Opinion
Case No. 91-14535-AB, Adversary Proceeding No. 94-01321-DOT.
February 2, 2007
MEMORANDUM OPINION ON REMAND
This adversary proceeding is before the court on remand from the United States Court of Appeals, Hall v. Ford Motor Credit Co. (In re JKJ Chevrolet, Inc.), 412 F.3d 545 (4th Cir. 2005). The proceeding arises out of the consolidated bankruptcy cases of a number of motor vehicle dealerships owned and controlled by John W. Koons, Jr. (the JKJ dealerships) The petitions were filed as chapter 11 cases on October 22, 1991, and were subsequently converted to chapter 7 cases with Richard G. Hall appointed trustee. On July 1, 1994, trustee Hall filed this adversary proceeding against Chrysler Credit Corp. to recover alleged preferential transfer payments made to Chrysler Credit by three of the consolidated debtors, Koons Chrysler Plymouth, Inc. (Koons), Brandnewco, Inc. (Brandnewco), and JKJ Chrysler Plymouth, Inc. (JKJ CP).
Two separate issues were raised under the trustee's preference complaint, which the court will refer to in this opinion as Issues 1 and 2.
Issue 1 concerned preference payments to Chrysler Credit by Koons and Brandnewco. Following a trial on this issue, this court entered a memorandum opinion and judgment order against the trustee and dismissed these counts of the complaint on October 14, 2003. Issue 2 concerned preference payments by JKJ CP, and this court entered a final judgment on the trustee's motion for partial summary judgment against Chrysler on October 22, 2003. The parties filed appeals as to both issues, and both issues are before this court under the court of appeals remand.
ISSUE 1.
Procedural History.
After the adversary proceeding was returned to this court on remand, the trustee filed a motion for summary judgment on Issue 1, the preference claims of debtors Koons and Brandnewco. By memorandum opinion and an order entered April 5, 2006, (dockets 170,171) this court denied the trustee's summary judgment motion, and on May 25, 2006, (docket 190) the court denied the trustee's follow-up motion to alter or amend. Essentially, summary judgment on Issue 1 was denied because the court could better address the factual issues if the trustee submitted all available evidence at a trial.
Trial on the remand of Issue 1 was held on June 6, 2006, at which time the trustee submitted a new list with exhibits, many of which were already in the earlier trial record. No additional testimony was taken other than the submission of a deposition. In August and September 2006, the parties submitted proposed findings of fact and conclusions of law and various memoranda of law.
The trustee's argument and computations of unsecured preference payments are contained in three documents, Plaintiff's Trial Memorandum (docket 206), Plaintiff's Proposed Findings of Fact and Conclusions of Law (docket 208), and Plaintiff's Reply Memorandum (docket 211); Chrysler Credit's argument is contained in Defendant's Proposed Findings of Fact and Conclusions of Law (docket 207) and in Defendant's Response to Plaintiff's Proposed Findings of Fact and Conclusions of Law (docket 212).
Findings of Fact.
This court's findings of fact in the original memorandum opinion entered October 14, 2003 (docket 112), are incorporated in this opinion and remain operative unless modified.
Prior to the debtors' bankruptcy filing, Chrysler Credit provided motor vehicle floor plan financing to Koons pursuant to a promissory note, security agreement, and master credit agreement all dated October 1990, as amended. Chrysler Credit perfected its lien in collateral consisting of motor vehicles, parts and proceeds as described in the Koons loan documents by filing financing statements in the appropriate Virginia recording offices.
Similarly, Chrysler Credit provided floor plan financing to Brandnewco pursuant to a promissory note, security agreement, and master credit agreement, all dated December 11, 1989, as amended. Chrysler Credit perfected its lien in collateral consisting of motor vehicles, parts and proceeds as described in the Brandnewco loan documents by filing financing statements in the appropriate Virginia recording offices.
Summarizing the court's previous findings on the operations of the floor plan financing, Chrysler Credit advanced funding to Koons and Brandnewco, which they used to purchase motor vehicles and parts; Koons and Brandnewco were required to repay the advances as collateral was sold, whereupon Chrysler advanced new funding. The amount of Chrysler Credit secured debt constantly moved up and down as Chrysler continually advanced funds to the debtors, and the debtors continually sold collateral and repaid debt. Likewise, the amount of collateral security was constantly changing as inventory was sold and replaced. Chrysler Credit held what has been referred to as a "floating lien" on its collateral.
Koons and Brandnewco each maintained single operating bank accounts into which their receipts of cash were deposited and from which checks were written. The management group of the JKJ automotive dealerships maintained a cash management system in which all deposits into the dealerships' operating accounts were "swept" daily into an investment (concentration) account from which funds were transferred to operating accounts as necessary to cover checks written from those accounts. Thus, management freely transferred cash from one corporate dealership to another as financial circumstances required. Notwithstanding the "sweeping" of their accounts, Koons' and Brandnewco's operating accounts maintained their respective debits and credits on company books.
Koons' and Brandnewco's operating accounts received Chrysler Credit proceeds from sales of Chrysler Credit collateral security and also received inter-company transfers of funds from related automobile dealerships that did not have floor plan financing by Chrysler Credit. All payments by the debtors Koons and Brandnewco to Chrysler Credit were made from their respective operating accounts.
On the date the debtors filed bankruptcy, their operating accounts held funds consisting of Chrysler Credit collateral security proceeds that were commingled with funds transferred to the accounts by related JKJ dealerships. Also on that date and on various dates during the 90 period prior to the petition date, Chrysler Credit was undersecured as to each of these debtors, i.e., the value of its collateral security was less than the amounts debtors' owed Chrysler Credit. Memorandum Opinion October 14, 2003, p. 4-5.
During the 90 days preceding the filing of the debtors' bankruptcy petitions on October 22, 1991, Koons made total payments to Chrysler Credit in the amount of $3,116,005.27, and Brandnewco made total payments to Chrysler Credit in the amount of $3,346,580.43. Each payment was made to Chrysler Credit in respect of the floor plan financing indebtedness described above and was on account of an antecedent debt owed by the respective debtors and while the respective debtors were insolvent.
From October 2, 1991, through the chapter 11 petition date of October 22, 1991, Koons made net payments to Chrysler Credit totaling $222,278.39 from Koons' commingled operating account. During this same period, Brandnewco made payments to Chrysler Credit totaling $377,812.97 from Brandnewco's commingled operating account.
See trustee's trial exhibit 2, which lists Koons' checks issued to Chrysler Credit during the 90 days pre-petition, including the 20 day pre-petition period that is the subject of the court of appeals remand. For the 20 day period, the exhibit reveals total payments of $288,285.05. Of this sum Chrysler Credit denied receiving $66,006.66, and the trustee in his conclusions of law uses the net figure for the 20 days of $222,278.39. According to the exhibit, the total 90 day preference payments of $3,116,005.27, a figure the parties are agreed on, is a net figure reflecting total checks to Chrysler Credit reduced by the amount of all checks during the 90 days that Chrysler Credit denied receiving. The court finds that payments to Chrysler Credit during the 20 days were $222,278.39 as requested by the trustee even though it appears that this gives Chrysler Credit double credit for the checks Chrysler denied receiving. The figure used for payments works in Chrysler Credit's favor because it effectively increases Chrysler's secured claim under the required UCC formula.
On the petition date of October 22, 1991, Koons had deposits in three bank accounts in the total amount of $280,669.47. The bulk of these funds were derived from Koons' operating account in First American Bank. On the petition date, Brandnewco had bank deposits derived from its operating account in the amount of $163,813.06.
Additional findings of fact are stated below.
Conclusions of Law.
BACKGROUND — INITIAL BANKRUPTCY COURT PROCEEDINGS
In Count I of his preference complaint, the trustee asserted claims against defendant Chrysler Credit in respect of pre-petition preference payments to defendant by Koons and Brandnewco. In the 2003 trial the parties had agreed and this court held that in the 90 days preceding the filing of their bankruptcy petitions, Koons and Brandnewco had made payments to Chrysler Credit in the amounts set out above. These payments met all conditions for preferential transfers under Bankruptcy Code § 547(b) except the requirement of § 547(b)(5) that a transfer must result in the creditor receiving more than it would have received in a chapter 7 case. 11 U.S.C. § 547(b) (2000). Chrysler Credit's position was and remains that it held a security interest in the funds received during the 90 day period, and therefore it did not receive more than it would have in a chapter 7 case. (If a creditor holds a secured claim in a chapter 7 case, it is entitled to full payment of the value of its collateral.) During the 2003 trial the trustee argued (1) that Chrysler Credit received more than it would have in a chapter 7 because it was undersecured in the bank accounts from which the proceeds payments were made, (2) that these accounts had been commingled with non-secured funds from various entities, and (3) that Chrysler Credit could not establish it held a perfected security interest in the funds unless it could trace the preference payments received to proceeds of the sale of its collateral by Koons and Brandnewco.
Following trial, this court ruled in favor of Chrysler Credit, holding it had no liability to the trustee for the pre-petition transfers. In making this ruling the court found that Chrysler Credit was undersecured as to Koons and Brandnewco during the preference period, that the preference payments had been made from commingled bank accounts of the two debtors and that identification (i.e., tracing) of Chrysler Credit's funds in the commingled bank accounts was necessary for a determination of whether Chrysler held a security interest in the preference payments. Although the UCC places the burden of proof on a creditor to establish a security interest, this court ruled that because Bankruptcy Code § 547(g) places the burden of proof on the trustee for the avoidance of a preference under § 547(b), it was the trustee's burden to prove that the source of the preferences was not subject to Chrysler Credit's security interest. The burden of proof ruling on tracing was critical to the court's decision because the available records received in evidence at trial were not sufficient to prove the amount of Chrysler Credit proceeds in the Koons and Brandnewco bank accounts during the 90 day pre-petition period. Because the trustee could not trace Chrysler Credit's proceeds in the accounts, he could not prove that Chrysler had received more than it would have in a chapter 7 case.
RULINGS ON APPEAL
On the trustee's appeal of this court's decision on the first issue, the district court affirmed, essentially on the reasoning that the trustee, having the burden of proof, could not trace Chrysler Credit's funds in the debtors' commingled bank accounts. On the trustee's further appeal to the Court of Appeals for the Fourth Circuit, that court found the determination of whether Chrysler Credit had a security interest in the preference payments must be made not by tracing funds in the commingled accounts but rather under the Virginia Uniform Commercial Code. Specifically, the court found the issue to be governed by the UCC provision relating to security interests in commingled deposit accounts where the debtor is in an insolvency proceeding, Va. Code Ann. § 8.9-306(4) (repealed 2001). Hall, 412 F.3d at 550-51. Accordingly, the court of appeals vacated the district court's judgment and remanded the case for the bankruptcy court to consider the issue under the Virginia statute.
Under the mandate of the court of appeals, the court must now resolve the preference issue pursuant to the UCC provision in effect at the time the bankruptcy petitions were filed, Va. Code 8.9-306(4) (repealed 2001), which provided as follows:
In the event of insolvency proceedings instituted by or against a debtor, a secured party with a perfected security interest in proceeds has a perfected interest only in the following proceeds:
(a) in identifiable non cash proceeds and in separate deposit accounts containing only proceeds;
(b) in identifiable cash proceeds in the form of money which is neither commingled with other money nor deposited in a deposit account prior to the insolvency proceedings;
(c) in identifiable cash proceeds in the form of checks and the like which are not deposited in a deposit account prior to the insolvency proceedings; and
(d) in all cash and deposit accounts of the debtor in which proceeds have been commingled with other funds, but the perfected security interest under this paragraph (d) is
(i) subject to any right to set off; and
(ii) limited to an amount not greater than the amount of any cash proceeds received by the debtor within twenty days before the institution of the insolvency proceedings less the sum of (I) the payments to the secured party on account of cash proceeds received by the debtor during such period and (II) the cash proceeds received by the debtor during such period to which the secured party is entitled under paragraphs (a) through (c) of this subsection (4).
The court of appeals in quoting this section in its opinion stated that the applicable period prior to the insolvency proceeding in § 8.9-306(4)(d)(ii) was ten days. Hall, 412 F.3d at 550. The parties, however, are agreed that the correct period under the statute was 20 days.
Va. Code § 8.9-306(4) (repealed 2001).
This court previously found as undisputed facts that the bank accounts of Koons and Brandnewco from which the preference payments were made had been commingled with funds from Chrysler Credit and other entities. The court of appeals held the principles of tracing are not applicable in these circumstances and that the extent of Chrysler Credit's security interest in the preference payments must be "exclusively determined by applying the formula set forth in section 8.9-306(4)(d)." Hall, 412 F.3d at 550. To paraphrase the applicable provisions of the statute, Chrysler Credit's security interest in the commingled funds will be "limited to an amount not greater than the amount of any cash proceeds received by the debtor within twenty days before" the debtors filed bankruptcy, reduced by the debtors' payments to Chrysler Credit "on account of cash proceeds received by the debtor during such period. . . ." Va. Code 8.9-306(4)(d)(ii) (repealed 2001).
According to the court of appeals, the limit on Chrysler Credit's security interest "merely requires a determination of the amount of cash proceeds received by the dealerships in the [twenty] days preceding the filing of the Chapter 11 petitions minus any payments to Chrysler Credit `on account of' those proceeds during that time period." Hall, 412 F.3d at 551. This court has found no case where the UCC formula was applied to determine the secured portion of preference payments over the 90 day pre-petition period. However, a logical application of the formula appears to require a computation based upon three figures: (1) the amount of preferential transfers from each debtor to Chrysler Credit, (2) the amount of Chrysler collateral proceeds received by each debtor in its commingled account within 20 days of the bankruptcy filing, and (3) each debtor's payments from the same accounts to Chrysler within the same 20 days. It follows that the appropriate application of the formula to pre-petition preference transfers is to reduce the total preference payments by the allowed secured amount, and the difference provides the unsecured and avoidable preference amount. This is the application of the UCC formula advocated by the trustee and the basis of his calculations set out below.
In its ruling the court of appeals cited Harley-Davidson Motor Co. Inc. v. Bank of New England-Old Colony, 897 F.2d 611, 621 (1st Cir. 1990), where the First Circuit Court of Appeals stated the following dicta with respect to the Rhode Island UCC equivalent of former Va. § 8.9-306(4):
Given the initial "insolvency proceeding" limitation, the provision, as most naturally read, would seem to apply only to assets in the hands of the debtor at the time of the insolvency (or later), or conceivably to assets that a trustee might bring back into the hands of the debtor (a matter we need not decide).
The amount of preference payments to Chrysler Credit by Koons, $3,116,005.29, and Brandnewco, $3,346,580.43, are not disputed. Also not in dispute are the total payments to Chrysler Credit from the commingled bank accounts of Koons and Brandnewco during the 20 days preceding the debtors' bankruptcy filing; these sums are $222,278.39 and $377,812.97, respectively. Determination of the final figures necessary to the UCC calculation, the amount of Chrysler Credit proceeds received by Koons and Brandnewco during the 20 day period, is the crux of the remaining issue on remand.
Notwithstanding the court of appeals' ruling that tracing is not a requirement under the applicable UCC provision, on remand there remains a necessary element of tracing because in order for this court to make the UCC comparison it is necessary, if possible, to identify the amounts of Chrysler Credit proceeds received by Koons and Brandnewco in their commingled accounts during the 20 day period before bankruptcy. As was noted in the court's 2003 memorandum opinion, the debtors' available records for the year 1991 were not adequate to prove the amount of Chrysler Credit's proceeds in the Koons and Brandnewco commingled accounts during the 90 day pre-petition period that the preference payments were made. The court must now attempt to determine where there is sufficient evidence of record to trace the Chrysler proceeds for a period of 20 days as opposed to 90 days. Herein lies the same difficulty as previously because there is no specific record of deposits of Chrysler Credit proceeds in the debtors' operating accounts during the 20 days, just as there was no such record available for the 90 day period.
TRUSTEE'S ARGUMENT AND CALCULATION OF UNSECURED PREFERENCES
On remand, the trustee makes two arguments. The first is that Chrysler Credit has the burden to prove the amount of its proceeds received in the debtors' commingled accounts, which it has failed to do. The trustee would prevail in the full amount of the preference payments because Chrysler Credit has failed to prove it held a security interest in the debtors' existing bank accounts. Second, and alternatively, the trustee argues that notwithstanding the absence of specific records there is sufficient information in the record to calculate the proceeds in the accounts and to make the necessary UCC calculation mandated by the court of appeals.
With respect to burden of proof, this court previously held that pursuant to Bankruptcy Code § 547(g) the trustee carried the burden to prove all elements of a preference under § 547(b), including the amount of Chrysler Credit proceeds in the debtors' commingled bank accounts. The latter is an element of the trustee's burden under § 547(b)(5) to establish that the creditor received more than it would have in a chapter 7 case. See Batlan v. Transamerica Commercial Fin. Corp. (In re Smith's Home Furnishings, Inc.), 265 F.3d 959, 964 (9th Cir. 2001); 5 Collier on Bankruptcy, ¶ 547.13 (Alan N. Resnick Henry J. Sommer, eds., 15th ed. rev. 9/06). The burden of proof in a preference case is preponderance of the evidence. Id. The court's burden of proof ruling was affirmed on appeal by the district court and approved by the court of appeals when it vacated this court's previous ruling and remanded "so that the trustee may have an opportunity, consistent with his burden under section 547(g), to establish that Chrysler Credit received more from the pre-petition payments than it would have received in a Chapter 7 proceeding." Hall, 412 F.3d at 551.
Most of the cases cited by the trustee for his burden of proof argument are not preference cases and involve the issue of whether a creditor held a security interest in a commingled bank account. Of course, where there are competing claims to a fund, the UCC places the burden of proof on the creditor. Of the preference cases cited by the trustee, some were decided under bankruptcy law prior to the adoption of § 547(g) in the 1984 Code amendments. See 5 Collier on Bankruptcy, ¶ 547.LH[3] (Alan N. Resnick Henry J. Sommer, eds., rev 9/05). None of his citations consider the trustee's burden of proof under § 547(g), as did the Ninth Circuit in theBatlan case cited above, 265 F.3d at 963-965, and upon which this court relies. It is unfortunate that the debtors failed to preserve the records, but Chrysler Credit should not have to suffer for that. In summary, on the burden of proof issue the authorities relied upon by the trustee do not persuade this court to reconsider what is essentially the law of this case.
On the assumption that he does have the burden of proof, the trustee's second argument is that there is evidence of record sufficient to "readily" establish the maximum amount of Chrysler Credit proceeds received in the debtor's operating accounts during the 20 days preceding bankruptcy; consequently, he can prove Chrysler's maximum security interest in the preference payments pursuant to former Va. Code § 9-306(4)(d). The trustee relies on mathematical calculations that he submits are "common sense" and that do not require the support of a forensic witness.
In summary the trustee's method is as follows: (1) calculate total maximum cash or receipts in each debtor's commingled bank account during the 20 days prior to bankruptcy; (2) subtract from these amounts all deposits into the accounts during the 20 days from non-Chrysler Credit sources, i.e., deposits from the related dealerships, which the trustee argues are not subject to Chrysler's lien; (3) the net cash after these deductions represents the maximum amounts of Chrysler Credit cash proceeds in the accounts during the 20 days. In the absence of specific accounting records of proceeds received or cash on hand during the 20 days pre-petition, the trustee advocates two methods of calculating the first part of the formula, available cash or receipts. The first method starts with petition date bank balances of the debtors' bank accounts and then adds to the bank balances all disbursements from the operating accounts during the 20 day period. The resulting number, he argues, represents the maximum proceeds in the bank accounts during the 20 days. The second, alternative method, which applies only to Koons, uses bank account records that are available only for this debtor to establish actual cash receipts by Koons during the 20 days.
Koons actually had three bank accounts on the petition date. The trustee includes the total balances of the three accounts, and this factor does not impact the trustee's calculations. Funds from the operating account comprised the bulk of Koons' cash. The trustee argues that including the deposit amounts in the other accounts benefits Chrysler Credit as the additional cash increases the amount of proceeds received in the 20 day period.
The trustee's calculations for Koons are as follows:First method 1,669,581.08 847,360.41 222,278.39
— Bank account balance October 22, 1991 $280,669.47 Add disbursements 20 day period Total account funds 20 day period 1,977,250.55 Deduct other dealership deposits Chrysler Credit proceeds in account 1,129,890.14 Deduct payments to Chrysler 20 day period Amount of Chrysler secured claim $907,611.75 Under his first method, the trustee claims entitlement to a preference recovery for Koons pursuant to former Va. Code § 9-306(4)(d) in the amount of $2,208,395.37 (preferential transfer of $3,116,005.27 less secured claim of $907,611.75). Second method 847,360.41 222,278.39 — Total deposits to commingled account $1,965,438.16 Deduct deposits from related dealerships Chrysler Credit proceeds 1,118,077.75 Deduct payments to Chrysler Amount of Chrysler Credit secured claim $895,799.36 This methods results in a preference recovery for Koons in the amount of $2,220,206.91 (preferential transfers of $3,116,005.27 less secured claim of $895,799.36).The calculation for Brandnewco is as follows:985,658.63 227,527.61 377,812.97
Account balance October 22, 1991 $163,813.06 Add disbursements 20 day period Total account funds 20 day period 1,149,471.69 Deduct other dealership deposits Chrysler Credit proceeds in account 921,944.08 Deduct payments to Chrysler 20 day period Amount of Chrysler secured claim $544,131.11 The trustee claims entitlement to a preference recovery for Brandnewco pursuant to former Va. Code § 9-306(4)(d) in the amount of $2,802,449.32 (preferential transfers of $3,346,580.43 less secured claim of $544,131.11).CHRYSLER CREDIT'S RESPONSE
Chrysler Credit denounces the trustee's calculations. Its argument is multi-fold and summarized in its assertion that the trustee's method of calculating the preference recoveries is not reliable, and thus he has failed in his burden of proof. The method is not reliable because the trustee uses incomplete and unreliable records, there is no proof that the checks written on the operating accounts during the 20 day period were reconciled, the only witness at trial discredited the method by stating that income was not equivalent to the deposits, and in the case of Brandnewco the single method for calculating damages was based on conflicting schedules and did not clarify the amount of money received during the 20 days. Additionally, the trustee failed to present expert testimony that would have supported his position that any of the deposits to the commingled accounts from the related dealerships were not proceeds of Chrysler Credit's collateral. Relying on this court's 2003 ruling, Chrysler argues that
this court specifically found that FMCC did not satisfy its burden to prove that (a) Chrysler Credit received more than it would have in a Chapter 7 proceeding and (b) that the inter-dealership transfers were not proceeds of Chrysler Credit's collateral. No additional evidence has been presented by FMCC on remand to refute this previous finding.
(Defendant's Response to Plaintiff's Proposed Findings of Fact and Conclusions of Law, Docket 212, p. 2.)
DISCUSSION AND CONCLUSIONS
As noted previously, prior to the remand trial the court denied the trustee's motion for summary judgment because the court did not wish to rule on the difficult factual issue presented until the trustee had an opportunity to produce at trial all available additional evidence to support his position. The court also denied the trustee's subsequent motion to alter or amend the initial denial of summary judgment. In that opinion entered May 25, 2006, (docket 190) the court stated that the trustee was making a legal argument out of what would ordinarily be the subject of forensic evidence. However, the court did not reject the trustee's approach and did not suggest the trustee must have a forensic witness to prevail. At trial on June 6, 2006, the trustee presented a recent deposition of a former vice president of finance of the JKJ automotive dealerships, many of the exhibits presented at the 2003 trial, and a limited amount of new evidence. There is little evidence in the record that might be called forensic other than support for the figures used in the trustee's calculations set out above. Thus, the trustee appears to have presented all the evidence he has found from the debtors' files.
The trustee seeks to prove that under the UCC formula, Chrysler Credit received more in the preference payments than it would have in a chapter 7 case. The formula specified in former Va. Code § 9-306(4)(d) requires the trustee to produce evidence as to the Chrysler Credit collateral proceeds received during the 20 days preceding the debtors' bankruptcy filings. The other amounts required for the formula are agreed upon and established in the record. The amount of proceeds received by debtors can be determined only by an analysis of available records of the debtors, which the trustee asserts can be done without the assistance of a witness. He has presented evidence of the debtors' available cash during the 20 days pre-petition, and in the case of Koons, he has presented evidence of cash receipts during the same period. His position is based on the argument that because these sums undoubtedly contain Chrysler proceeds commingled with other funds not subject to Chrysler's collateral security, the amount of Chrysler receipts can be determined by backing out the inter-company deposits to the accounts.
Computation of debtors' available cash or receipts during 20 day period. The trustee begins with the debtors' bank balances on the bankruptcy petition date as revealed in their bankruptcy schedules. He then works backwards, adding to the bank balances total disbursements from each operating account for the 20 days pre-petition and argues that these sums represent total cash available in debtors' operating accounts during the 20 days. With respect to Koons, the trustee has recently discovered this debtor's operating bank account records applicable to the 20 day period, which he argues provide evidence of Koons' actual receipts during the period.
The argument may be illustrated with a simple example. If on Saturday, an individual has $10.00 and had spent $50.00 during the week, then the individual had at least $60.00 on hand during the week.
Computation of Chrysler Credit proceeds received during the 20 days. In the second step of the computation, the trustee subtracts from total available cash in the accounts and, alternatively, from Koons' receipts, those sums that were deposited in the accounts by the inter-company transfers from related dealerships. The trustee argues that reduction of the inter-company deposits is necessary because these receipts were not Chrysler Credit's proceeds. The trustee's conclusion, after these reductions, is that the remaining net differences in the accounts represent the maximum amount of Chrysler Credit proceeds in the accounts, which equates to proceeds received during the 20 days before bankruptcy. Alternatively, net Koons' receipts in the period equate to proceeds received. The trustee also argues that the similar results of the two Koons' computations support the accuracy of his overall approach.
Aside from Chrysler Credit's argument about the unreliability of the records and lack of forensic evidence, it has not seriously disputed the figures used by the trustee. Of course, it sharply disputes the trustee's conclusion as to what these numbers prove. A primary argument of Chrysler Credit is that the trustee has failed to prove that the inter-company receipts were not Chrysler proceeds, and therefore these receipts should not reduce the proceeds calculations. As discussed below, the court finds this argument compelling. Chrysler has contended throughout this case that the JKJ automotive dealerships were engaged in a check kiting scheme with continual cash transfers among dealers and that the inter-company deposits received by Koons and Brandnewco very likely included proceeds of its collateral.
As to the trustee's first calculation method, the court finds that in the absence of any serious question raised as to accuracy of the debtors' asset schedules, it is reasonable to accept the amount of debtors' bank balances on the petition date as revealed in their schedules. The court also finds acceptable the trustee's computation of available cash in the accounts by the addition of disbursements from the accounts during the 20 days preceding bankruptcy. The next step of the trustee's analysis, his assertion that available cash in each debtor's operating account equates to Chrysler Credit proceeds received during the period, is not quite so simple.
It is obvious that cash available is not the same as receipts during the period because most likely, there were cash balances in the debtors' accounts on the beginning date. Moreover, there could have been other sources of cash receipts aside from proceeds. The trustee recognizes these factors, but his position is that the available cash calculation gives Chrysler Credit the benefit of any beginning account balances and also assumes that all deposits during the 20 days were Chrysler Credit proceeds (excluding the inter-company transfers discussed below). In other words, the trustee essentially concedes that even an initial balance on the beginning date can be considered proceeds deposited within the 20 day period. The effect of this is to increase Chrysler Credit's secured claim under the UCC formula by increasing its proceeds received.
To continue the earlier example of the individual who had $10.00 on Saturday and spent $50.00 during the week, the source of the $60.00 available cash may have been $60.00 on hand at the beginning of the week, or the source may have been $20.00 on hand at the beginning and $40.00 received during the week. The trustee's method would treat beginning cash as proceeds received during the week.
For purposes of identifying Chrysler Credit proceeds received during the 20 day period, the court finds that the trustee's available cash computations constitute a reasonably accurate approximation of Chrysler Credit proceeds received in the operating accounts during the period. Additionally, for Koons the deposits to its operating account during the period appear to reflect an even more accurate approximation of proceeds received. In fact, both of the trustee's methods are akin to the bank deposits and expenditures methods that the Internal Revenue Service applies to reconstruct income of taxpayers who fail to keep adequate books and records. See Robert S. Fink, Tax Controversies: Audits, Investigations, Trials, § 19.03[6][7] Matthew Bender Company, Inc., (LexisNexis) (2006); U.S. Tax Reporter, ¶ 72,015.12(10), 20XX WL 1843384 (2007); 2006 U.S. Master Tax Guide, ¶ 1577, CCH (2005).
The court thus finds that the trustee has met his burden of proof with respect to the proceeds received in the 20 day period. Although it appears initially as though the trustee is conceding Chrysler Credit proceeds in a way that cuts against his own interests, the trustee's calculation actually demonstrates themaximum amount of proceeds that could have been deposited in the 20 days and in which Chrysler Credit might have had a secured claim. By doing so, the trustee quite persuasively proves theminimum amount of money that was not proceeds deposited within the 20 day period. The minimum amount represents the unsecured portion of the trustee's preference claims against Koons and Brandnewco. Where the maximum secured claim is less than the total amount of preference payments over the 90 day period, the total preference payments less the maximum secured claim calculated by the 20 day UCC formula yields a recoverable preference.
This effectively means that in order for Chrysler Credit to avoid a large preference judgment, it would have to be demonstrated that an equal amount to the total preference payments was in fact brought in as proceeds during the 20 days pre-petition. Although this seems an odd requirement, it follows from the UCC formula.
However, the court rejects the trustee's next step, which is to reduce proceeds by deposits to the accounts during the 20 day period from inter-company transfers. This court held in 2003 that the record evidence was insufficient "to determine the precise source of any payment from the debtors to Chrysler. . . . While debtors had other funds in their operating accounts the court is unable to find that [the debtors'] payments to Chrysler were made from sources other than proceeds of its collateral." Memorandum Opinion October 14, 2003, p. 15. This conclusion followed from the premise that in making inter-company transfers, debtors probably transferred Chrysler Credit proceeds received in their operating accounts to other dealerships and also received such proceeds back. In other words, there was no evidence that the other dealerships did not have Chrysler proceeds in their accounts. Likewise, the court is unable to determine that cash in the debtors' operating accounts was anything other than Chrysler Credit proceeds.
In summary, Koons and Brandnewco received Chrysler Credit proceeds in their operating accounts during the period October 2-22, 1991, in the respective amounts of $1,977,250.55 and $1,149,471.69. Applying the formula prescribed by former Va. Code § 8.9-306(4), the court makes the following findings:222,278.39 (1,754,972.66) Trustee's recovery of preference, § 547(b) $1,361,033.11 (377,812.97) 771,658.72 Trustee's recovery of preference, § 547(b) $2,574,921.71
Although the cash receipts figures available for Koons would appear to be a more accurate reflection of proceeds received during the 20 days, the court uses the trustee's first computation method for Koons (total bank deposits on the petition date plus disbursements from the account during the 20 day period). This is the computation proposed by the trustee in his conclusions of law, and it results in a smaller judgment amount against Chrysler Credit.
The second issue on remand from Hall, 412 F.3d at 551-553, involves preferential transfers to Chrysler Credit by another JKJ automotive dealership, JKJ Chrysler Plymouth (JKJ CP). Chrysler Credit concedes that JKJ CP made such transfers to it within 90 days of the debtors' bankruptcy petitions in the amount of at least $2,109,274.26. However, Chrysler asserts the affirmative defense under § 547(c)(4)(B) that it had given "new value" by extending new credit to JKJ CP during the preference period in amounts that exceeded the preference payments received. Section 547(c)(4) provides:
This is the preference amount previously found by this court and the amount accepted by the court of appeals in Hall, 412 F.3d at 551. On remand, the trustee has submitted a revised schedule of payments, and he asserts that the correct amount is $2,169,329.13. In Chrysler Credit's argument on summary judgment, it asserted that its records reveal the prepetition payments received totaled $2,632,481.25. The court will stay with the original finding.
The trustee may not avoid under this section a transfer . . . (4) to or for the benefit of a creditor, to the extent that, after such transfer, such creditor gave new value to or for the benefit of the debtor — (A) not secured by an otherwise unavoidable security interest; and (B) on account of which new value the debtor did not make an otherwise unavoidable transfer to or for the benefit of such creditor.
11 U.S.C. § 547(c)(4) (2000).
Procedural History.
In the initial bankruptcy court proceedings, this court granted the trustee's summary judgment motion, based on a finding that JKJ CP had repaid the entire amount of Chrysler Credit's new extensions of credit and that repayment precluded Chrysler Credit's new value defense. On appeal by Chrysler Credit, the district court reversed. The court of appeals affirmed the district court and remanded the issue for further ruling by this court. The appellate courts held in substance that there is no requirement in the statute that the new value remain unpaid. Rather, "the proper inquiry is whether the new value has been paid for `by an otherwise unavoidable transfer.'" Section 547(c)(4)(B);Hall, 412 F.3d at 552 (emphasis in original).
The court of appeals remanded the new value defense issue for this court to "determine whether any of the [JKJ CP] repayments were `otherwise unavoidable transfers.'" Id. at 552. The court went on to observe that "it appears that they were not. . . ."Id. However, the court of appeals further noted that some of the challenged transfers, made after JKJ CP's bankruptcy filing, "may in fact be `otherwise unavoidable.'" Id. at 552 (citing In re Login Bros. Book Co., Inc., 294 B.R. 297, 300 (N.D. Ill. 2003)).
The trustee's main argument on this issue before the court of appeals was to the effect that JKJ CP's pre-petition repayments to Chrysler Credit were "otherwise unavoidable" because the repayments had not been claimed as preferences in the trustee's complaint and had therefore become unavoidable due to the expiration of the statute of limitations. This argument was pointedly rejected by the court of appeals:
Appellant's position is not supported by the statute. The trustee's failure to avoid JKJ CP's post-new value payments to Chrysler Credit does not convert these payments from avoidable to unavoidable transfers. Indeed, the plain and ordinary meaning of an `avoidable' transfer is a transfer `that can be avoided.' . . . Because the trustee could have avoided the transfers, those transfers were not `otherwise unavoidable,' and thus have no bearing on Chrysler Credit's new value defense. And, even though such a result may frustrate the intended operation of section 547(c)(4), such is only the case because of the trustee's failure to recover the avoidable post-new value payments.
Hall, 412 F.3d at 552 (emphasis in original).
On remand, both parties filed motions for summary judgment on Issue 2. This court by memorandum opinion and order entered May 4, 2006, (dockets 180, 179) denied Chrysler Credit's summary judgment motion and partially granted the trustee's motion, granting judgment for the trustee against Chrysler Credit in the amount of $762,164.80. The court's memorandum opinion and order of May 4 are incorporated in this opinion.
Discussion and Conclusions of Law.
In the trustee's trial memorandum and proposed findings of fact and conclusions of law filed after the remand trial of June 6, 2006, the trustee continues to argue for judgment against Chrysler Credit for the remainder of the preferential transfers after reduction of the summary judgment award of $762,164.80. Using the preference figures previously found by the court, the trustee seeks an additional judgment in the amount of $1,347,109.46 (total preferences of $2,109,274.26 less summary judgment amount of $762,164.80). No new evidence supports the trustee's argument. The issue is one of applicable law, and this court's previous denial of this part of the trustee's summary judgment remains the basis to deny the trustee any further recovery on behalf of JKJ CP.
Following trial, the trustee continues to advance the same argument rejected by the court of appeals in Hall to the effect that the pre-petition loan repayments by JKJ CP were "otherwise unavoidable" and thus invalidated Chrysler Credit's new value defense under § 547(c)(4). In summary, the trustee asserts that Chrysler Credit has the burden of proof to establish that JKJ CP's prepetition repayments were otherwise unavoidable. He also argues that the court of appeals' ruling on this issue "rests upon certain unexamined, and ultimately untenable, assumptions." (Plaintiff's Trial Memorandum on Remand, p. 8.) The trustee's primary point here is that the appellate court did not consider "when is the determination that a transfer is `otherwise unavoidable' made?" (Id. at 9.)
The court held in the memorandum opinion on summary judgment motions entered May 4, 2006, p. 7, that Chrysler Credit had proven it extended new value (credit) during the preference period in excess of the JKJ CP preference payments. The record in this case readily establishes that JKJ CP's repayments of new credit were also preferential, but the trustee failed to include these payments in his complaint. The trustee's argument that Chrysler Credit has failed to prove that the repayments were not "otherwise unavoidable" actually raises the issue of law that was decided by the court of appeals in Hall.
To summarize the trustee's argument, he cites several decisions that suggest the determination of whether a preference repayment under § 547(c)(4) is "otherwise unavoidable" should be determined at the time the petition is filed, or, alternatively, when an adversary proceeding is filed (or adjudicated) to which a subsequent new value defense under this section is asserted. (Id. at 8-10.) The cited cases are dicta, and none are directly on point.
One of the trustee's cited holdings that the determination is made when the petition is filed is the Fifth Circuit decision inWilliams v. Agama Systems, Inc. (In re Micro Innovations Corp.), 185 F.3d 329 (5th Cir. 1999). This case involved § 547(c)(4)(A), which, similar to § 547(c)(4)(B), provides that new value will offset a preference provided it is "not secured by an otherwise unavoidable security interest." The issue concerned a preference creditor who had taken back a security interest for new value but had never perfected it. The court ruled that the unperfected security interest did not defeat the creditor's new value defense inasmuch as there was no security interest on the date the bankruptcy was filed. 185 F.3d at 335-336.
"[T]he proper temporal focus is not on the historical existence of security interests, but rather the existence of such interests at the time of bankruptcy. If security interests exist at that time and the new value rule is invoked, the court should not allow the thus secured new value to be set off against past preferences if the security interests are otherwise unavoidable. However, if at the time of bankruptcy no such interest exists, the once secured new value may be applied against such preferences. Since no security interest existed at the relevant time, section 547(c)(4)(A) is facially inapplicable.
In re Micro Innovations Corp., 185 F.3d at 336.
The trustee relies on the above language to support his argument that if the repaying preferential transfer claims against Chrysler Credit existed on the date JKJ CP filed bankruptcy, the trustee's failure to include those in his complaint and subsequent expiration of the statute of limitations does not change those claims from avoidable to "otherwise unavoidable." While the trustee makes a reasonable argument on the facts of the case, this court does not find Micro Innovations a strong enough precedent for this court to suggest that the Fourth Circuit Court of Appeals reconsider its ruling in Hall. In fact, it would seem that the time at which a repaying transfer becomes otherwise unavoidable is not inflexible and depends on the particular facts of a case.
Accordingly, this court's ruling on Issue 2 remains as set out in the memorandum opinion of May 4, 2006, and judgment will not be entered for any additional recovery by the trustee for the case of JKJ CP. A final judgment will be entered in favor of the trustee in the amount of $762,164.80.
A separate order consistent with this opinion will be entered.
Koons June 1991 October 1991 Total collateral $1,694,085 $1,844,369 Chrysler Credit debt 2,140,221 2,602,261 Unsecured debt 446,136 757,892 Brandnewco Total collateral $2,293,824 $2,529.911 Chrysler Credit debt 3,423,875 3,667,922 Unsecured debt 1,130,051 1,138,011 Memorandum Opinion October 14, 2003, p. 5. The recoveries awarded by the court on remand are about two million dollars higher than would have been suggested by Chrysler Credit's unsecured positions in October 1991.