Fed. Trade Comm'n v. Lake (In re Lake)
| Decision Date | 22 February 2022 |
| Docket Number | Adv 8:18-ap-01035-MW,8:17-bk-14478-MW |
| Court | U.S. Bankruptcy Court — Central District of California |
| Parties | In re: Dennis Edward Lake Debtor(s) v. Dennis Edward Lake Defendant(s) Federal Trade Commission Plaintiff(s) |
Michael P. Mora and Stacy R. Procter, for the Federal Trade Commission, Plaintiff
Dennis Edward Lake, self-represented, Defendant
This matter comes before the Court on the motion (the "Motion") of debtor-defendant Dennis Edward Lake ("Mr. Lake") to dismiss the Amended Complaint for Dischargeability of Debt, Docket No. 9, filed March 30, 2018 (the "Amended Complaint") by plaintiff Federal Trade Commission (the "FTC"). Mr. Lake, who is self-represented in this matter, does not specifically cite or refer to Federal Rule of Bankruptcy Procedure 7012(b), but his Motion is essentially based upon the argument that the FTC has failed to state a claim upon which relief can be granted. The FTC opposes the Motion and has filed its own cross-motion for partial summary judgment.
A detailed discussion of this adversary proceeding's factual background can be found in this Court's decision in Federal Trade Commission v. Lake (In re Lake) 628 B.R. 664 (Bankr. C.D. Cal. 2021) ("FTC v. Lake I"). The Court briefly summarizes the facts below.
Mr Lake obtained clients by contracting with other businesses whose customers were distressed homeowners and who referred those homeowners to Mr. Lake for advocacy services. Mr. Lake's role and task was to work with banks on the so-called "back end" to help homeowners obtain loan modifications. The FTC, believing that Mr. Lake and the businesses with whom he was working were violating FTC regulations, brought suit against Mr. Lake (the "District Court Action") in the United States District Court for the Central District of California (the "District Court"). The FTC alleged in the District Court Action that Mr. Lake had violated the MARS Substantial Assistance Rule and the TSR Substantial Assistance Rule. The District Court agreed with the FTC and granted judgment in favor of the FTC and against Mr. Lake in the amount of $2, 349, 885.00 (after amendment) (the "FTC Judgment"). Federal Trade Commission v. Lake, 181 F.Supp.3d 692 (C.D. Cal. 2016).
Mr. Lake filed a voluntary chapter 7 petition on November 13, 2017, seeking, among other things, a discharge of the FTC Judgment. The FTC commenced this adversary proceeding by filing a complaint against Mr. Lake on February 9, 2018, and then filing the Amended Complaint about seven weeks later. The gravamen of the Amended Complaint is to be found in numbered paragraphs 67 and 83 thereof, wherein the FTC alleges that the FTC Judgment "is a debt for money, property, or services obtained by false pretenses, false representations or actual fraud, and is excepted from discharge pursuant to 11 U.S.C. § 523(a)(2)(A)." Count One (culminating in paragraph 67) alleges that the FTC Judgment is based upon violations of MARS Assistance Rule and Count Two (culminating in paragraph 83) alleges that the FTC Judgment is based upon the TSR Substantial Assistance Rule.
11 U.S.C. § 523(a)(2)(A) provides in relevant part that "[a] discharge under section 727 . . . of this title does not discharge an individual from any debt . . . for money, property, services . . . to the extent obtained by . false pretenses, a false representation, or actual fraud . . ."
11 U.S.C. § 101(12) defines the term "debt" as "liability on a claim." 11 U.S.C. § 101(5)(A) defines the term "claim" in relevant part as "[a] right to payment, whether or not such right is reduced to judgment . . ."
Here, there can be no doubt that the FTC has a "right to payment" in respect of the FTC Judgment and that Mr. Lake's obligation to pay the FTC Judgment is a "liability on a claim" and therefore a "debt" as defined in 11 U.S.C. §101(12) and § 523(a)(2)(A). Is it the case, however, that the FTC Judgment is a debt "for" money, property, services . . . to the extent obtained by false pretenses, a false representation, or actual fraud?
The Amended Complaint does not allege that Mr. Lake obtained money from the FTC by false pretenses, a false representation or actual fraud. Instead, the FTC alleges that Mr. Lake obtained money from other people by false pretenses, a false representation or actual fraud. However, it is not these other people (whom Mr. Lake is alleged to have defrauded) who hold the FTC Judgment, it is the FTC itself who holds the FTC Judgment.
Under these circumstances, proper analysis of section 523(a)(2)(A) requires the Court to determine whether the FTC Judgment is a debt for money, property or services obtained by false pretenses, a false representation or actual fraud.
Probably the best interpretation of the meaning of the word "for" as it is used in section 523(a)(2)(A) is "because of" or "on account of." Sherman v. Securities Exchange Commission (In re Sherman), 658 F.3d 1009, 1012-13 (9th Cir. 2011) (); Richardson v. Hidy Honda, Inc. (In re Richardson), 221 B.R. 956, 960 (D. Wy. 1998) (). Each of these interpretations brings into play the concept of causality. In other words, did activities by Mr. Lake allegedly in the nature of false pretenses, a false representation or actual fraud cause the FTC Judgment?
The following hypothetical is of some aid and assistance in analyzing this issue. Assume that A files a complaint against B in state court, alleging breach of contract and actual fraud. The parties agree to a settlement in which B denies any liability for either breach of contract or fraud, but agrees to pay A $50, 000. One year later, B files a voluntary chapter 7 petition and seeks a discharge of his debt to A. A files an adversary complaint, alleging that B's debt is excepted from discharge because B obtained money from A through false pretenses, a false representation and actual fraud.
In this situation, there was no judicial determination - or any other kind of determination - as to the cause of B's liability to A. Therefore, it would be proper to permit A to litigate the issue of "what caused the debt to arise?" in bankruptcy court and to attempt to prove that B's debt to A arose because B obtained money from A through false pretenses, a false representation or actual fraud. Cf. Archer v. Warner, 538 U.S. 314, 317 (2003) ().
The FTC's position in this adversary proceeding is utterly unlike that of A in the preceding hypothetical. Here, there is a judicial determination of the cause of Mr. Lake's debt to the FTC: the FTC has a right to payment from Mr. Lake because the District Court determined in the District Court Action that Mr. Lake violated the FTC's MARS Substantial Assistance Rule and the TSR Substantial Assistance Rule. The FTC has endeavored in this adversary proceeding to use issue preclusion to show that Mr. Lake's activities as found by the District Court in the District Court Action prove up a case that Mr. Lake obtained money by false pretenses, a false representation or actual fraud within the meaning of 11 U.S.C. § 523(a)(2)(A). But even if the FTC is able to do this, it would not change the fact that the FTC Judgment is a debt "for" violating FTC regulations, not a debt "for" obtaining money by false pretenses, a false representation or actual fraud. The FTC Judgment could be shown to be a debt "for" false pretenses, a false representation or actual fraud only through a kind of false historical revisionism in which the District Court is assumed to have decided something (that Mr. Lake obtained money by committing actual fraud, for example) that the District Court never in fact decided.
It is certainly not the case that the elements required to be proven up to show a violation of the FTC regulations here at issue (i.e., the MARS Substantial Assistance Rule and the TSR Substantial Assistance Rule) are the same elements required to be proven up to show that Mr. Lake obtained money by false pretenses, a false representation or actual fraud. A person can violate the FTC regulations at issue here without obtaining money by false pretenses, a false representation or actual fraud. It is equally true that a person can obtain money by false pretenses, a false representation or actual fraud without violating the FTC's regulations.
To prove up a violation of the MARS Substantial Assistance Rule the FTC must show (1) an underlying violation of the MARS Rule by a MARS provider; (2) substantial assistance or support by a person to that provider; and (3) knowledge or conscious avoidance, on the part of the person, of the underlying violation. Proof of the first element, in turn, requires proof that (a) a service provider received an advance fee, (b) such person made material misrepresentations to their clients in violation of 12 C.F.R. § 1015.3, and (c) such person failed to...
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