Opinion ID: 856772
Heading Depth: 2
Heading Rank: 4

Heading: Transferee-of-Transferee Liability

Text: We do, however, find that the Tax Court overlooked another form of liability that could apply here. The Tax Court assumed that the Trust could be held liable for the four companies' tax liabilities only if the multiple transactions were collapsed on the basis of the Trust's constructive knowledge or the application of the substance-over-form doctrine. But under the Uniform Fraudulent Transfer Act, liability may be found regardless of whether the Trust had constructive knowledge of Fortrend's intentions and regardless of whether the form of the transactions is fully respected. Although the relevant statute is called the Uniform Fraudulent Transfer Act, [a] corporate transfer is 'fraudulent' within the meaning of the Uniform Fraudulent Transfer Act, even if there is no fraudulent intent, if the corporation didn't receive 'reasonably equivalent value' in return for the transfer and as a result was left with insufficient assets to have a reasonable -21- chance of surviving indefinitely. Boyer v. Crown Stock Distribution, Inc., 587 F.3d 787, 792 (7th Cir. 2009) (Posner, J.); see, e.g., Warfield v. Byron, 436 F.3d 551, 557-59 (5th Cir. 2006) (collecting cases from various jurisdictions that have adopted the Uniform Fraudulent Transfer Act and concluding that the transferee's knowing participation [in the transferor's fraudulent scheme] is irrelevant under the statute). While upon first glance it might seem unfair to hold a good-faith transferee liable for the debts of the transferor, this concern is mitigated by the fact that under the Uniform Act, a good-faith transferee or obligee is entitled, to the extent of the value given by the debtor for the transfer or obligation, to . . . a reduction in the amount of the liability on the judgment. Mass. Gen. Laws ch. 109A, § 9(d); accord Unif. Fraudulent Transfer Act § 8(d) (1984). The Uniform Fraudulent Transfer Act thus implements the sensible principle that a transferee should not be entitled to a windfall while the legitimate claims of a debtor's other creditors remain unsatisfied, but a good-faith transferee should not be held to account for the debts of the transferor beyond the extent of the windfall. See Verduchi, 434 F.3d at 24 (under Uniform Fraudulent Transfer Act, as adopted by Rhode Island, neither the innocent transferee nor the other creditors may gain an unfair windfall). -22- Although the Trust's knowledge of Fortrend's intentions is irrelevant under the Uniform Act, the IRS can only collect from the Trust if the IRS was a creditor of a debtor who made a transfer to the Trust. Mass. Gen. Laws ch. 109A, §§ 5(a), 6. A creditor for purposes of the Uniform Act is one who has a claim against a debtor, and a claim is any right to payment, whether or not the right is reduced to judgment. Id. § 2. Thus, if the only transfers to the Trust came from the Fortrend vehicles (Three Wood, Monte Mar and SWRR), the IRS can only assert a fraudulent transfer claim against the Trust if the IRS can show that it was a creditor of (i.e., has a claim against) the Fortrend vehicles. The evidence presented by the IRS to the Tax Court provides a modest amount of support for such a finding. Recall that shortly after Three Wood acquired the taxi companies' stock, Fortrend caused the taxi companies to transfer $30 million to Three Wood, and the taxi companies received nothing in return. Moreover, the taxi companies became insolvent as a result of the transfers: TDGH and CDGH were left with less than $10 million in combined cash and more than $14 million in aggregate tax liabilities, which they proved unable to offset. These facts constitute evidence that the transfer from the taxi companies to Three Wood was fraudulent within the meaning of Massachusetts law. See id. § 5(a) (a transfer is fraudulent as to a creditor if the debtor made the -23- transfer . . . without receiving reasonably equivalent value in exchange and the remaining assets of the debtor were unreasonably small in relation to the . . . transaction). And arguably, if the IRS--having rejected Fortrend's attempts to offset the taxi companies' tax liabilities--became a creditor of those companies, then it has a straightforward fraudulent transfer claim against Three Wood. See id. If the IRS has a fraudulent transfer claim against Three Wood, then the IRS is also a creditor of Three Wood under the Massachusetts Uniform Fraudulent Transfer Act. See id. § 2 (creditor is person who has a claim). And if it is a creditor of Three Wood, the IRS can recover not only from Three Wood itself, but also from parties who received fraudulent transfers from Three Wood. So if Three Wood made a fraudulent transfer to the Trust, then the IRS can recover the fraudulent transfer from the Trust, just as a creditor can generally pursue a fraudulent transfer claim against a third party who received a transfer from the debtor if the third party did not give reasonably equivalent value in exchange. Three Wood certainly made a transfer to the Trust: it paid the Trust more than $32.4 million on October 10, 2000. That transfer would be fraudulent under section 5(a)(2) of the Uniform Act if it met the two additional statutory criteria: first, if Three Wood did not receiv[e] a reasonably equivalent value in -24- exchange for the transfer; and second, if Three Wood either (I) was engaged or was about to engage in . . . a transaction for which the remaining assets . . . were unreasonably small, or (ii) intended to incur, or . . . reasonably should have believed that [it] would incur, debts beyond [its] ability to pay as they became due. Id. § 5(a)(2). With respect to the reasonably equivalent value prong,2 Three Wood certainly paid a premium over the book value of the taxi companies: the taxi companies' combined book value (cash assets minus remaining tax liabilities) was roughly $25.3 million, but Three Wood paid more than $32.4 million to acquire them. This premium might have been justified if Three Wood expected that synergy would result from its combination with the taxi companies, see, e.g., Mellon Bank, N.A. v. Metro Comm'cns, Inc., 2 Although there is a dearth of Massachusetts case law construing the term reasonably equivalent value, Massachusetts courts routinely look to the way that courts in other jurisdictions have interpreted identical language in uniform statutes. See, e.g., St. Fleur v. WPI Cable Sys./Mutron, 879 N.E.2d 27, 33 (Mass. 2008) (Uniform Arbitration Act); Gen. Motors Acceptance Corp. v. Abington Cas. Ins. Co., 602 N.E.2d 1085, 1087 (Mass. 1992) (Uniform Commercial Code). Moreover, the phrase reasonably equivalent value appears in the fraudulent transfer provision of the federal Bankruptcy Code, 11 U.S.C. § 548, and cases construing this provision offer additional guidance. See, e.g., McBirney v. Paine Furniture Co., No. 96-0031, 2003 Mass. Super. LEXIS 115, at -27 (Mass. Super. Ct. Mar. 31, 2003) (looking to federal bankruptcy cases to interpret reasonably equivalent value); see also Leibowitz v. Parkway Bank & Trust Co. (In re Image Worldwide, Ltd.), 139 F.3d 574, 577 (7th Cir. 1998) (noting that the Uniform Fraudulent Transfer Act derived the phrase 'reasonably equivalent value' from 11 U.S.C. § 548(a)(2)). -25- 945 F.2d 635, 647 (3d Cir. 1991) (analyzing reasonably equivalent value for purposes of 11 U.S.C. § 548), or if Three Wood acquired goodwill as part of the transaction, see Allstate Ins. Co. v. Countrywide Fin. Corp., 842 F. Supp. 2d 1216, 1224 (C.D. Cal. 2012) (applying Illinois UFTA). But on this record, it is far from clear what synergy or goodwill might have come from Three Wood's acquisitions of TDGH and CDGH, as those companies held no assets other than cash and the Trust was allowed to retain the Town Taxi and Checker Taxi brand names. Alternatively, the premium might have been justified if Three Wood and its corporate parent, Fortrend, had a legitimate and reasonable expectation that the strategy to offset the taxi companies' tax liabilities would succeed. See, e.g., Mellon Bank, 945 F.2d at 647 (no fraudulent transfer where parties had legitimate and reasonable expectation that transaction would prove to be profitable). While we now know that the strategy failed, the question of reasonably equivalent value cannot be answered on the basis of hindsight alone. See generally Onkyo Eur. Elec. GMBH v. Global Technovations, Inc. (In re Global Technovations), 694 F.3d 705, 717-19 (6th Cir. 2012). The IRS counters that Fortrend's strategy was doomed from the outset. Cf. 26 U.S.C. § 269(a) (if principal purpose for acquisition of corporation is to secur[e] the benefit of a deduction that acquirer would not otherwise enjoy, IRS may disallow deduction); -26- Briarcliff Candy Corp. v. Comm'r, T.C. Memo 1987-487 (1987). But we need not resolve this question ourselves. [T]he issue of 'reasonably equivalent value' should in most cases be decided after full evidentiary development by a finder of fact, as, in general, all questions of 'reasonableness' are. Baddin v. Olson (In re Olson), 66 B.R. 687, 695 (Bankr. D. Minn. 1986); see also Consove v. Cohen (In re Roco Corp.), 701 F.2d 978, 981-82 (1st Cir. 1983) (applying 11 U.S.C. § 548). Thus, it is for the Tax Court to determine in the first instance whether the value of the companies transferred by the Trust to Three Wood was reasonably equivalent to the value of the cash transferred by Three Wood to the Trust. If the Tax Court does find that the $32.4 million in cash that Three Wood gave to the Trust was not reasonably equivalent to the companies whose combined book value was $25.3 million, then the next question under the Uniform Act and Massachusetts law is whether, at the time of its transfers to the Trust, Three Wood either (I) was engaged or about to engage in a transaction for which its remaining assets were unreasonably small, or (ii) intended to incur, or reasonably should have believed that it would incur, debts beyond its ability to pay as they became due. Mass. Gen. Laws ch. 109A, § 5(a)(2). If Three Wood and Fortrend reasonably (although incorrectly) expected that the IRS would allow the loss deductions, then Three Wood's assets at the time of the transactions might not have been unreasonably small relative to -27- its obligations to Rabobank.3 On the other hand, if Three Wood had no potentially legitimate means of offsetting TDGH's and CDGH's tax liabilities, then the answer is yes: after it repaid its Rabobank loan, Three Wood would not have had sufficient funds to satisfy TDGH and CDGH's obligations to the IRS. Whether a tax liability was reasonably foreseeable falls within the province of the trier of fact, United States v. Rocky Mountain Holdings, Inc., 782 F. Supp. 2d 106, 121 (E.D. Pa. 2011), so this too is a question for the Tax Court to decide in the first instance. Note that the answer hinges not on what the transferor (the Trust) knew or should have known, but on what the transferee (Three Wood) knew or should have known. In sum, the IRS became a creditor of Three Wood when Three Wood stripped the taxi companies of their cash, and as a creditor of Three Wood, the IRS gained the right to recover fraudulent transfers made by Three Wood whether the creditor's claim arose before or after the transfer was made. Mass. Gen. Laws ch. 109A, § 5(a). Whether Three Wood's transfers to the Trust are also recoverable under section 5(a) of the Uniform Act depends 3 The record is devoid of any indication that--prior to the purchase of the taxi companies--Three Wood held assets other than the Rabobank loan proceeds and the extra amount (approximately $2.4 million) evidently contributed by Fortrend to meet the combined purchase price of TDGH and CDGH (slightly more than $32.4 million). Rabobank's credit report on Three Wood states that Three Wood exists for the sole purpose of completing the taxi company transactions, and the report mentions no preexisting assets that might have enabled Three Wood to meet its debts as they came due. -28- on the questions of fact outlined above, but at the very least, we can say that the IRS has a plausible fraudulent transfer claim against the Trust irrespective of the substance-over-form doctrine, and irrespective of the Trust's level of knowledge (actual or constructive). The analysis is substantially similar--although slightly simpler--with respect to the St. Botolph and Sixty-Five Bedford sales. After Monte Mar, the Fortrend affiliate, purchased St. Botolph from the Trust, Monte Mar and St. Botolph merged. The IRS has an undisputed claim against Monte Mar/St. Botolph for unpaid taxes, and the Trust is manifestly a transferee of Monte Mar/St. Botolph, since Monte Mar paid $18.5 million to the Trust. The transfer from Monte Mar to the Trust would be recoverable under section 5(a)(2) of the Uniform Fraudulent Transfer Act if (I) what Monte Mar received from the Trust (a company whose book value was only about $13 million) was not reasonably equivalent to what the Trust received from Monte Mar ($18.5 million in cash), and (ii) it was reasonably foreseeable at the time that Monte Mar would not be able to satisfy the tax liabilities that it inherited from St. Botolph. (In hindsight, we know that St. Botolph ultimately acknowledged a deficiency of more than $6.8 million with respect to the 2001 tax year.) In the case of Sixty-Five Bedford, the Fortrend acquisition vehicle SWRR transferred $4.9 million to the Trust in -29- exchange for a company whose book value was only $3.9 million. After the transaction, SWRR and Sixty-Five Bedford merged. Thus, the transaction left SWRR/Sixty-Five Bedford with approximately $5.9 million in cash assets, $4.9 million in debt to SEAP (another Fortrend entity) and $2 million in tax liabilities. Again, it is for the Tax Court to determine in the first instance whether SWRR received reasonably equivalent value from the Trust, and whether it was reasonably foreseeable that SWRR/Sixty-Five Bedford would not be able to satisfy future tax liabilities. And again, none of these determinations turns on the question of fraud in the traditional sense: A corporate transfer is 'fraudulent' within the meaning of the Uniform Fraudulent Transfer Act, even if there is no fraudulent intent, if the corporation didn't receive 'reasonably equivalent value' in return for the transfer and as a result was left with insufficient assets to have a reasonable chance of surviving indefinitely. Crown Stock Distribution, 587 F.3d at 792. Even so, the IRS can collect from the Trust under 26 U.S.C. § 6901 only if the Trust is--for purposes of federal law--a transferee of the property of a taxpayer who otherwise would be liable for such tax. 26 U.S.C. § 6901(a)(1); see also id. § 6901(h) (transferee defined to include, inter alia, any donee, heir, legatee, devisee, and distributee). And it is true that, as the Trust points out, the Trust did not receive assets directly -30- from Town Taxi, Checker Taxi, St. Botolph or Sixty-Five Bedford. Rather, the Trust received transfers from Fortrend-controlled entities which in turn received transfers from the four companies. Yet it is well-settled that transferee liability may be asserted against a transferee of a transferee, Berliant v. Comm'r, 729 F.2d 496, 497 n.2 (7th Cir. 1984); see also 26 C.F.R. § 301.6901-1(c)(2) (2012), and the Trust is quite clearly a transferee of a transferee of each of the four companies. See generally 14A Mertens Law of Federal Income Taxation § 53:24, at 53-67 (Thomson Reuters/West Sept. 2011 Supp.) (liability of transferee of transferee). With respect to each of the four companies that the Trust sold to Fortrend, then, the Fortrend-controlled entity that consummated the acquisition was a transferee of the company, and the Trust, in turn, was a transferee of a transferee. And so long as the Trust was a recipient of fraudulent transfers from the Fortrend vehicles, then the IRS--as a creditor of (i.e., claimant against) the Fortrend entities--can recover from the Trust. Put differently, the Tax Court assumed that if the transfer from each of the companies to the respective Fortrendcontrolled acquisition vehicle could not be collapsed with the transfer from the Fortrend vehicle to the Trust, then the Trust could escape transferee liability. But in each of the four cases (Town Taxi, Checker Taxi, St. Botolph and Sixty-Five Bedford), -31- there were potentially two fraudulent transfers: one transfer from the company to the Fortrend entity, and another transfer from the Fortrend entity to the Trust. The fraudulent transfer from the company to the Fortrend entity made the IRS a creditor of the latter, and as the Fortrend entity's creditor, the IRS can recover from the Trust provided that the Trust received a fraudulent transfer from the Fortrend entity. If the Tax Court finds that the Fortrend entities received reasonably equivalent value from the Trust, or if the Tax Court concludes that it was not reasonably foreseeable that Fortrend's gain-loss offset strategy would fail, then the Tax Court should reenter its judgment for the Trust. If, however, the Tax Court concludes that the Trust was the recipient of fraudulent transfers from Fortrend acquisition vehicles that were themselves recipients of fraudulent transfers from TDGH, CDGH, St. Botolph and Sixty-Five Bedford, that still leaves the question of the amount of the Trust's liability. And while we leave it to the Tax Court to answer this question on remand (if, indeed, it becomes necessary to answer the question), we mention one more consideration that may guide the Tax Court's decision. The IRS issued a notice of liability to the Trust for $6,100,159 in taxes on account of TDGH, $5,722,441 on account of CDGH, and $6,839,682 and $1,664,315 on account of St. Botolph and Sixty-Five Bedford, respectively (in addition to interest and -32- penalties). However, according to the parties' stipulations, the amount over and above book value that the various Fortrend acquisition vehicles paid to the Trust was $3,754,737 for TDGH, $3,390,308 for CDGH, $5,329,523 for St. Botolph and $1,020,500 for Sixty-Five Bedford.4 Thus, for each company, the amount specified in the IRS' notice of liability is substantially greater than the difference between the purchase price and the net asset value (cash less tax liabilities) of the acquired company. But as mentioned above, under the Uniform Act and Massachusetts law, a good-faith transferee . . . is entitled, to the extent of the value given the debtor for the transfer . . . , to . . . a reduction in the amount of liability on the judgment. Mass. Gen. Laws ch. 109A, § 9(d); see also Unif. Fraudulent Transfer Act prefatory note (1984) (good faith transferee or obligee who has given less than a reasonable equivalent is nevertheless allowed a reduction in liability to the extent of the value given). And Stern holds that the liability of a transferee (or, as here, the transferee of a transferee) is a question of state law. Stern, 357 U.S. at 45; see also Verduchi, 434 F.3d at 20 (if the government seeks to recover a debtor's tax deficiency in the form of a judgment against the transferee, state law applies to set the amount of recovery (emphasis added)). Thus, if the Tax 4 Note that the companies' tax liabilities were both federal and state, while the IRS' notices of liability only cover federal taxes due. -33- Court finds that the Trust was a fraudulent transferee within the meaning of Mass. Gen. Laws ch. 109A, § 5(a)(2) but a good-faith transferee within the meaning of Mass. Gen. Laws ch. 109A, § 9(d), then the IRS' recovery, apart from interest and penalties, would be limited to the difference between the purchase price and the fair value of each of the acquired companies--less than what the IRS seeks, but more than what the Tax Court awarded (which was nothing). We acknowledge that the particular theory of liability adopted here--that the Trust is potentially liable for the corporations' unpaid taxes as a transferee of a transferee--is not identical to the theory adopted by the IRS in its arguments before the Tax Court and on appeal. But the IRS has certainly preserved the claim that the Trust is liable under Mass. Gen. Laws ch. 109A, § 5(a)(2) for the unpaid taxes of TDGH, CDGH, St. Botolph and Sixty-Five Bedford. The Service has likewise preserved the claim that it can collect from the Trust through the procedural mechanism established by 26 U.S.C. § 6901.5 And although the IRS 5 When the IRS seeks to collect taxes from a transferee of a transferee (rather than a direct transferee), it is not required to specifically label the asserted liability as being that of a transferee or of a transferee of a transferee nor to evaluate its legal effect. 14A Mertens Law of Federal Income Taxation § 53:24, at 53-68; see also Bos Lines, Inc. v. Comm'r, T.C. Memo 1965-71, 1965 Tax Ct. Memo LEXIS 259, at  (T.C. 1965) (when the addressee receives notice of liability for the deficiency of the taxpayer it is not material whether the respondent has labeled the liability as that of transferee or of transferee of a transferee), aff'd, 354 F.2d 830 (8th Cir. 1965). -34- failed to articulate the theory underlying this claim with ideal clarity, the Service placed into the record substantial evidence that supports this theory. See United States v. One Urban Lot Located at 1 St. A-1, 885 F.2d 994, 1001 (1st Cir. 1989) (an appellate court can go beyond the reasons--as distinguished from the issue--articulated in the parties' briefs to reach a result supported by law); see also United States v. García-Ortiz, 528 F.3d 74, 85 (1st Cir. 2008). That said, the transferee-of-transferee theory articulated above turns on answers to factual questions that were not resolved in the Tax Court's opinion. The parties will have the opportunity to address these questions in further Tax Court proceedings, and the Trust is free to reassert any applicable defenses in the Tax Court on remand. The decision of the Tax Court is reversed, and the case is remanded to the Tax Court for further proceedings in accordance with this opinion. -35-