Opinion
Case No. 8:20-bk-03819-RCT Adv. No. 8:20-ap-00447-RCT
04-02-2021
In re: Nathan Aaron Forrest and Marsha Weidman Forrest, Debtors. Spring Valley Produce, Inc., et al., Plaintiffs. v. Nathan Aaron Forrest and Marsha Weidman Forrest, Defendants.
Chapter 7 MEMORANDUM DECISION AND ORDER GRANTING DEFENDANTS' AMENDED MOTION TO DISMISS AMENDED ADVERSARY COMPLAINT
Before the Court is Defendants' Amended Motion to Dismiss Amended Adversary Complaint (the "Motion") (Doc. 13) and Plaintiffs' opposition to the Motion (Doc. 15). Considered with the Motion is a nearly identical motion filed by Defendants in a nearly identical adversary proceeding brought by G.W. Palmer & Co., Inc. (the "Related Adversary"). The Court refers to the plaintiffs in these adversaries, collectively, as the "Produce Suppliers."
G.W. Palmer & Co., Inc. v. Forrest (Adv. No. 8:20-ap-00448-RCT), Docs. 12 & 17.
In both proceedings, the Produce Suppliers seek, among related relief, a declaration that certain debts owed to them and arising under the trust provisions of the Perishable Agricultural Commodities Act ("PACA") are not dischargeable pursuant to § 523(a)(4) of the Bankruptcy Code. The issue presented in both proceedings is whether the trust obligations set forth in PACA satisfy the "fiduciary capacity" requirement to render a PACA-related debt non-dischargeable under § 523(a)(4).
7 U.S.C. §§ 499a - 499s.
11 U.S.C. §§ 101-1532 ("Code" or "Bankruptcy Code").
Background
Defendants Marsha and Nathan Forrest ("Debtors") are individuals who were officers of and together owned 50% of the shares of Central Market of FL, Inc. ("Central Market"). Central Market is licensed under PACA to buy and sell produce. Produce Suppliers are growers who sold produce to Central Market and have unpaid invoices. For purposes of these rulings, the Court assumes that Defendants are personally liable for Central Market's obligations to the Produce Suppliers under PACA.
The Complaint (Doc. 1) does not identify who holds the other 50% of the shares of Central Market.
Cf. Melon Acres, Inc. v. Villa (In re Villa), 625 B.R. 111, 123 (Bankr. N.D. Fla. 2021) (noting that debtors, who were principals of the PACA licensed corporation, might be individually liable for the debt owed to the plaintiff produce supplier, but holding the issue for trial).
Seeking to discharge their personal liability, Defendants filed a joint chapter 7 bankruptcy and have submitted their non-exempt assets to the chapter 7 trustee for liquidation. Produce Suppliers filed a timely complaint seeking a declaration that Debtors' liability for unpaid invoices cannot be discharged because Defendants held the produce sold to Central Market (and the proceeds thereof) in trust for the Produce Suppliers. Produce Suppliers argue that a breach of the statutory trust obligations in PACA satisfies the exception to discharge in § 523(a)(4) for debts for "fraud or defalcation" by a fiduciary. There is ample support for Produce Suppliers' position; indeed, it is a well-reasoned majority view. Defendants disagree and have moved to dismiss the complaints with prejudice. Defendants rely on an equally well-reasoned minority approach. Bankruptcy Courts in the Eleventh Circuit are divided on whether PACA-related debt is dischargeable in bankruptcy.
E.g., N.P. Deoudes, Inc. v. Snyder (In re Snyder), 184 B.R. 473 (D. Md. 1995); E. Armata, Inc. et al. v. Parra (In re Parra), 412 B.R. 99 (Bankr. E.D. N.Y. 2009); A.J. Rinella & Co. v. Bartlett (In re Bartlett), 397 B.R. 610 (Bankr. D. Mass 2008); see generally Alliance Shippers, Inc. v. Guarracino (In re Guarracino), 575 B.R. 298, 311 (Bankr. D.N.J. 2017) (listing cases and noting it would follow the majority view that PACA trusts satisfy the trust requirements for purposes of § 523(a)(4)).
E.g., CR Adventures LLC v. Hughes (In re Hughes), 609 B.R. 789 (Bankr. N.D. Ill. 2019) (finding that a PACA trust does not satisfy the fiduciary requirements of § 523(a)(4) while acknowledging that "most decisions reach the opposite conclusion").
Compare Coosemans Miami, Inc. v. Arthur (In re Arthur), 589 B.R. 761 (Bankr. S.D. Fla. 2018) (holding a PACA trust is not a "technical trust" for purposes of § 523(a)(4)), and Cardile Bros. Mushroom Pkg., Inc. v. McCue (In re McCue), 324 B.R. 389 (Bankr. M.D. Fla. 2005) (holding a PACA trust is not a technical trust because a PACA trust has no "segregated trust res"), with In re Villa, 625 B.R. 111 (holding a PACA trust is a "technical trust" for purposes of § 523(a)(4)), and Gen. Produce, Inc. v. Tucker (In re Tucker), No. 06-50092-JDW, Adv. No. 06-5107, 2007 WL 1100482 (Bankr. M.D. Ga. Apr. 10, 2007) (same), and Collins Bros. Corp. v. Perrine (In re Perrine), No. 05-10816-WHD, Adv. No. 05-1118, 2007 WL 7142580 (Bankr. N.D. Ga. Sept. 27, 2007) (same).
This and the Related Adversary raise an issue of great importance that is worthy of certification for direct appeal to the Eleventh Circuit. For that matter, it is an issue of statutory interpretation of § 523(a)(4) of the Bankruptcy Code that goes beyond the application here to PACA. The critical question is whether some segregation of trust funds or a prohibition on the use of such funds is required to render statutory trust obligations non-dischargeable in bankruptcy.
11 U.S.C. § 523(a)(4)"An individual debtor's prepetition debts . . . are generally dischargeable in a Chapter 7 case, and exceptions to the discharge are construed narrowly." This is in line with the Bankruptcy Code's goal of preserving a fresh start for the "honest but unfortunate" debtor.
Guerra v. Fernandez-Rocha (In re Fernandez-Rocha), 451 F.3d 813, 815-16 (11th Cir. 2006); see, e.g., United States v. Mitchell (In re Mitchell), 633 F.3d 1319, 1327 (11th Cir. 2011) ("[E]xceptions to the general rule of discharge . . . are to be strictly construed in favor of the debtor."); Equitable Bank v. Miller (In re Miller), 39 F.3d 301, 304 (11th Cir. 1994) ("[C]ourts generally construe the statutory exceptions to discharge in bankruptcy liberally in favor of the debtor and recognize that the reasons for denying a discharge must be real and substantial, not merely technical and conjectural." (internal quotations omitted)).
See, e.g., In re Mitchell, 633 F.3d at 1326; In re Miller, 39 F.3d at 304.
Section 523(a)(4) excepts from the discharge debts attributable to "fraud or defalcation while acting in a fiduciary capacity." Whether a debtor is a "fiduciary" under § 523(a)(4) is a question of federal bankruptcy law, not underlying substantive state or federal law. Consequently, not all fiduciary relationships will qualify for the exception to discharge under the Bankruptcy Code, and the Supreme Court has long held that the fiduciary exception to discharge is "strict and narrow."
The United States Supreme Court interprets the term "defalcation" to mean "knowledge of, or gross recklessness in respect to, the improper nature of the relevant fiduciary behavior." Bullock v. BankChampaign, N.A., 569 U.S. 267, 269, 133 S. Ct. 1754, 1757 (2013).
See Hearn v. Goodwin (In re Goodwin), 355 B.R. 337, 343-44 (Bankr. M.D. Fla. 2006) ("Fiduciary relationships are determined by federal bankruptcy law and are narrowly defined." (citation omitted)); Artis v. West (In re West), 339 B.R. 557, 566 (Bankr. E.D. N.Y. 2006) ("The state or federal law at issue may bestow a broader meaning to the term fiduciary than it might have under § 523(a)(4)." (citing In re Marchiando, 13 F.3d 1111, 1116 (7th Cir. 1994))); see also Follett Higher Educ. Grp. v. Berman (In re Berman), 629 F.3d 761, 767 (7th Cir. 2011); Arvest Mortg. Co. v. Nail (In re Nail), 680 F.3d 1036, 1039 (8th Cir. 2012); Texas Lottery Comm'n v. Tran (In re Tran), 151 F.3d 339, 343 (5th Cir. 1998).
Davis v. Aetna Acceptance Co., 293 U.S. 328, 333, 55 S. Ct. 151, 154 (1934).
As explained by the Eleventh Circuit in Guerra:
Although § 523(a)(4) establishes an exception to dischargeability for debts for "defalcation while acting in a fiduciary capacity," this exception is a narrow one. "The Supreme Court has consistently held that the term 'fiduciary' is not to be construed expansively, but instead is intended to refer to 'technical' trusts." Quaif v. Johnson, 4 F.3d 950, 953 (11th Cir. 1993) (citing Davis v. Aetna Acceptance Co., 293 U.S. 328, 55 S. Ct. 151, 79 L. Ed. 393 (1934), and other Supreme Court cases interpreting previous versions of the § 523(a)(4) exception, but noting that all versions have referred to "defalcation" and to "fiduciary capacity" or "fiduciary character"); see Commonwealth Land Title
Co. v. Blaszak (In re Blaszak), 397 F.3d 386, 391 (6th Cir. 2005) (noting that the term "fiduciary capacity" is construed more narrowly in the context of § 523(a)(4) than in other circumstances)[.]
Guerra, 451 F.3d at 816.
While a breach of an express or technical trust is potentially non-dischargeable under § 523(a)(4), breaches of constructive or resulting trusts do not fall within this particular discharge exception. Again, as explained in Guerra:
In Quaif, this Court further noted that the 1934 Davis decision is the last Supreme Court case to speak to the issue and that the Supreme Court has left "the lower courts to struggle with the concept of 'technical' trusts." Quaif, 4 F.3d at 953. Quaif also discussed the trends in judicial interpretation of the § 523(a)(4) exception and noted that courts seemed to include the voluntary, express trust created by contract within the scope of "fiduciary capacity" as used in § 523(a)(4). Id. In contrast, courts have excluded the involuntary resulting or constructive trust, created by operation of law, from the scope of the exception. Id. Additionally, Quaif noted that cases have "also articulated a requirement that the trust relationship have existed prior to the act which created the debt in order to fall within the statutory [fiduciary capacity] exception." Id. (citing Matter of Angelle, 610 F.2d 1335 (5th Cir. 1980)). Accordingly, "constructive" or "resulting" trusts, which generally serve as a remedy for some dereliction of duty in a confidential relationship, do not fall within the § 523(a)(4) exception "because the act which created the debt simultaneously created the trust relationship." Id. (emphasis added).
Id.
Statutory trusts like a PACA trust fall somewhere between an express trust and a constructive trust. Again, the Eleventh Circuit explains: "[S]tatutorily created trusts 'fit into neither of the traditional categories' of express trust or resulting or constructive trust and [] courts ha[ve] struggled with reconciling this new type of trust."
Id. at 817 (quoting Quaif v. Johnson, 4 F.3d 950, 953-54 (11th Cir. 1993)).
The key appellate decisions in this Circuit on the dischargeability of a statutory trust obligation are Quaif v. Johnson, Guerra v. Fernandez-Rocha (In re Fernandez-Rocha), Angelle v. Reed (In re Angelle), and Murphy & Robinson Inv. Co. v. Cross (In re Cross). Of these, only Quaif found a statutory trust to be a technical trust sufficient to render a debt non-dischargeable for "fraud or defalcation" under § 523(a)(4).
Decisions of the Fifth Circuit rendered prior to October 1, 1981 are binding precedent in the Eleventh Circuit. Bonner v. City of Prichard, 661 F.2d 1206, 1207 (11th Cir. 1981) (en banc).
4 F.3d 950 (11th Cir. 1993) (determining that a Georgia statute requiring an insurance agent, with regard to premiums paid or refunded to him, to segregate those funds from other funds and to separately account for those funds due each principal met the requirements of a "technical trust").
451 F.3d 813 (11th Cir. 2006) (determining that a Florida statute requiring a doctor simply to maintain a certain level of malpractice insurance or sufficient assets to pay a malpractice claim was not technical trust).
610 F.2d 1335 (5th Cir. 1980) (determining that a Louisiana statute making it criminal for a contractor to misappropriate funds advanced by a contracting party for any purpose other than construction of the project subject to the contract did not make the contractor a fiduciary of the contracting party and noting that even if the statute had, the fiduciary relationship would not have arisen until and because of the misappropriation and thus would not be considered a technical trust).
666 F.2d 873 (5th Cir. Unit B 1982) (on facts similar to Angelle, the Court held that Georgia law did not impose preexisting fiduciary obligations upon contractors with regard to misappropriation of advanced funds).
In Quaif, the Eleventh Circuit highlighted the segregation of trust assets. The statutory trust in question was a Georgia statute creating a trust on the receipts of insurance agents for the benefit of insurers. The Eleventh Circuit concluded that the insurance agent in Quaif was acting in a fiduciary capacity because the Georgia statute (i) required the agent "to promptly account for and remit payments of funds to the insurer" and (ii) forbid the agent "from commingling the funds with his operating or personal accounts."
Quaif, 4 F.3d at 953-54.
Id. at 954.
The Quaif court rejected the debtor's argument that an insurance agent is not acting in a fiduciary capacity because under the statute, the agent does not have to maintain separate, segregated accounts for each insurer to whom the agent owes premiums. In finding that the agent was acting in a fiduciary capacity pre-defalcation, the court focused on the duty of the agent to segregate trust assets, namely the insurance premiums, from non-trust assets. The court explained as follows:
The Georgia statute requires that the premiums must be separate from other types of funds, but may be kept in a common premium account as long as there were adequate records of the sources of these funds. The court finds that this is sufficient "segregation" to satisfy the requirement that the fiduciary duties be created prior to the act of defalcation.
Id. (emphasis added).
The statute at issue in Quaif clearly required an insurance agent to segregate trust funds into a separate account and not to commingle trust funds with the agent's personal funds. This is structure familiar to an attorney's handling of client trust funds. All "trust funds" are segregated in a single trust account. A separate fund for each beneficiary is not required. But it is indisputably clear to the "fiduciary" what funds are available for general business operations and what funds are not.
See, e.g., R. Regulating Fla. Bar 5-1.1(a) ("A lawyer must hold in trust, separate from the lawyer's own property, funds and property of clients or third persons that are in a lawyer's possession in connection with a representation."); see generally 7 Am. Jur. 2d Attorneys at Law §§ 63-64 (describing a lawyer's responsibilities regarding the handling of trust account funds).
Both Cross and Angelle involved alleged defalcations by general contractors who misappropriated funds advanced by contracting parties. In Cross, the contractor's debts were dischargeable because the debtor was "under no obligation to maintain a segregated account" and owed no fiduciary duty "prior to and independent of . . . alleged misconduct." In Angelle, a builder owed no fiduciary duty because the relevant statute did not create a trust relationship prior to the alleged misappropriation. Though the Angelle court did not hold expressly that segregation was required, the court expressed "doubts . . . that a statute which merely makes misappropriation of funds a crime without, for example, requiring segregation of accounts would be enough to charge the parties with an intent to create a trust."
Id.
Writing for the Angelle court, Judge Brown explained that statutory trusts should be interpreted consistent with the purpose behind the Bankruptcy Code, i.e., to give the debtor a fresh start and "a clear field for future effort, unhampered by the pressure and discouragement of pre-existing debt." It is, after all, for this reason that it is often said that exceptions to discharge should be limited to those clearly expressed in the statute.
Id. at 1339 (quoting Lines v. Frederick, 400 U.S. 18, 20, 91 S. Ct. 113, 114 (1970)).
Id.; see, e.g., Bullock, 569 U.S. at 275, 133 S. Ct. at 1760 (noting that it is a "long-standing principal that 'exceptions to discharge should be confined to those plainly expressed.'" (quoting Kawaauhau v. Geiger, 523 U.S. 57, 62, 118 S. Ct. 974, 977 (1998))); In re Miller, 39 F.3d at 304 (stating that narrow interpretation of the statutory exceptions to discharge "ensures that the 'honest but unfortunate debtor' is afforded a fresh start").
In Donald Hanft, M.D., P.A. v. Church (In re Donald Hanft, M.D., P.A.), the District Court for the Southern District of Florida, in a non-PACA trust case, articulated three criteria for a technical trust to exist for purposes of § 523(a)(4):
315 B.R. 617 (S.D. Fla. 2002), aff'd sub nom. Hanft v. Church, 73 F. App'x 387 (11th Cir. 2003).
"(1) a segregated trust res;
(2) an identifiable beneficiary; and
(3) affirmative trust duties established by contract or statute." The District Court for the Middle District of Florida in Hemenway v. Bartoletta articulated the same criteria in rejecting a § 523(a)(4) claim based on the fiduciary obligations imposed by Florida law on general partners in a limited partnership.
Id. at 623.
No. 8:12-cv-2114-T-JSM, 2012 WL 4513073 (M.D. Fla. Oct. 2, 2012).
Id. at *4; see also Aamodt v. Narcisi (In re Narcisi), 559 B.R. 233, 240 (M.D. Fla. 2016) (articulating the same three-part test and affirming the bankruptcy court's conclusion that no fiduciary relationship arose under Pennsylvania statutes governing the licensing and regulation of auctioneers).
Applying this three-part test, Judge Funk of this Court rejected a PACA trust claim under § 523(a)(4) in Cardile Bros. Mushroom Pkg., Inc. v. McCue (In re McCue). Recognizing the three-part test, and with further analysis of PACA in light of the developing case law, Judge Mark of the Bankruptcy Court for the Southern District of Florida reached the same conclusion in Coosemans Miami, Inc. v. Arthur (In re Arthur). But very recently, Chief Judge Specie of the Bankruptcy Court for the Northern District of Florida reached the opposite conclusion. Judge Specie noted that she had previously rejected a segregate res requirement and thus she adopted the majority view.
The bankruptcy cases most often cited for this three-part test are Cladakis v. Triggiano (In re Triggiano), 132 B.R. 486, 490 (Bankr. M.D. Fla. 1991) ("This Court has consistently ruled that in order to meet the requirements of a fiduciary relationship under § 523(a)(4) of the Bankruptcy Code, the Debtor must have acted under an express or technical trust, wherein there is a segregated trust res, an identifiable beneficiary, and affirmative trust duties established by contract or by statute.") and Am. Sur. & Cas. Co. v. Hutchinson (In re Hutchinson), 193 B.R. 61, 65 (Bankr. M.D. Fla. 1996) (noting the same and quoting In re Triggiano). See also In re Goodwin, 355 B.R. at 344 ("In the bankruptcy context, the 'fiduciary relationship necessary for an exception to discharge requires the existence of an express or technical trust . . . which exists when there is a segregated trust res, an identifiable beneficiary, and trust duties established by contract or statute[.]'" (quoting Sides v. Futch (In re Futch), 265 B.R. 283, 287 (Bankr. M.D. Fla. 2001))).
In re Villa, 625 B.R. 111.
Outside of the statutory trust context, courts have been reluctant to find non-dischargeable fiduciary liability in commercial transactions. So as to narrow the scope of this type of liability in the commercial setting, courts have focused on the required separation of trust assets from general operating funds. Courts have generally rejected attempts by commercial lenders to create a technical trust—and thus a non-dischargeable obligation—by inserting "trust language" in loan agreements. This is only likely to be successful if there is a clear comingling prohibition.
See Gen. Elec. Capital Corp. v. Morrison (In re Morrison), 110 B.R. 578, 580-81 (Bankr. M.D. Fla. 1990) (reviewing key decisions of the United States Supreme Court and concluding that language contained in a commercial contract, notwithstanding its use of the relevant term, did not "create a trust in the strict and narrow sense as required to bar discharge under § 523(a)(4)"); see also GMAC Inc. v. Coley (In re Coley), 433 B.R. 476, 496 (Bankr. E.D. Pa. 2010) ("[T]he § 523(a)(4) discharge exception is not designed to apply to debts arising from ordinary commercial or contractual relationships." (citing cases)); Congress Fin. Corp. v. Levitan (In re Levitan), 46 B.R. 380, 384-86 (Bankr. E.D. N.Y. 1985) ("If security agreements like the one signed by [the parties] were found to impose a fiduciary obligation upon the debtor, creditors could easily make fiduciaries out of ordinary commercial debtors and the exception might indeed swallow the rule.").
See In re Morrison, 110 B.R. at 581 (distinguishing Chrysler Credit Corp. v. Rebhan (In re Rebhan), 45 B.R. 609 (Bankr. S.D. Fla. 1985) and finding that debtor was not under a "duty to separate or segregate" sale proceeds nor prohibited from commingling those proceeds with its general operating funds).
In re Morrison, 110 B.R. at 581; see also In re Coley, 433 B.R. 476; In re Levitan, 46 B.R. 380.
E.g., Kubota Tractor Corp. v. Strack (In re Strack), 524 F.3d 493, 495-96, 499-500 (4th Cir. 2008) (finding an express trust as to sale proceeds of financed farm equipment where the parties' agreement required the debtor to "segregate the proceeds and hold the same in trust" for the manufacturer); Chrysler Credit Corp. v. Rebhan (In re Rebhan), 45 B.R. 609, 613-14 (Bankr. S.D. Fla. 1985) (finding an express trust as to the sale proceeds of financed vehicles where the parties' agreement required the debtor to keep proceeds "separate from all other funds"). But see First Nat'l Bank of Wichita Falls v. Parr (In re Parr), 347 B.R. 561, 565 (Bankr. N.D. Tex. 2006) (finding that a covenant in a floor-plan financing agreement requiring the debtor to segregate funds was not enough to rise to the level of a technical trust).
PACA
Congress enacted PACA during the Great Depression to promote fair trading practices in the shipping, handling, and marketing of perishable agricultural commodities in interstate commerce. Congress sought to protect "small farmers and growers who were vulnerable to the practices of financially irresponsible buyers." Thus, PACA requires produce buyers to make full and prompt payments upon receiving goods from sellers. Failure to make prompt payments "triggers civil liability and the possible revocation of the buyer's PACA license [that is] required by 7 U.S.C. § 499c."
See Am. Banana Co. v. Republic Nat'l Bank of N.Y., N.A., 362 F.3d 33, 36 (2d Cir. 2004); Consumers Produce Co. v. Volante Wholesale Produce, Inc., 16 F.3d 1374, 1377-78 (3d Cir. 1994).
Idahoan Fresh v. Advantage Produce, Inc., 157 F.3d 197, 199 (3d Cir. 1998).
7 U.S.C. § 499b(4); see, e.g., Idahoan Fresh, 157 F.3d at 199.
Idahoan Fresh, 157 F.3d at 199; see 7 U.S.C. §§ 499e(a); 499h(a).
About thirty years ago, Congress amended PACA to include more protection for produce sellers against defaulting buyers by adding a floating trust provision. Under this provision, found at 7 U.S.C. § 499e(c), "a buyer's produce, products derived from that produce, and the proceeds gained therefrom are held in a non-segregated, floating trust for the benefit of unpaid suppliers who have met the applicable statutory requirements." Section 499e(c) requires licensed buyers to hold all perishable commodities purchased, as well as sale proceeds, in trust for the benefit of unpaid sellers, until the sellers receive full payment. And, under PACA, the produce seller's claim for payment has a higher priority than the buyer's perfected, secured creditors.
7 U.S.C. § 499e(c); see generally In re Fresh Approach, Inc., 48 B.R. 926, 927-28 (Bankr. N.D. Tex. 1985) (discussing the then-recent amendments to PACA which were "intended to provide for sellers of produce the sort of protection against other creditors of a delinquent purchaser/dealer contemplated for livestock dealers in the Packers and Stockyards Act of 1921").
Idahoan Fresh, 157 F.3d at 199 (citing 7 U.S.C. § 499e(c); 7 C.F.R. § 46.46(b)).
Id.; Greg Orchards & Produce, Inc. v. Roncone, 180 F.3d 888, 891 (7th Cir. 1999) ("Properly preserved, trust rights are superior to the interests of secured creditors."). To be eligible for PACA trust benefits, the seller must satisfy a notice requirement by either (1) notifying the buyer within thirty days of default or any time after the seller realizes payment has been dishonored, or (2) including a statutory statement referencing the trust on its invoices, which illustrate the seller's intent to preserve trust benefits. 7 U.S.C. §§ 499e(c)(3), (4); 7 C.F.R. § 46.46(c), (f). A seller loses its PACA trust benefits if it fails to give the required written notice in invoice statements or if the seller agreed to payment terms beyond thirty days. See Idahoan Fresh, 157 F.3d at 203-05.
Congress added the floating trust provision to protect produce sellers from buyers "who encumber or give lenders a security interest in" produce, products, and proceeds. PACA supplies that protection by placing produce sellers "first in line among creditors for all produce-related assets." This includes the buyer's secured creditors. In essence, the PACA trust elevates produce sellers to "a level of superpriority."
Roncone, 180 F.3d at 891 (quoting 7 U.S.C. § 499e(c)(1)).
Frio Ice, S.A. v. Sunfruit, Inc., 918 F.2d 154, 156 (11th Cir. 1990).
See, e.g., Patterson Frozen Foods, Inc. v. Crown Foods Int'l, Inc., 307 F.3d 666, 669 (7th Cir. 2002) ("PACA trust rights take priority over the interests of all other creditors, including secured creditors.").
Agri-Sales, Inc. v. United Potato Co., 436 F. Supp. 2d 967, 972 (N.D. Ill. 2006); see also Patterson Frozen Foods, 307 F.3d at 669 (stating that PACA gives produce sellers "a superior secured interest").
PACA also authorizes an unpaid produce seller to bring an action in the district court to "enforce payment from the trust." If necessary, an unpaid seller can obtain an injunction to stop dissipation of trust assets as well as an order requiring the buyer to segregate trust funds. If segregation is ordered, the buyer must escrow the funds in favor of all unpaid produce sellers, not just the complaining supplier.
See, e.g., Tanimura & Antle, Inc. v. Packed Fresh Produce, Inc., 222 F.3d 132, 138-39 (3d Cir. 2000); Cont'l Fruit Co. v. Thomas J. Gatziolis & Co., 774 F. Supp. 449, 453-54 (N.D. Ill. 1991).
See Frio Ice, 918 F.2d at 159 ("Upon a showing that the trust is being dissipated or threatened with dissipation, a district court should require the PACA debtor to escrow its proceeds from produce sales, identify its receivables, and inventory its assets. It should then require the PACA debtor to separate and maintain these produce-related assets as the PACA trust for the benefit of all unpaid sellers having a bona fide claim.").
See id. ("Segregation of only part of the trust solely to accommodate a beneficiary's singular interest is inappropriate because the statutory trust exists for the benefit of all unpaid produce suppliers.").
Significantly, individual officers and shareholders of PACA buyers may be personally liable for PACA related debts. Personal liability is imposed on individuals who "had the authority to direct the control of (i.e., manage) PACA assets held in trust for the producers." Such personal liability for someone in control of a PACA licensed buyer is akin to guaranteeing sufficient funds to pay produce sellers, without regard to whether the failure to pay was intentional.
See, e.g., Weis-Buy Servs., Inc. v. Paglia, 411 F.3d 415, 420-21 (3d Cir. 2005); Patterson Frozen Foods, 307 F.3d at 669; Golman-Hayden Co. v. Fresh Source Produce Inc., 217 F.3d 348, 350-51 (5th Cir. 2000).
Bear Mountain Orchards, Inc. v. Mich-Kim, Inc., 623 F.3d 163, 167-69 (3d Cir. 2010); see also Weis-Buy Servs., Inc. v. Paglia, 411 F.3d at 421.
See Red's Market v. Cape Canaveral Cruise Line, Inc., 181 F. Supp. 2d 1339, 1343-44 (M.D. Fla. 2002), aff'd, 48 F. App'x 328 (2002); see also Evergreen Farms & Produce, LLC v. G & S Melons, LLC, No. 8:15-cv-1921-T-33TGW, 2016 WL 81385, at *2 (M.D. Fla. Jan. 7, 2016).
Discussion
The meaning of the term "fiduciary capacity" in 11 U.S.C. § 523(a)(4) is a question of federal bankruptcy law, especially, as here, where two federal statutes are implicated. And a statutory trust will only meet the definition if it effectively creates a technical trust. Beyond these two basic tenants, not much is clear in this area of the law. But a reasonable approach to begin the analysis of whether a particular statutory trust is more like a technical trust or more like a resulting or constructive trust is to examine the relationship between the parties and the specific obligations imposed by the statute.
For example, in In re Marchiando, the court held that a lottery ticket agent was not the state's fiduciary under § 523(a)(4) despite an Illinois statute that (i) declared proceeds from ticket sales "a trust fund" until paid, (ii) prohibited the ticket agent from commingling the proceeds, and (iii) granted the state a lien on all the ticket agent's property for any unpaid proceeds. Although the ticket agent was "[t]echnically" a trustee, "[r]ealistically" she had "no duties of a fiduciary character" until she failed to remit sale proceeds. "Until then, she was just a ticket agent." The segregation requirement, criminal penalties, and so on were simply devices "to establish and enforce a lien in the proceeds, the better to collect them securely." Such an arrangement, the court concluded, was "remote from the conventional trust or fiduciary setting."
13 F.3d 1111 (7th Cir. 1994).
See id. at 1113; Ill. Dep't of Lottery v. Marchiando (In re Marchiando), 138 B.R. 548, 552 (Bankr. N.D. Ill. 1992) (setting forth the text of Section 10.3 of the Ill. Lottery Law (20 Ill. Comp. Stat. Ann. 1605/10.3)).
In re Marchiando, 13 F.3d at 1116.
Id.
Id.
Id.
Writing for the court, Judge Posner focused on the relationship between the parties in the trust arrangement under the Illinois statute and the relative balance of power. The court examined a "conventional" trust relationship in the context of a lawyer and his client, a director and a corporate shareholder, and a managing and limited partner. In these cases, Judge Posner observed that it is almost a paternalistic relationship between the fiduciary and the beneficiary. The Illinois lottery trust statute, in contrast, was found not analogous to a conventional trust as the relationship established between the ticket agent and the state lacked this paternalistic quality. In fact, Judge Posner warned against attempts by states to create all types of non-dischargeable debts by labeling debtors as fiduciaries. But Judge Posner also cautioned debtors that wrongful or criminal activity may render a debt non-dischargeable under some other exception to discharge.
In re Marchiando, 13 F.3d at 1115-17.
Id. at 1116.
Id.
Id. at 1117.
As described above, PACA was enacted, and amended, to address a perceived imbalance of power and to assist produce sellers in collecting their unpaid invoices. But as the Eleventh Circuit observed in Frio Ice, PACA also balances the burden of PACA obligations on produce dealers by permitting funds to be comingled. Comingling eases the pressure on the PACA dealer's inability to finance or securitize the inventory or receivables. As Judge Mark observed in In re Arthur, a true trust relationship does not generally involve such a balancing.
Frio Ice, 918 F.2d at 159.
In re Arthur, 589 B.R. at 770 ("Deference to the countervailing interest of a trustee is beyond the stricter confines of fiduciary capacity. To qualify as a technical trust, protection of the trust beneficiary should be paramount.").
To the extent In re Marchiando suggests it is relevant, the relationship between a produce seller and a PACA dealer is—bottom line—an arm's length business transaction. And, like the Illinois lottery trust statute, even with its bells and whistles, PACA fails to create the same type of a relationship characteristic of the conventional fiduciaries described by Judge Posner. PACA's trust provisions are a means to enforce a business debt and to provide a mechanism to incorporate the statutory protections into the contractual agreement between the parties. Only if the PACA dealer does not maintain sufficient funds to pay the debt can a produce seller obtain a segregation order from a federal district court.
The Fifth Circuit reached the same conclusion as the Marchiando court in another state lottery case, but on different grounds. Texas had enacted a statutory trust where lottery sellers acted as fiduciaries and a trust was imposed on the proceeds of lottery sales. The Texas statute had many of the same bells and whistles as the Illinois statute. However, the "fiduciaries" were not required to segregate the lottery proceeds, i.e., the trust assets, and were permitted to use the funds to pay other obligations. In holding that the statutory trust did not meet the "fiduciary" requirements of § 523(a)(4), the court stated:
In re Tran, 151 F.3d at 343-44.
Id. at 341, 343 & nn.18 & 20.
In our previous cases, we have not expressly identified the particular "trust-like" duty—or combination of duties—that a state statute must impose to create the specie of fiduciary that meets muster under § 523(a)(4). Nonetheless, one such duty has loomed large—the duty that a trustee refrain from spending trust funds for non-trust purposes.So, in the Fifth Circuit, it appears that the ability to comingle and use trust assets for non-trust purposes may be fatal to a non-dischargeability claim under § 523(a)(4).
Id. at 343-44.
Produce Suppliers correctly note that In re Tran is non-binding authority on this Court. Nevertheless, the Court finds it persuasive because like Eleventh Circuit jurisprudence, its roots lie in the former Fifth Circuit.
PACA's trust provisions have many of the same attributes as the Texas lottery statute. It is a "floating" trust, meaning that a PACA dealer may use proceeds from the sale of one seller's produce to pay a different seller, or for any other purpose, if the dealer maintains sufficient assets to pay his PACA liabilities. The PACA dealer need not segregate produce or sale proceeds. In fact, the governing regulation expressly states that "[c]ommingling of trust assets is contemplated." "Unpaid produce sellers have no claim to specific assets of the [PACA dealer], and they share pro rata if their claims exceed . . . available trust assets."
See 7 C.F.R. § 46.46(d)(1) (stating that PACA licensees must "maintain trust assets" so that they are "freely available to satisfy outstanding obligations to sellers"); see also In re Hughes, 609 B.R. at 799.
7 C.F.R. § 46.46(b). Arguably, the regulation is unclear as to whether PACA trust assets may be commingled with each other in a segregated trust account or whether the trust "floats" over all funds of the PACA licensee. If the former interpretation is correct, it would be inconsistent with the remedy established by the Eleventh Circuit in Frio Ice. Frio Ice establishes that the proper remedy for a PACA defalcation is an order directing the segregation of trust assets. Obviously, the failure of a PACA licensee to segregate trust assets in the face of such a court order, under current law, could form the basis of a non-dischargeable obligation under more than one provision of 11 U.S.C. § 523(a).
In re Hughes, 609 B.R. at 799; see 7 U.S.C. § 499e(c)(2) (providing that produce, products, and proceeds shall be held in trust "for the benefit of all unpaid suppliers or sellers" (emphasis added)); Country Best v. Christopher Ranch, LLC, 361 F.3d 629, 632 (11th Cir. 2004) ("Because PACA trusts are intended for the benefit of all unpaid suppliers, all beneficiaries to a trust share the same priority." (citing Frio Ice, 918 F.2d at 159)).
Because the trust "floats," it applies to all the dealer's PACA-related assets regardless of source. But without some segregation, or prohibition on the use of the funds, the arrangement does not operate as a typical trust where the produce seller would continue to own, beneficially, the produce and the sale proceeds and the PACA dealer would merely hold bare legal title. To the contrary, PACA dealers freely may use the produce and any proceeds, so long as they are able to pay all unpaid sellers. PACA simply has no formal separation and ownership rules generally associated with a technical trust.
See 7 C.F.R. § 46.46(d)(1); In re Hughes, 609 B.R. at 799.
Cf. In re McGee, 353 F.3d 537, 541 (7th Cir. 2003) (concluding that "[b]y virtue of the formal separation and ownership rules" certain provisions of the Chicago Municipal Code created a technical trust as between a landlord and her tenants such that her "act of defalcation" served to disqualify the landlord from receipt of her bankruptcy discharge under 11 U.S.C. § 523(a)(4)).
In Frio Ice, the Eleventh Circuit explained that "[s]egregation often may be the only means by which a federal court can prevent dissipation." However, the court concluded that district courts cannot require a PACA dealer "to separate and maintain . . . the PACA trust for the benefit of all unpaid sellers" prior to a showing of dissipation or threat thereof. If the ability to comingle and freely use trust assets is fatal to a technical trust, Frio Ice suggests that a PACA trust may be more analogous to a resulting trust as it does not fully mature as a technical trust until there is dissipation and a segregation order.
Frio Ice, 918 F.2d at 159 (emphasis added).
Id. at 159 & n.8.
Without a doubt, a PACA trust has many attributes of a technical trust. A trust res is identified, if not identifiable at any point in time, as are the beneficiaries of that trust, i.e., produce sellers. A PACA dealer owes certain duties to a produce seller before any defalcation. For example, a PACA dealer must keep organized books and records, and must be licensed. And most importantly, a PACA dealer must maintain sufficient assets to satisfy the claims of unpaid produce sellers.
7 U.S.C. § 499i; 7 C.F.R. §§ 46.14-46.15.
The majority view is that these PACA-imposed duties are "enough" to imbue a PACA dealer with "fiduciary capacity" without any requirement of segregation or any prohibition on using PACA trust assets for non-trust purposes. However, these same duties probably would not be "enough" under the Fifth Circuit's reasoning in In re Tran. Although the Eleventh Circuit has not addressed the issue squarely, it has steered lower courts towards narrowing the scope of § 523(a)(4) and pointed toward the need to have, at a minimum, "some" segregation of trust assets or a prohibition of using trust funds for non-trust purposes. These are the hallmarks of the type of trust relationship that should establish "fiduciary capacity" for purposes of § 523(a)(4) of the Bankruptcy Code.
A "segregated res" has been long-recognized as a requirement for non-PACA commercial cases or for other statutory trusts. And in a fast-paced business environment, it makes sense that if an entrepreneur is to be saddled with a business debt forever and denied a fresh start, there should be some clear lines of demarcation. So why is PACA different?
See supra pp. 8-9 and notes 33-36, 41-44.
The Produce Suppliers argue that PACA is different from the state statutes previously analyzed by the courts because PACA is a federal statute on equal footing with the Bankruptcy Code. Indeed, Judge Posner's warning about all sorts of state statutory trusts usurping a bankruptcy discharge does not apply to Congress. But the argument goes both ways. Whereas a state lacks the ability to amend the Bankruptcy Code to specifically exempt a debt from discharge, Congress has never been shy or reluctant about enacting express exceptions to the bankruptcy discharge. No such express exception yet exists for individual PACA-related liability.
11 U.S.C. § 523(a) (enumerating 19 distinct exceptions to the discharge).
Judge Specie, in adopting the majority position, makes a good argument that Congress could have excepted PACA liability from the exception to discharge in § 523(a)(4), but has chosen not to do so. In re Villa, 625 B.R. at 121-22. A fair point, but § 523(a)(4) also does not expressly limit itself to the fiduciary obligations of "technical trusts" and yet there is little disagreement that non-technical trusts do not fall within this section.
This is an issue on which reasonable minds can and do differ, and this Court does not presume, or even wish, to have the last word. But forced to decide, this Court errs on the side of the "strict and narrow" interpretation of § 523(a)(4) and concludes that some clear lines of demarcation should exist before an individual is saddled with a business debt for eternity. Ultimately, this is an issue for the Eleventh Circuit to resolve.
For these reasons, it is ORDERED:
1. Defendants' Motion (Doc. 13) is GRANTED, and Plaintiffs' adversary complaint is DISMISSED, with prejudice.
A similar order will be entered in the Related Adversary.
2. In view of the importance of this issue and the split of authority within this circuit, upon request, this Court will certify this Order for direct appeal pursuant to 28 U.S.C. § 158(d) and Fed. R. Bankr. P. 8006(d).
ORDERED.
Dated: April 02, 2021
/s/_________
Roberta A. Colton
United States Bankruptcy Judge Service of this Order other than by CM/ECF is not required. Local Rule 9013-3(b).