Lynn H. Martinez v. Steven D. Hutton

[PUBLISH]
IN THE UNITED STATES COURT OF APPEALS
FILED
FOR THE ELEVENTH CIRCUITU.S. COURT OF APPEALS
________________________ ELEVENTH CIRCUIT
DEC 29, 2010
No. 09-14997 JOHN LEY
________________________ CLERK
D. C. Docket No. 09-00703-CV-T-30
BKCY No. 08-00002-MP-MGW
IN RE:
BILLY JASON HARWELL
Debtor.
---------------------------------------------------------------------------------
LYNN H. MARTINEZ,
Plaintiff-Appellant,
versus
STEVEN D. HUTTON,
STEVEN D. HUTTON,
P.L.,
Defendants-Appellees.
________________________
Appeal from the United States District Court
for the Middle District of Florida
_________________________
(December 29, 2010)
Before HULL and MARCUS, Circuit Judges, and COOKE,* District Judge.
HULL, Circuit Judge:
In this fraudulent transfer case, Appellant Lynn H. Martinez (“Martinez”), as
United States Bankruptcy Trustee, appeals the district court’s affirmance of the
bankruptcy court’s grant of summary judgment in favor of Appellees Steven D.
Hutton and his law firm, Steven D. Hutton, P.L. (“Hutton”). For the purposes of
its summary judgment ruling, the bankruptcy court assumed that attorney Hutton
had schemed with debtor Billy Jason Harwell (“Harwell”) to have the debtor’s
funds placed in Hutton’s trust account and then distributed to Harwell personally,
his family members, and selected creditors.
Despite Hutton’s being involved in, and the mastermind of, the debtor
Harwell’s fraudulent transfer scheme, the bankruptcy court concluded that Trustee
Martinez could not recover the funds from attorney Hutton because he was not the
“initial transferee” under 11 U.S.C. § 550(a)(1). After review and oral argument,
we reverse.
I. FACTUAL BACKGROUND
A. Colorado Judgment Against Debtor Harwell
On July 12, 2005, Thomas Clay Hill (“Hill”) obtained a Colorado judgment
*
Honorable Marcia G. Cooke, United States District Judge for the Southern District of
Florida, sitting by designation.
2
of $1.396 million against debtor Harwell. On July 27, 2005, Hill filed papers in
Sarasota County, Florida attempting to domesticate his Colorado judgment against
Harwell. Attorney Hutton represented Harwell in this domestication proceeding.
B. Debtor Harwell’s $500,000 in Cash and Promissory Note
At the time the Colorado judgment was entered, debtor Harwell owned
interests in two Florida businesses. Harwell was a shareholder of the Center for
Endoscopy, Inc. (“CFE”), a Florida corporation, and a member of Sarasota Endo
Investors, LLC (“SEI”), a Florida limited liability company. Harwell engaged
Hutton and his law firm to represent Harwell in disputes with other investors in
CFE and SEI.
On August 11, 2005, debtor Harwell entered into a settlement agreement
with SEI and CFE that provided he would receive $100,000 cash within 20 days
for his interest in CFE; $400,000 cash within 30 days for his interest in SEI; and a
$46,837 promissory note from SEI to Harwell to satisfy SEI’s obligations to
Harwell and as a return of capital.
On August 26, 2005, debtor Harwell answered post-judgment interrogatories
from Hill, but did not disclose the settlement or information about the $546,837 in
funds he would get from it. Hutton played no part in answering those
interrogatories.
3
On September 1, 2005, CFE’s settlement payment of $100,000 was
deposited directly into Hutton’s trust account. That same day, at Harwell’s
direction and with knowledge of Hill’s judgment and collection attempts, Hutton
disbursed the $100,000 in five checks:
No. Amount Payee
944 $35,000 Harwell
945 25,000 Harwell
946 5,000 Christine A. Harwell (Harwell’s wife)
947 25,000 ASC Partners
948 10,000 Steven D. Hutton, P.L. Trust Account
$100,000
Next, Hutton wrote a letter, dated September 6, 2005, to SEI’s counsel
directing him to make the promissory note payment of $46,837 to Harwell’s wife,
Christine. On September 9, 2005, SEI made its $400,000 settlement payment
directly to Hutton’s trust account. That same day, at Harwell’s direction, Hutton
disbursed the $400,000 in seventeen checks:
No. Amount Payee
962 $75,000 1 Harwell
963 33,700 Christine A. Harwell (Harwell’s wife)
964 12,500 Performance Trailers
965 17,000 VRS, Inc.
966 20,000 Ken Johnson
967 21,000 Commerce Bank
968 10,500 Superior Trailers
1
Both this check and check No. 971, also payable to Harwell, show as void on Hutton’s
bank statement. However, Hutton indicated in a letter he sent Harwell that check Nos. 962 and
971 were payable to Harwell in the amounts shown here.
4
969 9,500 Beneficial Finance
970 15,000 Stinar, Zendejas LLC
971 50,000 Harwell
972 6,000 MBNA
973 4,600 CitiFinancial
974 50,000 ASC Partners
975 15,917 Delbert Myers
976 12,847 Michael Miniat
977 27,000 Vintage Motors
978 19,436 Billy C. Harwell (Harwell’s father)
$400,000
After these checks were written on September 9, but before they cleared, Hill
obtained a turnover order from the Colorado court requiring debtor Harwell to (1)
turn over any payments from SEI, and (2) turn over any funds Harwell received
after July 12, 2005, that were still within his control.
C. Hill’s Garnishment of Hutton’s Trust Account
On September 19, 2005, judgment-creditor Hill served attorney Hutton with
a writ of garnishment for any amounts held in trust for debtor Harwell. In
response, Hutton stopped payment on check Nos. 962 and 971 issued to Harwell
and totaling $125,000,2 but not on several other checks that had not yet cleared
Hutton’s trust account and for which funds still remained in Hutton’s trust account.
Hutton and debtor Harwell moved to quash Hill’s garnishment based on
Hill’s domestication being defective on technical grounds. The Florida court
2
Hutton’s check Nos. 962 and 971 for $75,000 and $50,000, respectively, were payable to
Harwell.
5
granted their motion on September 28, 2005.
D. Hutton Disburses $125,000 from His Trust Account
On September 28, 2005, the same day the Florida state court quashed the
writ of garnishment, Hutton issued a check on his trust account to the Bank of
Commerce for Harwell’s remaining $125,000. Hutton personally visited the bank,
delivered the $125,000 check, and obtained seven cashier’s checks, including three
$30,000 checks payable to Harwell’s wife, his father, and creditor Montana
Tractor, respectively:
No. Amount Payee
6988 $15,000 Robert Du[i]tch, Harwell’s bankruptcy
attorney
6989 7,500 American Express
6990 30,000 Billy C. Harwell, Harwell’s father
6991 30,062.96 Christine A. Harwell, Harwell’s wife
6992 9,500 IRS
6993 30,000 Montana Tractor Inc.
6994 3,000 J. Lichlyter
$125,062.96
In his deposition, Hutton testified that he obtained the seven cashier’s checks to
make sure the money was out of his trust account in case Hill sought another writ
of garnishment. He also testified that these transactions were unusual and departed
from the typical handling of client trust funds.
On October 10, 2005, Harwell filed for Chapter 11 bankruptcy protection 3 in
3
Harwell’s bankruptcy case was later converted to a Chapter 7 proceeding.
6
the United States Bankruptcy Court for the District of Colorado. Subsequent to
that bankruptcy filing, Hutton assisted Harwell in converting the $30,000 cashier’s
check, No. 6993 payable to Montana Tractor, into a check payable to Harwell
personally.
II. PROCEDURAL HISTORY
On November 19, 2005, Appellant Martinez, as Chapter 7 bankruptcy
trustee, filed a complaint against Hutton in the bankruptcy court in Colorado,
seeking relief including Hutton’s return of the $500,000 from the SEI and CFE
settlements under, inter alia, 11 U.S.C. §§ 548(a)(1)(A) and 550(a)(1). Hutton
responded with a motion to transfer the case to Florida, which the bankruptcy court
in Colorado granted.
After the transfer to the United States Bankruptcy Court for the Middle
District of Florida (hereinafter “bankruptcy court”), Hutton moved to dismiss
Trustee Martinez’s complaint. The bankruptcy court denied that motion.
Hutton then moved for summary judgment, which the bankruptcy court
granted. The bankruptcy court stated the issue as: “Are there theories in which a
Chapter 7 Trustee [Martinez] can go after the lawyer for personal liability where
the lawyer is the mastermind and facilitator of the fraudulent conveyances”?
For the purposes of its summary judgment ruling, the bankruptcy court
7
expressly assumed that (1) “Mr. Hutton was the mastermind and the marionette
that was driving all the pieces of what was a huge fraudulent conveyance of
hundreds of thousands of dollars that would have been [otherwise] available for
creditors,” and (2) that Hutton “managed to coordinate things in a fashion that the
settlement was concluded and the money funneled through Mr. Hutton’s trust
account to various preferred creditors and insiders in either preferential or
fraudulent conveyances.” Nonetheless, the bankruptcy court determined that
Hutton was not an “initial transferee” of Harwell’s money under § 550(a)(1) of the
Bankruptcy Code because Hutton never had dominion and control over the money
Hutton kept in his trust account for Harwell. The effect of this ruling was that
Trustee Martinez could not recover the fraudulently-transferred funds from Hutton.
The bankruptcy court also addressed whether Trustee Martinez had
cognizable claims against Hutton, under Florida law, for (1) aiding and abetting a
fraudulent transfer or (2) civil conspiracy to effect a fraudulent transfer. Citing
Freeman v. First Union National Bank, 865 So. 2d 1272, 1277 (Fla. 2004), the
bankruptcy court determined that the Florida Uniform Fraudulent Transfer Act did
not allow Trustee Martinez to assert a cause of action against Hutton for either
aiding and abetting or civil conspiracy if Hutton was not an “initial transferee” of
the money within the meaning of the Bankruptcy Code. The district court
8
affirmed. Martinez v. Hutton (In re Harwell), 414 B.R. 770 (M.D. Fla. 2009).
III. STANDARD OF REVIEW
“In bankruptcy appeals, this Court independently examines the factual and
legal findings of the bankruptcy court using the same standards as did the district
court.” Trusted Net Media Holdings, LLC v. The Morrison Agency, Inc. (In re
Trusted Net Media Holdings, LLC), 550 F.3d 1035, 1038 n.2 (11th Cir. 2008) (en
banc). We review the bankruptcy court’s factual findings for clear error and its
legal determinations de novo. Id. Under the familiar standard of Federal Rule of
Civil Procedure 56, a movant is entitled to summary judgment “if the movant
shows that there is no genuine dispute as to any material fact and the movant is
entitled to judgment as a matter of law.” Fed. R. Civ. P. 56(a).4 Under this
standard, the court must view the facts and make all reasonable inferences in favor
of the nonmoving party. Loren v. Sasser, 309 F.3d 1296, 1301–02 (11th Cir.
2002).
IV. DISCUSSION
A. Bankruptcy Code §§ 548 and 550
4
Federal Rule of Civil Procedure 56 was recently amended, effective December 1, 2010.
See Fed. R. Civ. P. 56 advisory committee’s note, 2010 amendments. The standard for granting
summary judgment remains the same. Id. Amendments to the Federal Rules of Civil Procedure
govern proceedings after the date they are effective in an action then pending unless the Supreme
Court specifies otherwise or the court determines that applying them in a particular action would
be infeasible or work an injustice. Fed. R. Civ. P. 86(a). We apply the language of Rule 56 as
amended.
9
Under § 548 of the Bankruptcy Code, the bankruptcy trustee “may avoid
any transfer . . . of an interest of the debtor in property,” made within two years
before the filing of a bankruptcy petition, if the transfer was made “with actual
intent to hinder, delay, or defraud . . .” any then- or future creditors. 11 U.S.C.
§ 548(a)(1)(A) (emphasis added). Section 550(a) then provides that, to the extent
that a transfer is avoided under § 548, “the trustee may recover, for the benefit of
the estate, the property transferred, or, if the court so orders, the value of such
property, from,” among others, “the initial transferee of such transfer.” 11 U.S.C.
§ 550(a)(1).5 The Bankruptcy Code thus gives the bankruptcy trustee the ability to
avoid fraudulent transfers under § 548 and to recover the value of those transfers
from “initial transferees” under § 550(a)(1).
The main issue on appeal is whether attorney Hutton is an “initial transferee”
under § 550(a)(1), which would allow the trustee to recover from Hutton the
$500,000 placed in Hutton’s trust account and distributed to Harwell, his family
members, and selected creditors. The Bankruptcy Code does not define
5
Section 550(a) provides:
(a) Except as otherwise provided in this section, to the extent that a transfer is
avoided under section . . . 548[] . . . of this title, the trustee may recover, for the
benefit of the estate, the property transferred, or, if the court so orders, the value of
such property, from–
(1) the initial transferee of such transfer or the entity for whose benefit such
transfer was made; or
(2) any immediate or mediate transferee of such initial transferee.
11 U.S.C. § 550(a).
10
“transferee,” and there is no legislative history on that term. Bonded Fin. Servs.,
Inc. v. European Am. Bank, 838 F.2d 890, 893 (7th Cir. 1988) (stating Bankruptcy
Code does not define transferee and that there “is no legislative history on the
point”).6 Our Court has addressed the term “initial transferee” several times, albeit
in different contexts, so we start there.
B. Chase & Sanborn
Our first relevant case is Nordberg v. Sanchez (In re Chase & Sanborn
Corp.) (“Chase & Sanborn”), 813 F.2d 1177 (11th Cir. 1987), where the
bankruptcy trustee attempted to avoid a transfer as a fraudulent conveyance under
§ 548. Id. at 1178. The issue was whether the funds transferred were property of
the debtor corporation, Chase & Sanborn.7 Id. at 1180. Although Chase &
Sanborn involved only § 548 and did not discuss the term “initial transferee” in
§ 550(a)(1), the analysis in Chase & Sanborn was adopted in later § 550(a)(1)
6
However, the Bankruptcy Code defines the word “transfer” as broadly as possible, to
include “each mode, direct or indirect, absolute or conditional, voluntary or involuntary, of
disposing of or parting with [] property[] or [] an interest in property.” 11 U.S.C. § 101(54); see
also S. Rep. No. 95-989, at 27 (1987) (“The definition of transfer is as broad as possible. . . .
Under this definition, any transfer of an interest in property is a transfer, including a transfer of
possession, custody, or control even if there is no transfer of title, because possession, custody,
and control are interests in property. A deposit in a bank account or similar account is a
transfer.”).
7
If the funds were property of the debtor, the trustee would be able to recover them.
Otherwise, the funds would not be property of the estate and the trustee would have no power
over them. See Chase & Sanborn, 813 F.2d at 1178–79 (concluding that because the funds were
not Chase & Sanborn’s property, the trustee could not recover them).
11
cases. So we review Chase & Sanborn first.
The debtor, Chase & Sanborn, was also known as the General Coffee
Corporation. At one time, General Coffee Corporation was known as General
Corporation of Coffee (“GCC”), a defunct corporation. Id. at 1179. The defunct
GCC reopened a bank account solely for the purpose of laundering money for
Alberto Duque Rodriguez (“Duque”). Duque was the president and sole owner of
Domino Investments, a limited partnership. Id. Duque obtained a $5 million
personal loan from the Arab National Bank, out of which which Duque transferred
$660,000 to Domino. In turn, Domino transferred $660,000 into GCC’s reopened
bank account; GCC then transferred $350,000 of these funds to Sanchez, Duque’s
personal secretary, and ultimately the funds went to repay a loan obtained for
Duque at the City National Bank. Id. The funds never went to a creditor of the
debtor Chase & Sanborn.
This Court concluded that GCC’s reopened bank account was an operating
account of the debtor Chase & Sanborn because GCC was the name by which
General Coffee Corporation previously was known, and the bank account itself had
been used to pay a variety of Chase & Sanborn’s expenses. Id. at 1180.
Nonetheless, this Court concluded the $350,000 placed in GCC’s reopened
bank account was not the property of the debtor Chase & Sanborn, because,
12
although the debtor had “possession” of the funds, it “did not have sufficient
control over the funds to warrant a finding that the funds were the debtor
corporation’s property.” Id. We stressed that “where a transfer to a noncreditor
[Sanchez and later for Duque’s loan] is challenged as fraudulent, more is necessary
to establish the debtor’s control over the funds than the simple fact that a third
party [Duque] placed the funds in an account of the debtor [Chase & Sanborn] with
no express restrictions on their use.” Id. at 1181 (emphasis added). Instead, when
determining whether the debtor has control over funds transferred to a noncreditor,
“the court must look beyond the particular transfers in question to the entire
circumstance of the transactions.” Id. at 1181–82.
In Chase & Sanborn, we decided the debtor did not control the $350,000
transferred to Sanchez because (1) the source of the funds was Duque’s personal
loan from the Arab National Bank; (2) the eventual use of the funds transferred to
Sanchez was to repay a loan obtained for Duque by Carlos Londono from the City
National Bank; (3) “the actual connection between the funds and the debtor [Chase
& Sanborn] was quite tangential: a two-day layover in a special account then only
recently opened and soon thereafter closed;” and (4) “[t]he account, moreover, was
opened under a name that the debtor no longer used.” Id. at 1182. Given this
evidence, we concluded that “Duque, not Chase & Sanborn, controlled the transfer
13
at issue,” and that “the funds were not the property of the debtor, and thus that the
transfer [was] not avoidable” in the first place. Id. Because the transfer was not
avoidable under § 548 in the first place, the Court in Chase & Sanborn faced no
issue regarding “initial transferees” under § 550(a)(1).
C. Nordberg
Next came Nordberg v. Societe Generale (In re Chase & Sanborn Corp.)
(“Nordberg”), 848 F.2d 1196 (11th Cir. 1988), where the bankruptcy trustee sought
to avoid the debtor’s $500,000 transfer as a fraudulent conveyance. Id. at 1196. In
Nordberg, the bankrupt debtor was again Chase & Sanborn. This time the debtor
Chase & Sanborn itself wired $500,000 into the bank account of Colombian Coffee
Corporation, Inc. (“Colombian”) at a French bank, Societe Generale (the “bank”).
Id. at 1196–97.
Before receiving the debtor’s $500,000, the bank received a large check
drawn on Colombian’s bank account that, if honored, would create a large
overdraft. Id. at 1198. The bank checked with Colombian, which assured the bank
that wire transfers, for $500,000 and $700,000 each, were coming to cover
Colombian’s overdraft. The bank confirmed this with another bank, Credit
Lyonnaise, which was wiring the funds. The bank then honored Colombian’s large
check. Id. Although the debtor Chase & Sanborn did not owe any money to
14
Colombian, these wired funds from Chase & Sanborn came to Colombian’s
account at the bank.8 Id. at 1199 n.7.
Seeking to recover the debtor’s $500,000 from the bank, the bankruptcy
trustee had to show that (1) debtor Chase & Sanborn’s $500,000 transfer was a
fraudulent transfer under § 548; and (2) the bank was a party from whom the
trustee could recover under § 550(a). Id. at 1198. This Court assumed, as had the
bankruptcy court, that the trustee proved fraud and focused on whether the trustee
could recover from the bank under § 550(a). Id. at 1198–99.
In Nordberg, we reviewed our earlier decision in Chase & Sanborn, stating
that there we “adopted the control test to determine whether a debtor had
possession of property allegedly recoverable under section 548.” Id. at 1199. The
Nordberg Court noted that in Chase & Sanborn, “[t]he issue which troubled our
court was not whether the property went to the alleged transferee, but whether it
came from the [bankrupt] debtor, the alleged transferor.” Id. (emphasis in
original). We observed that “[t]he test” from Chase & Sanborn “is a very flexible,
pragmatic one; in deciding whether debtors had controlled property subsequently
sought by their trustees, courts must ‘look beyond the particular transfers in
8
At the time the bank honored Colombian’s check, the two wire transfers had not yet
arrived, and the bank listed an overdraft on Colombian’s account for two days (November 29
and 30). Nordberg, 848 F.2d at 1198. After 4 p.m. on November 30, the $500,000 in wired
funds from the bankrupt debtor Chase & Sanborn came to Colombian’s account at the bank. Id.15
question to the entire circumstance of the transactions.’” Id. (quoting Chase &
Sanborn, 813 F.2d at 1181-82). The Nordberg Court explained that “[t]he control
test, then, as adopted by this circuit, simply requires courts to step back and
evaluate a transaction in its entirety to make sure that their conclusions are logical
and equitable.” Nordberg, 848 F.2d at 1199 (emphasis added). We stressed “[t]his
approach is consistent with the equitable concepts underlying bankruptcy law.” Id.(emphasis added). We added that the general approach articulated in Chase &
Sanborn applies “whether a court is attempting to determine whether a debtor
controlled the transferred funds it transferred to a defendant or a defendant gained
control over the funds transferred to it.” Id.After reviewing Chase & Sanborn, this Court in Nordberg applied this
equitable doctrine—looking beyond the particular transfer and evaluating the
circumstances of a transaction in its entirety to ensure the result is equitable—to
the bankrupt debtor’s $500,000 transfer to Colombian’s account at the bank. This
Court noted that if we applied a “literal interpretation of section 548,” the
defendant bank “had received the funds from the debtors and could be termed [an]
‘initial transferee[].’” Id. at 1200. We observed, however, that courts in the past
“have traditionally evaluated [the] defendant’s status in light of the entire
transaction” and “have refused to allow trustees to recover property from
16
defendants who simply held the property as agents or conduits for one of the real
parties to the transaction.” Id. at 1199–1200. The Nordberg Court stated that
although a defendant bank may have received funds, technically making it an
initial transferee, it would be inequitable to allow recovery where the defendant
bank never controlled the funds. Id. at 1200.
In Nordberg, we distinguished the situation where a bank receives money
from a debtor to pay off a loan, in which case the bank has control over the funds
and is an initial transferee, from where a bank receives money being deposited into
a customer’s account, in which case the bank is a mere conduit, never has actual
control of the funds, and is not an initial transferee. Id. The Nordberg Court made
clear that equitable considerations played a major role in the control test, stating
that “[i]t is especially inequitable to hold conduits liable in situations in which the
conduits cannot always ascertain the identity of the transferor.” Id. at 1201. We
explained that if we were to require banks to examine the source of a wire transfer
and determine its solvency, then “it would impose an unfair burden on the banks
and would severely impair the wire transfer system.” Id. at 1202.
The Nordberg Court then evaluated the transaction involving Chase &
Sanborn, Colombian, and the bank in its entirety. We emphasized that: (1) the
overdraft and wired funds were “virtually simultaneous”; (2) the bank honored
17
Colombian’s check that created the overdraft only after it knew another bank
(Credit Lyonnaise) had wired the money to cover it; and therefore that (3) the
bank’s “decision to honor Colombian Coffee’s check did not establish a debtor-
creditor relationship between Colombian Coffee and [the bank].” Id. at 1201–02.
Based on the transaction as a whole, we concluded that the bank was a conduit and
not a transferee, also stating: “Under the particular facts of this case, the
transaction does not fall within the provisions of the bankruptcy law on voidable
transfers.” Id. at 1202 (emphasis added).
D. IBT
Next came IBT, addressing whether the bankruptcy trustee must avoid
transfers to an “initial transferee” of funds before it can pursue subsequent
transferees. IBT Int’l, Inc. v. Northern (In re Int’l Admin. Servs., Inc.), 408 F.3d
689, 703 (11th Cir. 2005). This Court observed that “[t]he determination whether
a particular party is an ‘initial transferee’ within the meaning of § 550(a)(1) has not
been as straightforward as the language itself might suggest.” Id. at 705. The IBT
Court acknowledged that “[a] strictly literal interpretation of the statutory term
would suggest that the ‘initial transferee’ of a transfer is the first party which
received possession of the property in question after it left the hands of the debtor.”
Id. We observed that the “courts are disinclined to construe the statute [§ 550(a)]
18
in such a rigid manner” and “have created a more malleable approach to § 550(a)”
which recognizes that a “‘mere conduit’ cannot be considered an ‘initial recipient’
for purposes of an avoidance action.” Id. We added that “[t]he mere conduit rule
is used most frequently in situations where banks act as an intermediary in
transferring assets.” Id.
In explaining the conduit or control test, this Court in IBT eschewed the
literal statutory language of § 550(a), saying that a rigid interpretation would be
unfair “because in many instances the initial recipient may have nothing to do with
the debtor’s property other than facilitating its transfer.” Id. Banks and other
intermediary institutions are to be shielded from § 550 liability “because [they]
never exercised any control over the Debtor’s funds.” Id.
After referring to the mere conduit rule as an “exception” to the statutory
language, we explained that: “As we read it, the conduit rule presumes that the
facilitator of funds acts without bad faith, and is simply an innocent participant to
the underlying fraud.” Id. (emphasis added). We determined that the initial
recipients of the funds in IBT could not be classified as mere conduits because they
did not “conjure images of well-intentioned, but gullible, parties who mistakenly
fell victim to a massive conspiracy,” but instead “had intimate and thorough
knowledge of the transactions and their desired effect.” Id. at 705-06. We
19
concluded that “[t]his case does not merit the ‘mere conduit’ distinction that we
carved out in Chase & Sanborn or Nordberg.” Id. at 706. We stressed that the
purpose of a fraudulent transfer action “is to expose fraudulent dealings.” Id.
E. Pony Express
We next examined § 550(a)(1)’s term “initial transferee” in Andreini & Co.
v. Pony Express Delivery Services, Inc. (In re Pony Express Delivery Services,
Inc.) (“Pony Express”), 440 F.3d 1296 (11th Cir. 2006). The bankruptcy trustee
sought to recover from Andreini (an insurance broker) a wire transfer from debtor
Pony Express to Andreini’s trust account to cover premiums remitted to the
debtor’s insurance carriers. Id. at 1299. The issue was whether Andreini was the
“initial transferee” under § 550(a)(1) of an avoidable preference under § 548. Id. at
1300.
In Pony Express, this Court said that “[t]he term ‘initial transferee’ is a term
of art whose meaning in any given transaction is not always straightforward.” Id.
This Court explained that we had “adopted a ‘control’ or ‘conduit’ test to
determine whether the recipient of an avoidable transfer of assets is the initial
transferee.” Id. “Under this test, a recipient of an avoidable transfer is an initial
transferee only if they exercise legal control over the assets received, such that they
have the right to use the assets for their own purposes, and not if they merely
20
served as a conduit for assets that were under the actual control of the debtor-
transferor or the real initial transferee.” Id.
In Pony Express, this Court pointed out that “[t]his [control] test takes on
special significance where the recipients of avoidable transfers are agents or
fiduciaries of the debtor-transferor, such as banks or, in this case, insurance
brokers, who are duty-bound to take only limited actions with respect to the funds
received.” Id. at 1300–01. “Often these fiduciaries or agents are not considered
initial transferees because their legal control over the assets received is
circumscribed by their legal duties to their clients.” Id. at 1301. Fiduciaries or
agents, however, are not immune from becoming “initial transferees.” Rather,
“even entities that have special legal relationships with the debtor-transferor can be
initial transferees when they do, in fact, take legal control of an avoidable transfer;
for example when they receive assets directly from the debtor-transferor as
compensation for services or in payment of a genuine debt.” Id.
In Pony Express, this Court repeated that in ascertaining whether a fiduciary
exercised sufficient control over the debtor’s assets to be an “initial transferee,”
“courts must look at all the circumstances of the transaction that resulted in the
avoidable transfer.” Id. We reached back to Nordberg, citing it for the
propositions that “[t]he control test ‘is a very flexible, pragmatic one; . . . courts
21
must look beyond the particular transfers in question to the entire circumstance of
the transactions,’” Pony Express, 440 F.3d at 1302 (quoting Nordberg, 848 F.2d at
1199) and “[t]he court must ‘step back and evaluate a transaction in its entirety to
make sure that [its] conclusions are logical and equitable.’” Id. at 1302 (quoting
Nordberg, 848 F.2d at 1199 (emphasis added)). We again emphasized that “‘[t]his
approach is consistent with the equitable concepts underlying bankruptcy law.’” Id.
at 1302 (quoting Nordberg, 848 F.2d at 1199 (emphasis added)).
After considering the circumstances surrounding the transaction in its
entirety, this Court concluded that: (1) Andreini was merely a conduit for Pony
Express’s insurance premiums; (2) that “no genuine debt was created” between
debtor Pony Express and Andreini; and (3) “Andreini did not exercise legal control
over the wire transfer and is not the initial transferee under 11 U.S.C. § 550.” Id. at
1303-04. There was no allegation that Andreini acted in bad faith, and Andreini
successfully invoked the equitable mere conduit exception set forth earlier in
Nordberg.9
F. What Our Precedents Demonstrate
Taking Chase & Sanborn, Nordberg, IBT, and Pony Express together, a
9
We recognize Hutton stresses that Andreini had no discussion of good faith, but this is
explained by the stark absence of any facts in Andreini suggesting bad faith. In any event,
Andreini does not alter our prior precedent in Nordberg and IBT.
22
clear pattern emerges. First, this Court has observed that a literal or rigid
interpretation of the statutory term “initial transferee” in § 550(a) means that the
first recipient of the debtor’s fraudulently-transferred funds is an “initial
transferee.” Nordberg, 848 F.2d at 1199–1200; accord IBT, 408 F.3d at 705.
Second, this Court carved out an equitable exception to the literal statutory
language of “initial transferee,” known as the mere conduit or control test, for
initial recipients who are “mere conduits” with no control over the fraudulently-
transferred funds. See Chase & Sanborn, 813 F.2d at 1178–80; see also Pony
Express, 440 F.3d at 1300; IBT, 408 F.3d at 705; Nordberg, 848 F.2d at 1199. In
doing so, this Court has adopted a flexible, pragmatic, equitable approach of
looking beyond the particular transfer in question to the circumstances of the
transaction in its entirety. Nordberg, 848 F.2d at 1199; accord Pony Express, 440
F.3d at 1302; see IBT, 408 F.3d at 705. The mere conduit or control test is a
judicial creation that is not based in statutory language, but is an exception based
on the bankruptcy courts’ equitable powers. Nordberg, 848 F.2d at 1199 (“This
approach is consistent with the equitable concepts underlying bankruptcy law.”);
see also Bank of Marin v. England, 385 U.S. 99, 103, 87 S. Ct. 274, 277 (1966)
(“[E]quitable principles govern the exercise of bankruptcy jurisdiction.”).
Equitable considerations play a major role in the mere conduit or control test
23
because it would be inequitable to hold an initial recipient of the debtor’s
fraudulently-transferred funds liable where that recipient could not ascertain the
transferor debtor’s solvency, lacked any control over the funds, or lacked
knowledge of the source of the funds. See Nordberg, 848 F.2d at 1199–1202. The
conduit or control test is based on, and defined by, equity and requires good faith
to escape “initial transferee” liability. In effect, we have tempered literal
application of § 550(a)(1), examining all the facts and circumstances surrounding a
transaction to prevent recovery from a transferee innocent of wrongdoing and
deserving of protection.
Third, as part of the mere conduit or control test, this Court considers
whether the intermediary “acts without bad faith, and is simply an innocent
participant” to the fraudulent transfer. See IBT, 408 F.3d at 705 (stating “the
conduit rule presumes that the facilitator of funds acts without bad faith, and is
simply an innocent participant to the underlying fraud.”); accord Huffman v.
Commerce Sec. Corp. (In re Harbour), 845 F.2d 1254, 1258 (4th Cir. 1988)
(concluding that because an initial recipient of funds is asking the court to ignore
the literal meaning of § 550(a)(1), invoke its equitable powers and grant mere
conduit status, “this party must have acted in ‘good faith’ with respect to the
relevant transaction in order to be spared the effects of [§ 550(a)(1)]”).
24
Consistent with our precedent, we conclude that good faith is a requirement
under this Circuit’s mere conduit or control test. Accordingly, initial recipients of
the debtor’s fraudulently-transferred funds who seek to take advantage of equitable
exceptions to § 550(a)(1)’s statutory language must establish (1) that they did not
have control over the assets received, i.e., that they merely served as a conduit for
the assets that were under the actual control of the debtor-transferor and (2) that
they acted in good faith and as an innocent participant in the fraudulent transfer.10
With this background, we turn to Hutton’s role in Harwell’s fraudulent
transfers.
G. Hutton’s Status
As noted earlier, the bankruptcy court assumed that the debtor Harwell made
fraudulent transfers of his $500,000 in settlement proceeds to Hutton’s trust
account and then had Hutton quickly transfer those funds to Harwell, his family
members, and selected creditors. Most importantly for this appeal, the bankruptcy
court also assumed that Hutton was the mastermind of this fraudulent conveyance
scheme devised to funnel Harwell’s money into and out of Hutton’s trust account.
Indeed, Hutton personally knew about Hill’s $1.396 million judgment against
10
To the extent Hutton argues this principle is only dicta in our precedent, we disagree.
In any event, we now explicitly hold that good faith is a requirement under this Circuit’s mere
conduit or control test.
25
debtor Harwell and that creditor Hill was aggressively seeking to collect $1.396
million from Harwell. Hutton knew about Harwell’s $500,000 in settlement
proceeds and used his trust account to quickly transfer them to selected creditors,
Harwell’s family members, and Harwell himself. In fact, Hutton used his trust
account to pay $10,000 of Harwell’s settlement proceeds to his law firm. The
courts thus assumed the transfers into and out of Hutton’s trust account were made
to defraud other creditors such as judgment-creditor Hill.
The first issue on appeal, therefore, is whether Hutton is an “initial
transferee” under § 550(a)(1). Applying the above principles garnered from our
precedent, we conclude Hutton is an “initial transferee” under § 550(a)(1). Hutton
does not dispute he was the initial recipient of the debtor’s funds. The debtor
Harwell settled disputes with CFE and SEI for $100,000 and $400,000,
respectively. The debtor had his funds sent to Hutton. And Hutton undisputedly
received the funds and deposited them into Hutton’s trust account. We recognize
that Hutton quickly sent the funds to subsequent transferees by issuing twenty-two
checks on his trust account. However, Hutton was the initial recipient of the funds
and thus the “initial transferee” under the language of § 550(a)(1).
The next issue on appeal is whether Hutton may equitably escape his “initial
transferee” status. Given the bankruptcy court’s assumption that Hutton
26
participated in the fraud, Hutton is not entitled to summary judgment as a matter of
law on his assertion of the mere conduit or control defense. Hutton, as the initial
recipient of the funds, convinced the bankruptcy and district courts to award him
mere conduit status because he lacked control over Harwell’s funds in his trust
account and paid them out to creditors and other persons selected by debtor
Harwell and at Harwell’s direction. The problem for Hutton is that the mere
conduit or control test is an equitable doctrine. It was fashioned in bankruptcy
cases to prevent the unjust or inequitable result of holding an innocent transferee
liable for fraudulent transfers where the innocent transferee is a mere conduit and
had no control over the funds transferred. To take advantage of this equitable
doctrine, Hutton himself must have acted in good faith and have been an innocent
participant in the transfers in and out of his trust account. Here the courts, for
purposes of their summary judgment rulings, assumed Hutton was the mastermind
of this huge fraudulent transfer scheme. Thus Hutton is not entitled to summary
judgment based on the mere conduit or control exception. Notwithstanding the
appearance that Hutton acted in bad faith, the bankruptcy court, for purposes of its
summary judgment ruling, never made findings regarding bad faith but rather
assumed Hutton was the mastermind of a fraudulent transfer scheme. In light of
our holding today clarifying that the equitable mere conduit defense requires a
27
showing of good faith, this case must be remanded. On remand, both parties shall
be given the opportunity to present evidence and argument to the bankruptcy court
as to whether Hutton had or lacked control of the funds and as to whether Hutton
acted in good or bad faith.
In the vast majority of cases, a client’s settlement funds transferred in and
out of a lawyer’s trust account will be just like bank transfers, and lawyers as
intermediaries will be entitled to mere conduit status because they lack control over
the funds. Mere conduits, such as lawyers and banks, do not have an affirmative
duty to investigate the underlying actions or intentions of the transferor. However,
under the particular circumstances of this case and given the bankruptcy court’s
assumptions about Hutton’s major role in the fraudulent transfer of these funds in
issue, Hutton is not entitled to summary judgment in his favor based on the mere
conduit or control test.
V. CONCLUSION
For all of these reasons, we reverse the district court’s grant of summary
judgment in favor of Hutton on Trustee Martinez’s federal claim under
§§ 548(a)(1)(A) and 550(a)(1) and remand this case to the district court with
instructions to remand it to the bankruptcy court for further proceedings consistent
with this opinion.
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Finally, because the bankruptcy and district courts’ rulings on Trustee
Martinez’s state law claims relied in part on their conclusion that Hutton was not
an “initial transferee,” we reverse the grant of summary judgment on those state
law claims too and remand those claims too to the district court with instructions to
remand them to the bankruptcy court for reconsideration in the first instance. We
express no opinion on the state law claims.
REVERSED AND REMANDED.
29