In re Suarez

• Decision Date: 23 March 2007
• Docket Number: Adversary No. 05-1303-ess.,Bankruptcy No. 05-16137-ess.
• Citation: 367 B.R. 332
• Parties: In re John SUAREZ a/k/a John Maldonado, Debtor. People of the State of New York, by Eliot Spitzer, Attorney General of the State of New York, Plaintiffs, v. John Suarez a/k/a John Maldonado, Defendant.
• Court: U.S. Bankruptcy Court — Eastern District of New York

367 B.R. 332

In re John SUAREZ a/k/a John Maldonado, Debtor People of the State of New York, by Eliot Spitzer, Attorney General of the State of New York, Plaintiffs, v. John Suarez a/k/a John Maldonado, Defendant.

Bankruptcy No. 05-16137-ess.

Adversary No. 05-1303-ess.

United States Bankruptcy Court, E.D. New York.

March 23, 2007.

COPYRIGHT MATERIAL OMITTED

Lois M. Booker-Williams, Esq., Assistant Attorney General in Charge, Brooklyn Regional Office, Brooklyn, NY, for the Plaintiff.

Leon J. Quintero, Esq., New York, NY, for the Debtor/Defendant.

MEMORANDUM DECISION AWARDING JUDGMENT IN FAVOR OF THE PLAINTIFFS

ELIZABETH S. STONG, Bankruptcy Judge.

This adversary proceeding was commenced by the filing of a complaint (the "Complaint") by the People of the State of New York by the Attorney General of the State of New York (the "Plaintiffs") against John Suarez a/k/a John Maldonado, the debtor in the above-captioned Chapter 7 case (the "Debtor"). By their Complaint, the Plaintiffs seek a declaration that certain debts owed by the Debtor individually and as president of Core Health & Fitness, Inc. ("Core Heath & Fitness") arising from a Consent Order and Judgment entered by New York State Supreme Court on March 1, 2005 (the "Consent Order and Judgment"), are nondischargeable under Sections 523(a)(2)(A), 523(a)(4), 523(a)(7), and 523(a)(17) of Title 11 of the United States Code (the "Bankruptcy Code"). Plaintiffs also seek a declaration under 28 U.S.C. § 2201(a) that their enforcement of the Consent Order and Judgment does not violate the automatic stay pursuant to Section 362(b)(4).

A trial was held on October 13, 2006, and October 18, 2006, at which counsel for the Plaintiff and counsel for the Debtor appeared and were heard and testimony was taken. The Debtor moved for a directed verdict at the close of the Plaintiffs' case, and that motion was denied. The trial record was closed and the matter was submitted for decision on October 18, 2006.

Based on the entire record, including the testimony and exhibits and the arguments of counsel, and for the reasons set forth below, the Court concludes that the Debtor's obligation for restitution in the amount of $140,000 arising from the Con, sent Order and Judgment (the "Consent Judgment Debt") is nondischargeable under Section 523(a)(4) of the Bankruptcy Code.

Jurisdiction

This Court has jurisdiction pursuant to 28 U.S.C. §§ 1334(b) and 157(b). This is a core proceeding pursuant to 28 U.S.C. §§ 157(b)(2)(I). The following are the Court's findings of fact and conclusions of law after a trial pursuant to Rule 52 of the Federal Rules of Civil Procedure, as made applicable by Rule 7052 of the Federal Rules of Bankruptcy Procedure.

Background

A. Procedural History

The Debtor filed a voluntary petition for relief under Chapter 7 of the Bankruptcy Code on April 20, 2005. He seeks a discharge of, among other debts, a debt arising from the Consent Order and Judgment entered in an action brought by the Plaintiffs in New York State Supreme Court (the "State Court Action") to enjoin the Debtor and Core Health & Fitness "from engaging in deceptive, fraudulent and illegal practices in connection with their health club business; to obtain restitution and damages for consumers victimized by these practices; and to obtain civil penalties and costs authorized by statute." Complaint, Exh. B (Verified Petition in the State Court Action) ¶ 1.

The Plaintiffs filed this Complaint, which states three causes of action, on July 29, 2005. See Complaint ¶¶ 16-29, Adv. Pro. Docket 1. By the first cause of action (the "First Cause of Action"), the Plaintiffs seek a declaration that the Consent Judgment Debt is a debt obtained by false pretenses, false representations, or actual fraud, and is excepted from discharge under Section 523(a)(2)(A) of the Bankruptcy Code. See. Complaint ¶¶ 17-20. By the second cause of action (the "Second Cause of Action"), the Plaintiffs seek a declaration that the Consent Judgment Debt is a debt arising from fraud or defalcation while the Debtor acted in a fiduciary capacity, embezzlement, or larceny, and is excepted from discharge under .Section 523(a)(4) of the Bankruptcy Code. See Complaint ¶¶ 22-23. By the third cause of action (the "Third Cause of Action"), the Plaintiffs seek a declaration that civil penalties of $30,000 and administrative costs of $2,000 owed by the Debtor to the State of New York are excepted from discharge under Sections 523(a)(7) and 523(a)(17) of the Bankruptcy Code. See Complaint ¶¶ 25-29.

The Debtor filed an answer to the Complaint on August 22, 2005, and denies the allegations supporting the Plaintiffs' claims of nondischargeability of the $140,000 restitution debt, the $30,000 civil penalties debt, and the $2,000 administrative costs debt, and requests that the relief sought by the Plaintiffs be denied in all respects. See Answer ¶¶ 1-29, Adv. Pro. Docket 6.

By stipulation and order entered by the Court on June 6, 2006, the parties agreed, and the Court ordered, that the civil penalties and administrative costs set forth in the Third Cause of Action are nondischargeable under Sections 523(a)(7) and 523(a)(17) of the Bankruptcy Code. See Stipulation and Order, Adv. Pro. Docket 21. Therefore, there remain for decision the Plaintiffs' First and Second Causes of Action, and the question of whether the Consent Judgment Debt is excepted from discharge under Section 523(a)(2)(A) or Section 523(a)(4) of the Bankruptcy Code.

The parties filed a joint pre-trial statement (the "Joint Pre-Trial Statement") on June 7, 2006. Adv. Pro. Docket 20. The parties filed pre-trial memoranda of law and the Plaintiffs filed a witness list on October 6, 2006. Adv. Pro. Docket 25 (Plaintiffs' Pre-Trial Memorandum of Law), 26 (Witness List), 28 (Defendant's Pre-Trial Memorandum of Law). As indicated above, this matter was tried by the Court on October 13, 2006, and October 18, 2006.

B. Factual Background

Core Health & Fitness

As reflected in the Joint Pre-Trial Statement, the parties do not dispute the following facts. The Debtor sought to open Core Health & Fitness as a health club facility in Brooklyn, New York. Joint Pre-Trial Statement at 2. The business was incorporated as Core Health & Fitness, Inc., on or about March 19, 2003. Id. The Debtor was the sole shareholder and president of Core Health & Fitness, and he alone was authorized to sign checks drawn on the Core Health & Fitness business account at Citibank, N.A. ("Citibank" and the "Citibank Account"). Id. The Debtor obtained an employer identification number for Core Health & Fitness from the Internal Revenue Service, and attempted to lease space for the Core Health & Fitness facility at 102 North 6th Street in Brooklyn, New York (the "Premises"). Joint Pre-Trial Statement at 2-3.

The Debtor advertised Core Health & Fitness in the neighborhood using mailings, e-mail messages, and handbills. Joint Pre-Trial Statement at 3; Plaintiffs' Exh. G (e-mail dated April 28, 2004; e-mail dated May 11, 2004). From April 2004 to August 2004, Core Health & Fitness sold some 960 one-year prepaid memberships for $157 and $170 each, totaling $140,000. Joint Pre-Trial Statement at 3. The membership fees collected included application fees and sales taxes. Id. The Core Health & Fitness Membership Agreement provides for an automatic renewal program. Id. The Debtor deposited the Core Health & Fitness fees collected from consumers into the Citibank Account, and used that account to pay for construction expenses, equipment costs, employee salaries, marketing and promotional fees, attorney fees, and other expenses associated with establishing the business. Id.

Core Health & Fitness was first scheduled to open for business on June 1, 2004, but the opening was delayed. Id. In August 2004, Core Health & Fitness opened for two weeks, but provided only limited services. Id. When it closed after that brief period of operation, consumers were left with unexpired memberships. Id. The Debtor did not deposit the fees collected from consumers in a segregated or escrow account. Id. Nor did the Debtor post a bond, letter of credit, or certificate of deposit with the New York Secretary of State. Id. The Debtor made refunds to only a few of the consumers holding unexpired memberships, and the great majority of consumers received neither the services purchased nor a refund of their membership fees. Id.

The State Court Action

The Plaintiffs began an investigation into the Debtor's business practices in early September 2004, less than a month after Core Health & Fitness closed its doors. See Complaint ¶ 6. On October 27, 2004, the Plaintiffs commenced the State Court Action against the Debtor and Core Health & Fitness seeking injunctive relief, restitution for the injured consumers, civil penalties, and statutory costs. Complaint ¶ 9, Exh. B (Verified Petition in State Court Action).

The Debtor, Core Health & Fitness, and the Plaintiffs reached a settlement in the State Court Action, and on February 28, 2005, the Debtor signed a Stipulation and Consent on behalf of himself and Core Health & Fitness. Plaintiffs' Exh. A (Consent Order and Judgment). On March 1, 2005, the New York State Supreme Court entered the Consent Order and Judgment in favor of the Plaintiffs and against the Debtor and Core. Id. The Debtor and Core Health & Fitness were represented by counsel in the State Court Action. Id.

The Consent Order and Judgment requires the Debtor and Core Health & Fitness to make restitution of $140,000 (as defined above, the "Consent Judgment Debt"),¹ and to pay a civil penalty of $30,000 and statutory costs of $2,000. Id. The Consent Order and Judgment also permanently enjoins the Debtor and Core Health & Fitness "from participating or engaging in any manner in the operation of any health club in the State of New York, and from engaging in any illegal acts and practices alleged in the Verified Petition, in violation of...