In re Crabtree

• Decision Date: 12 April 1985
• Docket Number: Bankruptcy No. 3-83-01116,Adv. No. 3-84-0353.
• Citation: 48 BR 528
• Parties: In re David A. CRABTREE, a/k/a West Knoxville Investment Company, Inc., Debtor. D. Broward CRAIG, Trustee, Plaintiff, v. UNION COUNTY BANK, Defendant, James R. Martin, Trustee of the Estate of C.H. Butcher, Jr.; Garrett Enterprises, Inc., Intervenors.
• Court: U.S. Bankruptcy Court — Eastern District of Tennessee

48 B.R. 528 (1985)

In re David A. CRABTREE, a/k/a West Knoxville Investment Company, Inc., Debtor.

D. Broward CRAIG, Trustee, Plaintiff, v. UNION COUNTY BANK, Defendant, James R. Martin, Trustee of the Estate of C.H. Butcher, Jr.; Garrett Enterprises, Inc., Intervenors.

Bankruptcy No. 3-83-01116, Adv. No. 3-84-0353.

United States Bankruptcy Court, E.D. Tennessee.

April 12, 1985.

Cadwalader, Wickersham & Taft, Mark C. Ellenberg, Washington, D.C., Walker & Walker, P.C. John A. Walker, Jr., Knoxville, Tenn., for plaintiff.

Stephen R. Moseley, Donald K. Vowell, Knoxville, Tenn., for defendant Union County Bank.

James R. Moore, Knoxville, Tenn., for intervenor, James R. Martin, Trustee of the estate of C.H. Butcher, Jr.

J. Michael Winchester, Knoxville, Tennessee for intervenor, Garrett Enterprises.

MEMORANDUM

CLIVE W. BARE, Bankruptcy Judge.

At issue is whether the debtor's estate has an interest of consequential value or benefit entitling the trustee to turnover of a debenture and a stock certificate. 11 U.S.C.A. § 542(a) (1979). Denying the estate has any equity in the debenture and stock, Union County Bank (UCB) asserts it has a perfected security interest and that it is entitled to relief from the automatic stay to enforce its interest. 11 U.S.C.A. § 362(d)(2) (Supp.1985). The trustee contends UCB does not have a perfected security interest because it did not take possession of the debenture and stock certificate until six months after the commencement of the debtor's case. Tenn.Code Ann. § 47-9-305 (1979). Also, the trustee maintains the debtor's note held by UCB is usurious and thus unenforceable under Tennessee law. Tenn.Code Ann. § 47-14-117(a) (1984).

I

An involuntary chapter 7 petition was filed against David A. Crabtree (debtor) on July 14, 1983. An order for relief was entered on August 22, 1983. Plaintiff D. Broward Craig is serving as trustee for the debtor's estate.

In 1981, Mississippi Coast Properties, Inc. (MCP) raised several million dollars to purchase a resort hotel. Six million dollars was raised through the sale of $400,000 investment units to fifteen investors. In exchange for $400,000 each investor received from MCP a $350,000 seven-year, subordinated debenture and two hundred and fifty (250) shares of no par value MCP common stock. The debtor, one of the fifteen investors, funded his $400,000 investment through loans of $350,000 and $50,000 from two different banks. Only the $350,000 loan is relevant in this case.¹

Bank of Cumberland (BOC) in Burkesville, Kentucky, made the $350,000 loan to the debtor in exchange for his promissory note. BOC's loan was effected through a debit of its correspondent bank account at, and a deposit to debtor's account with, United American Bank of Knoxville, Tennessee. Debtor's note, dated July 15, 1981, and having a maturity date of July 15, 1983, provides for quarterly interest payments. The stated rate of interest is variable: "Chemical Bank Prime + 1%." The face of the note reflects it is secured by an assignment of the $350,000 debenture and two hundred and fifty (250) shares of MCP common stock. According to its president, James Meredith, BOC received debtor's note, the debenture, and a certificate representing two hundred and fifty (250) shares of MCP stock in a package mailed from Tennessee. The debenture and stock certificate were placed in BOC's security vault on September 29, 1981.

On or about June 23, 1983, BOC transferred without recourse its interest in six notes, including debtor's $350,000 note, to C.H. Butcher, Jr. The notes and BOC's corresponding loan files were delivered to Butcher's representative, Tim Ellis, currently president of UCB. Through a mutual mistake the security for debtor's note (the debenture and MCP stock certificate) was not delivered to Ellis with the note. Thereafter, on an indefinite date but prior to July 14, 1983 (commencement date of debtor's case), Butcher transferred debtor's note to Garrett Enterprises, Inc. (Garrett).² A letter agreement, dated July 27, 1983, provides for assignment by Garrett of debtor's $350,000 note to UCB for the purpose of collection. UCB is entitled to retain twenty-five (25) percent of the proceeds collected on the note or $25,000, whichever is less, plus expenses.³ UCB knew the debtor's note was in default and that an involuntary bankruptcy petition had been filed against him when Ellis, acting on behalf of UCB, accepted Garrett's proposed assignment. On August 9, 1983, Garrett endorsed debtor's note to the order of UCB.

Ellis simply assumed the collateral for debtor's note was in the file when he accepted it on behalf of UCB. He phoned Meredith at BOC in January 1984, after discovering UCB did not have possession of either the debenture or the MCP stock certificate. Ellis informed Meredith that UCB held debtor's $350,000 note and inquired about the whereabouts of the collateral. Meredith discovered that the debenture and stock certificate were still in BOC's security vault. He retrieved the two instruments from the security vault and mailed them to UCB on January 17, 1984.

II

An interpleader action related to MCP is pending in the district court. Each of the fifteen investors, or their assignees or successors in interest, will recover approximately $150,000 upon presentation of his debenture and MCP stock certificate.

On October 17, 1984, UCB filed its motion for relief from the automatic stay. UCB asserts it is a holder in due course of debtor's $350,000 note and that it has a perfected security interest in the debenture and stock certificate, the only security for the note. Since no payment has ever been made against the $350,000 principal indebtedness, UCB contends the debtor's estate clearly has no equity in the debenture and stock certificate.

The trustee opposes the UCB motion for relief from stay. On December 4, 1984, the trustee commenced this adversary proceeding demanding turnover by UCB of the debenture and stock certificate.⁴ The trustee contends these instruments are property of the debtor's estate subject to turnover; UCB obtained the instruments in violation of the automatic stay; and that UCB's purported security interest in the debenture and stock certificate is not only unperfected but void.

James R. Martin, bankruptcy trustee for the C.H. Butcher, Jr. estate, and Garrett Enterprises, Inc. have filed a joint motion seeking either intervention or consolidation with another adversary proceeding.⁵ Their motion to intervene has been granted.

III

Asserting his rights as a lien creditor under Bankruptcy Code § 544(a),⁶ the trustee insists that he is entitled to turnover because no one had a perfected security interest in the debenture and stock when debtor's petition was filed. According to the trustee, any perfected security interest in the debenture and stock terminated on or about June 23, 1983, when BOC assigned debtor's note without recourse to C.H. Butcher, Jr., who failed to take possession of the collateral for the note.

The debenture and stock certificate are "instruments," as defined in Tenn. Code Ann. § 47-9-105(1)(g) (1979).⁷ With the exception of the twenty-one (21) day automatic perfection provisions, a security interest in an instrument (other than instruments which constitute part of chattel paper) can be perfected only through possession. Tenn.Code Ann. § 47-9-304 (1979).

Tenn.Code Ann. § 47-9-305 (1979) recites in material part:

When possession by secured party perfects security interest without filing. —A security interest in letters of credit and advices of credit (subsection (2)(a) of § 47-5-116), goods, instruments, negotiable documents or chattel paper may be perfected by the secured party\'s taking possession of the collateral. If such collateral other than goods covered by a negotiable document is held by a bailee, the secured party is deemed to have possession from the time the bailee receives notification of the secured party\'s interest. A security interest is perfected by possession from the time possession is taken without relation back and continues only so long as possession is retained. . . . (emphasis added)⁸

This provision permits perfection by an original secured lender and makes secondary pledges possible where instruments are in the hands of a bailee. Possession of instruments by a third party coupled with the owner's lack of possession alerts prospective creditors that the ownership rights may be restricted or encumbered. Appeal of Copeland, 531 F.2d 1195 (3d Cir.1976).⁹

UCB contends BOC was a constructive bailee for the benefit of C.H. Butcher, Jr., and subsequent holders (Garrett and UCB) of debtor's note until January 1984, when BOC delivered the debenture and stock certificate to UCB. Conceding the assignment of a secured note likewise effects an assignment of the security interest,¹⁰ nonetheless, the trustee argues BOC could not be a constructive bailee because it was unaware that it continued to possess the debenture and stock certificate. Though ordinarily created by delivery and acceptance pursuant to an agreement, a bailment may result from conduct, though neither foreseen nor contemplated. Campbell v. State, 2 Tenn. Crim.App. 39, 51, 450 S.W.2d 795, 800-801 (1969), cert. denied. A "constructive bailment" arises where a person having possession of a chattel holds it under such circumstances that an obligation to deliver it to another is imposed by law. 8 Am. Jur.2d Bailments § 19 (1980); Black's Law Dictionary 180 (4th ed.1968). Because C.H. Butcher, Jr. was entitled to receive the debenture and stock certificate when he acquired debtor's note, BOC became a constructive, or involuntary, bailee on Butcher's behalf through its unintentional retention of the debenture and stock certificate.¹¹

Assuming arguendo BOC was likewise a bailee for the benefit of Garrett and UCB, UCB does not have a perfected security interest in the debenture and stock certificate vis-a-vis the trustee because BOC did not...