In re Barbato

• Decision Date: 18 June 1968
• Docket Number: No. 16457.,16457.
• Citation: 398 F.2d 572
• Parties: In the Matter of Albert M. BARBATO, Bankrupt, Royal Indemnity Company, a Corporation of the State of New York, a creditor, Appellant.
• Court: U.S. Court of Appeals — Third Circuit

398 F.2d 572 (1968)

In the Matter of Albert M. BARBATO, Bankrupt,

Royal Indemnity Company, a Corporation of the State of New York, a creditor, Appellant.

No. 16457.

United States Court of Appeals Third Circuit.

Argued September 28, 1967.

Reargued April 16, 1968.

Decided June 18, 1968.

James E. Masterson, Kleinberg, Moroney & Masterson, Newark, N. J. (Stickel, Kain & Stickel, Newark, N. J., on the brief), for appellant, Royal Indemnity Co. Joseph M. Keegan, Passaic, N. J., for Albert M. Barbato.

Herman Osofsky, Passaic, N. J., for appellee.

Before HASTIE, Chief Judge, and McLAUGHLIN, KALODNER, FORMAN, FREEDMAN, SEITZ and VAN DUSEN, Circuit Judges.

HASTIE, Chief Judge.

This appeal has been taken from an order dismissing a creditor's objections to the discharge of a bankrupt general contractor. It was and is the contention of the creditor, a bonding company which had provided performance and payment bonds covering construction projects undertaken by the bankrupt, that the contractor forfeited his right to a discharge by inducing the bonding company to become his surety through "a materially false statement in writing respecting his financial condition." Within the meaning of section 14c(3) of the Bankruptcy Act, 11 U.S.C. § 32(c) (3).

A divided panel of this court affirmed the order granting a discharge and a rehearing before the court en banc has now been granted.

The members of the original panel and all of us now are agreed that in order to obtain performance and payment bonds the bankrupt gave the appellant a financial statement in which he greatly understated the amount of his outstanding obligations. We also agree that under section 14c of the Bankruptcy Act a discharge must be withheld if this materially inaccurate financial statement was made, as we said in an earlier case, "carelessly and with reckless indifference" to the actual facts. In re Finn, 3d Cir. 1941, 119 F.2d 656, 658. Accord, Morimura, Arai & Co. v. Taback, 1929, 279 U.S. 24, 49 S.Ct. 212, 73 L.Ed. 586; Woolen Corp. of America v. Gitnig, 3d Cir. 1929, 33 F.2d 259; In re Barbiere, E.D.Pa.1951, 97 F.Supp. 86, aff'd per curiam, 3d Cir. 1951, 192 F.2d 1018.

A majority of the original panel reasoned that the referee and the district court had found sub silentio and with justification in the record that the contractor's false statement of his outstanding obligations had not been made with reckless indifference to the actual facts. However, a majority of the full court now concludes that the referee and the district court neither addressed themselves nor adverted to this critical issue and that the present record, though containing indicia of blameworthy indifference of the contractor to the actual amount of his outstanding obligations, shows such slight exploration of the relevant circumstances that the case must be returned to the referee for a further hearing and explicit findings and decision upon this aspect of the bankrupt's conduct.

Before the referee, the bankrupt sought to exculpate himself by introducing testimony indicating that he did not concern himself with office work but merely sent an accountant to his office employees who supplied the data from which the accountant prepared the understatement of outstanding obligations. Apparently, the contractor's employees gave the accountant only a list of bills received and unpaid, ignoring all other outstanding obligations not evidenced in this way.

It also appears in the testimony of the accountant that, after preparing the financial statement, he did not forward it to the bonding company. Rather, he "gave it to Mr. Barbato, it was up to him, he did what he wanted with it."

In these circumstances, inquiry is appropriate whether the omitted obligations were of such nature and extent and whether the contractor's attention to the entire matter was so minimal as to show that he was recklessly indifferent to the correctness of the statement.

It is also to be considered that a few months after submitting the false financial statement the contractor, with the aid of a new accountant, obtained for income tax purposes an accurate statement of his obligations which disclosed that the earlier statement of his outstanding obligations to the bonding company was grossly in error. The procedure on that occasion was quite different from that which resulted in the understatement to the bonding company. In the words of the new accountant: "So he then sat down with me and he pulled out contracts, I worked with Mr. Barbato. He sat down with me on each individual contract."

It does not appear precisely when this accurate accounting was completed or when the contractor filed his income tax return reflecting it. However, in April and in June he obtained additional bonds, apparently upon the earlier inaccurate financial statement. The referee should determine whether he obtained any of these bonds after the complete accounting had disclosed to him the serious error in his earlier financial statement to the bonding company.

Other questions and other evidentiary matters may well be significant. These set out above are merely indicative of the need for a full exploration of whatever occurrences may be relevant to determination of the ultimate issue.

Finally, as the majority opinion of the panel on first hearing points out, once it is established that a bankrupt has benefited from his issuance of a materially false written statement respecting his financial condition, the burden is then on him to show by way of excuse that his conduct was not attended by a blameworthy attitude or state of mind. In this case, the burden is on the bankrupt to establish that he was not recklessly indifferent to the actual facts in issuing his false financial statement.

The judgment will be reversed and the cause remanded for further proceedings consistent with this opinion.

GERALD McLAUGHLIN, Circuit Judge (dissenting).

Appellee, Albert M. Barbato, was a general contractor who, immediately preceding his bankruptcy, was engaged in federal construction projects which necessitated his obtaining performance and payment bonds. He applied to appellant, Royal Indemnity Company, to act as surety on these bonds and in this connection appellant requested semi-annual financial statements. In January, 1964, Erich Stier, accountant for the bankrupt, prepared a financial statement as of December 31, 1963 based on the financial records of the bankrupt which were kept on a cash basis. The statement showed the accounts payable at $92,000.90 and the net worth at $162,685.64. The statement was given to Barbato who in turn forwarded it to appellant. Royal Indemnity asserts that it relied on the statement and so subsequently became obligated on at least three bonds.

Sometime after January 1, 1964, the bankrupt became concerned about his income tax liability for 1963 and contacted Vincent B. Comperatore, an accountant specializing in tax matters. Mr. Comperatore decided to put the bankrupt's books on an accrual basis in order to decrease his tax liability. The books as set up by Comperatore showed payables as of January 1, 1964 at $354,889.75, thereby eliminating the net worth indicated on the earlier statement.

Mr. Stier, the accountant who put together the first statement, testified that cash basis books do not show accounts payable. In obtaining this information the procedure he followed was to have the bankrupt's bookkeeper furnish a list of the unpaid bills. In preparing his statement he, therefore, relied on outstanding invoices he received from a girl in Barbato's office.

Explaining the difference between the statement prepared by Mr. Stier and the statement based on the accrual system, Mr. Comperatore stated:

"I reviewed the books myself, I purged the books. And one of the things that became very apparent to me at the time was that the books were prepared on a cash basis.

"And under the use of this basis, definitely, unqualifiedly you are unable to arrive at the true profit and loss or the asset and liability condition at any particular time under this basis, and it is particularly true in the construction business, it is impossible."

He further testified:

"This will answer one of the mysteries involved here, why the books and records show a different amount than the December 31, 1963 statements.

"The December 1963 statements tie in with the books and records that Mr. Stier prepared as December 31, 1963. However, the opening entries of January 1, 1964 prepared in a true accrual method, not a hybrid method, this is a hybrid method Mr. Stier was using in the sense to recapture some of the liabilities from here and there, I went through all the accounts to arrive at all the liabilities, et cetera, and I arrived at this, and this became my ending balance on the Federal income tax return.

"And I used those figures in opening Mr. Barbato\'s books for the year 1964.

"And this is the mystery that explains the difference between the opening figures of Mr. Barbato\'s books in 1964 versus the statement."

The difference was substantially resolved by the variation between the two accounting methods employed, and the fact that Mr. Comperatore himself examined each outstanding contract which obligated Barbato in order to determine what the bankrupt would have to pay out in the coming months. Additionally, Mr. Comperatore began his accounting in March, 1964, two months after the December 31st statement had been completed, and, therefore, as he testified, had the advantage of seeing invoices which the bankrupt had received in the interim.

Appellate review of a referee's determination to grant or withhold a discharge is sharply restricted. The applicable standard allows an appellate court to reverse the referee only where his decision is clearly erroneous. Kansas Federal Credit Union v. Niemeier, 227 F.2d 287 (10 Cir. 1955); Yates v. Boteler, 163 F. 2d 953, 955 (9 Cir. 1947); Schapiro v. Tweedie Foot Wear Corp., 131 F.2d 876, 877 (3 Cir. ...