Opinion ID: 76965
Heading Depth: 2
Heading Rank: 3

Heading: Avoidance of the Initial Transfer

Text: 43 Defendants argue next that the Bankruptcy Code requires that the Trustee first avoid the transfers to the initial transferees before he has a cause of action against the subsequent transferees. In fraudulent transfer actions, there is a distinction between avoiding the transaction and actually recovering the property or the value thereof. In re Burns, 322 F.3d 421 (6th Cir.2003). By its language, 11 U.S.C. § 544(b)indicates that the transaction must first be avoided before a plaintiff can recover under 11 U.S.C. § 550. In re H & S Transp. Co., 939 F.2d 355 (6th Cir.1991); In re Richmond Produce Co., 195 B.R. 455 (N.D.Cal.1996); In re DLC, Ltd., 295 B.R. 593 (8th Cir.BAP2003), aff'd, 376 F.3d 819 (8th Cir.2004). This demarcation between avoidance and recovery is underscored by § 550(f), which places a separate statute of limitations on recovery actions; it provides that a suit for recovery must be commenced within one year of the time that a transaction is avoided or by the time the case is closed or dismissed, whichever occurs first. In re Carpenter, 266 B.R. 671 (Bankr.E.D.Tenn.2001), subsequently aff'd, 79 Fed.Appx. 749 (6th Cir. 2003). 44 Title 11 U.S.C. § 550(a) details the scope of recovery: 45 to the extent that a transfer is avoided under section 544 ... the trustee may recover for the benefit of the estate property transferred, or if the court so order, the value of such property, from — 46 (1) the initial transferee of such transfer or the entity for whose benefit such transfer was made; or 47 (2) any immediate or mediate transferee of such initial transferee 48 As § 550(a) indicates, once a transaction has been avoided, the bankruptcy estate may recover from: (a) the initial transferee; (b) the party for whose benefit the initial transfer was made; and/or (c) any subsequent transferee. In re Int'l Mgmt. Assoc., 399 F.3d 1288 (11th Cir.2005); In re Teligent, Inc. 307 B.R. 744 (Bankr. S.D.N.Y.2004). Obviously, a plaintiff in an avoidance action may recover from the initial transferee. In re Model Imperial, Inc., 250 B.R. 776 (Bankr.S.D.Fla.2000); In re Red Dot Scenic, Inc., 293 B.R. 116 (S.D.N.Y.), aff'd, 351 F.3d 57 (2d Cir.2003). If there is not an affirmative good faith defense, then § 550(a) allows recovery from subsequent transferees as well. In re Willaert, 944 F.2d 463, 464 (8th Cir.1991). The question that lingers, however, is whether an action must first be brought against the initial transferee as a prerequisite to seeking recovery against other parties who may be liable. In re Richmond Produce Co., 195 B.R. 455 (N.D.Cal.1996); In re Resource, Recycling & Remediation, Inc., 314 B.R. 62 (Bankr.W.D.Pa.2004). 49 The crux of the Defendants' argument is that the Trustee failed to first sue the initial transferees, Tedder's law firm and a Tedder entity named Texas International Personnel Corporation (TIPCO), before asserting the claims against IBT and SCSD, the subsequent transferees. If, as the Defendants contend, the money first filtered from IAS to Tedder and TIPCO, then the Trustee must first avoid this initial transfer. Accordingly, and as the Defendants' argument goes, pursuant to Section 550 of the Bankruptcy Code, the Trustee cannot pursue subsequent transferees without avoiding that initial transfer. 50 Section 550(a) plainly states that to the extent that a transfer is avoided under section 544 ... of this title. (emphasis added). Defendants primarily rely upon In re Trans-End Technology, Inc., 230 B.R. 101 (Bankr.N.D.Ohio 1998), which interpreted this provision as requiring the actual avoidance of an initial transfer before recovery is sought from subsequent transferees. The Defendants contend that by allowing the Trustee to recover from them, the bankruptcy court improperly read the word avoidable (rather than avoided) into § 550(a). While Trans-End characterizes the language of § 550(a) as unarguably ... unambiguous and plain, a review of relevant case law demonstrates an array of interpretations. 230 B.R. at 104. See In re Richmond Produce Co., Inc., 195 B.R. 455 (N.D.Cal.1996) (finding that once the trustee proves that a transfer is avoidable ... he may seek to recover against any transferee, initial or immediate, or an entity for whose benefit the transfer is made); Imperial Corp. of America v. Shields, 1997 WL 808628 (S.D.Cal.1997) (same); In re Advanced Telecomm. Network, Inc., 321 B.R. 308, 328 (Bankr.M.D.Fla.2005) (same). But see In re Slack-Horner Foundries Co., 971 F.2d 577 (10th Cir.1992) (holding that where a debtor-in-possession or a trustee has brought an adversary proceeding to set aside a transfer after a tax sale, the plaintiff must first seek recovery from the governmental entity that had sold the property for taxes). 51 Although the Defendants also rely on the Slack-Horner decision, we must mention what the dissenting judge so neatly pointed out. Namely, that there were no other cases to support the majority's decision, and instead listed several cases that did not preclude recovery from the subsequent transferee because the trustee did not go against the initial transferee. 971 F.2d at 583 (Seymour, J., dissenting) (citing In re Hall, 131 B.R. 213 (Bankr.N.D.Fla.1991); In re Allegheny Int'l Credit Corp., 128 B.R. 125 (W.D.Pa.1991); In re War Eagle Floats, 104 B.R. 398 (Bankr. E.D.Okl.1989); In re Louis L. Lasser & Stanley M. Kahn, 68 B.R. 492 (Bankr. E.D.N.Y.1986)). It seems as though Trans-End is the only case since Slack-Horner to endorse the Defendants' argument in this case. We will not, however, be the third court to echo that holding. 52 The strict interpretation of § 550(a) produces a harsh and inflexible result that runs counterintuitive to the nature of avoidance actions. If the initial transaction must be avoided in the first instance, then any streetwise transferee would simply re-transfer the money or asset in order to escape liability. The chain of transfers would be endless. Nevertheless, this result presents a bit of a quandary. There are two approaches that achieve the end, and we must determine which is the most sound, both legally and logically, for this case. 53 Several courts, including a bankruptcy court from this Circuit, have advocated the avoidable view of § 550(a). See In re Advanced Telecomm. Network, Inc., 321 B.R. 308, 328 (Bankr.M.D.Fla.2005). On the other hand, other courts, including this Court, have applied the mere conduit concept. In re Chase & Sanborn Corp., 904 F.2d 588 (11th Cir.1990); Nordberg v. Societe Generale, 848 F.2d 1196 (11th Cir. 1988). We will evaluate each in turn. 54 Since the conduit notion is the law in this Circuit, we will address it first. As with the instant case, a plaintiff's ability to make a case under § 550, may be compromised by the characterization of a potential defendant as an initial, immediate, or mediate transferee. In re Advanced Telecomm. Network, Inc., 321 B.R. 308 (Bankr. M.D.Fla.2005). The 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. 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. In re Ogden, 314 F.3d 1190 (10th Cir.2002). Generally, courts are disinclined to construe the statute in such a rigid manner because in many instances the initial recipient may have nothing to do with the debtor's property other than facilitating its transfer. In re Jet Florida System, Inc., 69 B.R. 83 (Bankr.S.D.Fla.1987). 55 Thus, courts have created a more malleable approach to § 550(a), recognizing that such a mere conduit cannot be considered an initial recipient for purposes of an avoidance action. In re Chase & Sanborn Corp., 904 F.2d 588 (11th Cir. 1990); In re Columbia Data Products, Inc., 892 F.2d 26, 28 (4th Cir.1989) (a party cannot be an initial transferee if he is a mere conduit for the party who had a direct business relationship with the debtor). 56 Thus, a legal fiction is created, and the logical flow of the mere conduit rule is that the party who receives the property from the conduit is likely to be considered the initial transferee, albeit several steps removed. The mere conduit rule is used most frequently in situations where banks act as an intermediary in transferring assets. See In re Erie Marine Enterprises, Inc., 216 B.R. 529 (Bankr.W.D.Pa.1998); In re Coutee, 984 F.2d 138 (5th Cir.1993); Bonded Financial Services, Inc. v. European American Bank, 838 F.2d 890 (7th Cir.1988). Where a bank receives a check, wire transfer, etc., from the debtor, with instructions to pass it along to another transferee, courts tend to immunize the bank from liability under § 550 as an initial transferee because it never exercised any control over the Debtor's funds. See In re Auto-Pak, Inc., 63 B.R. 321 (Bankr. D.D.C.1986), rev'd on other grounds, 73 B.R. 52 (D.D.C.). 57 In order for this exception to apply, then, we must determine whether Givens, Tedder, TIPCO and HAC are merely conduits of the IAS funds, and whether IBT and SCSD are the resulting initial transferees. 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. See In re Machinery & Steel Service, Inc., 112 B.R. 478 (Bankr.D.Mass.1990) (finding that a union was not an initial transferee of payments for benefit of employee welfare and pension funds because it neither received payments themselves nor any benefit from payments; the union only acted as a conduit of checks); see also Hooker Atlanta Corp. v. Hocker, 155 B.R. 332 (Bankr.S.D.N.Y. 1993). We cannot view Givens, Tedder, and company in that light. 58 These initial transferees do not conjure images of well-intentioned, but gullible, parties who mistakenly fell victim to a massive conspiracy between the Debtor and the Defendants. To the contrary, these entities had intimate and thorough knowledge of the transactions and their desired effect. Money changed multiple hands, twenty-three entities filtered IAS funds away from creditors. Tedder and Givens were the architects of a masterful plan aimed at diluting IAS' coffers and lining their own pockets. To hold them to be innocent parties would contravene the character of a fraudulent transfer action, the purpose of which is to expose fraudulent dealings. As such, we cannot deem Givens, HAC, and TIPCO as mere conduits who naively transferred funds to Van Dam who then transferred the same funds to IBT and SCSD. This case does not merit the mere conduit distinction that we carved out in Chase & Sanborn or Nordberg. 59 Notwithstanding our analysis of the application of the conduit rule, the Trustee's case does not fail. The more tenable result in this case is that the Trustee may simultaneously avoid a transfer under § 544 and seek recovery under § 550. Richmond Produce, 195 B.R. at 463; Advanced Telecomm., 321 B.R. at 328. This approach allows a plaintiff to recover property from those considered to be mediate transferees of the initial transferee. In short, once the plaintiff proves that an avoidable transfer exists he can then skip over the initial transferee and recover from those next in line. 60 The court in Richmond Produce affirmed the bankruptcy court's decision permitting the trustee to recover a fraudulent transfer from a mediate transferee, irrespective of whether the trustee had sued the initial transferee of the relevant property. In the case at bar, the bankruptcy court adopted the Richmond Produce analysis: Under § 550, once a trustee proves that a transfer is avoidable ... he may seek to recover against any transferee, initial or immediate, or an entity for whose benefit the transfer is made. Id. at 463. An interpretation of Section 550 mandating actual avoidance of initial transfers, conflates Chapter 11's avoidance and recovery sections. Richmond Produce further clarified that the language to the extent that simply appreciates that transfers sometimes may be avoided only in part, and that only the avoided portion of a transfer is recoverable. Id. (citing In re Sufolla, Inc., 2 F.3d 977, 982 (9th Cir.1993) (quoting Levit v. Ingersoll Rand Financial Corp., 874 F.2d 1186, 1195-96 (7th Cir.1989))). The Richmond Produce court then looked to the legislative history of Section 550 to explain the operative language. The court observed that Congress took to the extent to mean that liability is not imposed on a transferee to the extent that a transferee is protected under a provision ... which grants a good faith transferee for value of the transfer that is avoided only as a fraudulent transfer, a lien on the property transferred to the extent of value given. 124 Cong. Rec. H. 11,097 (Sept. 28, 1978), S 17414 (Oct. 6, 1978). 61 In the instant case, the bankruptcy court agreed with Richmond Produce, noting: 62 Nothing in the language of Section 550 requires a plaintiff in a fraudulent transfer adversary proceeding to avoid the transfer received by the initial transferee before continuing with avoidance actions down the line of transfers. Certainly, the plaintiff can pursue the initial transferee, but the plaintiff is not obligated to do so. The plaintiff is free to pursue any of the immediate or mediate transferees, and nothing in the statute requires a different result. 63 Although this interpretation treats IBT and SCSD as subsequent transferees, the distinction between initial transferee and mediate transferee for avoidance purposes is irrelevant. The Defendants need only be transferees. In order to incur liability as a transferee, a party must have exercised a degree of dominion and control over the property transferred, or held some sort of beneficial right in it. In re Paramount Citrus, Inc., 268 B.R. 620 (M.D.Fla.2001). Here, IBT and SCSD meet that test. The Defendants received $1.050 million of IAS' money and used it to invest in the Guild property. Only a controlling entity would be able to do so, and the Trustee may recover from the Defendants. 64 We think this interpretation is correct. We emphasize that this ruling does not erode the conduit theory. Rather, it accommodates a case involving a multitude of patently fraudulent transfers. Not all cases can conveniently be characterized as involving a conduit in order to reach property from later transfers. Thus, the decision today allows a more pragmatic and flexible approach to avoiding transfers; for if the Bankruptcy Code conceives of a plaintiff suing independently to avoid and recover, then bringing the two actions together only advances the efficiency of the process and furthers the protections and forgiveness inherent in the bankruptcy laws. In re Waldron, 785 F.2d 936, 941 (11th Cir.1986). The cornerstone of the bankruptcy courts has always been the doing of equity, and in situations such as this, where money is spread throughout the globe, fraudulent transferors should not be allowed to use § 550 as both a shield and a sword. Id. Not only would subsequent transferees avoid incurring liability, but they would also defeat recovery and further diminish the assets of the estate. An opposite result would foster the creation of similar enterprises, for creditors would design increasingly complex transactions, with the knowledge that more transfers decrease the likelihood of a successful avoidance action. Moreover, the increased cost in litigation and the delays associated with prolonged investigations would only contribute to a debtor's shrinking estate. 65 We are mindful that our reading of § 550(a) does not embrace a strict construction. We believe, however, that it does address the ambiguity of the words to the extent that a transfer is avoided. Because those words are ambiguous, it is appropriate to look beyond the plain language of the statute. See United States v. DBB, Inc., 180 F.3d 1277, 1281 (11th Cir.1999) (We do not look at one word or term in isolation, but instead we look to the entire statutory context .... We will only look beyond the plain language of a statute at extrinsic materials to determine the congressional intent if: (1) the statute's language is ambiguous; (2) applying it according to its plain meaning would lead to an absurd result; or (3) there is clear evidence of contrary legislative intent.) (citations omitted). 7 The results here would be absurd, and, as the bankruptcy court put it, a bizarre exercise in futility. After looking at the statute as a whole, we think Congress contemplated to the extent that a transfer is avoided to be a simultaneous as well as successive process. The Trustee here did not have to pursue litigation against Eurokredit, HAC, and TIPCO, or the other Tedder operations, to successfully avoid the transfers of assets to IBT and SCSD. Therefore, we hold that Section 550(a) does not mandate a plaintiff to first pursue recovery against the initial transferee and successfully avoid all prior transfers against a mediate transferee.