Ponzi Scheme Clawback Litigation: or Defending Claims

Presenting a live 90‐minute webinar with interactive Q&A

Ponzi Scheme Clawback Litigation: Ponzi Scheme Clawback Litigation: Bringing or Defending ClaimsNavigating Inquiry Notice, Legitimate Profits, Statute of Limitations and More

T d ’ f l f

1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific

TUESDAY, MARCH 12, 2013

Today’s faculty features:

Anthony L. Paccione, Partner, Katten Muchin Rosenman, New York

Corey R. Weber, Partner, Ezra Brutzkus Gubner, Woodland Hills, Calif.

Jesse S. Finlayson, Partner, Finlayson Williams Toffer Roosevelt & Lilly, Irvine, Calif.Jesse S. Finlayson, Partner, Finlayson Williams Toffer Roosevelt & Lilly, Irvine, Calif.

The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions emailed to registrants for additional information. If you have any questions, please contact Customer Service at 1-800-926-7926 ext. 10.

Tips for Optimal Quality

S d Q litSound QualityIf you are listening via your computer speakers, please note that the quality of your sound will vary depending on the speed and quality of your internet connection.

If the sound quality is not satisfactory and you are listening via your computer speakers, you may listen via the phone: dial 1-888-450-9970 and enter your PIN when prompted Otherwise please send us a chat or e mail when prompted. Otherwise, please send us a chat or e-mail [email protected] immediately so we can address the problem.

If you dialed in and have any difficulties during the call, press *0 for assistance.

Viewing QualityTo maximize your screen, press the F11 key on your keyboard. To exit full screen, press the F11 key againpress the F11 key again.

Continuing Education Credits FOR LIVE EVENT ONLY

For CLE purposes, please let us know how many people are listening at your location by completing each of the following steps:

• In the chat box, type (1) your company name and (2) the number of attendees at your locationattendees at your location

• Click the SEND button beside the box

Program Materials

If you have not printed the conference materials for this program, please complete the following steps:

• Click on the + sign next to “Conference Materials” in the middle of the left-hand column on your screen hand column on your screen.

• Click on the tab labeled “Handouts” that appears, and there you will see a PDF of the slides for today's program.

• Double click on the PDF and a separate page will open. Double click on the PDF and a separate page will open.

• Print the slides by clicking on the printer icon.

Fraudulent Transfers: Ponzi Scheme Fraudulent Transfers: Ponzi Scheme Clawback Litigation in BankruptcyClawback Litigation in BankruptcyClawback Litigation in BankruptcyClawback Litigation in Bankruptcy

Strategies for Bringing or DefendingStrategies for Bringing or DefendingStrategies for Bringing or Defending Strategies for Bringing or Defending Trustee Clawback ClaimsTrustee Clawback Claims

Sponsored by the Legal Webinar Group of Strafford Sponsored by the Legal Webinar Group of Strafford PublicationsPublications

Anthony L. Anthony L. PaccionePaccione, Chair NY Litigation Department, , Chair NY Litigation Department, KattenKattenMuchinMuchin RosenmanRosenman LLPLLPMuchinMuchin RosenmanRosenman LLPLLP

Corey Weber, Partner, Ezra Corey Weber, Partner, Ezra BrutzkusBrutzkus GubnerGubner LLPLLP

Jesse Jesse S. S. Finlayson, Partner, Finlayson Finlayson, Partner, Finlayson Williams Williams TofferToffer Roosevelt & Roosevelt & Lilly Lilly LLPLLP

5

IntroductionIntroduction

“When the financial tide goes“When the financial tide goesWhen the financial tide goes When the financial tide goes out is when you will see who out is when you will see who

is swimming naked”is swimming naked”is swimming nakedis swimming naked

6

Threshold QuestionsThreshold Questions

What is a “Ponzi Scheme? When does it begin? g SIPC Protected? Type of Receiver to Be Appointed Type of Receiver to Be Appointed

7

Today’s TopicsToday s Topics

Clawbacks – From the Trustee’s perspective and the Prima Facie case based on Fraudulent Conveyance

Clawbacks from a Transferee’s Perspective

“Mere Conduit,” Section 546(e) and Other Specific Clawback Defenses

8

Corey R. WeberEzra Brutzkus Gubner LLP

21650 Oxnard Street, Suite 500Woodland Hills, CA 91367l h ( )Telephone: (818) 827‐9000cweber@ebg‐law.com

TRUSTEE’S CLAWBACK CLAIMSTRUSTEE S CLAWBACK CLAIMS

• Preference ClaimsPreference Claims– Section 547 claims

• Fraudulent Transfer Claims– Claims Under the Bankruptcy Code

• Section 548 and 550 claims– Claims Under State Statutes

• Section 544 and UFTA state law claims

10

PREFERENCE CLAIMSPREFERENCE CLAIMS

11

Preference ClaimsPreference Claims• Transfers in Ponzi schemes are more vulnerable to

attack as fraudulent transfers– In re Grafton Partners, L.P., 321 B.R. 527, 532 FN 5

(9th Cir. BAP 2005)(9 Cir. BAP 2005)

• However, transfers in Ponzi cases can still be recovered fas preferences

– See In re United Energy Corp, 102 B.R. 757 (9th Cir. BAP 1989); Danning v. Bozek (In re Bullion Reserve ) (of North America), 862 F.12 1214 (9th Cir. 1988)

12

Defenses to Preference ClaimsDefenses to Preference Claims

• Same defenses as to a normal preference claimSame defenses as to a normal preference claim

• But no ordinary course defenseBut, no ordinary course defense– Henderson v. Buchanan, 985 F.2d 1021, 1025

(9th Cir 1993)(9 Cir. 1993)– In re Bullion Reserve Co. of North America,

836 F.2d 1214, 1219 (9th Cir. 1988)836 d , 9 (9 C 988)

13

FRAUDULENT TRANSFER CLAIMS

14

Actual Intent Claims U d h B k C dUnder the Bankruptcy Code

• “The trustee may avoid any transfer (including any transfer to or y y ( g yfor 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…” – 11 U.S.C. Section 548(a)(1).

15

Actual Intent Claims Under StateActual Intent Claims Under State Statutes (California)

• “A transfer made or obligation incurred by a debtor is fraudulent as to a creditor, whether the creditor’s claim

b f ft th t f d tharose before or after the transfer was made or the obligation was incurred, if the debtor made the transfer or incurred the obligation as follows: (1) With actual intent to hinder, delay, or defraud any creditor of the debtor.”

California Civil Code Section 3439 04(a)– California Civil Code Section 3439.04(a).

16

Actual Intent Claims i h G il Plwith a Guilty Plea

• Guilty plea in criminal case for the Ponzi scheme y pprincipal can conclusively establish actual intent

• “[w]e now hold that a debtor’s admission, through guilty pleas and a plea agreement admissible under thepleas and a plea agreement admissible under the Federal Rules of Evidence, that he operated a Ponzi scheme with the actual intent to defraud his creditors conclusively establishes the debtor’s fraudulent intentconclusively establishes the debtor s fraudulent intent under 11 U.S.C. section 548(a)(1)(A) and California Civil Code section 3439.04(a)(1), and precludes relitigation of that issue ” Johnson v Neilson (In re Slatkin) 525 F 3dthat issue… Johnson v. Neilson (In re Slatkin), 525 F.3d 805, 814 (9th Cir. 2008)

17

Actual Intent Claims i h N G il Plwith No Guilty Plea

• Establish that a Ponzi scheme existed (theEstablish that a Ponzi scheme existed (the Ponzi scheme presumption)

If the Bankruptcy Court concludes that the– If the Bankruptcy Court concludes that the Debtor operated as a Ponzi scheme, actual intent to hinder, delay or defraud creditors will , ybe established as a matter of law

• Donell v. Kowell, 533 F.3d 762, 770 (9th Cir. 2008)• Barclay v. Mackenzie (In re AFI Holding, Inc.), 525

F.3d 700, 704 (9th Cir. 2008)

18

Constructive Fraud ClaimsU d h B k C dUnder the Bankruptcy Code

• “…(B)(i) received less than a reasonably equivalent value in exchange for such transfer or obligation; and (ii)(I) was insolvent on the date that such transfer was made or such obligation was incurred, or became insolvent as a result of such transfer or bli ti (II) d i b i t tiobligation; (II) was engaged in a business or transaction, or was

about to engage in business or a transaction, for which any property remaining with the debtor was an unreasonably small capital; (III) intended to incur or believed that the debtor would incur debts thatintended to incur, or believed that the debtor would incur, debts that would be beyond the debtor’s ability to pay as such debts matured; or (IV) made such transfer to or for the benefit of an insider, or incurred such obligation to or for the benefit of an insider under anincurred such obligation to or for the benefit of an insider, under an employment contract and not in the ordinary course of business.”– 11 U.S.C Section 548(a)(1)(B).

19

Constructive Fraud Claims U d S L (C lif i )Under State Law (California)

• “A Transfer made or obligation incurred by a debtor is fraudulent as to a creditor, whether the creditor’s claim arose before or after the transfer was made or the obligation was incurred, if the debtor made the transfer or incurred the obligation as follows:… (2) without

i i bl i l t l i h f th t freceiving a reasonably equivalent value in exchange for the transfer or obligation, and the debtor either: (A) Was engaged or was about to engage in a business or a transaction for which the remaining assets of the debtor were unreasonably small in relation to theassets of the debtor were unreasonably small in relation to the business or transaction. (B) Intended to incur, or believed or reasonably should have believed that he or she would incur, debts beyond his or her ability to pay as they became due ”beyond his or her ability to pay as they became due.– California Civil Code Section 3439.04(a). See also alternate test

under Section 3439.05.

20

Constructive Fraud vs. A l I Cl iActual Intent Claims

• Constructive fraudulent transfer claims should have the same outcome as actual intent claims, but the burden of proof differs– Donell v. Kowell, 533 F.3d 762, 771 (9th Cir. 2008), , ( )

• In addition to differences re burden of proof, constructive fraud claims will likely require an expert witness (e.g., forensic accountant)accountant)

• If there is no plea agreement or ability to demonstrate the debtor’s actual intent, the insolvency tests in constructive f d l i id lt t t id dfraud claims provide an alternate way to avoid and recover transfers

21

Fraudulent Transfer Claims Under St t F d l LState vs. Federal Law

• 2 year pre-bankruptcy petition reach-back under Section 548548

• There is normally a longer reach-back under state lawy g– In California, the reach back period is up to 7 years

(Cal. Civil Code Section 3439, et seq.)– 7 years prior to the filing of the adversary proceeding7 years prior to the filing of the adversary proceeding

or prior to the filing of the bankruptcy case?

• Statute of limitationsStatute of limitations– Trustee has 2 years to file a complaint post-

bankruptcy

22

Fictitious ProfitsFictitious Profits• General rule is that the Trustee’s recovery is limited to y

recovery of fictitious profits from net winners

• Withdrawals Investments = Fictitious Profits in most circuits• Withdrawals - Investments = Fictitious Profits in most circuits– Donell v. Kowell, 533 F.3d 762, 770 (9th Cir. 2008)

23

Fictitious Profits i th M d ff Cin the Madoff Case

• “Equality is achieved in this case by employing the q y y p y gTrustee's method, which looks solely to deposits and withdrawals that in reality occurred. To the extent possible, principal will rightly be returned to Net Losers p p p g yrather than unjustly rewarded to Net Winners under the guise of profits. In this way, the Net Investment Method brings the greatest number of investors closest to their g gpositions prior to Madoff's scheme in an effort to make them whole.”

In re Bernard L. Madoff Inv. Sec. LLC, 424 B.R. 122, 142 (Bankr. S.D.N.Y. 2010)

24

Potential for the Trustee to Recover More thanto Recover More than

Fictitious Profits• The Trustee can recover the total transfers from the Debtor to

the defendant (fictitious profits + return of principal) if:

– The Trustee establishes his prima facie case; and

– The defendant does not establish his defenses

25

Recovering Fraudulent Transfers M d Ch i iMade to Charities

• Limitation on avoiding transfers to charities– “A transfer of a charitable contribution to a qualified religious or

charitable entity or organization shall not be considered to be a transfer covered under paragraph (1)(B) in any case in which—(A) the amount of that contribution does not exceed 15 percent(A) the amount of that contribution does not exceed 15 percent of the gross annual income of the debtor for the year in which the transfer of the contribution is made; or (B) the contribution made by a debtor exceeded the percentage amount of gross annual income specified in subparagraph (A), if the transfer was consistent with the practices of the debtor in making charitable contributions.”

• 11 U S C Section 548(a)(2)• 11 U.S.C. Section 548(a)(2)• Limitation only applies to constructive fraudulent transfers, not as to

fraudulent transfers made with actual intent

26

Stern v. Marshall IssuesStern v. Marshall Issues• Are fraudulent transfer claims “core claims,” but ,

“unconstitutionally core”?

• Following Stern, can bankruptcy courts enter final judgments on fraudulent transfer claims?– Executive Benefits Insurance Agency v. Arkison (In the Matter ofExecutive Benefits Insurance Agency v. Arkison (In the Matter of

Bellingham Insurance Agency, Inc.), 702 F.3d 553 (9th Cir. 2012)

ll i S b k d f l• Following Stern, can bankruptcy courts enter default judgments on fraudulent transfer claims?

27

Jesse S. FinlaysonFinlayson Williams Toffer Roosevelt & Lilly LLP

15615 Alton Parkway, Suite 250Irvine, CA 92618

Phone 949‐759‐3810 x23 / Fax 949‐759‐3812Phone 949‐759‐3810 x23 / Fax 949‐759‐[email protected]

Materials originally prepared byMark Kaufman

McKenna Long LLPFor use in June 2011 Strafford program on this topic

A. Defenses to the Prima Facie Case

Once the Trustee or DIP has established a prima facie pcase for a fraudulent conveyance by demonstrating either actual or constructive fraud committed by the Transferor, the transferee may be able to defeat its liability as a recipient of a fraudulent conveyance by raising one or more defensesraising one or more defenses.

29Finlayson Williams Toffer Roosevelt & Lilly LLP

B. Statutory Framework

1. 11 U.S.C. § 548(c) provides a defense to the “initial” transferee if it both received the transfer from the fraudulent transferor in good faith and for value. In re Bayou Group, LLC, 439 B.R. 284, 308 (S.D.N.Y. 2010) (“ ”)(“Bayou IV”).

2. State law (Uniform Fraudulent Transfer Act) essentially provides these same defenses to fraudulentprovides these same defenses to fraudulent conveyance claims pursued under 11 U.S.C. § 544.

3 The burden of proof on the transferee’s defenses3. The burden of proof on the transferee s defenses under § 548 and correlative state law is on the defendant transferee. In re Bennett Funding Corp., Inc., 232 B.R. 565, 573 (Bankr. S.D.N.Y. 1999).


B. Statutory Framework (cont.)

4. 11 U.S.C. § 550(b) provides additional protection against liability for a fraudulent conveyance to an g y y“immediate” or “mediate” transferee of the initial transferee if that subsequent transferee can establish that it received the transfer:• In good faith;• For value; and• “without knowledge of the voidability of the transfer avoided.”


B. Statutory Framework (cont.)

5. Observations about 550(b) defenses: (a) the focus of “good faith” and “for value” defenses(a) the focus of good faith and for value defenses

for an immediate or mediate transferee relates to the transfer between the initial transferee and the defendant subsequent transferee.

(b) the “without knowledge of the voidability” l h d d h h helement, however, is directed to whether the immediate or mediate transferee defendant knew about the voidability of the initial transfer — i eabout the voidability of the initial transfer i.e. does the second transferee have awareness that the initial transfer was either not in good faith or not for value or was lacking in both respects.


C. Good Faith

1. Not Likely To Be Decided On Summary Judgment: Good faith is specific to each avoidance action so aGood faith is specific to each avoidance action, so a trustee bringing claims to avoid transfers must be prepared to address the unique facts of what each p p qrecipient of a fraudulent conveyance knew or of what it was on inquiry notice. Because these are fact specific issues and involve the state of knowledge or awareness of the specific recipient, it will be a rare case where summary judgment towill be a rare case where summary judgment to either party on this element of the defense is likely or appropriate.or appropriate.


C. Good Faith (cont.)2. Objective Good Faith; Against Whom Inquiry Notice is to be

Measured:Where the awareness of facts that would if establishedWhere the awareness of facts that would, if established, prove lack of good faith are in dispute (the vast majority of cases) courts have grappled with whether the defendant’s good faith should be decided on a subjective test where thegood faith should be decided on a subjective test where the court attempts to adduce the actual mindset of the particular transferee who receives the transfer, or on an objective test where the court or jury decides whether a typical investor

h h d h f h lwith the same acumen and sophistication of the actual defendant would have been put on inquiry notice that the transaction lacks good faith. Most courts have employed the objective test In re Agric Research & Tech Corp 916 F 2dobjective test. In re Agric. Research & Tech. Corp., 916 F.2d 528, 535‐36 (9th Cir. 1990); see also In re Teleservices Group, Inc., 444 B.R. 767 (Bankr. W.D. Mich. 2011).


C. Good Faith (cont.)

3. Frequently, courts place a “specific focus on the class or category of the transferee” and therefore g ywhether a transferee is on inquiry notice is informed by “the standards, norms, practices, sophistication and experience generally possessed by participants in the transferee’s industry or class.” Bayou IV 439 B R at 313Bayou IV, 439 B.R. at 313.

4. What a person with defendant’s experience and sophistication should have been on inquiry noticesophistication should have been on inquiry notice to ascertain is itself almost always a fact issue for the trier of fact. Bayou IV, 439 B.R. at 320‐327.the trier of fact. ayou IV, 439 .R. at 3 0 3 7.


C. Good Faith (cont.)5. The defendant may still be able to successfully defend

its good faith, even if it was under a duty of inquiry, if it can show that it would not have been able to ascertain relevant facts about the debtor even if it had made reasonably diligent inquiry In re Agric Researchmade reasonably diligent inquiry. In re Agric. Research & Tech. Grp., 916 F.2d at 536. This is a factual issue to be decided case by case. Other courts have imposed a y phigher standard and require the defendant to have actually made diligent inquiry where it is found to be

i i ti S I M h tt I F don inquiry notice. See e.g. In re Manhattan Inv. Fund III, 397 B.R. 1, 22‐24 (S.D.N.Y. 2007); see also S.E.C. v. Forte, 2012 WL 1719145 (E.D. Pa. May 16, 2012)., ( y , )



6. Lack of Good Faith Is Premised on Knowledge or Inquiry Notice of Debtor’s Fraud or Insolvency:q y yThere are two types of information, if possessed by the defendant, that courts have held to manifest lack ,of good faith: knowledge of a fraud or knowledge of the debtor’s insolvency. Bayou IV rejects the notion that inquiry notice awareness of other issues regarding the transferor’s operations that do not meaningfully bear on the debtor’s insolvency or itsmeaningfully bear on the debtor s insolvency or its fraudulent practices do not give rise to a basis to challenge the defendant’s good faith.challenge the defendant s good faith.



7. Frequently present in Ponzi cases is the situation where the trustee argues that the transferee is put g pon notice of the likely fraudulent nature of the debtor because the purported returns to the transferee are substantially beyond typical market returns for similar investments. But arguing lack of good faith based on this proposition has itsof good faith based on this proposition has its limits.



8. Red FlagsIn determining whether the transferee should be onIn determining whether the transferee should be on inquiry notice of a debtor’s fraudulent activities or insolvency, potential “red flags” identified by courts y, p g yhave included:a. Statements by the debtor concerning its

improprieties and fraudulent conduct. SeeArmstrong v. Collins, No. 01 Civ. 2437 (PAC), 02 Ci 2796 (PAC) 02 Ci 3620 (PAC) 2010 WLCiv. 2796 (PAC), 02 Civ. 3620 (PAC), 2010 WL 1141158, at *27‐28 (S.D.N.Y. Mar. 24, 2010).


C. Good Faith (cont.)b. Actual knowledge of the debtor’s financial problems.

See In re Grove‐Merritt, 406 B.R. 778, 810 (Bankr. S.D. Ohi 2009)Ohio 2009).

c. Knowledge of a tax lien filed against the debtor. See In re Armstrong 259 B R 338 344 (Bankr E D Ark 2001)Armstrong, 259 B.R. 338, 344 (Bankr. E.D. Ark. 2001).

d. Knowledge of an impending bankruptcy. See In re McLaren, 236 B.R. 882, 902 (Bankr. D.N.D. 1999)., , ( )

e. Knowledge of the debtor’s commingling of funds, acceptance of escrow checks in its personal account, and previous bounced checks. See Cannon v. J.C. Bradford & Co., 230 B.R. 546, 593‐94 (Bankr. W.D. Tenn. 1999) (reversed on appeal)1999) (reversed on appeal).



f. Promises of investment returns of 468% coupled with the debtor’s use of post‐dated checks to pinvestors, and checks returned to investors with insufficient funds. See Jobin, 84 F.3d at 1338‐39.

g. Knowledge that the transfer received as “grossly in excess of the value” the transferee had provided. See In re Agric. Res. & Tech. Grp., 916 F.2d at 539.


D. For Value

1. 11 U.S.C. § 548(d)(2) defines value as “property, or satisfaction or securing of a present or antecedent g pdebt of the debtor . . .”

2. “Property” means a reasonably equivalent exchange p y y q gof consideration.

3. In the vast number of Ponzi scheme cases, defendants can establish “value” by arguing that the principal they recovered from the Ponzi debtor was i i f i f d d b b hin satisfaction of an antecedent debt because the nature of the initial investment in the Ponzi scheme gave rise to a claimgave rise to a claim.


D. For Value

4. As argued in Stanford, because the unequal distribution of the Ponzi debtor’s assets creates an unjust enrichment of certain creditors relative to others warranting disgorgement by those who received more than others, creditors of a Ponzi scheme whose initial investment with the debtor gave rise to a claim against the debtor are entitledgave rise to a claim against the debtor are entitled to recover up to the amount of principal they invested if they acted in “good faith”invested if they acted in good faith .


D. For Value (cont.)

5. False Profits: The cases are uniform, however, in concluding that incremental amounts recovered by the transferee over the face amount invested are bj t t di t I “fi titisubject to disgorgement. In essence, “fictitious

profits” received by creditors can be disgorged because courts conclude that since the debtor’sbecause courts conclude that since the debtor s operations were fraudulent, the defendant lacks the basis to maintain that it actually was entitled to any profits; thus amounts paid as such cannot be “for value.” Merrill v. Abbott (In re Independent Clearing H C ) 77 B R 843 (D U h 1987) ( b )House Co.), 77 B.R. 843 (D.Utah 1987) (en banc).



6. Contrasting Debt with Equity Investments: But what if the investment with the Ponzi entity does ynot give rise to a claim against the debtor, but instead is made as an equity infusion giving rise to an “interest in” the debtor, such as a limited partnership interest or limited liability membership. Many hedge funds and private equity funds are soMany hedge funds and private equity funds are so structured.If the investment is made as equity how can theIf the investment is made as equity, how can the defendant establish “for value” based on satisfying an “antecedent debt”? an antecedent debt ?



a. So how have the courts handled the “interest in” Ponzi cases as distinct from the “claims against” gPonzi cases.

b. Almost all the reported cases have involved pclaims, not interests.

c. Courts starting with Eby v. Ashley, 1 F.2d 971 (4th Cir. 1924), cert. denied, 266 U.S. 631, 45 S. Ct. 197, 69 L. Ed. 478 (1925), established the

i h di ib i d i hnotion that distributions made to investors who lent money (i.e. creating a claim) also gave rise to a tort “claim” for fraud and rescissionto a tort claim for fraud and rescission.



d. Two reported Ponzi cases, In re AFI Holding, Inc., 525 F. 3d 700 (9th Cir. 2008) and Perkins v. Haines, ( ) ,661 F.3d 623 (11th Cir. 2011), have found that the result in equity investment cases should be the same.

e. In re Terry Mfg. Co., Inc., 2007 WL 274319 (Bankr. M.D. Ala. 2007), supports making a distinction in the treatment of claims vs. interests.


SPECIFIC DEFENSESSPECIFIC DEFENSES

“Mere Conduit” Defense Section 546(e)( ) Personal Jurisdiction Venue Venue Withdrawal of Reference Extraterritoriality Extraterritoriality Standing

48

Mere Conduit: Who is an initial or mediate transferee underor mediate transferee under Sec. 548:

“I iti l” “M di t ” T f d i i b d d fi iti “Initial” or “Mediate” Transferees –decision based definitions:

Judge Easterbrook’s seminal discussion in Bonded Fin. Servs., 838 F.2d at 894 -- recipient can be found to be an “initial transferee” within the meaning of the statute only ifinitial transferee within the meaning of the statute only if transferred funds are received into the transferee’s unfettered “dominion and control,” such that the funds may be spent on, for instance, “lottery tickets or uranium stocks.”stocks.

Judge Lifland’s decision in Bear Sterns Sec. Corp. v. Gredd (“Gredd II”), 397 B.R. 1, 14 (S.D.N.Y. 2007) (a) is a “mere conduit,” acting as “an uninterested agent between theconduit, acting as an uninterested agent between the transferor and another entity, or if it (b) lacks “dominion and control” over the funds.

49

Mere Conduit Defense…Mere Conduit Defense

D i i d A l C l i Wid l Ad d Dominion and Actual Control test is Widely Adopted:

Bonded Fin. Servs, Inc. v.European Am. Bank remains the starting point. 838 F.2d 890, 893 (7th Cir. 1998): a transferee must bepoint. 838 F.2d 890, 893 (7th Cir. 1998): a transferee must be capable of using funds “for its own purposes” to have transferee liability.

In re Finley 130 F 3d at 59 (2d Cir 1997) adopting Bonded Financial In re Finley, 130 F.3d at 59 (2d Cir. 1997) adopting Bonded FinancialTest; Goldman Sachs Execution & Clearing L.P. v. Official Unsecured Creditors’ Comm. Of Bayou Group, 491 Fed. Appx. 201, 204-05 (2d Cir. 2012) refusing to reject Gredd II’s “dominion and control” test.control test.

Andreini & Co. v. Pony Express Delivery Servs. (In re Pony Express Delivery Servs.), 440 F.3d 1296, 1303 (11th Cir. 2006) (requiring “unrestricted legal control” over funds)unrestricted legal control over funds)

50

Mere Conduit Defense…Mere Conduit Defense

But one very fact-specific case from Judge Lifland in NY rejected a mere conduit defense suggesting right to control is the test and exercise of that control is not necessary. Bear, Stearns Sec. Corp. v. Gredd (In re Manhattan Inv.Bear, Stearns Sec. Corp. v. Gredd (In re Manhattan Inv. Fund III) (“Gredd II”), 397 B.R. 1, 4-6 (S.D.N.Y. 2007).

The Second Circuit applied the Gredd II reasoning in Goldman, finding that Goldman, whose customer held a margin account could be an initial transferee because it hadmargin account, could be an initial transferee because it had ability to use funds to protect itself. 491 Fed. Appx. 201, 204-05

Gredd II’s reasoning has been rejected by other Courts: g j ySee, e.g., Grayson Consulting, Inc. v. Wachovia Securities LLC (In re Derivium Capital LLC), 437 B.R. 798, 808-09 (Bankr. D.S.C. 2010)

51

Section 546(e) DefenseSection 546(e) Defense

Section 546(e): the trustee may not avoid . . . a settlement or margin payment made by or to (or for the benefit of) a . . . stockbroker . . . [or] financial institution . . . in connection with a securities contract." 11 U.S.C. § 546( )§ 546(e).

52

Section 546(e) TransactionsSection 546(e) Transactions

A " kb k " i " (A) i h hi h h i A "stockbroker" is a "person-(A) with respect to which there is a customer . . . and (B) that is engaged in the business of effecting transactions in securities." 11 U.S.C. § 101(53A). ”Financial Institution” is defined broadly to include an entity that is a commercial or savings bank § 101(22)bank. § 101(22)

A "securities contract," in turn, is defined at length in sections 741(7)(A)(i)-(xi) of the Code as, inter alia, "a contract for the purchase, sale, or loan of a security." § 741(7)(A)(i)-(xi).

“Settlement Payments”: Broadly defined and commonly construed to as Settlement Payments : Broadly defined and commonly construed to as any transfer that concludes a securities transaction. See, e.g., Enron Creditors Recovery Corp. v. Alfa, S.A.B. de C.V., 651 F.3d 329, 334 (2d Cir. 2011) (also noting the breadth of the term “securities transaction” and rejecting limitations on the definition); Enron Corp. v. j g ) pInt’l Fin. Corp. (In Re Enron Corp.), 341 B.R. 451, 456 (Bankr. S.D.N.Y. 2006) (“in securities industry, any transfer of cash or securities to complete a securities transaction in considered a settlement payment”) (internal quotations omitted).

53


S i 46( ) i d f l i b d Section 546(e) is a defense to claims based on preference, constructive fraud, or on state law. Section 546(e) is not a defense to claims sounding in “actual” fraudsounding in actual fraud.

When state law claims are asserted, plaintiffs often benefit from reach-back periods under state law. If a Section 546(e) defense is successful a plaintiff willSection 546(e) defense is successful, a plaintiff will be left with “actual” fraud claims under Section 548(a)(1)(A), which only permit the plaintiff to recover on transfers dating back two years from the filing of g y gthe bankruptcy petition. Picard v. Katz, 462 B.R. 447 (S.D.N.Y. 2011).

54


Section 546(e) was intended to promote stability and instill investor confidence in the commodities andconfidence in the commodities and securities markets. See H. Rep. No. 97-420 at 1 (1982) reprinted in97 420, at 1 (1982), reprinted in 1982 U.S.C.C.A.N 583, 583 (stating the purpose of 546(e), as amended, p p ( )is to protect "the stability of the market").

55

Section 546(e) CasesSection 546(e) Cases

Recent Cases: In re Madoff Secur., 12-mc-00115, Dkt. No. 439 (S.D.N.Y. Feb. 13, 2013); Picard v. Greiff, 476 B.R. 715 ); ,(S.D.N.Y. 2012); Picard v. Katz, 462 B.R. 447 (S.D.N.Y. 2011); Picard v. J. Ezra Merkin, 2011 WL 3897970 (KMW) (S.D.N.Y. Aug. 31,2011 WL 3897970 (KMW) (S.D.N.Y. Aug. 31, 2011)

Geltzer v. Mooney (In re: MacMenamin’s Grill Ltd ) 450 B R 414 (Bankr S D N Y April 21Ltd.), 450 B.R. 414 (Bankr. S.D.N.Y. April 21, 2011) (RDD); Picard v. Merkin (In re BMIS), 440 B.R. 243 (Bankr. S.D.N.Y. 2010).

56

Section 546(e) CasesSection 546(e) Cases

In re: Tribune, 11-mc-2296, 12-md-2296 (S.D.N.Y.) (Pauley, J.)

Trustee chose not to bring state law Trustee chose not to bring state-law fraudulent transfer claims, which are barred by section 546(e)

Creditors brought those claims against Tribune shareholders in state and federal district courts nationwidedistrict courts nationwide

Motion to dismiss on preemption and standing grounds pendingg g p g

57

Other DefensesOther DefensesOther DefensesOther Defenses

Personal jurisdiction Venue Withdrawal of the reference Extraterritoriality Extraterritoriality Standing

58

Personal JurisdictionPersonal JurisdictionPersonal JurisdictionPersonal Jurisdiction

Recent cases Picard v. Maxam Absolute Return

Fund, L.P. (In re BLMIS), 460 B.R. 106 (Bankr. S.D.N.Y. 2011)

Picard v. Chais (In re BLMIS), 440 B.R. 274 (Bankr. S.D.N.Y. 2010)Pi d C h d S C (I Picard v. Cohmad Sec. Corp. (In re BLMIS), 418 B.R. 75 (Bankr. S.D.N.Y. 2009)2009)

59

Personal JurisdictionPersonal JurisdictionPersonal JurisdictionPersonal Jurisdiction

Open issues Foreign service providers Receipt of fees as a contact Agency and alter ego theoriesg y g

60

VenueVenueVenueVenue

Off-shore investment vehicles Choice of forum issues Choice of law issues

61

Withdrawal of the ReferenceWithdrawal of the Reference

Where should claims be brought: district court vs. bankruptcy court?

Motion to Withdraw: motions to withdraw cases from Bankruptcy court into Federal district court

62

Grounds for WithdrawalGrounds for Withdrawal

Mandatory Withdrawal Where movant shows that,

absent withdrawal, bankruptcy

Permissive Withdrawal Generally in the

t’ di tiabsent withdrawal, bankruptcy judge would be obliged “to engage in significant interpretation, as opposed to

court’s discretion.

interpretation, as opposed to simple application, of federal laws apart from the bankruptcy statutes.”bankruptcy statutes.

63

Withdrawal DecisionsWithdrawal Decisions

A number of references have been A number of references have been withdrawn by two Judges in BLMIS casecase

Becoming less of a hotbed of dispute Becoming less of a hotbed of dispute (at least in Madoff cases)

64

Withdrawal DecisionsWithdrawal Decisions

Picard v. Alpha Prime Fund Ltd.,11 Civ. 836 (JSR), Order dated Mar. 25, 2011

Picard v. JPMorgan Chase, et al., 454 B.R. 307 g , ,(CM) (S.D.N.Y. 2011)

Picard v. HSBC Bank PLC et al., No. 11 Civ. 763 (JSR), Order dated June 6, 2011(JSR), Order dated June 6, 2011

Picard v. Katz, No. 11 Civ. 3605 (JSR), Order dated July 5, 2011

Picard v Flinn Invs LLC 463 B R 280 (JSR) Picard v. Flinn Invs., LLC, 463 B.R. 280 (JSR) (S.D.N.Y. 2011)

Picard v. Greiff, 476 B.R. 715 (JSR) (S.D.N.Y. 2012)2012)

65

To Date, Specific Grounds for Withdrawing

Whether Trustee has standing to bring common law Whether Trustee has standing to bring common law claims.

Whether the Trustee’s action is a “covered class action” that is preempted by SLUSAaction that is preempted by SLUSA.

Whether § 546(e) prevents the Trustee from avoiding fraudulent transfers except under § 548(a)(1)(A)

Whether the reports BLMIS issued created an Whether the reports BLMIS issued created an antecedent debt

Whether a trustee can disallow customer claims against defendants alleged to have receivedagainst defendants alleged to have received fraudulent transfers

66

To Date, Specific Grounds for Withdrawing Whether the Trustee can avoid mandatory Whether the Trustee can avoid mandatory

withdrawals from IRAs as fraudulent Whether under Stern v. Marshall, the bankruptcy

court has the authority to render a final judgment orcourt has the authority to render a final judgment or preliminary findings of fact and conclusions of law in the avoidance actions

Whether settlements can create an avoided transfer Whether settlements can create an avoided transfer for the purpose of Section 550

What the appropriate standard is for “good faith” under Section 548(c)under Section 548(c)

Whether a trustee can avoid extraterritorial transfers in a U.S. bankruptcy proceeding

67

ExtraterritorialityExtraterritoriality

Morrison v Nat’l Australia Bank Ltd 130 Morrison v. Nat l Australia Bank Ltd., 130 S. Ct. 2869 (2010).

Issues pending before Judge Rakoff Issues pending before Judge Rakoff Can a trustee institute a U.S.

adversary proceeding to avoid transfers received abroad?

Can a trustee institute a U.S. adversary proceeding to recoveradversary proceeding to recover transfers from foreign immediate and mediate transferees?

68

ExtraterritorialityExtraterritoriality Madoff Ponzi scheme cases: In re Optimal U S Madoff Ponzi scheme cases: In re Optimal U.S.

Litig., 865 F.Supp.2d 451 (S.D.N.Y. 2012) (section 10(b)); In re Banco Santander Sec.-Optimal Litig., 732 F. Supp. 2d 1305 (S.D. Fla. 2010), aff'd sub732 F. Supp. 2d 1305 (S.D. Fla. 2010), aff d sub nom. Inversiones Mar Octava Limitada v. Banco Santander S.A., 439 F. App'x 840 (11th Cir 2011) (same); In re Merkin, 817 F. Supp. 2d 346 (S.D.N.Y. 2011) (same).

Other statutes: Norex Petrolum Ltd. v. Access Indus., Inc., 631 F.3d 29 (2d Cir. 2010) (RICO); NewMarket Corp. v. Innospec Inc., No. 3:10CV503-HEH, 2011 WL 1988073 (E.D. Va. May 20, 2011) (Robinson-Patman Act)

69

STANDINGSTANDING

A li bl l l i d b T ’ Applicable to common law claims asserted by Trustee’s (e.g., claims for common law fraud, aiding and abetting, conversion, breach of fiduciary duty, unjust enrichment)

Picard v. JP Morgan Chase & Co., 460 B.R. 84 (S.D.N.Y. ) S C C2011) and Picard v. HSBC Bank PLC, 454 B.R. 25

(S.D.N.Y. 2011) Key Rulings:

1. Trustee lacks standing to pursue claims that properly belong to creditors. He is only empowered to pursue claims that properly belonged to the debtor before it entered into Bankruptcy.

2. Debtor cannot pursue because of in pari delicto (see Kirschner v. KMPG LLP, 15 N.Y.3d 446, 464 (2010)).sc e G , 5 3d 6, 6 ( 0 0))

3. Subrogation contribution theories will not work.o But see Colbalt Multifamily Investors I, LLC v. Shapiro, 6 Civ. 6468 (KMW)

(S.D.N.Y. March 7, 2012) (suggesting different result in Connecticut and N.J.)

70

Thank YouThank You Anthony L. Anthony L. PaccionePaccione, Chair NY Litigation , Chair NY Litigation

Department,Department, KattenKatten MuchinMuchin RosenmanRosenman LLPLLPDepartment, Department, KattenKatten MuchinMuchin RosenmanRosenman [email protected]@kattenlaw.com212.940.8502212.940.8502

Corey Weber, Partner, Ezra Corey Weber, Partner, Ezra BrutzkusBrutzkus GubnerGubner LLPLLPcweber@[email protected]

Jesse Jesse S. S. Finlayson, PartnerFinlayson, Partner, Finlayson Williams , Finlayson Williams TofferToffer Roosevelt & Lilly Roosevelt & Lilly LLPLLPjfi l @f t ljfi l @f t [email protected]@fwtrl.com949949--759759--38103810

71

Ponzi Scheme Clawback Litigation: or Defending Claims

Documents

Transcript of Ponzi Scheme Clawback Litigation: or Defending Claims