Bankruptcy Judge Robert E. Grossman of Central Islip, N.Y., wrote an opinion that reads like an issue-spotting, final exam question about fraudulent transfers in an advanced seminar on creditors’ rights.
On cursory reading, the facts seem to describe a walkover case of liability, but Judge Grossman’s June 21 opinion explains why the fraudulent transfer claims failed as a matter of pleading and proof.
Lease Payments for the Debtor’s Sister-in-Law
The pertinent facts were few. A husband filed bankruptcy, but the wife did not. The couple had a joint bank account into which they deposited all of their income. Although not proven at trial, it appears as though most of the income and deposits into the account may have come from the husband.
About five years before the husband’s chapter 7 petition, the wife signed an apartment lease along with her sister. The sister alone lived in the apartment. The wife never resided in the apartment, although the lease gave her the right to reside there. Presumably, the wife signed the lease because her sister’s credit score may not have allowed her to be solely liable on the lease.
The sister did not have a bank account of her own. The wife paid the rent with checks drawn on the joint account with her debtor-husband. The testimony indicated that the sister may have given the wife cash to cover the rent, which the wife deposited into the joint account.
After bankruptcy, the wife and the chapter 7 trustee settled an adversary proceeding regarding a fraudulent transfer of real property from the debtor-husband to the wife. The settlement gave the wife a release of all claims the trustee may have had, not just the claim regarding the real property.
The husband’s chapter 7 trustee also sued the landlord for receipt of actual and constructive fraudulent transfers under state law and Section 548. The trustee sought to recover almost $90,000 in rent from the landlord that the wife had paid for her sister’s apartment.
The trustee could not sue the wife as the recipient of fraudulent transfers from the debtor-husband because the wife had been given a release by the trustee as part of the prior settlement.
The trustee’s theory was based on the idea that the money in the joint account emanated from the husband and was a fraudulent transfer to the landlord because the husband received no consideration. The parties tried the case before Judge Grossman based on the pleadings and a few deposition transcripts.
Unless the wife was a “mere conduit,” the landlord could only be liable for receipt of fraudulent transfers as a subsequent recipient because the transfers first went to the wife.
The Rights in the Joint Bank Account
Before launching into the fraudulent transfer analysis, Judge Grossman parsed the rights of the husband and wife in the joint bank account.
In a joint bank account, New York law presumes that the holders of the account are joint tenants. Each possesses the entire account, making it susceptible to attachment by a judgment creditor of either.
New York law also presumes that the depositor made an irrevocable gift to the joint account holder of one-half of the funds in the account.
The trustee presented no evidence to rebut the presumption that the couple were joint tenants in the bank account and that the husband gifted one-half of his deposits to his wife. There was also no evidence to indicate that the husband controlled how the wife dispensed payments and withdrawals from the joint account.
Even if he were to decide that all of the deposits into the account came from the husband, Judge Grossman concluded, as a matter of law, that the wife “had the right to put half of the funds in the Joint Account to her own use.”
The Wife as the Initial Transferee
Under Section 550(b), the landlord could have an ironclad defense if the wife were the initial recipient of the fraudulent transfers. Judge Grossman therefore analyzed whether the wife was the initial transferee or only a “mere conduit.”
There being no evidence that the husband had sole control over the joint account, Judge Grossman found that the wife was the initial transferee, not a conduit.
The Effect of the Release of the Wife
Section 550(a) permits the trustee to recover from a subsequent transferee if the “transfer is avoided.” The landlord argued that the trustee could have no recovery because the trustee had released the wife and thus could not avoid any transfers as to her.
Some courts hold that a trustee must first avoid a transfer to the initial transferee before seeking a recovery from a subsequent transferee. However, Judge Grossman said that a “majority of courts” and the Collier treatise only require a showing that the initial transfer is avoidable.
Judge Grossman therefore held that Section 550 does not require “a trustee to first avoid an initial transfer in order to recover from a subsequent transferee.”
Landlord Shielded by Section 550(b)(1)
Citing Section 550(b)(1), Judge Grossman said the landlord, as a subsequent transferee, could have no liability if it “received the transfers in good faith, for value and without knowledge that the transfers could be avoided by the trustee.”
With regard to value, the wife did not reside in the apartment, but she had the right to do so. Therefore, the wife received value.
There was no evidence to show that the landlord was on inquiry notice about the husband’s insolvency, so the landlord received the transfer in good faith. Because the landlord had no knowledge that the transfer might be avoidable, the third and last test was met.
Judge Grossman therefore held that the trustee “could not recover the Transfers from [the landlord] as [a] subsequent transferee[] even if he adequately established a prima facie case as to any of the fraudulent conveyance claims.”
If Wife Was a Conduit, Still No Claim
Contrary to his prior finding, Judge Grossman assumed that the wife was a mere conduit, allowing him to analyze the transfers as though they were directly from the debtor-husband to the landlord.
With regard to claims of actual fraud, Judge Grossman said that the trustee had failed to produce evidence of badges of fraud. The trustee therefore had no claim for actual fraud even if the wife were a conduit.
It was a different story regarding constructive fraud, because the husband received no consideration. Furthermore, the trustee benefitted from the presumption that the husband was insolvent at the time of the transfers.
To establish liability for constructive fraud, the trustee was still required to prove that there was a transfer of property of the debtor-husband’s estate.
Under New York law, only half of the funds in the account could have been property of the debtor-husband’s estate. Even so, Judge Grossman said it “is entirely possible that the Transfers were made from [the wife’s] share in the Joint Account.” He therefore found it “impossible . . . to ascertain whether the funds received [by the landlord] were property of the Debtor’s estate.”
Even if the wife were only a conduit, Judge Grossman ruled that the trustee had no claim for constructive fraud because the record was “simply insufficient for the Court to conclude that any of the Transfers were made from property of the Debtor’s estate.”
Judge Grossman entered judgment in favor of the landlord, dismissing all claims.
Bankruptcy Judge Robert E. Grossman of Central Islip, N.Y., wrote an opinion that reads like an issue-spotting, final exam question about fraudulent transfers in an advanced seminar on creditors’ rights.
On cursory reading, the facts seem to describe a walkover case of liability, but Judge Grossman’s June 21 opinion explains why the fraudulent transfer claims failed as a matter of pleading and proof.
Lease Payments for the Debtor’s Sister-in-Law
The pertinent facts were few. A husband filed bankruptcy, but the wife did not. The couple had a joint bank account into which they deposited all of their income. Although not proven at trial, it appears as though most of the income and deposits into the account may have come from the husband.
About five years before the husband’s chapter 7 petition, the wife signed an apartment lease along with her sister. The sister alone lived in the apartment. The wife never resided in the apartment, although the lease gave her the right to reside there. Presumably, the wife signed the lease because her sister’s credit score may not have allowed her to be solely liable on the lease.
The sister did not have a bank account of her own. The wife paid the rent with checks drawn on the joint account with her debtor-husband. The testimony indicated that the sister may have given the wife cash to cover the rent, which the wife deposited into the joint account.
After bankruptcy, the wife and the chapter 7 trustee settled an adversary proceeding regarding a fraudulent transfer of real property from the debtor-husband to the wife. The settlement gave the wife a release of all claims the trustee may have had, not just the claim regarding the real property.
The husband’s chapter 7 trustee also sued the landlord for receipt of actual and constructive fraudulent transfers under state law and Section 548. The trustee sought to recover almost $90,000 in rent from the landlord that the wife had paid for her sister’s apartment.
The trustee could not sue the wife as the recipient of fraudulent transfers from the debtor-husband because the wife had been given a release by the trustee as part of the prior settlement.