Opinion
Case No. 13-13960 Miscellaneous Proceeding No. 18-101
04-03-2019
In re: FRENCH MANOR PROPERTIES, LLC AND BRENDA ASHCRAFT Debtors GEORGE LEICHT, CHAPTER 7 BANKRUPTCY TRUSTEE Plaintiff v. ROGER WILLIAMS, ET AL. AND MARK COHEN, ET AL. Defendants
Chapter 7
(Related to Adversary Proceedings 15-1059 and 15-1060) MEMORANDUM DECISION: 1) GRANTING, IN PART, PLAINTIFF'S MOTION FOR PARTIAL SUMMARY JUDGMENT LIMITED TO THE UNDISPUTED FACTS AND CONCLUSIONS OF LAW COMMON TO ALL DEFENDANTS; -AND- 2) DENYING MOTION IN ALL OTHER REPSECTS
[This opinion is not intended for publication or citation.]
This matter is before this Court on the Plaintiff's Motion for Partial Summary Judgment Against All Defendants on All But One Element of the Trustee's Prima Facie Case on Actual and Constructive Fraudulent Transfers [Docket Number 1], Trustee's Statement of Undisputed Material Facts [Docket Number 3], Trustee's exhibits in support [Docket Numbers 4-35] and Trustee's brief in support [Docket Number 36] (collectively "Motion"); Defendants Roger Williams, Vicki Williams, and Jenntara, Inc.'s Memorandum in Opposition to Plaintiff's Motion for Partial Summary Judgment [Docket Number 42]; Response of Defendants Mark Cohen and Global Consolidated Holdings, Inc. to Plaintiff's Motion for Partial Summary Judgment [Docket Number 44]; Plaintiff's Reply to Defendants Jenntara Inc., Roger Williams and Vicki Williams Memorandum in Opposition to Plaintiff's Motion for Partial Summary Judgment [Docket Number 52]; and Plaintiff's Reply to Defendants Mark Cohen and Global Consolidated Holdings Memorandum in Opposition to Plaintiff's Motion for Partial Summary Judgment [Docket Number 53].
Prior to filing his Motion, Chapter 7 Trustee George Leicht ("Trustee"), Trustee for the jointly administered bankruptcy cases of French Manor Properties, LLC and Brenda Ashcraft, filed adversary complaints against two sets of defendants: 1) Defendants Roger Williams, Vicki Williams, and Jenntara, Inc. (the "Williams Defendants") in Adversary Number 15-1059; and 2) Defendants Mark Cohen and Global Consolidated Holdings, Inc. (the "Cohen Defendants") in Adversary Number 15-1060. In the adversary complaints, the Trustee seeks to recover funds allegedly transferred to the Williams Defendants and Cohen Defendants (collectively "Defendants") as part of a Ponzi scheme created by Brenda Ashcraft and perpetuated through the company she operated, French Manor Properties, LLC [Adversary Number 15-1059, Docket Number 1 and Adversary Number 15-1060, Docket Number 1]. The Trustee asserts, among other claims, that the transfers are avoidable as fraudulent transfers under 11 U.S.C. § 548 and/or 11 U.S.C. § 544 and Ohio Rev. Code §§ 1336.04 and 1336.07 and the funds are recoverable from the Defendants pursuant to 11 U.S.C. § 550 [Id.].
After the Defendants filed answers, the Trustee filed motions to consolidate the two adversary proceedings solely for the purpose of establishing common issues of law and fact related to the alleged Ponzi scheme [Adversary Number 15-1059, Docket Number 53 and Adversary Number 15-1060, Docket Number 34]. This Court granted the Trustee's motions to consolidate for this limited purpose leading to the opening of this miscellaneous proceeding and the filing of the Trustee's Motion requesting partial summary judgment to establish undisputed facts and conclusions of law common to all Defendants.
I. JURISDICTION
This Court has jurisdiction over this matter pursuant to 28 U.S.C. §§ 157(a) and 1334, and the standing General Order of Reference in this District. This is a core proceeding pursuant to 28 U.S.C. § 157(b)(2)(H). Both the Williams Defendants and the Cohen Defendants have consented to this Court entering a final judgment in the underlying adversary proceedings.
See Adversary Number 15-1059 at Docket Number 37, ¶ 3 (consent of the Williams Defendants) and Adversary Proceeding Number 15-1060 at Docket Number 16, § II (consent of the Cohen Defendants).
II. BACKGROUND
The following factual background is derived from the Trustee's Statement of Undisputed Material Facts [Docket Number 3] and exhibits in support [Docket Numbers 4-35]. The facts are undisputed except where stated. A. The Bankruptcy Cases and Adversary Proceedings
Docket Number references are to documents filed in Miscellaneous Proceeding 18-101 unless otherwise noted.
In August and October of 2013, involuntary bankruptcy petitions were filed against Debtor French Manor Properties, LLC ("French Manor") and Debtor Brenda Ashcraft ("Ashcraft") under chapter 7 of the Bankruptcy Code in Case Numbers 13-13960 and 13-14859 respectively. Orders for relief were entered in both cases and George Leicht was appointed as Trustee. The cases were ordered to be jointly administered.
Collectively, Ashcraft and French Manor may be referred to as the "Debtors" in this decision.
On August 19, 2015, the Trustee commenced the adversary proceedings against the Williams Defendants and the Cohen Defendants to recover, as alleged fraudulent transfer, funds purportedly paid out by the Debtors to these defendants as part of an investment scheme. B. Debtors' Investment Scheme
In a statement signed and entered as part of a plea agreement in a federal criminal proceeding, Ashcraft admitted that from approximately 2009 to August of 2013, she ran a scheme to defraud investors through the company she owned and operated, French Manor [Docket Number 5 (Ex. C)]. Ashcraft solicited individuals to invest funds with her and French Manor to purchase and sell real estate through real estate investment trusts or REITs [Id.]. In soliciting investors, Ashcraft told them that French Manor acted as the REIT Trustee to negotiate short sale purchases then resell the property to new buyers at a profit [Id.].
On or about August 21, 2013, in the United States District Court for the Southern District of Ohio, Western Division, Ashcraft was indicted on several criminal counts commencing an action styled United States of America v. Brenda Ashcraft, 13-CR-93 [Docket Number 4 (Ex. B)]. On April 14, 2015, Ashcraft and the United States Attorney for the Southern District of Ohio entered into a plea agreement which included a Statement of Facts signed by Ashcraft and filed in the Criminal Proceeding [Docket Number 3, ¶ 4; Docket Number 5 (Ex. C)].
On behalf of French Manor, Ashcraft would accept money from investors who believed they were placing their funds in REITs in exchange for Investor Agreements issued by French Manor, examples of which are provided by the Trustee on summary judgment [Docket Numbers 6-9 (Exs. D-1 through D-4)]. Ashcraft represented herself to potential investors as having contacts within major mortgage lenders and banks allowing her inside information on properties that were about to be foreclosed [Id. and Docket Number 5 (Ex. C)]. Using these connections, she informed investors that she would contact the owner of a property on the verge of foreclosure and negotiate low payoffs with the mortgage lenders then arrange for the sale of the property at a profit [Id.]. Investors were advised that profits from the sale would return their initial investment plus a substantial profit, typically from 10% to 14% payable within three to six months [Docket Numbers 6-9 (Exs. D-1 through D-4)].
Except for the last few months of operation, investor funds paid to French Manor were deposited into one of two bank accounts:
1) Fifth Third Bank account number 7023909133 from 2009 through February of 2013 when the account was closed; and[Docket Number 3, ¶ 11; Docket Numbers 10 through 17 (Exs. E-1 through E-8: Fifth Third Bank account statements from October of 2010 through February of 2013 Annotated); Docket Numbers 20 through 32 (Exs. I-1 through I-14: certified copies of Fifth Third Bank account statements from October of 2010 through February of 2013, and copies of cashier's checks and records of wire transfers); Docket Number 18 (Ex. F: JP Morgan Chase bank account statements from March of 2013 through May of 2013 Annotated); Docket Number 33 (Ex. J: certified copies of JP Morgan Chase bank account statements from February of 2013 through May of 2013)].
2) JPMorgan Chase account number 0183910150 from February of 2013 through May of 2013 when the account was closed.
This group of exhibits does not include an I-10.
This exhibit is mislabeled Exhibit G on the docket [See Docket Number 18].
The investor funds were commingled in these accounts [Id.]. Because of the fungible nature of money and the commingling of investor funds, the Trustee determined that it was not possible to trace the dollars from an investor once the funds were deposited or transferred into an account containing funds from other investors [Docket Number 3, ¶ 12; Docket Number 19 (Ex. H: Affidavit of Trustee); Docket Numbers 10 through 17 (Exs. E-1 through E-8); Docket Number 18 (Ex. F)]. Disbursements to investors and third parties as well as payments towards Ashcraft's personal expenses were made from the Fifth Third and JPMorgan Chase bank accounts [Id.].
The Trustee asserts that Ashcraft maintained minimal business records for French Manor and no account ledgers so that the sole method of tracing funds was through bank records [See Docket Number 3, ¶ 18].
While soliciting and inducing investors with promises of investing funds in REITs with high rates of return, Ashcraft did not actually invest the funds in REITs [Docket Number 5 (Ex. C)]. Specifically, Ashcraft admitted the following in her statement made with her plea agreement:
In her dealings with investors, Ashcraft made false representations regarding the use of the funds, her relationships with banks, the amount of funds in her bank accounts, and the source of the funds to pay the investors back. She did not invest the funds in REITs. Ashcraft used the investor funds to pay purported 'returns' back to other investors as if the funds had actually generated income through investment in a REIT. In other words, new investor funds were used to pay off earlier investor investments.[Id. (cleaned up)]. From the Trustee's review of bank accounts, the Trustee determined that Ashcraft used the funds paid to French Manor primarily for the following undisclosed purposes:
1) to pay returns to earlier French Manor investors and possible commissions to persons or entities that referred investors to French Manor;[Id.; Docket Number 19 (Ex. H); Docket Numbers 10 through 17 (Exs. E-1 through E-8); Docket Numbers 20 through 32 (Exs. I-1 through I-14); Docket Number 18 (Ex. F); Docket Number 33 (Ex. J)].
2) to pay personal expenses for herself and her family and to pay herself various commissions and bonuses; and
3) to divert funds to unrelated business ventures for her own benefit rather than the benefit of investors in French Manor.
More specifically, from at least as early as 2009 through about May 2013 Ashcraft used funds from new investors to make principal and interest payments to existing investors and paid what appears to be commissions to third parties who referred persons to invest with French Manor [Docket Number 5 (Ex. C); Docket Number 19 (Ex. H); Docket Numbers 10 through 17 (Exs. E-1 through E-8); Docket Number 18 (Ex. F)]. During this same time period, Ashcraft used funds deposited with French Manor to pay herself various bonuses and cash withdrawals, expenses of her family, and to pay her personal grooming, credit card, and medical expenses [Id.]. Ashcraft expended in excess of $800,000.00 for her personal benefit [Docket Number 19 (Ex. H)].
French Manor, as a business, produced no profits between at least 2009 and the bankruptcy filing in August of 2013, except de minimis rents received in the amount of $775.00 per month [Docket Number 3, ¶ 19; Docket Number 19 (Ex. H); Docket Numbers 10 through 17 (Exs. E-1 through E-8); Docket Number 18 (Ex. F)]. C. Facts Specific to the Williams Defendants and the Cohen Defendants
On summary judgment, neither the Williams Defendants nor the Cohen Defendants dispute the facts establishing the existence of the investment scheme perpetuated by Ashcraft and French Manor [Docket Numbers 42 and 44]. However, they show concern that the Trustee uses this miscellaneous proceeding and his Motion to request certain factual findings specific to individual defendants and their dealings and transactions with Ashcraft and French Manor. Thus, out of an abundance of caution, the Williams Defendants and Cohen Defendants provide their own factual background in an attempt to raise defenses and argue that their particular dealings or transactions were not part of the investment scheme and/or do not otherwise qualify as fraudulent transfers [See Docket Number 42-1 (Williams Affidavit); Docket Number 44-1 (Cohen Affidavit)].
This Court agrees with the concerns raised by the Defendants. The Trustee's Statement of Undisputed Facts and Brief attempt to establish certain facts specific to the Debtors' dealings and transactions with the Williams Defendants and Cohen Defendants such as labeling the Defendants as "investors" who received profits or commissions on account of investments with French Manor [See, e.g., Docket Number 3, ¶¶ 16 and 22; Docket Number 36, pp. 12, 18]. These factual statements are outside the scope of the Trustee's stated purpose for opening the miscellaneous proceeding and filing his Motion, which is to establish common issues of law and fact related to the Debtors' alleged Ponzi scheme rather than facts specific to individual defendants and transactions. Indeed, in his two replies, the Trustee concedes that the sole purpose of his Motion is "to establish that the Debtor operated a Ponzi scheme and that French Manor Properties, LLC (FMP) was not a legitimate enterprise engaged in a business model that produced profits for its investors or lenders." [Docket Numbers 52 and 53, p. 2].
For these reasons, this Court disregards all facts raised by either the Trustee or the Defendants regarding any specific transactions and dealings between the Defendants and the Debtors. Such specific facts, and any legal conclusions drawing on those facts, shall be determined within the Defendants' respective adversary proceedings.
III. SUMMARY JUDGMENT STANDARD
This Court addresses the Trustee's Motion under the standard set forth in Rule 56(a) of the Federal Rules of Civil Procedure (the "Civil Rules") made applicable to this proceeding by Rule 7056 of the Federal Rules of Bankruptcy Procedure. Civil Rule 56(a) provides that summary judgment is to be granted by this Court "if the movant shows that there is no genuine dispute as to any material fact and the movant is entitled to judgment as a matter of law." Fed. R. Civ. P. 56(a). "As to materiality, the substantive law will identify which facts are material. Only disputes over facts that might affect the outcome of the suit under the governing law will properly preclude the entry of summary judgment." Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 248 (1986). A "genuine" dispute exists only where "evidence is such that a reasonable [finder of fact] could return a [judgment] for the nonmoving party." Id.; Gallagher v. C.H. Robinson Worldwide, Inc., 567 F.3d 263, 270 (6th Cir. 2009).
To prevail, the moving party, if bearing the burden of persuasion at trial, must establish all elements of its claim. Celotex Corp. v. Catrett, 477 U.S. 317, 331 (1986). Thereafter, "the nonmoving party must come forward with 'specific facts showing that there is a genuine issue for trial.'" Matsushita Elec. Indus. Co. v. Zenith Radio Corp., 475 U.S. 574, 587 (1986) (citations omitted). All inferences drawn from the underlying facts must be viewed in a light most favorable to the party opposing the motion. Id. at 587-88; Anthony v. BTR Auto. Sealing Sys., Inc., 339 F.3d 506, 511 (6th Cir. 2003). Nonetheless, mere conclusory allegations or unsupported opinions of the nonmovant are insufficient to defeat a motion for summary judgment. Matsushita, 475 U.S. at 586-88; See also Blaney v. Cengage Learning, Inc., 2011 U.S. Dist. LEXIS 43780, at *19-20, 2011 WL 1532032, at *7 (S.D. Ohio Apr. 22, 2011) ("Although the summary judgment standard requires that evidence of record be viewed in the light most favorable to the nonmoving party, it does not require that all bald assertions and subjective unsupported opinions asserted by the nonmoving party be adopted by the court").
IV. LEGAL ANALSYIS
The Trustee claims that funds transferred from French Manor to the Defendants constitute avoidable and recoverable fraudulent transfers under § 548 of the Bankruptcy Code and/or applicable state law using the Trustee's "strong-arm" powers under § 544. These avoidance powers are afforded to the Trustee because "fraudulent transfers diminish the assets of the debtor to the detriment of all creditors." Unencumbered Assets Trust v. Biomar Tech., Inc. (In re Nat'l Century Fin. Enter., Inc.), 341 B.R. 198, 212 (Bankr. S.D. Ohio 2006).
Use of the terms "Bankruptcy Code," "Section" or "§" are references to provisions of Title 11 of the United States Code.
Section 548 of the Bankruptcy Code provides in relevant part:
(a)(1) The trustee may avoid any transfer . . . of an interest of the debtor in property, or any obligation . . . incurred by the debtor, that was made or incurred on or within 2 years before the date of the filing of the petition, if the debtor voluntarily or involuntarily—
11 U.S.C. § 548.(A) made such transfer or incurred such obligation with actual intent to hinder, delay, or defraud any entity to which the debtor
was or became, on or after the date that such transfer was made or such obligation was incurred, indebted; or
(B)(i) received less than a reasonably equivalent value in exchange for such transfer or obligation; and
(ii)(I) was insolvent on the date that such transfer was made or such obligation was incurred, or became insolvent as a result of such transfer or obligation;
(II) was engaged in business or a transaction, or was about to engage in business or a transaction, for which any property remaining with the debtor was an unreasonably small capital;
(III) intended to incur, or believed that the debtor would incur, debts that would be beyond the debtor's ability to pay as such debts matured[.]
In addition, the Trustee has the avoidance rights of certain creditors under 11 U.S.C. § 544, which permits the Trustee to use state law remedies to avoid fraudulent transfers. The Trustee seeks to avoid the transfers utilizing Ohio Revised Code § 1336.04, part of the Ohio Uniform Fraudulent Transfer Act ("Ohio UFTA"). The purpose of the Ohio UFTA, similar to § 548 of the Bankruptcy Code, is to "discourage fraud and provide aggrieved creditors with a means to recover assets wrongfully placed beyond their reach." Bash v. Textron Fin. Corp. (In re Fair Fin. Co.), 834 F.3d 651, 674 (6th Cir. 2016). Section 1336.04 of the Ohio UFTA provides:
(A) A transfer made or an obligation incurred by a debtor is fraudulent as to a creditor, whether the claim of the creditor arose before, or within a reasonable time not to exceed four years after, the transfer was made or the obligation was incurred, if the debtor made the transfer or incurred the obligation in either of the following ways:
(1) With actual intent to hinder, delay, or defraud any creditor of the debtor;
(2) Without receiving a reasonably equivalent value in exchange for the transfer or obligation, and if either of the following applies:
(a) The debtor was engaged or was about to engage in a business or a transaction for which the
Ohio Rev. Code § 1336.04(A).remaining assets of the debtor were unreasonably small in relation to the business or transaction;
(b) The debtor intended to incur, or believed or reasonably should have believed that the debtor would incur, debts beyond the debtor's ability to pay as they became due.
The fraudulent transfer provisions of the Bankruptcy Code and Ohio UFTA are "substantially similar both in terms of rights, remedies and defenses." Slone v. Lassiter (In re Grove-Merritt), 406 B.R. 778, 789 (Bankr. S.D. Ohio 2009). However, they have different reach-back periods. Id. Specifically, § 548 has a two year reach-back period from the petition filing date whereas fraudulent transfers under § 1336.04 of the Ohio UFTA may be avoidable up to four years after the transfers occur. 11 U.S.C. § 548(a)(1); Ohio Rev. Code § 1336.09.
On summary judgment, the Trustee seeks only limited factual findings and legal conclusions relevant to his fraudulent transfer claims that, according to the Trustee, are common to both sets of Defendants. The findings and conclusions that he seeks from this Court on summary judgment including the following:
1) The French Manor investment scheme involving commingled untraceable investor funds is a "Ponzi scheme";
2) Transfers made in furtherance of the Ponzi scheme constitute an "interest of the debtor in property";
3) Transfers in furtherance of the Ponzi scheme were made with the "actual intent to hinder, delay, or defraud creditors";
4) French Manor was insolvent under both state and federal interpretations of insolvency;
5) The Trustee satisfies the Bankruptcy Code and Ohio Uniform Fraudulent Transfer Act's alternatives to proof of French Manor's insolvency;
6) The specific transfers to the Williams Defendants and Cohen Defendants: a) were made in furtherance of the Ponzi scheme; b) constitute an interest of the debtor in property; c) were made with the actual intent to hinder,
delay, or defraud creditors; and d) did not result in French Manor receiving "reasonably equivalent value" for the transfers.Some of the factual findings and legal conclusions that the Trustee requests this Court make are undisputed. However, as argued by the Defendants, other issues are not capable of determination without drawing on facts specific to individual defendants and transactions, which are outside the scope of what was to be determined on summary judgment in this miscellaneous proceeding. Accordingly, the Court will address each issue separately, beginning with whether the investment scheme created by Ashcraft and perpetuated through French Manor constitutes a Ponzi scheme. A. The French Manor Investment Scheme Involving Commingled Untraceable Investor Funds is a "Ponzi Scheme"
The Trustee asserts, and the Defendants do not dispute, that Ashcraft and French Manor operated a Ponzi scheme. "A Ponzi scheme is a fraudulent investment arrangement under which an entity makes payments to investors from monies received from new investors rather than from profits generated by legitimate business operations, although investors may believe an actual business exists from which profits are derived." Rieser v. Hayslip (In re Canyon Sys. Corp.), 343 B.R. 615, 629 (Bankr. S.D. Ohio 2006) (citing, as an example, First Nat'l Bank of Barnesville v. Rafoth (In re Baker & Getty Fin. Servs., Inc.), 974 F.2d 712, 714 (6th Cir. 1992)). See also In re Taubman, 160 B.R. 964, 978 (Bankr. S.D. Ohio 1993) ("In general, a ponzi scheme is a fraudulent investment arrangement in which returns to investors are not obtained from any underlying business venture but are taken from monies received from new investors."). A Ponzi scheme generally runs its course as follows:
Typically, investors are promised high rates of return . . . and initial investors obtain a greater amount of money from the ponzi scheme than those who join the ponzi scheme later. As a result of the absence of sufficient, or any, assets able to generate funds necessary to pay the promised returns, the success of such a scheme guarantees its demise because the operator must attract more and more funds, which thereby creates a greater need for funds to pay previous investors, all of which ultimately causes the scheme to collapse.Taubman, 160 B.R. at 978.
Although no one factor is controlling, courts have identified factors typical to a Ponzi scheme including:
(1) the debtor receives funds from investors (which can include parties loaning money to generate a return); (2) investors are promised large returns for their investments; (3) initial investors are actually paid the promised returns, which attracts additional investors; (4) returns to investors are not financed through the success of the underlying business venture, if any, but are taken from principal sums received from newly attracted investments; and (5) the debtor induces investments through an illusion of paying returns to investors from legitimate business activities.Wagner v. Pruett (In re Vaughan Co., Realtors), 477 B.R. 206, 219 (Bankr. D. N.M. 2012) (further citing for a compilation of factors, Kathy Bazoian Phelps and Hon. Steven Rhodes, The Ponzi Scheme Book: A Legal Resource for Unraveling Ponzi Schemes, § 2.03[1][b] (2012)). See also Canyon Sys. Corp., 343 B.R. at 630 (citing similar factors). In addition to these factors, other indications of a Ponzi scheme include the commingling of investor funds, the collapse of the business upon the loss of investors, and the often lavish lifestyle of the individuals operating the scheme. Miller v. Wulf, 84 F.Supp.3d 1266, 1273-74 (D. Utah 2015), aff'd 632 F. App'x 937 (10th Cir. 2015); Bash v. Textron Fin. Corp., 524 B.R. 745, 757 (N.D. Ohio 2015).
The commingling of investor funds in this fashion makes fund tracing impossible. Miller v. Wulf, 84 F.Supp.3d 1266, 1273-74 (D. Utah 2015), aff'd, 632 F. App'x 937 (10th Cir. 2015).
The undisputed facts establish that Ashcraft operated French Manor as a Ponzi scheme from approximately 2009 to August of 2013. Ashcraft solicited individuals to invest funds with her and French Manor to purchase and sell real estate through real estate investment trusts or REITs. Ashcraft represented herself as having connections with mortgage lenders and banks giving her inside information about real estate investment opportunities. Investors were promised high rates of return, typically ranging from 10% to 14% payable within three to six months which, according to the Trustee's calculations, represents returns between 32% and 132% when annualized [Docket Number 3, (Ex. A), ¶ 9].
However, Ashcraft admitted that she did not actually invest the funds received by French Manor in REITs. Instead, Ashcraft commingled the funds from new investors in two bank accounts with Fifth Third Bank and JP Morgan Chase. Ashcraft then used the commingled funds from new investors to pay purported returns to existing investors and pay what the Trustee believes to be commissions to third parties who referred persons to invest with French Manor. In addition, Ashcraft used the investors' funds to pay herself various bonuses and cash withdrawals, divert funds to unrelated business ventures that were not for investors' benefit, and pay personal expenses for herself and her family, totaling in excess of $800,000.00.
Without a legitimate business enterprise to generate the returns promised to investors, French Manor made no profits between at least 2010 and the bankruptcy petition filing date except de minimis rent payment of $775 per month. In sum, the undisputed facts presented by the Trustee demonstrate the hallmarks of a classic Ponzi scheme and summary judgment is granted to the Trustee on this issue. B. Transfers Made in Furtherance of the Ponzi Scheme Constitute Transfers of an "Interest of the Debtor in Property"
The remaining facts and legal conclusions that the Trustee wishes to establish relate directly to elements of his claims to recover fraudulent transfers under the Bankruptcy Code and the Ohio UFTA. One requirement that the Trustee must prove is that the payments made by French Manor constitute transfers of an interest of the debtor in property. 11 U.S.C. § 548(a)(1) and Ohio Rev. Code § 1336.01(L) and § 1336.04. See also Canyon Sys. Corp., 343 B.R. at 635. On summary judgment, the Trustee argues that payments made by French Manor as part of the Ponzi scheme constitute transfers of aproperty interest of the debtor as a matter of law.
Both the Bankruptcy Code and the Ohio UFTA give similarly broad definitions of what constitutes a "transfer" for avoidance purposes. Canyon Sys. Corp., 343 B.R. at 635. The Bankruptcy Code provides that a transfer includes "each mode, direct or indirect, absolute or conditional, voluntary or involuntary, of disposing of or parting with - (i) property; or (ii) an interest in property." 11 U.S.C. § 101(54)(D). Similarly, the Ohio UFTA defines a transfer as "every direct or indirect, absolute or conditional, and voluntary or involuntary method of disposing of or parting with an asset or an interest in an asset, and includes payment of money, release, lease, and creation of a lien or other encumbrance." Ohio Rev. Code § 1336.01(L). Payments a debtor makes to investors as part of a Ponzi scheme have been found to constitute transfers under both of these definitions. Canyon Sys. Corp., 343 B.R. at 635; Taubman, 160 B.R. at 982-83.
Furthermore, a debtor has a property interest in funds obtained from investors, commingled in accounts controlled by the debtor, and transferred to others in furtherance of the Ponzi scheme. Canyon Sys. Corp., 343 B.R. at 635; Taubman, 160 B.R. at 982. "'[W]hen a debtor obtains money by fraud and mingles it with other money so as to preclude any tracing and when the defrauded party . . . accepts benefits under his contract with the debtor, the money is 'property' of the debtor within the meaning of Sections 547 and 548 of the Code.'" Rafoth v. First Nat'l Bank of Barnesville (In re Baker & Getty Fin. Servs, Inc.), 98 B.R. 300, 306 (Bankr. N.D. Ohio 1989), aff'd, 974 F.2d 712 (6th Cir. 1992) (further citation omitted).
Except for the last few months of operation, the undisputed facts support that investor funds paid to French Manor were deposited into one of French Manor's two bank accounts at Fifth Third Bank and JPMorgan Chase. The funds were commingled in those two accounts. During that same time, French Manor used the commingled funds to pay returns to existing investors and pay what the Trustee believes to be commissions to third parties who referred persons to invest with French Manor. On summary judgment, the Trustee establishes that these transfers made in furtherance of the French Manor Ponzi scheme constitute transfers of an interest of the debtor in property. C. Transfers in Furtherance of the Ponzi Scheme Were Made with the "Actual Intent to Hinder , Delay, or Defraud Creditors"
In this case, the Trustee claims that French Manor's transfer of funds in furtherance of the Ponzi scheme are subject to avoidance as both "actual fraudulent transfers," i.e. transfers made with the actual intent to hinder, delay, or defraud creditors, and "constructive fraudulent transfers," which are transfers made for less than reasonably equivalent value. Grove-Merritt, 406 B.R. at 789 (noting that both the Bankruptcy Code and the Ohio UFTA have provisions for avoidance of actual and constructive fraudulent transfers). With respect to the "actual fraud" provisions of § 548(a)(1)(A) of the Bankruptcy Code and Ohio Rev. Code § 1336.04(A)(1), the Trustee seeks to establish that French Manor's transfers made in furtherance of the Ponzi scheme were made with the actual intent to hinder, delay, or defraud creditors as a matter of law.
Under the Ohio UFTA, the debtor's intent must be established by clear and convincing evidence. Canyon Sys. Corp., 343 B.R. at 635. Courts are split as to the appropriate standard under § 548(a)(1)(A) as either clear and convincing or the lesser preponderance of the evidence. Id. (collecting cases on the split). See also Grove-Merritt, 406 B.R. at 793 n.9. However, in this case, as in Canyon Sys. Corp., it is unnecessary to determine the appropriate standard because, "the Trustee has established the existence of a Ponzi scheme, and thus actual intent to defraud, by clear and convincing evidence." Id. at 636.
Intent to hinder, delay, or defraud creditor may be inferred as a matter of law from a debtor's active participation in a Ponzi scheme or similar illegitimate enterprise. Id. at 636-37; Taubman, 160 B.R. at 983. As one court noted:
One can infer an intent to defraud future undertakers from the mere fact that a debtor was running a Ponzi scheme. Indeed, no other reasonable inference is possible. A Ponzi scheme cannot work forever. The investor pool is a limited resource and will eventually run dry. The perpetrator must know that the scheme will eventually collapse as a result of the inability to attract new investors. The perpetrator nevertheless makes payments to present investors, which by definition, are meant to attract new investors. He must know all along, from the very nature of his activities, that investors at the end of the line will lose their
money. Knowledge to a substantial certainty constitutes intent in the eyes of the law, . . . and a debtor's knowledge that future investors will not be paid is sufficient to establish his actual intent to defraud them.Merrill v. Abbott (In re Indep. Clearing House Co.), 77 B.R. 843, 860 (D. Utah 1987). Indeed, with no legitimate business to support the returns promised to investors, "transfers made in the course of a Ponzi operation could have been made for no other purpose than to hinder, delay, or defraud creditors." Canyon Sys. Corp., 343 B.R. at 637. See also Emerson v. Maples (In re Mark Benskin & Co., Inc.), 59 F.3d 170 (Table), 1995 U.S. App. LEXIS 16053, at *12, 1995 WL 381741, at *5 (6th Cir. June 26, 1995) ("Since 1966, this court has found that the question of intent to defraud in a Ponzi scheme 'is not debatable.'").
Here, the intent to defraud creditors is established through the Trustee's undisputed evidence that Ashcraft and French Manor were actively operating a Ponzi scheme. Ashcraft admitted that she solicited investors with promises of investing funds in REITs with high rates of return, but did not actually invest the funds in these real estate investments. Instead, she used new investor funds to pay purported "returns" to existing investors through French Manor as if the funds had actually generated income through investment in a REIT. Without legitimate investments to support the promised returns to investors, this Court concludes that transfers in furtherance of the Debtors' Ponzi scheme were made with the actual intent to hinder, delay, or defraud creditors under 11 U.S.C. § 548(a)(1)(A) and Ohio Rev. Code § 1336.04(A)(1). D. The Ponzi Scheme Rendered French Manor Insolvent
The insolvency of the debtor is a relevant element to the constructive fraud provision of the Bankruptcy Code and actual and constructive fraud provisions of the Ohio UFTA. 11 U.S.C. § 548(a)(1)(B)(ii)(I); Ohio Rev. Code § 1336.04(B)(9); Ohio Rev. Code § 1336.05. The Trustee asserts that French Manor's undisputed financial status and operation as a Ponzi scheme establishes its insolvency.
This Court notes that the Trustee does not rely on Ohio Rev. Code § 1336.05 in his brief on summary judgment.
The Bankruptcy Code defines "insolvent" as an entity's "financial condition such that the sum of such entity's debts is greater than all of such entity's property, at a fair valuation, exclusive of — (i) property transferred, concealed, or removed with intent to hinder, delay, or defraud such entity's creditors; and (ii) property that may be exempted from property of the estate under section 522 of this title[.]" 11 U.S.C. § 101(32)(A). "Thus, insolvency is essentially a balance sheet test—that is, a debtor is insolvent when the debtor's liabilities exceed the debtor's assets, excluding the value of preferences, fraudulent conveyances, and exemptions." Taubman, 160 B.R. at 979. Similarly, the Ohio UFTA defines a debtor as insolvent "if the sum of the debts of the debtor is greater than all of the assets of the debtor at a fair valuation." Ohio Rev. Code § 1336.02(A)(1). The Trustee bears the burden of proof with respect to insolvency under both § 548 of the Bankruptcy Code as well as the Ohio UFTA. Taubman, 160 B.R. at 979.
The Bankruptcy Code provides separate definitions of "insolvent" for partnerships and municipalities that are not relevant to this case.
Debtors engaged in a Ponzi scheme with no legitimate business operation have been determined "insolvent" from the inception of the scheme. DeGirolamo v. Garrett (In re Applegate), Adv. No. 07-6218, 2008 WL 6177172, at *4 (Bankr. N.D. Ohio Dec. 11, 2008); Canyon Sys. Corp., 343 B.R. at 649; Taubman, 160 B.R. at 978 ("The promised rates of return, because they are in excess of any real investments, render a ponzi scheme operator insolvent from the inception of the scheme."). Because the illegitimate business generates no real profits, the debtor's payment of returns to old investors out of the funds received from new investors guarantees ongoing and increasing losses. See Canyon Sys. Corp., 343 B.R. at 649; Taubman, 160 B.R. at 978.
In this case, the Williams Defendants concede, and the Cohen Defendants do not question, that Ashcraft's operation of the Ponzi scheme rendered French Manor insolvent from at least 2010 until the bankruptcy petition filing date [See Docket Number 42, p. 9; Docket Number 44, pp. 5-6]. French Manor's insolvency is demonstrated by the Trustee's undisputed evidence that French Manor generated no profits, besides a de minimis rental payment, between 2010 and the bankruptcy petition filing date. Indeed, Ashcraft admitted that investor funds were not invested in REITs or other legitimate investments for the investors' benefit. Instead, she used the commingled funds from new investors to pay the promised returns to old investors, thus, guaranteeing ongoing and increasing losses. Accordingly, this Court grants the Trustee summary judgment on the issue of French Manor's insolvency. E. The Trustee Satisfies the Alternatives to Proof of French Manor's Insolvency Set Forth in the Bankruptcy Code and Ohio UFTA
A trustee may prove certain alternatives to proof of a debtor's insolvency to meet the requirements of a constructive fraudulent transfer. Under the Bankruptcy Code, the Trustee may establish that the debtor: 1) "was engaged in business or a transaction, or was about to engage in business or a transaction, for which any property remaining with the debtor was an unreasonably small capital"; or 2) "intended to incur, or believed that the debtor would incur, debts that would be beyond the debtor's ability to pay as such debts matured[.]" 11 U.S.C. § 548(a)(1)(B)(ii)(II) - (III). Similarly under the Ohio UFTA, the Trustee may prove that: "(a) The debtor was engaged or was about to engage in a business or a transaction for which the remaining assets of the debtor were unreasonably small in relation to the business or transaction [or] (b) The debtor intended to incur, or believed or reasonably should have believed that the debtor would incur, debts beyond the debtor's ability to pay as they became due." Ohio Rev. Code § 1336.04(A)(2)(a) - (b).
Bankruptcy Code Section 548(a)(1)(B)(ii)(IV) provides a third alternative to proof of insolvency when certain transfers were made, or obligations incurred, to or for the benefit of an insider but the Trustee does not argue the applicability of this alternative to these facts. --------
1. Unreasonably Small Capital
The phrase "unreasonably small capital" is not defined in either the Bankruptcy Code or the Ohio UFTA. Canyon Sys. Corp., 343 B.R. at 650. The analysis generally requires a court to examine "'the ability of the debtor to generate enough cash from operations and sales of assets to pay its debts and remain financially stable.'" Taubman, 160 B.R. at 986 (further citation omitted). When the facts support a finding that a debtor is engaged in an illegitimate Ponzi scheme that renders it insolvent, that finding ". . . likewise compels the conclusion that the [d]ebtor was operating with unreasonably small capital at the time the transfers in question were made." Canyon Sys. Corp., 343 B.R. at 650. See also Taubman, 160 B.R. at 986 ("The court determines in the circumstances of this [Ponzi scheme] case, that insolvency constitutes unreasonably small capital per se."). In this case, the Trustee's undisputed facts have established the insolvency of the Debtors' Ponzi scheme. Besides a de minimis rental payment, the Debtors generated no positive income and instead, transferred funds from new investors to old investors to keep up the illusion of a legitimate business operation. Accordingly, the Debtors' operation of this Ponzi scheme compels the conclusion that the Debtors were working with unreasonably small capital. Summary judgment is granted to the Trustee on this issue.
2. Intent to Incur Debts Beyond Ability to Pay
Proof of a debtor's intent to incur, or belief of incurring, debts beyond the debtor's ability to pay is another alternative to proof of insolvency for a constructive fraudulent transfer under both the Bankruptcy Code and Ohio UFTA. While generally a fact intensive inquiry, intent can be established on summary judgment as a matter of law from uncontradicted evidence establishing a debtor's continuous insolvency and operation of a Ponzi scheme. Canyon Sys. Corp., 343 B.R. at 650; Taubman, 160 B.R. at 986-87. Although this element involves a determination of Ashcraft's subjective intent, such a finding is supported by the Trustee's uncontradicted evidence that she operated a Ponzi scheme through French Manor and her own admission that she did not invest the funds received from investors in legitimate real estate investments that could generate positive returns for their benefit. Accordingly, the Trustee establishes this alternative to proof of insolvency. F. The Remaining Elements Require Analysis of Facts and Issues Outside the Scope of the Trustee's Motion for Summary Judgment
The Trustee set a limited scope for this miscellaneous proceeding in asking this Court to determine on summary judgment only those issues common to both the Williams Defendants and the Cohen Defendants. The Defendants argue that the remaining issues raised by the Trustee in his Motion are not common to all but, instead, require examination of specific defendants and specific transactions between French Manor and the Defendants.
This Court agrees with the Defendants.
The Trustee's stated purpose for commencing this miscellaneous proceeding was to establish on summary judgment that:
[T]he Debtor operated a Ponzi scheme and that French Manor Properties LLC (FMP) was not a legitimate enterprise engaged in a business model that produced profits for its investors or lenders. . . . This is often referred to as the "Ponzi Scheme Presumption." Where a Ponzi scheme is established the perpetrator's actual intent to hinder, delay or defraud is inferred simply by the operation of the Ponzi scheme itself. . . . The Ponzi scheme Presumption establishes an actual fraudulent claim as a matter of law. . . . The Ponzi scheme presumption seeks to reduce the pleading burden on the bankruptcy trustee with respect to avoidance claims. It does not preclude transferees from asserting defenses available when the Trustee seeks to recover specific sums paid by the Debtor.[Docket Number 52, pp. 2-3].
The Trustee misconstrues the scope of the Ponzi scheme presumption. To establish the presumption, the Trustee must prove both the existence of a Ponzi scheme and that the transfer at issue served to further that scheme. Picard v. Madoff (In re Bernard L. Madoff Inv. Sec. LLC), 458 B.R. 87, 104-105 (Bankr. S.D.N.Y. 2011) (stating that "transfers made in the course of a Ponzi scheme" are presumed to be made with actual intent to hinder, delay, or defraud creditors and further noting that "it is conceivable that certain transfers may be so unrelated to a Ponzi scheme that the presumption should not apply" (emphasis added) (quotation marks and citations omitted)); Bear, Stearns Sec. Corp. v. Gredd (In re Manhattan Inv. Fund Ltd.), 397 B.R. 1, 11 (S.D.N.Y. 2007) ("While we are cognizant of the possibility, as was the case in Sharp, that certain transfers may be so unrelated to a Ponzi scheme that the presumption should not apply, we proceed under the rule (noted by the Bankruptcy Court below) that if a transfer serves to further a Ponzi scheme, then the presumption applies and 'actual intent' under § 548(a)(1)(A) is present.") (emphasis added) (citations omitted)); see generally, Perkins v. Lehman Bros. (In re Int'l Mgmt. Assocs., LLC), 563 B.R. 393 (Bankr. N.D. Ga. 2017) (containing a thoughtful analysis of the evolution of the Ponzi scheme presumption). Such an undertaking clearly requires an examination of the Defendants' individual relationships with the Debtors and the nature of the specific transfers at issue.
The same is true for the issue of whether French Manor did or did not receive reasonably equivalent value for the transfers. The Trustee seeks summary judgment on the legal issue of whether French Manor received "reasonably equivalent value" for amounts paid to the Defendants in excess of the funds the Defendants paid to French Manor—the so called "net profits." The Trustee asks this Court to adopt the line of cases holding that "any transfer by a debtor to a Ponzi scheme investor over and above the amount of the transferee's initial investment is not, as a matter of law, supported by reasonably equivalent value[.]" Canyon Sys. Corp., 343 B.R. at 639 (discussing the "sharp split of authority on the issue of whether the payment of interest [or some other form of return to a Ponzi scheme investor] by a Ponzi scheme operator can ever constitute reasonably equivalent value" (emphasis in original)). The Trustee's analysis, however, assumes a fact not in evidence—namely, whether the Defendants were "investors" in the Debtors' Ponzi scheme. This determination, again, requires an examination of the Defendants' individual relationships with the Debtors and the nature of the specific transfers at issue. Such an inquiry is beyond the narrow scope of the Trustee's stated purpose for commencing this miscellaneous proceeding.
Accordingly, the Trustee's request for summary judgment on the issues of (1) whether the specific transfers made by French Manor to the Williams Defendants and the Cohen Defendants were made with actual intent to hinder, delay, or defraud creditors and (2) whether French Manor did or did not receive reasonably equivalent value for the transfers is denied.
V. CONCLUSION
WHEREFORE, Plaintiff's Motion for Partial Summary Judgment Against All Defendants on All But One Element of the Trustee's Prima Facie Case on Actual and Constructive Fraudulent Transfers [Docket Number 1] is GRANTED, in part, and DENIED, in part. Specifically, the Trustee is granted summary judgment on the following issues:
1) The French Manor investment scheme involving commingled untraceable investor funds is a Ponzi scheme;Summary judgment is denied on all remaining issues raised in the Trustee's Motion.
2) Transfers made in furtherance of the Ponzi scheme constitute an interest of the debtor in property;
3) Transfers in furtherance of the Ponzi scheme were made with the actual intent to hinder, delay, or defraud creditors;
4) French Manor was insolvent under both state and federal interpretations of insolvency;
5) The Trustee satisfies the Bankruptcy Code and Ohio Uniform Fraudulent Transfer Act's alternatives to proof of French Manor's insolvency.
SO ORDERED.
This document has been electronically entered in the records of the United States Bankruptcy Court for the Southern District of Ohio.
IT IS SO ORDERED.
/s/ _________
Beth A. Buchanan
United States Bankruptcy Judge Dated: April 3, 2019 Distribution List:
Trustee George Leicht, Esq.
William B. Fecher, Esq.
Patrick Burns, Esq.
Andrew Burke Barras, Esq.