Donell v. Kowell

• Decision Date: 01 July 2008
• Docket Number: No. 06-55544.,06-55544.
• Parties: James H. DONELL, Receiver for J.T. Wallenbrock & Associates and Citadel Capital Management Group, Inc., Plaintiff-Appellee, v. Robert KOWELL, Defendant-Appellant.
• Court: U.S. Court of Appeals — Ninth Circuit

533 F.3d 762

James H. DONELL, Receiver for J.T. Wallenbrock & Associates and Citadel Capital Management Group, Inc., Plaintiff-Appellee, v. Robert KOWELL, Defendant-Appellant.

No. 06-55544.

United States Court of Appeals, Ninth Circuit.

Argued and Submitted December 6, 2007.

Filed July 1, 2008.

Richard D. Ackerman, Temecula, CA, for the defendant-appellant.

Peter A. Davidson, Los Angeles, CA, for the plaintiff-appellee.

Appeal from the United States District Court for the Central District of California; Edward Rafeedie, District Judge, Presiding. D.C. No. CV-04-09702-ER.

Before: PASCO M. BOWMAN,^* MELVIN BRUNETTI, and JAY S. BYBEE, Circuit Judges.

BYBEE, Circuit Judge:

Robert Kowell found an investment opportunity that sounded too good to be true. In Kowell's case, it wasn't. J.T. Wallenbrock & Associates ("Wallenbrock") promised Kowell a 20 percent return on his investment every ninety days, risk free, and that is nearly what he got. Because he received regular interest payments from Wallenbrock, Kowell was quite surprised to learn later that an SEC investigation had revealed the business to be a Ponzi scheme in which thousands of investors had been defrauded. Several years after Kowell first invested, and long after he had spent his returns, he was informed by the receiver for Wallenbrock that California law requires him to pay back all of his gains. Kowell challenges a judgment requiring him, as an innocent investor, to disgorge his profits as fraudulent transfers under the Uniform Fraudulent Transfer Act. He also asks this court to permit him to offset any liability by amounts paid in federal income taxes on his earnings. The district court found that Kowell was liable to repay $26,396.10, plus pre-judgment interest of $5,159.22. We affirm.

I

A

The Uniform Fraudulent Transfer Act ("UFTA") as adopted by California states in relevant part:

(a) A transfer made or obligation incurred by a debtor is fraudulent as to a creditor, whether the creditor's claim arose before or after the transfer was made or the obligation was incurred, if the debtor made the transfer or incurred the obligation as follows:

(1) With actual intent to hinder, delay, or defraud any creditor of the debtor.

(2) Without receiving a reasonably equivalent value in exchange for the transfer or obligation, and the debtor either:

(A) Was engaged or was about to engage in a business or a transaction for which the remaining assets of the debtor were unreasonably small in relation to the business or transaction.

(B) Intended to incur, or believed or reasonably should have believed that he or she would incur, debts beyond his or her ability to pay as they became due.

CAL. CIV. CODE § 3439.04(a).¹

Courts have routinely applied UFTA to allow receivers or trustees in bankruptcy to recover monies lost by Ponzi-scheme investors.² See, e.g., In re Agric. Research & Tech. Group, 916 F.2d 528, 534 (9th Cir.1990) ("Agritech"); Scholes v. Lehmann, 56 F.3d 750, 755 (7th Cir.1995). The Ponzi scheme operator is the "debtor," and each investor is a "creditor." See Scholes, 56 F.3d at 755 (explaining that defrauded Ponzi scheme investors are actually tort creditors). The profiting investors are the recipients of the Ponzi scheme operator's fraudulent transfer.

B

Robert Kowell and his mother Edna were two of the thousands of investors in a Ponzi scheme operated by Wallenbrock. See SEC v. J.T. Wallenbrock, 313 F.3d 532 (9th Cir.2002) (detailing the scheme). Wallenbrock promised investors a 20 percent return in ninety days, by using their money to provide working capital to Malaysian latex glove manufacturers. Id. at 535-36. Ordinarily, Wallenbrock claimed, these manufacturers had to wait eighty to ninety days after shipment to collect payments from buyers. Wallenbrock would purchase these manufacturers' accounts receivables at a significant discount, providing the glove manufacturers with immediate access to working capital. Wallenbrock investors, in turn, would enjoy a 20 percent return when Wallenbrock collected the receivables from glove purchasers in due time. Id. In reality, the officers of Wallenbrock took the investors' money and used some of it to pay off earlier investors some to pay for personal expenses, and some to invest in risky start-up companies.

In January of 2002, the Securities and Exchange Commission ("SEC") brought a civil enforcement action against Wallenbrock, alleging that it was engaged in a fraudulent scheme to sell unregistered securities. Id. at 535. Notwithstanding Wallenbrock's characterization of the fraudulent investment instruments as "notes" (and therefore not "securities" within the meaning of the Securities Act), we held that the investment instruments were, for purposes of the SEC's enforcement action, "securities." Id. at 537. Wallenbrock was later placed in receivership and appellee James H. Donell ("the Receiver") was appointed receiver.

On August 24, 2004, Kowell and his mother received a letter from Donell. The letter informed Kowell that Wallenbrock had been declared a Ponzi scheme, and that Donell had been authorized by a federal court to recover "profits" paid to investors. The letter stated that of approximately 6,000 investors, only 800 had received payments in excess of their principal investment. The letter claimed that Kowell had invested "the sum of $.00," and had received back payments totaling $69,546.70. Thus, Kowell had allegedly received a "profit" of $69,546.70. The letter encouraged Kowell "[t]o take advantage of this one-time offer to settle with the Receivership estate for 90% of the profit you received" by mailing a check in the amount of $62,592.03 (calculated as 90 percent of $69,546.70). The letter also required Kowell to execute an enclosed Settlement Agreement. It stated in bold letters that "it is imperative that I hear from you within 20 days from the date of this letter," or else "I will proceed accordingly."

Kowell replied by letter on August 31, 2004. Kowell stated that he had no idea Wallenbrock was a Ponzi scheme, and was in fact dubious that this was the case. Kowell expressed confusion as to how he could be liable to other investors if he had no idea Wallenbrock was a fraud. Kowell was also confused about the determination that Wallenbrock "notes" were actually securities. Kowell pointed out that Donell's letter claimed that Kowell's initial investment was "0.00," and that this must be error because Kowell had obviously made some non-zero investment in order to be eligible for returns from Wallenbrock. Finally, Kowell's letter stated that the money received in payments had been spent long ago, and if Kowell was required to pay back this amount, close to $70,000, he would have to declare bankruptcy.

Donell responded with a letter on September 22, 2004, which reiterated that Kowell was liable. The letter stated that "[t]he law in this regard goes back years and years," but notably did not cite any legal authority justifying Donell's demands. The letter also threatened:

If you refuse to work out a settlement agreement with us, we will sue you and that will be your only option. It is not what we want for either you or your mother, however.... If you hire an attorney, you may certainly file a motion to bar the Receiver from collecting money from those that profited. Both the Receiver and the SEC would file objections and it would probably take about $20,000.00 in legal fees for you to file such a motion.

Kowell refused to sign the settlement agreement. By a letter dated September 27, 2004, he reiterated his utter disbelief that Wallenbrock was in fact a Ponzi scheme and his outrage that a good-faith investor in a business could be required to return his profits years later.

The Receiver filed a complaint in federal district court on November 30, 2004. The complaint sought to avoid the transfers to Kowell as fraudulent and to recover property transferred under CAL. CIV. CODE §§ 3439.04(a)(1)-(2) and 3439.05. Retreating from his earlier position that Kowell was liable for $69,546.70, the Receiver now claimed he was entitled to recover $50,431.78. On motion for summary judgment, the district court found that there were no disputed issues of fact as to Kowell's liability under § 3439.04, and granted judgment for the Receiver. Applying the statute of limitations, the district court found that the receiver was only entitled to recover $26,396.10, the total of the payments to Kowell within the statutory period, plus pre judgment interest of $5,159.22. The district court made no ruling on whether Kowell would be permitted to offset his liability by the amount paid in taxes on those payments or other expenses. Kowell timely appealed.

II

Although the Receiver only filed suit under a California statute, we have subject matter jurisdiction because this proceeding is ancillary to the SEC enforcement action. Wallenbrock was found liable to its investors and to the SEC under Sections 10(b) and 15(c)(1) of the Securities Exchange Act of 1934 (and related Rules 10b-5 and 15c1-2) and Sections 17(a)(1), (2), and (3) of the Securities Exchange Act of 1933. The district court, using its equity powers, appointed the Receiver to "use reasonable efforts to determine the nature, location, and value of all assets and property" belonging to Wallenbrock, "determine the identity of all investors, amounts invested by investors, and payouts to investors," and "take such action as necessary" to identify, preserve, collect, or liquidate Wallenbrock's assets. The district court authorized the Receiver to "bring such legal actions based on law or equity in any state or federal court as he deems necessary" to carry out his duties.

The federal securities laws create exclusive federal jurisdiction over "all suits in equity and actions at law brought to enforce any liability or duty created by" federal securities laws. 15 U.S.C. §§ 77v(a), 78aa. The federal district court properly authorized the...