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Parties Involved:
Christine J. Jobin
Appellee
M&L Business Machine Company, Inc.
Not Party
Youth Benefits Unlimited, Inc.
Appellant

Document Text:

PUBLISH 

FILED 

UDited States Court of Appeals Tenth Circuit 

UNITED STATES COURT OF APPEALS JUL12 1995 

TENTH CIRCUIT 

In re: M&L BUSINESS 

MACHINE COMPANY, INC., 

Debtor, 

94-1118 

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PATRICK FISHER 

Clerk 

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CHRISTINE J. JOBIN, as 

Trustee of M&L Business 

Machine Co., Inc., 

Plaintiff-Appellee, 

v. 

YOUTH BENEFITS UNLIMITED, 

INC., a Colorado Corporation, 

Defendant-Appellant. 

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On Appeal From The 

United States District Court 

For The District Of Colorado 

(D.C. No. 93-K-656) 

William A. Richey (Jeffrey A. Weinman, with him on the briefs), of 

Jeffrey A. Weinman, P.C., Denver, Colorado, for DefendantAppellant. 

Christine J. Jobin (Dana M. Arvin and Charles F. McVay, with her 

on the brief), of The Jobin Law Firm, P.C., Denver, Colorado, for 

Plaintiff-Appellee. 

Before KELLY, SETH, and HENRY, Circuit Judges. 

SETH, Circuit Judge. 

Appellate Case: 94-1118 Document: 01019277238 Date Filed: 07/12/1995 Page: 1 
The Trustee in Bankruptcy for M&L Business Machine Company 

(the Debtor on October 1, 1990 in a voluntary filing originally 

under Chapter 7 of the Act} brought this adversary proceeding 

pursuant to 11 U.S.C. § 549 against Youth Benefits Unlimited, Inc. 

The Trustee sought to avoid-recover an unauthorized post-petition 

transfer of funds from the bank account of the debtor-inpossession to Youth Benefits. 

The Bankruptcy Court and the United States District Court for 

the District of Colorado held that the transfer of $40,000 to 

Youth Benefits could be recovered by the Trustee. Youth Benefits 

has appealed. Youth Benefits has also raised an issue whether it 

should have had a jury trial. 

The nature of the transactions and the source of the funds in 

question are undisputed. M&L Business Machine Company, the Debtor 

in these proceedings, was operating what has become known as a 

"Ponzi" scheme in which Youth Benefits and many others "invested." 

This scheme is a fraudulent enterprise in which funds from more 

recent investors provide the only source to pay interest to prior 

investors or to provide the return of principal promised to prior 

investors. See Cunningham, Trustee of Ponzi v. Brown, 265 U.S. 1; 

Commodity Futures Trading Commission v. Chilcott Portfolio 

Management, Inc., 713 F.2d 1477, 1480 (lOth Cir.}. See also In re 

Hedged-Investments Associates, Inc., 48 F.3d 470 (lOth Cir.} 

(concerned with 11 U.S.C. § 547 and a pre-petition preference}. 

There has been much litigation concerning these schemes. Usually 

a sham business or small business is used, as here, in which 

individuals or organizations are solicited to invest large amounts 

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Appellate Case: 94-1118 Document: 01019277238 Date Filed: 07/12/1995 Page: 2 
of capital. Postdated checks or promissory notes are given the 

investors. Extremely high interest rates are paid to early 

investors and there may be a return of principal. All payments 

come from funds provided by more recent investors. By actually 

paying excessive "profits" to earlier investors as mentioned 

above, the sham organization is able to attract more investors. 

A bit of history would seem to be in order with a personal 

look at the inventor of this scheme which has so long persisted. 

The origin of the original Ponzi scheme is best described by the 

Bankruptcy Court for the District of Utah in In Re Independent 

Clearing House Company, 41 B.R. 985, 994 n.12. That court stated: 

"[Charles] Ponzi began in December, 1919, with 

$150.00 in capital, borrowing money on his 

promissory notes. Ponzi represented that he 

could take advantage of the differences in 

currency exchange rates following World War I 

. . . . Ponzi offered to share this profit 

with investors, who were promised a 50 percent 

return on 45 day notes. Ponzi actually made 

no investments of any kind, and all of the 

money he had at any time was the result of the 

loans made by investors. Ponzi issued notes 

in excess of 14 million dollars, and made 

payments of about 9 million dollars to his 

investors. On August 1, 1920, a Boston 

newspaper exposed Ponzi as a charlatan, and 

there was a wild scramble by investors to 

present their notes for payment. On August 9, 

1920, an involuntary petition in bankruptcy 

was filed against Ponzi. At the time the 

petition was filed, Ponzi's outstanding 

liabilities were $6,948,267.88, and his total 

assets were $2,195,685.56. Ponzi refused to 

disclose to the referee the nature of his 

business, and whenever questioned on the point 

invoked his fifth amendment privilege against 

self-incrimination. But from a careful 

examination of Ponzi's books and records, 

accountants established that he had never 

engaged in a regular business, that no source 

of profit existed, and that he was insolvent 

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Appellate Case: 94-1118 Document: 01019277238 Date Filed: 07/12/1995 Page: 3 
from the inception of his venture. Ponzi was 

sentenced to prison, from which he was paroled 

after three and one-half years. He was rearrested in Florida and sentenced to jail for 

a real estate fraud in which investors were 

promised 200 percent profit in sixty days. 

After serving seven years imprisonment, he was 

deported to Italy, where Mussolini gave him a 

job in the finance ministry. Ponzi left Italy 

for South America, and ultimately died 

penniless in a charity ward in Rio de 

Janeiro." 

The $40.000 Cashier's Check Dated October 5. 1990 

This check was received and cashed by Youth Benefits. This 

amount is sought to be recovered, to be avoided, under Section 

549, by the Trustee, as above mentioned. The funds came from the 

debtor-in-possession's account about four days after the petition 

was filed on October 1. This transaction was not authorized. The 

record shows that all funds there in the account were derived from 

the Ponzi scheme operated by the Debtor. At the time the funds 

for the $40,000 cashier's check were charged against the debtorin-possession account, there was about $300,000 in the account. 

There were some 1,700 individuals and organizations which had 

invested about 74 million dollars in M&L during the critical 

period of time. The Debtor's records were, for all practical 

purposes, useless or nonexistent. There was no way whereby the 

investments of particular persons could be related to any account 

or fund. It was not possible to trace individual investments. It 

is also apparent that a particular investor could not trace the 

funds provided to any accounts or funds of M&L. 

As to the several elements required to be established in a 

Section 549 proceeding the parties had stipulated that a transfer 

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Appellate Case: 94-1118 Document: 01019277238 Date Filed: 07/12/1995 Page: 4 
of funds had taken place, that the transfer was made after the 

bankruptcy action was started, and that there was no order by the 

Bankruptcy Court authorizing the transfer. The issue or element 

which was not stipulated was whether or not the funds were the 

"property" of the estate. 11 U.S.C. § 549 provides that "the 

trustee may avoid a transfer of property of the estate . that 

occurs after the commencement of the case . 

Section 541. 

II 

Appellant argued in Bankruptcy and District Court, and now 

contends on appeal, that the funds transferred were never 

"property of the estate" and thus were not recoverable under 

Section 549. Appellant advances authority which clearly states 

that the recipient of property obtained by fraud does not actually 

acquire title to it. See ~ In re North American Coin & 

Currency, Ltd., 767 F.2d 1573, 1576 (9th Cir.); In re Teltronics, 

Ltd., 649 F.2d 1236, 1239 (7th Cir.); In re Paragon Securities 

Company, 589 F.2d 1240, 1242 (3d Cir.). Thus, Appellant maintains 

that because title was not obtained by the Debtor, the transferred 

funds could not have been estate property, and consequently are 

not recoverable under Section 549. 

As the District Court succinctly stated, Appellant's 

"argument is correct as far as it goes." The flaw in Appellant's 

approach is that the weight of the authority, which recognizes 

that property acquired fraudulently does not pass with title, also 

provides that a claimant must be able to identify or trace the 

fraudulently deprived funds or property to which he claims 

ownership. See In reMark Benskin & Co.; 161 B.R. 644) 653-56 

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Appellate Case: 94-1118 Document: 01019277238 Date Filed: 07/12/1995 Page: 5 
(Bankr. W.D. Tenn.); In re Stotler & Co., 144 B.R. 385, 390-92 

(Bankr. N.D. Ill.); In re Iorizzo, 114 B.R. 19, 24 (Bankr. 

E.D.N.Y.); In re Universal Clearing House, 62 B.R. 118, 122-24 

(Bankr. D. Utah). 

This requirement is not new, and actually was set forth in 

the original Ponzi scheme Supreme Court case, Cunningham v. Brown, 

mentioned above. The Supreme Court in that case held that if 

claimants are able to trace the funds fraudulently acquired by the 

debtor then those claimants "would have been endeavoring to get 

their own money, and not money in the estate of the bankrupt." 

Cunningham, 265 U.S. at 11. The court went on to state that "to 

succeed they must trace the money and therein they have failed." 

Similarly, Youth Benefits Unlimited did not demonstrate that 

it is able to trace the funds it invested in the Debtor and really 

did not attempt to do so. To allow Appellant the recovery of an 

amount equal to that it invested would give it an obvious 

preference over other creditors who lost their investments in 

precisely the same fraudulent manner as Appellant. As the Supreme 

Court stated in 1901: 

"It is hardly necessary to assert that the 

object of a bankrupt act, so far as creditors 

are concerned, is to secure equality of 

distribution among them of the property of the 

bankrupt--not among some of the creditors, but 

among all of them." 

Pirie v. Chicago Title and Trust Company, 182 U.S. 438, 449. Such 

object is undermined where property fraudulently deprived from one 

party is repaid at the expense of others similarly deprived. 

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Appellate Case: 94-1118 Document: 01019277238 Date Filed: 07/12/1995 Page: 6 
The requirement that a defrauded party trace its lost assets 

does not undermine the purpose of the general rule that property 

fraudulently obtained is not property of the estate. This rule is 

based upon the desire to prevent certain creditors from 

benefitting from the debtor's fraud at the expense of those 

defrauded. In re North American Coin & Currency, Ltd., 767 F.2d 

at 1576. Thus, where fraudulently obtained assets are held by the 

debtor but are readily distinguishable from assets to which 

general creditors have a claim, it is proper to return the 

property to the defrauded party rather than distribute it through 

the estate, which of course seeks to distribute assets equitably 

among all creditors or as many as possible. In a Ponzi scheme, or 

other scenario where creditors are almost exclusively defrauded 

parties, there is no distinguishing characteristic which promotes 

the interests of one over the other. Consequently, absent direct 

identification of the defrauded funds, it is to the detriment of 

all other similarly situated creditors to favor one defrauded 

party over another. 

Ju6Y Trial 

Appellant argues that the District Court erred in determining 

that the Appellee's claims against Youth Benefits were equitable 

in nature and accordingly did not provide Youth Benefits a right 

to a jury trial. Appellant filed its Demand for Jury Trial and 

Motion for Withdrawal of the Reference and Transfer to the 

United States District Court on October 7, 1991. The District 

Court denied the motion, and trial was conducted to the Bankruptcy 

Court. 

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Appellate Case: 94-1118 Document: 01019277238 Date Filed: 07/12/1995 Page: 7 
Appellant asserts that it is entitled to a jury trial under 

the test of Granfinanciera, S.A. v. Nordberg, 492 U.S. 33, whereby 

courts look to whether the action would have been one at law or 

equity in the Eighteenth Century courts of England, whether the 

nature of the relief is primarily legal or equitable, or whether 

the action is one that is not equitable in nature but which 

Congress has assigned to a non-Article III adjudicative body. Id. 

at 42. We conclude that enforcement of Section 549, a provision 

clearly designed to protect the bankruptcy estate following its 

inception, is a procedure which is equitable in nature. See In re 

Blinder, Robinson & Co., Inc., 146 B.R. 28 (Bankr. D. Colo.); In 

re North Carolina Hospital Association Trust Fund, 112 B.R. 759 

(Bankr. E.D.N.C.). Moreover, through the Bankruptcy Act Congress 

has established that the Bankruptcy Court is the tribunal in which 

the protection of that estate is accomplished, and in which 

disputes may be resolved by way of summary proceedings. There is 

no underlying legal claim in this case, such as one to recover an 

alleged fraudulent conveyance, which warrants a contrary result. 

See Granfinanciera, 492 U.S. at 64. We thus agree with the 

Colorado District Court in its ruling prior to trial to the 

Bankruptcy Court that there is no right to trial by jury in a 

trustee's Section 549 claim for recovery of a post-petition 

transfer. 

For the foregoing reasons, the judgment of the District Court 

is AFFIRMED. 

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