The salary received by an employee from a Ponzi-schemer isn’t automatically a fraudulent transfer absent evidence that the employee knew there was fraud afoot or was otherwise not in “good faith,” according to the Tenth Circuit.
A man ran a Ponzi scheme for eight years. Investors put in about $27 million and evidently lost some $11 million.
Until the Securities and Exchange Commission shut the fraudulent operation down, an individual had been employed for four years to provide administrative and ministerial services for the Ponzi-schemer. We shall refer to him as the employee.
The employee had been paid about $350,000 in salary. In addition, the Ponzi-schemer paid some $115,000 for renovations to the employee’s house after the employee’s wife was diagnosed with ALS, commonly known as Lou Gehrig’s Disease.
The SEC obtained appointment of a receiver who sued the employee in federal district court to recover the $350,000 and $115,000 as constructively fraudulent transfers.
On motion for summary judgment, the receiver did not contend that the employee was not in good faith. Rather, the receiver argued that the employee did not provide reasonably equivalent value for the services and home renovations because the employee’s services indirectly helped the Ponzi-schemer perpetrate the fraud.
The district court granted summary judgment in favor of the receiver for both the $350,000 and the $115,000. On appeal, Circuit Judge David M. Ebel set aside the grant of summary judgment in a 15-page opinion on August 22.
State Law Similar to Bankruptcy Code § 548
Judge Ebel first dealt with the grant of summary judgment with regard to the employee’s $350,000 in salary.
The employee admitted that the receiver was entitled to employ the so-called Ponzi scheme presumption, which means that payments are presumed to be fraudulent subject to the defendant’s ability to raise affirmative defenses.
Similar to Section 548(c) of the Bankruptcy Code, Utah fraudulent transfer law provides that an otherwise fraudulent transfer is not avoidable if the recipient received the transfer “in good faith and for reasonably equivalent value.”
Because the court must presume that the employee was in “good faith,” Judge Ebel said that “the only question before us on this issue is whether the salary payments were ‘reasonably equivalent value’ for the services performed.”
Like Section 548(d)(2)(A) of the Bankruptcy Code, Utah law provides that “value” is given if “property is transferred or an antecedent debt is secured or satisfied.”
The receiver conceded that the employee had received a reasonable fee for his services. However, the receiver contended that the services did not represent “value” because the services helped perpetuate the fraud.
To determine whether the services amounted to value under Tenth Circuit precedent, Judge Ebel said that value depends on the degree to which the transferor’s net worth is preserved. In that respect, he said that the employee provided “basic administrative services.”
Because the salary discharged the obligation to pay for the services, Judge Ebel said that the “salary payments had no effect on the net worth of” the Ponzi-schemer. He added, “[The employee’s] work was no different from that of a janitorial company paid to clean [the fraudster’s] office, and those funds would not be recoverable from the janitorial company under” Utah fraudulent transfer law.
Whether the employee’s work was more directly related to operations of the Ponzi scheme, Judge Ebel said, “may have bearing on whether [the employee] acted in good faith — that is, whether he knew of the fraud or not — but it does not mean that [the employee’s] salary payments were not exchanged for ‘reasonably equivalent value’ in the form of his administrative work.”
“Some courts,” Judge Ebel said, recognize the so-called referral-fee exception, where soliciting investors in a Ponzi scheme is not considered value. “Other courts,” he said, “have explicitly rejected this approach.”
The Tenth Circuit had not decided one way or the other about the referral-fee exception, Judge Ebel said. Because the employee had not been soliciting investors, he had no to reason to predict how the circuit would rule given that the question was not presented by the facts. On summary judgment, the evidence showed that the services “were purely administrative and administered in good faith.”
Regarding the $350,000 in salary, Judge Ebel reversed the grant of summary judgment and remanded, presumably for the district court to determine whether the employee was in “good faith.”
The Home Renovations
The $115,000 in home renovations raised different issues because the employee gave no value in exchange. The employee contended that the transferee was his invalid wife, for whom the renovations were intended to benefit.
According to Judge Ebel, the receiver asked the district court on summary judgment to make “too many inferences from meager evidence.”
Finding “genuine issues of material fact,” Judge Ebel set aside the grant of summary judgment on the $115,000, saying:
Viewing the facts in the light most favorable to [the employee], we cannot assume that the transfer which paid for the renovations to the house increased its value and thus provided a benefit to [the employee].
The salary received by an employee from a Ponzi-schemer isn’t automatically a fraudulent transfer absent evidence that the employee knew there was fraud afoot or was otherwise not in “good faith,” according to the Tenth Circuit.
A man ran a Ponzi scheme for eight years. Investors put in about $27 million and evidently lost some $11 million.
Until the Securities and Exchange Commission shut the fraudulent operation down, an individual had been employed for four years to provide administrative and ministerial services for the Ponzi-schemer. We shall refer to him as the employee.
The employee had been paid about $350,000 in salary. In addition, the Ponzi-schemer paid some $115,000 for renovations to the employee’s house after the employee’s wife was diagnosed with ALS, commonly known as Lou Gehrig’s Disease.
The SEC obtained appointment of a receiver who sued the employee in federal district court to recover the $350,000 and $115,000 as constructively fraudulent transfers.