Heritage Bank v. McCracken (In re McCracken), CASE NO: 17–80084

• Court: United States Bankruptcy Courts. Fifth Circuit. U.S. Bankruptcy Court — Southern District of Texas
• Citation: 586 B.R. 247
• Docket Number: ADVERSARY NO. 17–8009,CASE NO: 17–80084
• Parties: IN RE: James W. MCCRACKEN, et al., Debtor(s) Heritage Bank, Plaintiff(s) v. James W. McCracken, Defendant(s)
• Decision Date: 19 March 2018

586 B.R. 247

IN RE: James W. MCCRACKEN, et al., Debtor(s)

Heritage Bank, Plaintiff(s)
v.
James W. McCracken, Defendant(s)

CASE NO: 17–80084
ADVERSARY NO. 17–8009

United States Bankruptcy Court, S.D. Texas, Galveston Division.

Signed March 19, 2018
Entered March 20, 2018

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Kyle L. Dickson, Murray Lobb PLLC, Houston, TX, for Plaintiff.

William G. Harris, Law Office of William G. Harris, Houston, TX, for Defendant.

MEMORANDUM OPINION

Marvin Isgur, UNITED STATES BANKRUPTCY JUDGE

586 B.R. 250

Heritage Bank filed this adversary proceeding against James W. McCracken to determine the dischargeability of certain debt owed to it by McCracken. Heritage alleges that McCracken's debts to it are nondischargeable pursuant to 11 U.S.C. § 523(a)(2)(B) and, alternatively, 11 U.S.C. § 727(a)(3). Heritage moved for summary judgment on its nondischargeability claims.

Heritage's motion for summary judgment is granted as to his § 523(a)(2)(B) claim. Heritage's motion is denied as to his § 727(a)(3) claim.

Background

McCracken applied for a loan from Heritage in May 2015. (ECF No. 23 at 2). As part of his loan application, McCracken submitted his 2010, 2011, 2012, and 2013 tax returns, as well as a financial statement dated May 5, 2014. (ECF No. 23 at 2). The May 5 financial statement listed McCracken's net worth as $734,000.00, which included $217,000.00 worth of cattle and bulls, and $626,000.00 in total liabilities, which included $160,000.00 in livestock liabilities. (ECF No. 23–2 at 1). Based upon the value of McCracken's cattle, a portion of which he pledged as collateral for the loan, McCracken executed and delivered a promissory note to Heritage in the amount of $100,000.00 on June 12, 2014. (ECF No. 23 at 2). McCracken executed and delivered to Heritage a security agreement securing his repayment of the June 2014 note, granting Heritage a security interest in all of McCracken's cattle, the proceeds of those cattle, and McCracken's entire inventory (including farm products, feed, and supplies). (ECF No. 23 at 2–3; ECF No. 23–4). Heritage perfected its security interest in the collateral through a UCC Financing Statement on June 17, 2014. (ECF No. 23 at 3; ECF No. 23–6). McCracken used the note proceeds to satisfy an existing loan with First State Bank. (ECF No. 23 at 3).

After the satisfaction of McCracken's First State Bank loan, Heritage understood that it held a first lien on all of McCracken's cattle and that his total livestock debt remained at $160,000.00. (ECF No. 23 at 3; ECF No. 23–30 at 2). However, unbeknownst to Heritage prior to the June 2014 note, McCracken owed Prosperity Bank at least $151,323.16 as of May 2014. (ECF No. 23 at 4; ECF No. 23–23 at 4). This debt was secured by a lien on the cattle covered by Heritage's security agreement. (ECF No. 23 at 3; ECF No. 23–30 at 2. But see ECF No. 28 at 2). Consequently, McCracken apparently understated his total livestock liabilities on his May 5, 2014 financial statement. (ECF No. 23 at 4).

On July 23, 2014, Heritage agreed to increase the amount of the June 2014 note by $10,000.00 in order for McCracken to purchase additional cattle. (ECF No. 23 at 5). McCracken executed and delivered a new note to Heritage in the principal amount of $110,000.00, an updated commercial security agreement covering McCracken's cattle and the proceeds from those cattle, and a business loan agreement. (ECF No. 23 at 5; ECF No. 23–11; ECF No. 23–12; ECF No. 23–13).

On December 31, 2014, Heritage agreed to again increase McCracken's June 2014 note by $20,000.00 in order for McCracken to purchase additional cattle. (ECF No. 23 at 6). McCracken executed and delivered a new note to Heritage in the principal amount of $130,000.00, an updated commercial security agreement covering

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McCracken's cattle and the proceeds from those cattle, and a business loan agreement. (ECF No. 23 at 6; ECF No. 23–14; ECF No. 23–15; ECF No. 23–16).

On or about February 15, 2015, McCracken submitted a financial statement to Heritage representing his net worth to be $884,600.00, the value of his cattle to be $272,000.00, and his total liabilities to be $515,000.00 (including a cattle loan of $160,000.00). (ECF No. 23 at 6; ECF No. 23–17). Heritage alleges that this financial statement was inaccurate because it failed to list a liability to Prosperity Bank of at least $178,123.61 secured by McCracken's cattle. (ECF No. 23 at 6–7; ECF No. 23–8 at 5).

In April 2016, Heritage learned of McCracken's debt to Prosperity Bank and the related lien on McCracken's cattle. (ECF No. 23 at 7; ECF No. 23–30 at 3). Heritage determined Prosperity Bank's lien on the cattle to be superior to its own lien. (ECF No. 23 at 7; ECF No. 23–30 at 3). Consequently, Heritage agreed to loan McCracken funds to satisfy his debt to Prosperity Bank in order to secure a first lien position for Heritage on all of McCracken's cattle. (ECF No. 23 at 7; ECF No. 23–30 at 3). Heritage consented to this transaction because the cattle's value, as listed within McCracken's financial statements, was sufficient to cover the debt owed to it by McCracken in addition to the amount required to satisfy Prosperity Bank's first lien. (ECF No. 23 at 7). Heritage asserts that it would not have extended any additional credit to McCracken but for this perceived value of the cattle. (ECF No. 23 at 9). McCracken completed this transaction by executing and delivering a revised note to Heritage in the principal amount of $250,000.00, an updated commercial security agreement covering McCracken's cattle and the proceeds from those cattle, and a business loan agreement on or about June 30, 2016. (ECF No. 23 at 7; ECF No. 23–19; ECF No. 23–20; ECF No. 23–21). Heritage perfected this security interest through a UCC Financing Statement on September 1, 2016. (ECF No. 23–22).

Prior to the June 2016 note's approval, McCracken provided Heritage with an updated financial statement dated May 6, 2016. (ECF No. 23 at 8; ECF No. 23–23). Heritage alleges that this statement was inaccurate because it failed to include amounts owed to Prosperity Bank before their satisfaction. (ECF No. 23 at 8). McCracken also provided Heritage with a copy of his 2015 tax return, which listed the value of his cattle purchased and owned as $357,327.00. (ECF No. 23 at 8; ECF No. 23–25 at 3).

On or about August 30, 2016, McCracken met with a Heritage representative and confirmed that he owned 129 head of cattle as of that date; Heritage subsequently funded the June 2016 note on August 31, 2016. (ECF No. 23–30 at 3). However, on or about February 22, 2017, McCracken advised Heritage that he was unable to pay his debts and was selling his home. (ECF No. 23–30 at 3). Heritage subsequently discovered that McCracken sold most of the cattle securing his debt to Heritage in June 2015 without notice to Heritage. (ECF No. 23–30 at 4; ECF No. 23–31 at 1). The sold cattle remained in the pastures where they were located prior to their sale. (ECF No. 23–31 at 2). McCracken's 2015 tax return—submitted to Heritage and listing the value of his cattle—failed to reflect this sale. (ECF No. 23 at 10; ECF No. 23–24). Because of these factors, Heritage alleges that it could not have known of McCracken's sale of the cattle. (ECF No. 23 at 10).

McCracken refutes Heritage's claim that it did not know of the June 2015 sale, asserting that he remitted the proceeds of

586 B.R. 252

the sale—$40,000.00—to Heritage, which was reflected on Heritage's history of the June 2014 note as a $40,000.00 "Payment–Extra to Principal" payment made on June 11, 2015. (ECF No. 23–7 at 1; ECF No. 28–1 at 2).

Upon learning of McCracken's undisclosed sale of his cattle, Heritage declared the June 2016 note to be in default and began to foreclose on the cattle securing its lien. (ECF No. 23 at 11). On February 28, 2017, Heritage filed its original petition and request for injunctive relief in state court (Cause No. 90596–CV) seeking the June 2016 note's balance, a judicial foreclosure of its security interest in the collateral securing the loan, injunctive relief, and a writ for sequestration of certain collateral. (ECF No. 23 at 11).

McCracken and his wife Suzanne McCracken filed for chapter 13 bankruptcy on March 24, 2017. (Case No. 17–80084, ECF No. 1). The McCrackens' bankruptcy Schedule A/B lists that the couple owned only 18 heads of cattle valued at $36,000.00 as of the petition date. (Case No. 17–80084, ECF No. 1 at 16).

On April 28, 2017, Heritage recovered and sold McCracken's 18 remaining cattle. (ECF No. 23 at 11).

On May 19, 2017, McCracken filed a Statement of Financial Affairs in which he claims that he "moved over 100 cattle to Cameron/Maysfield area to avoid the flood. Cattle remained in that area for a number of months. Cattle had not been branded prior to the flood. Over 85 cattle are unaccounted for." (Case No. 17–80084, ECF No. 48 at 5). McCracken asserts that this loss of cattle resulted in $190,000.00 of lost property value. (Case No. 17–80084, ECF No. 48 at 5). Heritage contests McCracken's claim of lost cattle. (ECF No. 23 at 11). Instead, Heritage alleges that McCracken could have owned no more...