Summary
In Pool v. Johnson, 2002 WL 598447 (N.D. Tex. Apr. 15, 2002), the District Court affirmed the bankruptcy court's four-part test for determining fraudulent intent: (1) whether the person alone has access to the funds; (2) whether the person had knowledge that the creditor wanted the funds; (3) whether the person had accounted to the creditor for the funds that had been taken; and (4) whether an accounting had ever been made for the funds.
Summary of this case from In re Amerejuve, Inc.Opinion
Civil Action No. 3:01-CV-1168-L
April 15, 2002
MEMORANDUM OPINION AND ORDER
Appellant Bobby Wayne Pool ("Pool") appeals the bankruptcy court's Memorandum Opinion entered March 29, 2001 and corresponding Judgment entered May 22, 2001. The bankruptcy court entered judgment in favor of Appellee Thomas N. Johnson ("Johnson") upon a finding that the debt in question was nondischargeable under 11 U.S.C. § 523(a)(4) because it was incurred through embezzlement or defalcation by a debtor while acting in a fiduciary capacity. After careful consideration of the briefs, the record on appeal, and the applicable law, the court concludes that the bankruptcy court's holding is correct. Accordingly, the judgment of the bankruptcy court is affirmed.
I. Factual and Procedural Background
The facts in this case are essentially undisputed. Pool is the former owner and operator of a pawn shop on Garland Road in Dallas, Texas, known as Lakewood Pawn Swap Shop, Inc., d/b/a Bob's Pawn Shop, Inc. In May 1992, Pool and Johnson entered into a joint venture relating to Pool's pawn shop business. On May 13 and 21, 1992, the parties signed documents entitled "TERMS OF THE JOINT VENTURE BPS Venture 1991-1." Pool drafted the agreements from bits and pieces of agreements that his attorney had apparently drafted for him in the past.
Although the facts are essentially undisputed, they are not as fully developed as the court would prefer; however, the parties did not submit a transcript of the trial testimony, and the court is therefore limited to those matters which were submitted in the record on appeal. The only record submitted for purposes of this appeal were Pool's Notice of Appeal, the Memorandum Opinion and Final Judgment of the bankruptcy court, and the case docket sheet.
The instruments were identical in wording, and included a provision entitled "Power of Attorney" that stated: "the individual joint venturer appoints Bob Pool to act on his/her behalf in all matters concerning the disposition of monies or other assets from the FUND herein described." R. at 15, 17. Pursuant to the terms of the agreements, Johnson gave Pool cashiers' checks payable to "Bob's Pawn" in the amounts of $15,000 and $20,000, which were deposited in accounts established at Cornerstone Bank. Pool did not invest any of his own funds in the BPS Venture.
Bob's Pawn Shop began to deteriorate when extensive road repairs were made in front of the shop, after which time Pool moved the business to a new location. The shop ceased operating in approximately 1994.
Johnson brought suit against Pool in state court in 1996, during the course of which he requested that Pool produce all bank accounts relating to the accounts of BPS Venture 1991-1. Pool did not produce any such records for the period after May 1, 1992.
A few months after Johnson filed the state court action, Pool filed a voluntary petition of bankruptcy Johnson filed an adversary proceeding objecting to the discharge of any debts owed to him. Relying on 11 U.S.C. § 523(a)(4), Johnson contended that the venture agreements created a fiduciary relationship between him and Pool, that Pool breached his fiduciary relationship, and that the debt arising from the BPS venture was obtained through larceny and embezzlement. Johnson also asserted under 11 U.S.C. § 523(a)(2) that Pool should be denied any discharge of the debt because his conduct amounted to false representations or fraud.
On February 6 and 8, 2001, the adversary proceeding was heard before the bankruptcy court. On the second day of the trial, Pool produced, for the first time, copies of Johnson's two cashiers' checks, the deposit slips on the same, and copies of eight checks to Johnson. Pool, however, did not offer any evidence regarding the disposition and use of Johnson's funds or give an accounting. On March 29, 2001, the bankruptcy court set forth its findings of fact and conclusions of law in its Memorandum Opinion. The bankruptcy court found that Johnson had proved by circumstantial evidence embezzlement under 11 U.S.C. § 523(a)(4), that Pool was a fiduciary within the meaning of § 523(a)(4), and that Pool's failure to account to Johnson for disposition of the funds paid to him constituted defalcation. The bankruptcy court also found that Pool's refusal to produce requested bank records was willful and reckless. Insofar as Johnson's remaining two claims, the bankruptcy court determined that there was insufficient proof to support a finding of larceny under § 523(a)(4) or that Pool obtained money or property in violation of § 523(a)(2)(A). The bankruptcy court entered its final judgment in the amount of $26,827.78 (plus prejudgment and postjudgment interest) on May 22, 2001. Pool timely filed a notice of appeal.
II. Standard of Review
As this court functions as an appellate court when reviewing a bankruptcy court's decision, the same standards of review generally applied in federal court appeals also applies to this court. See In re Webb, 954 F.2d 1102, 1103-04 (5th Cir. 1992). The court reviews a bankruptcy court's findings of fact under the clearly erroneous standard, In re Webb, 954 F.2d at 1104, and reviews its conclusions of law de novo. See In re Pro-Snax Distribs., Inc., 157 F.2d 414, 420 (5th Cir. 1998); see also In re Eagle Bus Mfg., Inc., 62 F.3d 730, 735 (5th Cir. 1995).
III. Analysis
As a general policy, bankruptcy law favors permitting a debtor to discharge his debts, as it is a primary goal of the Bankruptcy Code to give the debtor a fresh start. See In re Miller, 156 F.3d 598, 602 (5th Cir. 1998); In re Tran, 151 F.3d 339, 342 (5th Cir. 1998). There are, however, exceptions to this policy, one of which is at issue in this appeal. In particular, under 11 U.S.C. § 523(a)(4), obligations incurred by a debtor through "fraud or defalcation while acting in a fiduciary capacity, embezzlement, or larceny" may not be discharged. In construing this section, the Fifth Circuit has stated that this discharge exception was intended to reach "`debts incurred through abuses of fiduciary positions and through active misconduct whereby a debtor has deprived others of their property by criminal acts; both classes of conduct involve debts arising from the debtor's acquisition or use of property that is not the debtor's.'" In re Miller, 156 F.3d at 602 ( quoting In re Boyle, 819 F.2d 583, 588 (5th Cir. 1987)).
A. Embezzlement Under § 523(a)(4)
Pool contends that the bankruptcy court erred in concluding that his actions constituted embezzlement because it found insufficient evidence of fraudulent intent to commit larceny under § 523(a)(4). Pool explains that regardless of how the debtor came into possession of another's property, the element of intent not to return that property is essential to both larceny and embezzlement. Pool maintains that because the evidence was insufficient to support a finding of fraudulent intent for larceny, it cannot support a finding of embezzlement under § 523(a)(4). Johnson disagrees, contending that in determining whether the facts support "embezzlement" or "larceny" under § 523(a)(4), the court considers how the debtor actually came into possession of the property. Johnson maintains that because the evidence shows that he voluntarily gave Pool $35,000 at the inception of the parties' joint venture, the bankruptcy court correctly determined that the facts supported a finding of embezzlement, rather than larceny, under § 523(a)(4).
The bankruptcy court held that there was insufficient proof of any § 523(a)(4) larceny because there was insufficient proof that Pool fraudulently took Johnson's property with intent to convert it to his own use. Contrary to Pool's assertion, this ruling is not incongruent with the bankruptcy court's finding of embezzlement under § 523(a)(4). While fraudulent intent is the sine qua non of whether an actual taking of property constitutes embezzlement or larceny, it is the manner in which the debtor comes into possession of the property that determines which definition applies under § 523(a)(4). See In re Hayden, 248 B.R. 519, 526 (Bankr. N.D. Tex. 2000) (Other than the manner in which the funds come into possession of a party, larceny does not differ from embezzlement). For purposes of § 523(a)(4), embezzlement is defined as the "fraudulent appropriation of property by a person to whom such property has been entrusted, or into whose hands it has lawfully come." In re Miller, 156 F.3d at 602 (emphasis added). Larceny is defined as the "fraudulent and wrongful taking and carrying away of the property of another with intent to convert it to the taker's use and with intent to permanently deprive the owner of such property." In re Hayden, 248 B.R. at 526 (emphasis added). Thus, what makes a debtor's actual taking of another's property wrongful is his mental state (intent or objective). Whether the misconduct falls within the definition of embezzlement or larceny under § 523(a)(4). however, depends on how the debtor came into possession of the property. Because larceny and embezzlement are alternative theories of recovery under § 523(a)(4). it does not follow that the absence of certain evidence to prove one necessarily precludes recovery on the other. The court therefore rejects Pool's argument that the bankruptcy court erred in concluding that Pool committed embezzlement under § 523(a)(4) even though it found an absence of sufficient evidence to support a finding of larceny under § 523(a)(4).
The issue, as the court sees it, is whether the bankruptcy court erred in concluding that Pool's misconduct (actual taking of property with fraudulent intent) fell within the definition of embezzlement, as that term is defined under § 523(a)(4). There is no evidence in the record that Pool fraudulently or wrongfully took Johnson's property at the outset of the parties' joint venture. Rather, the record demonstrates that Johnson voluntarily gave or entrusted Pool with two cashiers' checks totaling $35,000. Pool therefore lawfully came into possession of Johnson's property. The bankruptcy court correctly concluded that embezzlement, rather than larceny, was the proper term to be applied under § 523(a)(4). See In re Miller, 156 F.3d at 602. Pool's first point of error is overruled.
Whether Pool possessed the requisite intent for embezzlement is not before the court, as the bankruptcy court determined that Johnson proved fraudulent intent under § 523(a)(4) by circumstantial evidence, and this conclusion is not challenged on appeal. Relying on, inter alia, In re Buhay, 77 B.R. 561, 565 (Bankr. W.D. Tex. 1987), the bankruptcy court considered the following factors in determining fraudulent intent: 1) whether Pool alone had sole access to Johnson's money; 2) whether Pool had knowledge that Johnson wanted his money returned; 3) whether Pool had accounted to Johnson for the funds; and 4) whether an accounting had been made for the funds. R. at 6. The bankruptcy court found that Pool had sole control over the funds; that he knew Johnson wanted his funds returned; and that Pool did not account to Johnson for the funds that were expended. Id. None of these findings is challenged on appeal.
B. Fiduciary Relationship Under § 523(a)(4)
The bankruptcy court concluded that Pool was a fiduciary under § 523(a)(4), reasoning that the grant of "power of attorney," as set forth in paragraph 4 of the joint venture agreements, created a relationship imposing trust-type obligations under common law, and therefore satisfied the strict requirements of § 523(a)(4). Pool, however, contends that the venture agreements were nothing more than a commercial arrangement whereby Johnson loaned Pool money based upon an expectation that it would be repaid. Pool also challenges the bankruptcy court's finding that a power of attorney creates the narrow type of fiduciary relationship necessary for § 523(a)(4). Finally, Pool contends that even if the power of attorney created the requisite trust relationship, there is no evidence that it was used in any way to misappropriate funds. Johnson responds that the bankruptcy court did not err in finding that Pool acted in a fiduciary capacity under § 523(a)(4) because an appointment of an attorney-in-fact creates an agency relationship which, as a matter of Texas law, involves a fiduciary relationship. Johnson further maintains that the bankruptcy court had a second basis to find a fiduciary relationship based upon Pool holding himself out as a partner or managing venture in a joint venture with Johnson.
Pool does not challenge the bankruptcy court's conclusion that the venture agreements in this case were not technical or express trusts within the meaning of § 523(a)(4).
The bankruptcy court determined that despite the title ascribed to it, the parties' purported joint venture did not create a partnership, as there was no evidence in the record that they agreed to share profits and losses. Although Johnson argues in his brief that the bankruptcy court erred by not finding the existence of a partnership, he did not appeal this finding, and has therefore waived the issue.
In determining whether a debtor was acting in a fiduciary capacity for purposes of § 523(a)(4), the court looks to federal and state law. In re Bennett, 989 F.2d 779, 784 (5th Cir. 1993). While the scope of the term "fiduciary capacity" under section 523(a)(4) is a question of federal bankruptcy law, state law is important in determining whether a trust obligation exists. Id.
The concept of fiduciary under § 523(a)(4) is narrowly defined, applying only to technical or express trusts. In re Bennett, 989 F.2d at 784 ( citing In re Angelle, 610 F.2d 1335 (5th Cir. 1980)); see also In re Tran, 151 F.3d 339, 342 (5th Cir. 1998); In re Schwager, 121 F.3d 177, 186 (5th Cir. 1997). "The purported trustee's duties, must therefore, arise independent of any contractual obligation." In re Tran, 151 F.3d at 342. The requisite trust relationship moreover must exist prior to the act creating the debt and without reference to that act. In re Bennett, 989 F.2d at 784; see also In re Tran, 151 F.3d at 342 (trustee's obligations must have been imposed prior to, rather than by virtue of, any claimed misappropriation or wrong). "In other words, the trust giving rise to the fiduciary relationship must be imposed prior to any wrongdoing. The debtor must have been a trustee before the wrong and without any reference to it." In re Bennett, 989 F.2d at 784 (citation omitted). Therefore, constructive trusts or trusts ex malificio are insufficient to create a fiduciary relationship within the meaning of § 523(a)(4). See In re Tran, 151 F.3d at 342. Notwithstanding these parameters, the Fifth Circuit has determined that the "`technical' or `express' trust requirement is not limited to trusts that arise by virtue of a formal trust agreement, but includes relationships in which trust-type obligations are imposed pursuant to statute or common law." In re Bennett, 989 F.2d at 784-85.
Pool and Johnson operated like a joint venture. The purpose of the venture was to provide a FUND to be used at the discretion of Bob's Pawn Shop, Inc. for loans and purchases. Johnson provided the capital for the FUND, but vested Pool with full and independent discretion to manage the assets of the venture, including the $35,000 that Johnson invested in the FUND. Pool was the managing venturer, and managed the capital. Pool also, pursuant to the venture agreements maintained Johnson's money in a segregated account. As previously stated, the power of attorney at issue in this case is expressly included in the venture agreements by which Pool was authorized to act on Johnson's behalf in all matters concerning disposition of monies or other assets from "the FUND."R. at 15, 17.
The venture agreements required that a special FUND account be established in which all proceeds from the FUND were to be deposited. In addition, all loan tickets and merchandise funded by the FUND and all payments received against the loan tickets or merchandise sales were to be deposited into this account, and Pool was only authorized to withdraw funds or merchandise from this account if the balance remained greater than or equal to 95% of the original balance. In addition, a separate joint venture account was established at Cornerstone Bank, N.A., out of which 2% of the original amount funded was to be paid each month. Each venturer was to get distributions from this account on a pro rata basis each month.
A power of attorney is a written instrument by which one person, the principal, appoints another person, the attorney-in-fact, as agent and confers on the attorney-in-fact the authority to perform specified acts on behalf of the principal. Comerica Bank-Tex. v. Texas Commerce Bank Nat'l Ass'n, 2 S.W.3d 723, 725 (Tex.App.-Texarkana 1999, pet. denied). The nature and extent of the authority granted must be ascertained from the instrument granting the power of attorney and such instrument is to be strictly construed to limit the authority of the attorney-in-fact. First Nat'l Bank in Dallas v. Kinabrew, 589 S.W.2d 137, 145 (Tex.Civ.App.-Tyler 1979, writ ref'd n.r.e.). In Texas, the appointment of an attorney-in-fact creates an agency relationship. Smith v. Lanier, 998 S.W.2d 324, 334 (Tex.App.-Austin 1999, pet. denied); Sassen v. Tanglegrove Townhouse Condominium Ass'n, 877 S.W.2d 489, 492 (Tex.App.-Texarkana 1994, writ denied). An agency creates a fiduciary relationship as a matter of law. Id.; see also Johnson v. Brewer Pritchard, P.C., No. 00-0081, 2000 WL 33716714, at *3 (Tex. Mar. 21, 2002) (agency is a special relationship that gives rise to a fiduciary duty). Although an agency relationship is not in and of itself sufficient to satisfy the "fiduciary capacity" requirement under § 523(a)(4), see Chapman v. Forsyth, 2 U.S. (How.), 202,207 (1844) (holding that a factor who sold property belonging to his principal and failed to pay the principal the proceeds was not a fiduciary within the meaning of the Bankruptcy Code), it may be transformed into such a relationship where the duties and control exercised by the agent are tantamount to those of a trustee of an express trust. See In re Woodhead, 172 B.R. 628, 631 (Bankr. D. Neb. 1994).
As the appointment of an attorney-in-fact creates a fiduciary relationship as a matter of law, Texas law imposes special duties on persons acting in that capacity. See Sassen, 877 S.W.2d at 492. Under Texas law, a fiduciary owes its principal a high duty of good faith, fair dealing, honest performance, and strict accountability. Id. (citations omitted). When the standard is a fiduciary obligation, any self-dealing is prohibited. Mims v. Beall, 810 S.W.2d 876, 880 (Tex.App. — Texarkana 1991, no writ). Furthermore, "[u]nless otherwise agreed, an agent is subject to a duty to his principal to act solely for the benefit of the principal in all matters connected with his agency." Johnson, 2000 WL 33716714, at *3; see also Plummer v. Estate of Plummer, 51 S.W.3d 840, 842 (Tex.App.-Texarkana 2001, pet. denied) (agent owes a fiduciary duty to its principal with respect to matters within the scope of its agency). In Johnson, the Texas Supreme Court, quoting the Restatement (Second) of Agency, elaborated on the extent of this fiduciary duty:
The agreement to act on behalf of the principal causes the agent to be a fiduciary, that is, a person having a duty, created by his undertaking, to act primarily for the benefit of another in matters connected with his undertaking. Among the agent's fiduciary duties to the principal is the duty to account for profits arising out of the employment, the duty not to act as, or on account of, an adverse party without the principal's consent, the duty not to compete with the principal on his own account for another in matters relating to the subject matter of the agency, and the duty to deal fairly with the principal in all transactions between them.Johnson, 2000 WL 33716714, at *4. In In re Bennett, the Fifth Circuit stated:
Significantly, the specific duties imposed by the Texas courts on managing partners pursuant to this line of cases are the same as those imposed on trustees. They include a duty of loyalty, Huffington, 532 S.W.2d at 579, and the duty to `deal with one another with the utmost good faith and most scrupulous honesty.' Johnson, 763 S.W.2d at 499.
989 F.2d at 787. The obligations imposed upon Pool in his capacity as an attorney-in-fact in this case are analogous to those imposed on a managing partner of a limited partnership under Texas law. See id. Based on the specific duties imposed by the power of attorney, as well as the fiduciary obligations attending the special relationship under Texas law, the court concludes that the power of attorney granted in this case created a relationship imposing trust-type obligations under common law sufficient to satisfy the requirements of § 523(a)(4).
Even if the court were to conclude that the power of attorney did not fall within the narrow meaning of "fiduciary capacity" under § 523(a)(4), Pool would not be entitled to a discharge of the debt. Under the Bankruptcy Code, acts committed in a fiduciary capacity are set apart from "embezzlement" and "larceny." See In re Buhay, 77 B.R. 561, 565 (Bankr. W.D. Tex. 1987). The bankruptcy court found that Pool engaged in conduct constituting embezzlement under § 523(a)(4), and the court agrees with this finding. Therefore, because the debt was incurred through embezzlement it is nondischargeable under § 523(a)(4).
Pool contends that even if the court finds that he acted in a fiduciary capacity, there is no evidence that he used the power of attorney to misappropriate funds. That Pool neither returned the money that Johnson invested once the pawn shop ceased operation, nor provided an accounting of how the money was spent undercuts this argument. In any event, as discussed below, the bankruptcy court determined that Pool's breach of his fiduciary duty was based on his failure to provide Johnson bank and other accounting records regarding the venture, rather than any an improper use of the power of attorney to misappropriate funds. For the reasons stated, Pool's second point of error is overruled.
C. Defalcation Under § 523(a)(4)
Pool contends that the court erred in finding defalcation based on his failure to produce certain documents requested during the course of the state court litigation. According to Pool, the Responses to Requests for Production of Documents served in the state court action were not signed by him, and, therefore, have no bearing on his accountability for the funds in question. Pool moreover contends that no discovery requests were made during the course of the adversary proceeding. Pool therefore contends that Johnson has failed to present any proof that he sought an accounting from Pool in this case, and that he (Pool) refused to provide such an accounting. Pool's argument is without merit.
The Fifth Circuit has defined "defalcation" as "a willful neglect of duty, even if not accompanied by fraud or embezzlement." In re Schwager, 121 F.3d 177, 184 (5th Cir. 1997). It is clear in this circuit that a "`willful neglect' of fiduciary duty constitutes a defalcation — essentially a reckless standard." Id. at 185. The bankruptcy court determined that Pool's refusal to produce bank records on account of them being "none of [Johnson's] business" was willful and reckless and his failure to account to Johnson for the disposition of the funds paid to him (Pool) constituted defalcation under § 523(a)(4). This, in combination with its conclusion that Pool was a fiduciary, led the bankruptcy court to conclude that the debt Pool owed Johnson is nondischargeable under § 523(a)(4).
Pool appears to be arguing that his failure to produce bank records and other accounting records in the adversary proceeding was the result of Johnson's failure to request such documents, rather than his willful neglect to produce them. At trial, Johnson testified that he continually asked Pool for copies of the bank records on BPS Venture 1991-1, and Pool refused to produce those documents, saying: "It's none of your business." While Pool testified that he gave Johnson access to all the records he requested, the bankruptcy court found Johnson's version of the failure to produce the records more credible. The court will not disturb the finding, as it involves the determination of one's credibility and the bankruptcy court is in a much better position to make this determination than a district court. The bankruptcy court further stated that its conclusion was bolstered by Pool's responses to the state court discovery and his piecemeal production of records at trial. R. at 5. That Johnson did not serve formal discovery requests during the adversary proceeding is of no moment since Pool was aware, prior to the commencement of the adversary proceeding, that Johnson desired copies of all bank records concerning the BPS Venture. Contrary to Pool's assertion, a change of forum does not absolve Pool of his fiduciary obligation to produce the requested documents. Moreover, since the bankruptcy court found that Pool acted as a fiduciary and that Johnson's debt arose because of his failure to pay Johnson the entrusted funds, the burden of proof shifted to Pool to render an accounting to show that he complied with his fiduciary duties. See In re Srorie, 216 B.R. 283, 288-89 (10th Cir. BAP 1997). Pool had an opportunity at trial to present evidence such as bank statements, canceled checks, or accounting records to show how he accounted for Johnson's funds. He did not do so. The court concludes that the evidence and credibility determination made by the bankruptcy court support a finding of defalcation. Accordingly, the bankruptcy court did not err in finding defalcation. Pool's third point of error is overruled.
IV. Conclusion
For the reasons stated herein, Pool's points of error are overruled, and the judgment of bankruptcy court is in all respects affirmed. Pursuant Rule 8016(a) of the Federal Rules of Bankruptcy Procedure, the clerk of the court is directed to prepare, sign and enter judgment upon receipt of and in accordance with this Memorandum Opinion and Order. All allowable and reasonable costs shall be taxed against Appellant Bobby Wayne Pool.