BANKRUPTCY LAW: Trustee May Recover Transferred Assets The filing of a voluntary bankruptcy petition by an individual, couple, or company (“the debtor” or “debtors”) triggers several important legal events. Among the most important are 1) the assignment of an assistant United States Trustee, who represents the Bankruptcy Court and who administers the bankruptcy; 2) the imposition of the automatic stay, which bars any litigation against the debtor and debtor’s estate; and 3) the U.S. Trustee’s control over the bankruptcy estate. This control ultimately allows the Trustee the ability to distribute the estate’s assets, if any, to unsecured creditors. (11 USC 541 (creation of estate); 11 USC §362 (automatic stay); 11 USC §§724, 726 (trustee distributes assets)). These legal effect also apply if the creditors of a debtor file an involuntary bankruptcy petition against a debtor. In protecting the potential assets of the bankruptcy estate, the Trustee has the power to claw back or seek the return of money or property transferred by the debtor. This power centers on, in particular, “preferential transfers,” which are transfers of assets by the debtor within the 90 days of the bankruptcy petition (11 USC 547), and “fraudulent transfers,” pursuant to 11 USC §548. A fraudulent transfer in bankruptcy is defined as an assignment, transfer or other conveyance of funds or property from the debtor to a third party, done for the purpose of preventing creditors from collecting on that asset. Title 11 US Code §548 (a) says the following: (1) The trustee may avoid any transfer (including any transfer to or for the benefit of an insider under an employment contract) of an interest of the debtor in property, or any obligation (including any obligation to or for the benefit of an insider under an employment contract) 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— (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 . . . The statement that the Trustee may avoid any transfer means that the Trustee may demand that the recipient of the asset return it to the bankruptcy estate (i.e., send the property or the equivalent value back to the Trustee). The Trustee’s power to avoid the transfer, or “claw back” the asset is extensive. It extends beyond the 90 days of preferential transfers, and even beyond the 2 year period specified in 548(a)(1). For example, 11 USC §548 (e) states: (1) In addition to any transfer that the trustee may otherwise avoid, the trustee may avoid any transfer of an interest of the debtor in property that was made on or within 10 years before the date of the filing of the petition, if— (A) such transfer was made to a self-settled trust or similar device; (B) such transfer was by the debtor; (C) the debtor is a beneficiary of such trust or similar device; and (D) the debtor made such transfer 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, indebted. The law of fraudulent transfer thus emphasizes the importance of protecting the integrity of the estate, 1) so that the Trustee can sort out if there are assets that can be distributed, and 2) so that a fair distribution of assets may take place, if assets are available. The bankruptcy of famous Los Angeles attorney Tom Girardi is an example of the power of the Trustee to claw back assets, under circumstances that triggered or could have triggered fraudulent transfer litigation. Mr. Girardi’s creditors filed an involuntary bankruptcy against him in December 2020, based on the fear that 1) he was fraudulently pocketing and spending client funds; and 2) the pending fraud litigation against Girardi would dissipate all of the assets in a manner that would favor some creditors over others, without the relatively “orderly” process of distribution of a bankruptcy proceeding. (The Recorder, December 18, 2020) The Trustee’s task became to locate and seek the recovery of money or assets transferred by Girardi or his associates, that would qualify as preferential transfers, as well as potentially fraudulent transfers, so that these assets could be brought back into the estate, and so that these assets or the cash value they represent can be distributed to the unsecured creditors who have filed claims. Two recent examples show how this process can work. In Mr. Girardi’s bankruptcy, the US Trustee sought and won an order that Mr. Girardi’s ex-wife, reality TV star Erika Jayne, turn over a pair of earrings worth $750,000, which the Trustee claims were purchased with stolen client funds. (Yahoo Finance, 1/31/2022; People, 6/30/2022; LA Times, 8/4/2022). If the earrings are indeed returned to the estate, they can be auctioned off to raise money that will later be part of the funds that will eventually paid out to unsecured creditors. Ms. Jayne apparently filed an appeal to defend her right to retain the earrings, so the fate of the jewelry has yet to be definitively determined. (People, 7/6/2022) However, there is no doubt that the Trustee’s legal authority for the order comes from 11 USC §548. Another example consists of gifts given by Mr. Girardi to former Appellate Justice Tricia A. Bigelow, with whom Girardi had an affair lasting several years. (LA Times, 8/19/2022). Published reports state that she returned “numerous gifts” from Mr. Girardi to the US Trustee. (NY Post, 12/23/2020; USTimes Post, 8/20/2022; LA Times Twitter, 8/19/2022). Published reports also say that the retired justice “does not want anything even potentially connected with monies Girardi took from his client victims,” according to Justice Bigelow’s attorney Alan Jackson. (LA Times, 8/19/2022). The LA Times story says that the gifts were returned in August 2022, despite the fact that the bankruptcy was filed in December 2020, with wide public notice. Consequently, as the Girardi bankruptcy continues, the auctions of assets to raise funds for subsequent distribution to unsecured creditors will be part of the future proceedings. Bankruptcy counsel and the client must be aware that transactions entered into before the bankruptcy is filed will be scrutinized closely by the Trustee. This may be less important in the garden variety personal Chapter 7 where there are typically no assets to distribute. However, if the bankruptcy estate consists of millions of dollars, or large swaths of real or personal property, there is a danger that transactions that are considered out of the ordinary, or which look otherwise unusual, could be challenged and reversed. The Trustee possesses a great deal of discretion to claw back these assets. THIS POST DOES NOT CONSTITUTE LEGAL ADVICE. PLEASE CONSULT AN ATTORNEY!!
A debtor who seeks discharge, for himself or for a business, must maintain adequate financial books records to allow the bankruptcy Court to determine the debtor’s true financial condition. For example, pursuant to 11 USC §727(a)(3), the debtor is not entitled to a chapter 7 discharge if that debtor “has concealed, destroyed, mutilated, falsified, or failed to keep or preserve any recorded information, including books, documents, records, and papers, from which the debtor’s financial condition or business transactions might be ascertained, unless such act or failure to act was justified under all of the circumstances of the case[.]” The statute has the consequence of making the discharge dependent on the debtor’s true presentation of his or her financial affairs, and complete disclosure is a condition precedent to the granting of the discharge.
Caneva v. Sun Cmtys. Operating Ltd. P’ship (In re Caneva), 550 F.3d 755, 761-62 (9th Cir. 2008), cited in In re: Frank Daniel Kresock, Appeal from the United States Bankruptcy Court for the District of Arizona, BAP No. AZ-20-1270-BSL (Filed December 22, 2021; Unpublished)
Where Debtor had a judgment entered against him by California state court for fraud and elder abuse, this judgment was not discharged (cancelled) by his Chapter 7 bankruptcy discharge. Debtor’s and Debtor’s counsel’s strategic absence from court at the time of the trials did not eliminate the legal effect of the judgment. The debt was non-dischargeable, pursuant to 11 USC §523(a)(2)(A). In re: Robert Edward Zuckerman, UNITED STATES BANKRUPTCY APPELLATE PANEL OF THE NINTH CIRCUIT; BAP No. CC-19-1200-TaFS Argued and Submitted on February 27, 2020, Pasadena, California [Published Opinion]
The primary purpose of the bankruptcy stay [11 USC Sec. 362] is to protect the debtor. (In re Fuel Oil Supply and Terminaling, Inc., 30 BR 360, 362 (Bankr.N.D.Tex.1983), cited in In re Globe Investment & Loan Co., Inc., 867 F.2d 556 (1989)). By stopping all collection actions against the debtor, the bankruptcy stay acts 1) as an injunction to preserve the estate, and 2) to prevent the creditors from trying to go around the bankruptcy process to collect.
Once the debtor receive the discharge (11 USC Sec. 727), creditors are no longer able to collect the discharged debts. A creditor who, despite the discharge, seeks to collect a pre-bankruptcy debt, runs the risk of a contempt citation and punishment by the federal court.
And so it was held recently by the US Supreme Court which held that a business dispute with the debtor, that had begun prior to the debtor’s filing for bankruptcy, was discharged by the bankruptcy, and no further collection activity would be allowed.
Writing for a unanimous US Supreme Court, Associate Justice Breyer opined that the business creditors, who had initiated the lawsuit against the debtor (Mr. Taggart) had no reasonable basis to believe that the bankruptcy stay, and the subsequent discharge would not act to bar the continued litigation against the debtor. The debt was considered wiped away, and the creditors actions, seen objectively, were not only impermissible, but gave rise to contempt sanctions:
“Under the fair ground of doubt standard, civil contempt therefore may be appropriate when the creditor violates a discharge order based on an objectively unreasonable understanding of the discharge order or the statutes that govern its scope.”
Taggart v. Lorenzen, ___ U.S. ___, 139 S.Ct. 1795, 1801, 204 L.Ed.2d 129 (2019).
The facts showed that the creditors had a working knowledge of the effects of bankruptcy law, and objectively should have realized that the pre-bankruptcy debt was no longer collectible. Therefore, the Supreme Court remanded the matter back to the 9th Circuit, to impose appropriate sanctions:
“We conclude that the Court of Appeals erred in applying a subjective standard for civil contempt. Based on the traditional principles that govern civil contempt, the proper standard is an objective one. A court may hold a creditor in civil contempt for violating a discharge order where there is not a “fair ground of doubt” as to whether the creditor’s conduct might be lawful under the discharge order.”
The Takeaway: Creditors Who Know that a Debtor has Filed for Bankruptcy Should Take No Action Against the Discharged Debtor, without First Having a Very Detailed, Careful Conversation with an Attorney, Lest Those Creditors End Up Held in Contempt!!
THIS POST DOES NOT CONSTITUTE LEGAL ADVICE, AND READING IT DOES NOT CREATE AN ATTORNEY CLIENT RELATIONSHIP. PLEASE CONSULT DIRECTLY WITH AN ATTORNEY FOR ANY LEGAL ADVICE!!
Bankruptcy is a legal proceeding that liquidates (eliminates) the unsecured debts of the debtor (debts not backed by collateral). It is important to note, however, that the debtor may have a particular legal status, and that legal status is what determines which bankruptcy is used, or which entity is able to cancel its debt.
For example, if a corporation files for bankruptcy, and is properly formed and documented, then it may file for bankruptcy without the necessity of its owners also filing for bankruptcy. And the corporation’s unsecured debts may be eliminated or re-structured, depending on the particular type of relief applied for.
However, if both the corporation and the individual are equally liable on the debt, such as through a personal guarantee by the owner, then the filing of a bankruptcy petition for the corporation will not insulate the individual. The individual would also need to separately file for bankruptcy protection, if that is the type of relief sought.
The case of Alex Jones is a illustrative. Mr. Jones, through his media outlet, InfoWars, has become infamous for making the false claim that the mass shooting at the Sandy Hook Elementary School was some type of staged or phony incident. Several parents of children killed at Sandy Hook Elementary sued Mr. Jones and InfoWars for defamation, on the theory that by maintaining such a claim, Mr. Jones apparently implied that the grieving parents were lying about the deaths of their children.
For whatever reason, Mr. Jones did not contest the lawsuit, choosing instead to allow the court to take a default against him. Such an action, however, did not prevent the court from continuing its proceedings against Mr. Jones and his company or companies.
The court would eventually enter judgments for large sums of money in favor of the parents, both against Mr. Jones, and against some or all of his companies, including Infowars.
See, for example, cases collected by the First Amendment Watch at NYU: https://firstamendmentwatch.org/deep-dive/alex-jones-infowars-and-the-sandy-hook-defamation-suits/
Mr. Jones responded to being hit with these large judgments by filing a bankruptcy petition for Infowars. Bankruptcy of course means that no further action collection against the debtor’s personal unsecured debts, unless the debts (in Jones’s case, the judgments) relates to fraud, moral turpitude, or is otherwise considered non-dischargeable.
Setting aside the question of whether the judgments for defamation are connected to moral turpitude, where these false statements relate to the deaths of the plaintiff’s children, there appears to be a disconnect between the judgments and the bankruptcy filing by Mr. Jones. He declared bankruptcy for Infowars, but apparently not for himself personally. The judgments were against him personally, as well as against Infowars and other entities. In other words, if there is a judgment against Infowars, bankruptcy might have the effect of making the judgment uncollectible against Infowars, but the judgment against Jones himself would be unaffected.
A bankruptcy petition for Infowars is not the same as a bankruptcy for Alex Jones, because the individual and the company are separate, assuming that the company is created in a proper, recognized corporate form, such as a Corporation, LLC, or other distinct legal entity.
Mr. Jones cannot protect himself personally by filing a bankruptcy for Infowars. He would have to file bankruptcy for himself as well. It may be that he did not want to file bankruptcy for himself, and believed that somehow corporate bankruptcy would protect his personal fortune.This is not the case.
Thus, when an individual and corporation are both fully liable on the debt, corporate bankruptcy will not protect the individual. This occurs, for example, where an individual personally guarantees the debt of a company, or the corporation and the individual are jointly liable.
So apparently here in the case of Infowars, Infowars can be pursued for the Judgment, but in the absence of Infowars, Mr. Jones may also be pursued, unless he files for personal bankruptcy, and the bankruptcy court accepts the filing as appropriate, and not involving moral turpitude, or affected by some other disqualifying factor.
THIS POST DOES NOT CONSTITUTE LEGAL ADVICE, AND READING IT DOES NOT CREATE AN ATTORNEY CLIENT RELATIONSHIP. PLEASE CONSULT DIRECTLY WITH AN ATTORNEY FOR ANY LEGAL ADVICE!!
