Appalachian Oil Co. v. Tenn. Educ. Lottery Corp. (In re Appalachian Oil Co.)

• Decision Date: 23 March 2012
• Docket Number: Bankruptcy No. 09–50259.,Adversary No. 10–5067.
• Parties: In re APPALACHIAN OIL COMPANY, INC., Debtor. Appalachian Oil Company, Inc., Plaintiff, v. Tennessee Education Lottery Corporation, Defendant.
• Court: United States Bankruptcy Courts. Sixth Circuit. U.S. Bankruptcy Court — Eastern District of Tennessee

471 B.R. 199

In re APPALACHIAN OIL COMPANY, INC., Debtor.

Appalachian Oil Company, Inc., Plaintiff,

v.Tennessee Education Lottery Corporation, Defendant.

Bankruptcy No. 09–50259.

Adversary No. 10–5067.

United States Bankruptcy Court,

E.D. Tennessee.

March 23, 2012.

Mark S. Dessauer, Esq., Hunter, Smith & Davis, Kingsport, TN, for Plaintiff.

William F. McCormick, Esq., Tennessee Attorney General's Office, Nashville, TN, for Defendant.

MEMORANDUM

MARCIA PHILLIPS PARSONS, Bankruptcy Judge.

This is an action pursuant to 11 U.S.C. §§ 547(b) and 550(a) to avoid and recover certain alleged preferential transfers totaling $526,790.68 made by the debtor Appalachian Oil Company, Inc. (“APPCO”) to Tennessee Education Lottery Corporation (“TEL”). Presently before the court is TEL's motion for summary judgment based on its contention that the transfers constituted trust funds and therefore were not property of the debtor, a necessary element of § 547(b). APPCO opposes the motion and contends, to the contrary, that it is entitled to partial summary judgment on its claim because the transfers were property of the debtor. As discussed hereafter, both motions will be granted in part and denied in part. This is a core proceeding. See28 U.S.C. § 157(b)(2)(F).

I.

On February 9, 2009, APPCO filed a voluntary petition for bankruptcy relief under chapter 11 and thereafter on August 9, 2010, initiated this adversary proceeding. In its complaint as amended, APPCO states that it operated approximately 57 convenience stores in Tennessee, Virginia, and Kentucky at the time of its bankruptcy filing. At its Tennessee stores, APPCO was an authorized seller of Tennessee lottery tickets. According to APPCO, the general practice for payment of these tickets was that each week TEL would issue an invoice to APPCO for amounts due that week for lottery tickets sold online and for instant tickets that APPCO had held for more than 21 days after activation and then sweep APPCO's designated bank account to receive payment of the invoice by electronic funds transfer (“EFT”). Pursuant to this arrangement, during the 90 days prior to APPCO's bankruptcy filing, TEL received six EFT payments totaling $229,155.81 between November 13, 2008, and December 16, 2008. Also during the same 90 day period, on December 28 and 30, 2008, and January 6, 2009, TEL attempted additional EFT sweeps in the amounts of $29,061.42, $51,658.85 and $216,864.60 respectively, but all were ineffective because APPCO did not have sufficient funds in its account. Because of these insufficiencies, TEL terminated APPCO's ability to sell lottery tickets, and by December 30, 2008, had seized all unsold lottery tickets in APPCO's possession. Thereafter, on January 8, 2009, TEL sent APPCO a letter demanding immediate payment of $297,634.87. In response, APPCO wired TEL $50,000 on January 9, 2009, and $247,634.87 on January 12, 2009. It is these two wire amounts, plus the six prior EFT sweeps totaling $229,155.81, that APPCO seeks to avoid and recover in this adversary proceeding as preferential transfers.

In moving for summary judgment on APPCO's complaint as amended, TEL states that it is a quasi-governmental corporation, established in 2003 under Tennessee law for the operation of a state lottery, with its tickets being sold in 4,700 business locations across the state. According to TEL, APPCO became an authorized seller of Tennessee lottery tickets in its 24 Tennessee stores on November 19, 2003, when it entered into a retailer contract with TEL, under which the parties continually operated until APPCO's bankruptcy filing. TEL asserts that this retailer contract, the Retailer Rules and Regulations incorporated by the contract, and Tennessee statutory law created an express trust in the proceeds from the sale of lottery tickets as recognized by the Honorable Richard Stair, Jr. in Tennessee Education Lottery Corp. v. Cooper (In re Cooper), 430 B.R. 480, 497–98 (Bankr.E.D.Tenn.2010).

TEL further asserts that these same provisions required APPCO to make daily deposits of proceeds from the sale of lottery tickets into a separate trust account established for the benefit of TEL, and that APPCO in fact set up the requisite trust account at Branch Banking & Trust (“BB & T”), account no. 930, under the name of “Appalachian Oil Company Inc. in trust for the TN Education Lottery Corporation.” TEL concedes, however, that APPCO failed to make the required daily deposits into the established trust account. Rather, APPCO's practice, unbeknownst to TEL, was to make nightly deposits of all revenues from each store, including its lottery ticket proceeds, into a local APPCO bank account, or with respect to some stores, into one of APPCO's bank accounts at BB & T other than the trust account. Then every day or every other day, deposits from these local accounts were swept into APPCO's master account at BB & T, account no. 957. From this master account, APPCO regularly paid its vendors and creditors. When TEL would present its weekly EFT draft to APPCO's trust account for payment of the lottery invoice due that week, funds from APPCO's master account were automatically transferred to the trust account, if there were sufficient funds in the master account to cover the draft. In other words, no funds were maintained in the trust account. Instead, the trust account kept a zero balance until a draft was made on the account, with funds flowing into the account in an amount necessary to satisfy the draft. Moreover, the evidence indicates that APPCO not only used the Tennessee Lottery trust account for its electronic payments to TEL, but also to make required payments to the Kentucky and Virginia state lotteries. Consequently, all three state lotteries would perform weekly EFT sweeps of the Tennessee Lottery trust account for payment of their particular invoices, which sweeps triggered automatic transfers from APPCO's master account to the trust account in amounts sufficient to pay the drafts. The first six payments by APPCO to TEL, which APPCO now seeks to recover as preferential, were made in this fashion. However, the last two alleged preferential payments, which APPCO wired to TEL in January 2009 after TEL had sent a demand letter, were not from the trust account or APPCO's master account. Rather, the wired payments were from a third account of APPCO's at BB & T, account no. 353, a business checking account.

TEL argues that notwithstanding APPCO's failure to segregate proceeds from the sale of Tennessee lottery tickets from APPCO's other funds, the proceeds constituted trust funds. TEL further argues that APPCO's transfers to it constituted payment of these trust funds, citing Begier v. Internal Revenue Service, 496 U.S. 53, 110 S.Ct. 2258, 110 L.Ed.2d 46 (1990), for the proposition that a voluntary payment of trust funds establishes the necessary nexus between collected trust funds and payment of those trust funds. TEL maintains that all of the alleged preferential payments by APPCO to TEL were voluntary, including the two wired payments, because APPCO performed the wiring and because wiring is an authorized method of payment under the Tennessee Lottery Rules and Regulations.

In response to these arguments, APPCO does not deny that the parties' retailer contract and applicable provisions of Tennessee law purport to create a trust in proceeds from the sale of lottery tickets. APPCO argues, however, that a trust was not created or, at a minimum, was destroyed because APPCO failed to segregate the ticket sale proceeds. Consequently, maintains APPCO, no fiduciary relationship was ever created, and the parties' relationship was reduced to the ordinary contractual one of debtor and creditor. Alternatively, APPCO argues that even if a trust was created in the proceeds, there is no evidence that the payments made to TEL were traceable to the trust proceeds. In this respect, APPCO seeks to limit Begier to its facts, and relies on the Sixth Circuit Court of Appeals' decision in First Federal of Michigan v. Barrow, 878 F.2d 912 (6th Cir.1989), for the proposition that tracing is required to avoid preferential exposure even in the context of a trust. Lastly, and specifically as to the two wired payments, APPCO notes that prior to those transfers, TEL had terminated APPCO's ability to sell lottery tickets and had retrieved all unsold tickets, actions which according to APPCO terminated any trust relationship that may have previously existed between the parties since a trust cannot exist without a trust res. Alternatively, APPCO argues that the wire transfers were outside of the parties' trust relationship, because they were made from an account other than the trust account.

II.

Rule 56(a) of the Federal Rules of Civil Procedure, applicable in adversary proceedings by virtue of Rule 7056 of the Federal Rules of Bankruptcy Procedure, states in part that “[t]he court shall grant summary judgment if the movant shows that there is no genuine dispute as to any material fact and the movant is entitled to judgment as a matter of law.” When deciding a motion for summary judgment, the court does not weigh the evidence to determine the truth of the matter asserted but simply determines whether a genuine issue for trial exists. Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 249, 106 S.Ct. 2505, 91 L.Ed.2d 202 (1986). The moving party bears the burden of proving that, based upon the record presented to the court, there is no genuine dispute concerning any material facts. Celotex Corp. v. Catrett, 477 U.S. 317, 323, 106 S.Ct. 2548, 91 L.Ed.2d 265 (1986); Owens Corning v. Nat'l Union Fire Ins. Co., 257 F.3d 484, 491 (6th Cir.2001). The burden then shifts to the nonmoving party to come forward with specific facts showing a genuine issue for trial. Merriweather v. Zamora, 569 F.3d 307, 313 (6th Cir.2009). Reliance solely on allegations or denials contained in the pleadings or a “mere scintilla of evidence in support of the...