Source: https://en.m.wikisource.org/wiki/Sawyer_v._Hoag
Timestamp: 2019-04-23 13:05:35+00:00

Document:
About the 1st of April, 1865, and prior, therefore, to the passage of the Bankrupt Act of 1867, the directors of the Lumberman's Insurance Company of Chicago-a company then recently incorporated and authorized to begin business on a capital of $100,000, of which not less than one-tenth should be paid in, the residue to be secured-invited subscriptions to the capital stock of the company; stating, in most instances, to those whom they invited to subscribe, that only 15 per cent. would be required to be paid down in cash, and that the remaining 85 per cent. would be lent back to the subscriber, and a note taken therefor, payable in five years, with 7 per cent. interest, payable semi-annually, secured by collateral security satisfactory to the directors of the company.
In this state of things one Sawyer, about the said 1st of April, 1865, at the solicitation of one of the directors, subscribed for fifty shares of stock. When called upon to close his subscription, he was informed, as indeed all the subscribers were, that the matter would be closed on the plan above mentioned.
Sawyer accordingly complied with the requirements, and gave his check to the company for $5000, the full amount of his stock, and his note payable to it in five years from date, for $4250, that is to say, for 85 per cent. of the par value of the stock, with interest, payable as aforesaid, and delivered to the company as collateral security for the payment of his note satisfactory securities, and received from the company a check for $4250 or 85 per cent. of the par value of the stock, by way of, and as for a loan thereof from the company. At the same time Sawyer gave a written authority to the company to sell the securities at public auction, for cash, in case default should be made in the payment of the note and the interest thereon.
Sawyer subsequently took up this note and gave in substitution therefor another note, and new securities as collateral, with power, as in the case of the former ones, to sell them on default of payment of the note or interest.
At the time when the said original and substituted notes were made, money was worth and could have been lent in Chicago at from 8 to 10 per cent. interest per annum, payable semi-annually, on good security.
The original transaction was regarded and treated by the company and by Sawyer as a loan by the company to him, and his stock was treated as fully paid for. At various times after the giving of the original note, the company reported to the authorities of the State of Illinois and of other States that its capital stock was fully paid.
On the 8th and 9th day of October, A.D. 1871, a great fire devastated the city of Chicago and rendered the Lumberman's Insurance Company insolvent; and on the 25th of January, 1872-it being at that time a notorious fact, one well understood by the public, and one which Sawyer had good reason to believe, that the said company was insolvent and unable to pay its liabilities-Sawyer purchased of a certain Hayes a certificate of an adjusted loss for $5000 against the company for 33 per cent. of its par value.
In June, 1872, after Sawyer had purchased this certificate of adjusted loss, a petition in bankruptcy was filed against the company, and it having been adjudicated a bankrupt, one Hoag was appointed its assignee.
Hoag refused to allow the set-off, and was about to sell the collateral securities in accordance with the power given to him. Hereupon Sawyer filed a bill in the court below to enforce the set-off; in which he alleged, among other things, that the note given by him to the insurance company was for money lent to him.
The assignee, in his answer, denied that the note was for money lent, and averred that it was in fact for a balance due by Sawyer for his stock subscription, which had never been paid, and insisted that such balances constituted a trust fund for the benefit of all creditors of the insolvent corporation, which could not be made the subject of a set-off against an ordinary debt due by the company to one of its creditors. After the general replication, the case was submitted to the court below on an agreed statement of facts. That court decreed against the complainant, and from that decree the case was brought by the present appeal to this court.
1. Sawyer had a right to purchase an adjusted and negotiable claim against the insurance company at a discount, and to set it off against his debt, notwithstanding that he knew that the company was insolvent at the time he purchased the claim.
Under the twentieth section of the Bankrupt Act, in cases of mutual debts or credits between the parties, an account is to be stated and the balance is to be allowed or paid. Two conditions only are required: 1st. That the claim to be set-off shall be in its nature provable against the estate. 2d. That such claim shall have been purchased by or transferred to the debtor before the filing of the petition. Sawyer was within both conditions. The claim was a provable claim, and it was purchased and transferred to the debtor nearly five months before the filing of the petition in bankruptcy.
2. The assignee in bankruptcy has no greater or other right than the bankrupt would have had if there had been no proceedings in bankruptcy.
Sawyer has held his claim under the certificate of loss since the 25th of January, 1872. We have seen that if the insurance company had sued him on the note it held against him, at any time prior to the filing of the petition in bankruptcy, June 20th, 1872, his defence in set-off would have been perfect, whether sued in a court of law or a court of equity. It is impossible to conceive, on the case stated, any defence which the company could have interposed. If it is argued that the assignee has some other and higher right than the bankrupt would have had, it is incumbent on those who thus argue to show upon what statute, upon what authority, or upon what legal principle the distinction in favor of the assignee is supported.
1. By the insolvency of the company its obligations were worth only thirty-three cents upon the dollar, and at this rate the claim sought to be set off was purchased by the appellant. If it is allowed to be set off in full he pays his own debt of $4250 with $1402.50. The insolvency, therefore, of his creditor lessens the assets to go to the general creditors by $4250, at a cost to him of less than one-third of the amount due upon his note. Surely a construction will not be given to the Bankrupt law resulting in such injustice and inequality to the creditors. It would make the Bankrupt law an instrument of fraud, instead of equal justice to all, and subvert the fundamental principles of its enactment. It must also be observed that this advantage over the other creditors would, in this case, result to a stockholder, and upon an obligation given in fact or effect, for his subscription for stock in the corporation. If the right of set-off as contended for by the appellant is sustained, then the directors and stockholders of an incorporated company may, in anticipation of insolvency and bankruptcy, borrow the whole or a large part of the cash assets of the company, proclaim its insolvency, depreciate its credits, and buy them up at a discount, and thus absorb the capital of the company to the exclusion of the general creditors. Justice would require that if losses are to be sustained, the stockholders, who have received the profits, should be the losers rather than the general creditors. At all events, they should not be allowed to become preferred creditors to the detriment of general creditors.
We submit, as a matter for inquiry, whether after insolvency a mutual debt or credit can be created between the insolvent and a third person, within the meaning of the Bankrupt law, by a purchase of a claim against the insolvent without his knowledge or assent? Certainly mutual debts and credits must result from mutual and reciprocal dealings one with the other. How, then, can the purchase of a demand against a party, without his knowledge or consent, be held a mutual debt?
2. It is not true that the relative rights of parties are not changed by the bankrupt proceedings against one of them. They are changed by both insolvency and bankruptcy. The Bankrupt law makes any payment, sale, assignment, transfer, conveyance, or other disposition of property, by any person insolvent to any person who has reasonable cause to believe such person insolvent, within six months before the filing of a petition in bankruptcy, void, and the assignee may recover the property or value of the assets; or if such sale, assignment, & c., were not made in the usual course of business, the fact is prim a facie evidence of fraud. Such a transfer, but for the bankruptcy, could not be set aside or divested of its legal effect at the option of the party making it. If the claim set up by the appellant, however, was obtained in a manner and under circumstances within the spirit of the prohibition of the Bankrupt law, or subversive of its intent, the assignee may deny the right of set-off, which could not be done as against the debtor himself.
1st. Because the appellant was a stockholder in the Lumberman's Insurance Company at the time he purchased the claim against it.
2d. Because his note was given in part payment towards his stock subscription.
A stockholder sustains to the company in which he holds stock a relation which one who is not a stockholder does not hold; a different relation. The stockholder has the means of acquiring a knowledge of the company's affairs and condition not possessed by the other; a direct interest in its profits and losses; and stands in such a relation to the company and its other creditors, as ought to debar him, at all events, of the right to pay off his debt to the company by the purchase and set-off of depreciated claims against it to the injury of other creditors. The note on which the assignee here claims payment is, in substance and effect, a stock note given for and existing as a part of the stock fund for the security of parites dealing with the company.
No devices will be permitted, no shift allowed, however artfully planned and executed, to avoid the actual and bon a fide payment of the stock of an incorporated company, for the creation of a fund for the security of those dealing with it. And the question, therefore, is whether this transaction was such an actual bon a fide payment of his stock in full as divests the note given by the appellant of the character of a stock note, legally or equitably liable to be treated as security for the obligations of the company?
The transaction was consummated in conformity with the terms proposed when the subscription was made. Though he was required to and did give his check for the full amount of the stock, it was with the understanding that 85 per cent. of what he paid would be returned to him on the terms upon which his subscription was originally procured. The giving of a check in the first instance, for the whole amount, was but a contrivance to disguise the real transaction and its intent. It was the payment in of money with one hand and taking it out with the other. it was no absolute, unconditional payment, and was never designed to be so as to 85 per cent. These companies, when the stock is actually paid up, and they are honestly administered, are sufficiently insecure without the sanction of devices by which the fund required by the law to be created and set apart as security to those dealing with them, can be wholly retained by the stockholders or passed back into their hands.
It is no answer to say that in this case the securities pledged for the payment of the note were ample. To allow it in any case would be opening a door for the evasion of payment of the stock, which dishonest men would be ready to take advantage of by the pledge in similar cases of worthless securities.
4. It is assumed that because the original transaction was regarded and treated by the company and the complainant as a loan to the latter, and his stock treated and regarded as paid, therefore neither the assignee nor any creditor can controvert the fact. But because it was so treated by the parties does not make it so as to third persons, assignee or creditors. When they dispute the bona fides of the loan courts will look into the facts and determine whether it was a real or a colorable loan.
The fact that the company reported to the State authorities the full payment of the stock, goes for nothing more than that it was able to deceive the State officers as well as the public into the belief that the stock was fully paid, when the stockholders had only paid in the money with one hand and taken it out with the other, and had done so in pursuance of a previous concurrent agreement.
^1 See Bemis v. Smith, 10 Metcalf, 194.
^2 Mitford v. Mitford, 9 Vesey, 100; 2 Smith's Leading Cases, 370.
^3 Curran v. Arkansas, 15 Howard, 304; Wood v. Dummer, 3 Mason, 308; Lawrence v. Nelson, 21 New York, 158; Scammon v. Kimball, 6 Chicago Legal News, 3; Nathan v. Whitlock, 3 Edwards's Chancery, 215; McLaren v. Pennington, 1 Paige, 108; Long v. Penn Insurance Company, 6 Pennsylvania State, 421.

References: v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v. 
 v.