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United States Court of Appeals,
Fourth Circuit. Lynn Lewis TAVENNER,
Plaintiff-Appellee, v. Kenneth R. SMOOT,
Defendant-Appellant, 257 F.3d 401, 38 Bankr.Ct.Dec.
31, Bankr. L. Rep. P 78,481 And Katina Smoot, a/k/a Katina
Lombardo; Cory R. Smoot; Gina Smoot; Home CheckServices; Glass Apple,
Incorporated, Defendants. No. 00-1912. DATES: Argued June 4, 2001. Decided July 16, 2001. PRIOR
HISTORY: In
re Smoot, 265 B.R. 128 (Bankr.E.D.Va. Sept. 30, 1999) (No. 98-39531-T,
99-3006-T) SUBSEQUENT
HISTORY: Certiorari
Denied, 534 U.S. 1116 (Jan 22, 2002) (No. 01-7065) Declined
to Follow by:
Bear, Stearns Securities Corp. v. Gredd, 275 B.R. 190 (S.D.N.Y. Mar 22, 2002)
(No. 01 CIV. 4379(NRB)) HN:
13,14 (F.3d) [*404]
COUNSEL: Argued,
Brett Alexander Zwerdling, Zwerdling & Oppleman, Richmond, VA, for
Appellant. Dion William Hayes, McGuire Woods, L.L.P., Richmond, VA, for
Appellee. BRIEF: John H. Maddock, III, McGuire Woods, L.L.P., Richmond, VA, for
Appellee. JUDGES:
Before WILKINS
and MOTZ, Circuit Judges, and IRENE M. KEELEY, Chief United States District
Judge for the Northern District of West Virginia, sitting by designation. Affirmed
by published opinion. Judge MOTZ wrote the opinion, in which Judge WILKINS and
Chief Judge KEELEY joined. OPINION DIANA
GRIBBON MOTZ, Circuit Judge: In
this case we must resolve whether a bankruptcy trustee can avoid a transfer of
potentially exempt property on the ground that the debtor transferred the
property with the intent to hinder, delay, or defraud his creditors under 11
U.S.C. § 548 (1994). For the reasons that follow, we conclude
that the trustee may do so. I. The
parties agree on the essential facts. In 1978, Kenneth Smoot began working for
CSX Transportation in Virginia. As a condition of his employment, Smoot joined
the United Transportation Union (“the Union”). In the early
1980’s, in order to supplement his income during periods of
unemployment or lay-offs from CSX, Smoot established an unincorporated entity
known as Glass Apple, which offered home repair and other services. In
April 1995, after a series of unpleasant dealings with CSX and the Union in
Virginia, Smoot transferred his employment with CSX to Ohio. Fifteen months
later, Smoot suffered a work-related injury when the flooring of a locomotive
engine gave way causing damage to Smoot’s knees and body. As a result
of the accident, Smoot underwent knee surgery in 1996 and could not work for
parts of 1996 and 1997. Due to his health and other personal problems, in June
1997, Smoot left his position with CSX, sold his home in Ohio and returned to
Virginia. CSX
and the Union subsequently brought suit against Smoot for violations of the
Federal Wiretapping Act, 18 U.S.C. § 2511 (Supp. II 1996), in
connection with Smoot’s illegal tape-recording of a meeting, which had
been convened to consider Smoot’s grievances against CSX and the
Union. Smoot, in turn, filed suit against CSX under the Federal Employer’s
Liability Act (FELA), 45 U.S.C. § 51 et seq. (1994), seeking
compensation for his work-related injury. In
January 1998, Smoot incorporated Glass Apple as a Virginia corporation. Smoot
testified at his bankruptcy hearing that he did this in the hope of
establishing a family business and a potential source of income for himself and
his family because he believed that, due to his injury, he would no longer be
able to perform manual labor. The incorporation papers listed Smoot as the
President of Glass Apple, his wife Katina as the Vice President, his son, Cory,
as the Secretary and Treasurer, and Smoot and his wife as the company’s
directors. Katina Smoot owned 50% of Glass Apple’s stock, and Smoot’s
two children owned, in equal amounts, the remaining 50%; Smoot himself owned no
Glass Apple stock. Through its various divisions, Glass Apple engaged in a
diverse set of operations, ranging from home repair to music production to
off-shore investment. One of these divisions, Home Check Services, handled the
company’s finances. On
March 30, 1998, the United States District Court for the Northern District of
Ohio found Smoot liable to CSX and to the [*405]
Union under the Wiretapping Act. The court took the issue of the amount of
damages under advisement. Three months later, Smoot and CSX entered into an
agreement settling Smoot’s FELA claim against CSX in connection with
his 1996 work-related injury. Pursuant to the settlement agreement, CSX agreed
to pay Smoot $250,000 in exchange for a release of all of Smoot’s
claims against the railroad. After deducting amounts for advances and other
outstanding debts, CSX deposited a net amount of $217,059.25 into a bank
account held jointly by Smoot and his wife at a credit union in Ohio. That same
day, Smoot wire-transferred $210,000 from the joint account at the credit union
to Home Check Services’ bank account in Virginia. In
August 1998, the Ohio district court ordered Smoot to pay $170,000 in damages
to CSX and $180,000 in damages to the Union. The following month, the district
court ordered Smoot to pay CSX an additional $25,000 in attorney’s
fees. During
the summer and fall of 1998, Smoot made several purchases using funds from the
Home Check Services bank account, including cars for his wife and daughter and
a motorcycle for his son. Smoot also wrote checks from this account to himself
and to his son Cory for “wages.” In addition, Smoot loaned
Cory $10,000 from the Home Check Services account, which Cory used to make a
down payment on a house. During this same period, Smoot wrote two checks from
the Home Check Services’ account made payable to First Union in the
amounts of $100,000 and $40,000; these funds were deposited into a First Union
bank account held in the name of Glass Apple. In
December 1998, the Union brought suit against Smoot, his family members, and
Glass Apple in the Circuit Court of Chesterfield County, Virginia seeking to
set aside these transfers as fraudulent or voluntary and to have these assets
made available for satisfaction of its judgment against Smoot. The Union also
filed an ex parte
petition for attachment. After the Union posted the necessary bond, the
Virginia court issued a writ of attachment, ordering the county sheriff to
attach by levy the specified property. Shortly thereafter, CSX filed a petition
to intervene in the suit. Before
the state court could hold a hearing on its writ of attachment, Smoot filed a
petition for Chapter 7 bankruptcy. The bankruptcy schedules, as amended,
claimed an exemption in the amount of $217,000 for the funds Smoot received in
connection with the settlement of his FELA suit against CSX. Lynn Tavenner was
appointed bankruptcy trustee. In January 1999, Tavenner filed this adversary
proceeding objecting to Smoot’s discharge in bankruptcy and seeking to
avoid and recover the transfers made with the checks drawn on the Home Check
Services’ account on the ground that, inter alia, Smoot transferred
the funds with the intent to defraud his creditors. Tavenner also objected to
Smoot’s claimed exemption of the $217,000. After
holding a hearing on the trustee’s objections, the bankruptcy court
issued a written opinion declaring that the trustee could avoid the transfers
and recover the funds, and denying Smoot a discharge in bankruptcy. The
district court upheld the bankruptcy court’s decision, and Smoot then
appealed to this court. In
bankruptcy actions, we review the district court’s judgment and the
bankruptcy court’s conclusions of law de novo; we review the
bankruptcy court’s findings of fact for clear error. See Chmil v.
Rulisa Operating Co. (In re Tudor Assocs., Ltd., II), 20 F.3d 115, 119 (4th
Cir.1994). In assessing the bankruptcy court’s findings [*406] of fact, we must give “due
regard … to the opportunity of the bankruptcy court to judge the
credibility of the witnesses.” Bankr.Rule 8013. II. Indisputably,
had Smoot left the proceeds from the settlement of his FELA suit against CSX in
his account, he could have exempted those proceeds from his bankruptcy estate
under Virginia law, which creates a statutory exemption for money recovered in
a personal injury action. See Va.Code Ann. § 34-28.1 (Michie
1997). [FN1] This case, therefore, presents the novel issue of whether
transfers of property that would have been exempt from the bankruptcy estate
under state law can be the subject of an avoidance and recovery action by the
bankruptcy trustee, and whether a debtor may be found to have transferred such
property fraudulently. FN1. Virginia law governs whether the property is subject
to exemption because Virginia has opted out of the federal statutory scheme
defining exempt property. See Va.Code Ann. § 34-3.1 (Michie
1997). As part of an individual debtor’s “fresh start,”
the debtor may exempt, and thus hold free from the claims of the trustee and
most creditors, certain property of the bankruptcy estate. See 11 U.S.C.
§ 522(b) (1994); In
re Massey, 225
B.R. 887, 890 (Bankr.E.D.Va.1998). The property that may be exempted includes
the property specified in § 522(d) of the Bankruptcy Code or,
alternatively, the property specified by state and general federal law. See id.; Massey, 225 B.R. at 890. The Bankruptcy
Code permits a state to preclude its residents from taking advantage of the
federal exemptions listed in § 522(d). See 11 U.S.C. § 522(b)(1).
“Virginia has done precisely that.” Massey, 225 B.R. at 890 (citing Va.Code
§ 34 3.1.) Accordingly, residents of Virginia filing
bankruptcy petitions may claim only those exemptions allowable under Virginia
law and general federal law. See Massey, 225 B.R. at 890. A.
Initially, we must determine whether transfers of property that would have been
exempt from the bankruptcy estate under state law can be the subject of an
avoidance and recovery action by the bankruptcy trustee. As the
bankruptcy court noted, in its thorough and well-reasoned opinion, courts hold
“divergent views regarding whether transfers of exemptible property
can be avoided by trustees.” Kapila v. Fornabaio (In re Fornabaio), 187 B.R. 780, 782
(Bankr.S.D.Fla.1995). Some courts have followed the so-called “no
harm, no foul” approach, holding that the trustee cannot avoid the
transfer because, absent the transfer, creditors could not have reached the
property, and thus the transfer did not harm them in any way. See id. at 782-83; Jarboe v. Treiber
(In re Treiber),
92 B.R. 930, 932 (Bankr.N.D.Okla.1988). A majority of courts have rejected this
approach, however, noting that under the bankruptcy laws, as revised in 1978,
all property, including potentially exempt property, is part of the bankruptcy
estate until the debtor claims an exemption for it; consequently, a transfer of
potentially exempt property could harm creditors because it might not have
actually been exempted from the bankruptcy estate. See, e.g., Lasich v.
Wickstrom (In re Wickstrom), 113 B.R. 339, 350 (Bankr.W.D.Mich.1990). For two reasons, we believe
that the majority position—that transfers of exemptible property are
amenable to avoidance and recovery actions by bankruptcy trustees—is
better reasoned. First,
§ 522(g) of the Bankruptcy Code apparently anticipates this
result. See 11 U.S.C. § 522(g) (1994). That statute permits
the debtor to exempt property recovered by the trustee under certain
circumstances, namely if the debtor could have exempted such property had it
not been [*407] transferred and if
the transfer was involuntary and the debtor did not attempt to conceal the
property. See id.
Section 522(g) is, thus, premised on the notion that a bankruptcy trustee can
avoid the transfer of exemptible property and recover the property. Second,
as the Wickstrom
court explained, the “no harm, no foul” approach is
misguided. Under a statutory scheme in which all property is presumed to be
part of the bankruptcy estate, and no property is exempt until such time as the
debtor claims an exemption for it, creditors can be harmed by transfers of
potentially exempt property because it is not a foregone conclusion that such
property will be exempt from the estate. Potentially exempt property can be
used to satisfy the demands of the creditors if the debtor never claims the
exemption. Thus, the so-called “no harm, no foul” approach is
inconsistent with the Bankruptcy Code. For these reasons, we conclude that
transfers of potentially exempt property are amenable to avoidance and recovery
actions by bankruptcy trustees. B. We
next turn to the question of whether Smoot can be held to have transferred the
FELA settlement proceeds fraudulently. The trustee seeks to avoid the transfer
of this exempt property under 11 U.S.C. § 548(a)(1)(A), which
states, in pertinent part: The trustee may avoid any transfer of an interest of the debtor in property … that was made … on or within one year before the date of the filing of the petition, if the debtor voluntarily or involuntarily— (A) 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. Smoot
claims, however, that these transfers cannot be characterized as fraudulent
because it is impossible to hinder, delay or defraud creditors by transferring
property to which the creditors were not entitled in the first place. Notwithstanding
Smoot’s protestations to the contrary, such transfers surely can be
characterized as fraudulent, so long as the debtor had the requisite fraudulent
intent. Nothing in § 548 indicates that a trustee must
establish that a fraudulent conveyance actually harmed a creditor. Nor does
§ 548 exclude from its scope transfers of exempt property.
See 11 U.S.C. § 548(a)(1)(A). Rather, § 548
states that “[t]he trustee may avoid any transfer of an interest of
the debtor in property” if the transfer or obligation is entered into
with the requisite intent. 11 U.S.C. § 548(a)(1)(A) (emphasis
added). Section
548 properly focuses on the intent of the debtor, for if a debtor enters into a
transaction with the express purpose of defrauding his creditors, his behavior
should not be excused simply because, despite the debtor’s best
efforts, the transaction failed to harm any creditor. See Davis v. Davis (In
re Davis), 911
F.2d 560, 562 (11th Cir.1990) (“To hold now that there occurred no
transfer of property with the intent to hinder creditors merely because the
debts on the residence exceeded its … value would be to reward
appellant for his wrongdoing, which this court refuses to do.”)
(quoting Future Time, Inc. v. Yates, 26 B.R. 1006, 1009 (M.D.Ga.1983)). Perhaps for this
reason, a number of our sister circuits have held that the value of the
transferred property to the creditors has no relevance in determining whether
the debtor acted with intent to hinder, delay, or defraud the creditors. See
[*408] Bernard v. Sheaffer (In
re Bernard), 96
F.3d 1279, 1281-82 (9th Cir.1996) (depletion of assets not a prerequisite to
denial of bankruptcy discharge when property transfer was made with intent to
defraud creditors); Davis, 911 F.2d at 562; Smiley v. First Nat’l Bank
of Belleville (In re Smiley), 864 F.2d 562, 569 (7th Cir.1989) (“[S]o long as
there is an intent to hinder, delay or defraud in combination with an act such
as a transfer, then a debtor should be denied the privilege of discharge.”).
Today, we too so hold. In
this case, the evidence amply supports the bankruptcy court’s finding
that Smoot transferred the FELA proceeds to Glass Apple with the intent to
hinder, delay, or defraud his creditors. In the context of
§ 548(a)(1)(A), courts closely scrutinize transfers between
related parties. Indeed, such transfers, if made without adequate
consideration, create a presumption of actual fraudulent intent. See Hyman
v. Porter (In re Porter), 37 B.R. 56, 60-61 (Bankr.E.D.Va.1984); see also Pavy v. Chastant
(In re Chastant),
873 F.2d 89, 91 (5th Cir.1989). This presumption establishes the trustee’s
prima facie case and shifts the burden of proof to the debtor to establish the
absence of fraudulent intent. See Porter, 37 B.R. at 61. Here, Smoot transferred $210,000
of the proceeds from his settlement with CSX to Glass Apple, a corporation
owned entirely by members of his immediate family, and received no
consideration in exchange for this transfer. A transfer of this kind suffices
to establish the presumption of fraudulent intent, see Graven v. Fink (In re
Graven), 936 F.2d
378, 383-84 (8th Cir .1991), and Smoot offered no evidence to rebut this
presumption. Thus, the bankruptcy court hardly erred in concluding that such
transfers were fraudulent and subject to avoidance by the bankruptcy trustee. III. The
bankruptcy court also held that the trustee could avoid the transfer and
recover the transferred property on another ground. Specifically, the court
held that, at the time Smoot transferred the funds, he was insolvent and he did
not receive reasonably equivalent value in exchange for the transferred
property. See 11 U.S.C. § 548(a)(1)(B) (the trustee may avoid
any transfer of an interest of the debtor in property made within one year of the
date of the filing of the petition, if the debtor (i) received less than a
reasonably equivalent value in exchange for such transfer or obligation and
(ii) was insolvent on the date that such transfer was made). We agree that
§ 548(a)(1)(B) provides an alternative, independent basis for
avoiding the transfer. Smoot
argues to the contrary, asserting that he did receive reasonably equivalent
value in exchange for the transfer of the settlement proceeds to Glass Apple.
He maintains that he invested the settlement proceeds in Glass Apple in the
hope of providing a continuing source of employment for himself and his family.
But, indisputably, Smoot received nothing of material value—not stock,
not a mortgage, not a promissory note—in exchange for the $210,000
that he transferred to the corporation. Moreover, because Smoot owned no Glass
Apple stock, he did not benefit from any increase in the value of the
corporation’s stock that may have resulted from the transfer. Nor did
the company execute an agreement promising to continue to employ Smoot in the
future in exchange for the transferred funds. In sum, Glass Apple provided
nothing to Smoot in exchange for the $210,000. Although Smoot’s desire
to provide for his family is commendable, courts have consistently held that a
transfer motivated by love and affection does not constitute reasonably
equivalent value for the purposes [*409]
of 11 U.S.C. § 548. See, e.g., Porter, 37 B.R. at 61. In sum, the
bankruptcy court correctly concluded that Smoot did not receive equivalent
value in exchange for the transfer of the $210,000. Furthermore,
the bankruptcy court also properly concluded that Smoot was insolvent when he
transferred the funds. [FN2] At the time Smoot transferred the $210,000 to
Glass Apple, the Ohio district court had found him liable to CSX and the Union
for violations of the Federal Wiretapping Act, but had not yet determined the
amount of damages. The bankruptcy court found that, even making the unlikely
assumption that the Ohio court would award no damages in the wiretapping case,
at the time of the transfer, Smoot’s total assets amounted to $21,000
and his liabilities exceeded $40,000, thereby rendering him insolvent. [FN3]
Smoot has failed to provide any evidence suggesting that the bankruptcy court’s
determination was erroneous, nor does the record reveal any such evidence.
Thus, because Smoot, while insolvent, transferred $210,000 to Glass Apple
without receiving any consideration in return, the trustee was entitled to
avoid the transfer under § 548(a)(1)(B), as well as under
§ 548(a)(1)(A). FN2. Courts generally rely upon the Bankruptcy Code’s
definition of insolvency for the purposes of § 548(a)(1)(B).
See Porter, 37 B.R. at 61. Section 101(32) of the Bankruptcy Code provides
that, for an individual, insolvent means: [A] financial condition such that the sum of such entity’s
debts is greater than all of such entity’s property, at a fair
valuation, exclusive of— (i) property transferred, concealed, or removed with
intent to hinder, delay, or defraud such entity’s creditors; and (ii) property that may be exempted from property of the
estate under section 522 of this title. 11 U.S.C. § 101(32) (1994). All
liabilities must be considered in determining whether a debtor was insolvent at
the time of the transfer in question. Porter, 37 B.R. at 61. FN3. For the purposes of the insolvency determination, we
exclude the proceeds from the Settlement Agreement with CSX. See 11 U.S.C.
§ 101(32)(ii). IV.
Finally, having concluded that Smoot transferred the proceeds from the
settlement agreement with CSX with the intent to defraud his creditors, we
affirm the bankruptcy court’s judgment denying Smoot a discharge in
bankruptcy. See 11 U.S.C. § 727(a)(2)(A) (1994) (precluding
the grant of a discharge in favor of a debtor if the debtor transferred
property with the intent to defraud his creditors within one year of the date
of filing a petition for bankruptcy). In
sum, because abundant evidence supports the bankruptcy court’s
findings of fact, and no error taints its legal conclusions, the judgment is,
in all respects, AFFIRMED Briefs of the Parties •
Brief of Appellee
(Nov. 27, 2000) •
Amended Brief of
Appellants (Oct. 26, 2000) |