." Id.
Accordingly, the court denied the defendants' motion for
summary judgment.
At least in the Ninth Circuit on this issue, the label
doesn't matter, and recipients of payments in a Ponzi scheme are more simply
characterized as net losers or net winners. As the Meridian court noted: The Ninth Circuit "has not adopted a rule
which treats victims of a Ponzi scheme differently depending upon whether their
investment can be characterized as a financial investment, equity investment or
loan." Id. at *19.
Lexis.com
subscribers can access enhanced versions of the opinions cited in this article:
Calvert v. Brown (In re
Consolidated Meridian Funds),
2013 Bankr. LEXIS 675 (Bankr. W.D. Wash. Feb. 19, 2013)
Donell v. Kowell, 533 F.3d 762 (9th Cir.
2008)
In re United Energy Corp., 944 F.2d 589 (9th
Cir. 1991)
In re Carrozzella & Richardson,
286 B.R. 480 (D. Conn. 2002)
In re Image Masters, Inc.,
421 B.R. 164 (Bankr. E.D. Pa. 2009)
In
re Financial Federated Title & Trust, Inc.,
309 F.3d 1325 (11th Cir. 2002)
In
re M&M Marketing, LLC, 2013 Bankr. LEXIS 172
(Bankr. D. Neb. Jan. 15, 2013)
Read additional articles at The Ponzi Scheme
Blog
Kathy Bazoian Phelps is the co-author of The Ponzi Book: A Legal
Resource for Unraveling Ponzi Schemes (LexisNexis 2012), along with
Hon. Steven Rhodes. The Ponzi Book, recently reviewed by Commercial Crime International, is
available for purchase at www.lexisnexis.com/ponzibook, and more information about
the book can be found at www.theponzibook.com.
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