In re Foundation for New Era Philanthropy

Decision Date15 October 1996
Docket NumberBankruptcy No. 95-13729F,Adversary No. 96-0828.
PartiesIn re FOUNDATION FOR NEW ERA PHILANTHROPY, Debtor. Arlin M. ADAMS, Trustee for Foundation for New Era Philanthropy, Plaintiff, v. PRUDENTIAL SECURITIES, INC., Defendant and Third-Party Plaintiff, v. John G. BENNETT, Jr., Third-Party Defendant. PRUDENTIAL SECURITIES, INC., Third-Party Plaintiff, v. DARTMOUTH COLLEGE, Princeton University, University of Pennsylvania, Amelior Charitable Fund, Balch Institute, Brandywine YMCA, Chattanooga Christian School, Citivision, Conservative Baptist Foreign Mission Society (CB International), Detroit Institute of Arts, English Language Institute of China, Ephrata Community Hospital Foundation, Focus, Frankford Hospital, Freedom Baptists Schools, Fuller Foundation, Gordon College, Gordon-Conwell Theological Seminary, Heal the World Foundation, J.S. Herr Foundation, Jesus Film Project, The Johnson Foundation, King College, Laity Lodge Foundation, Lan-Chester Christian School, Lancaster Christian School, Leadership Network, Maranantha Endowment Fund, The Mariposa Foundation, Mission Aviation Fellowship, Modglin Family Foundation, National Constitution Center, National Coalition Against Pornography, P.R.O. Missions, Peace Valley Church, Pennsylvania Academy of Fine Arts, Presbyterian Children's Village, Sim, U.S.A., Spring Arbor College, United World Mission, Third-Party Defendants.
CourtUnited States Bankruptcy Courts. Third Circuit. U.S. Bankruptcy Court — Eastern District of Pennsylvania

Kenneth E. Aaron, Stuart M. Brown, Buchanan Ingersoll P.C., Philadelphia, PA.

James J. Rodgers, Dilworth, Paxson, Kalish & Kauffman L.L.P., Philadelphia, PA.

Alan R. Gordon, Michael R. Lastowski, William J. Burnett, Saul, Ewing, Remick & Saul, Philadelphia, PA.

Henry J. Sommer, Eric L. Frank, Miller, Frank & Miller, Philadelphia, PA.

C. Hall Swaim, Thomas N. O'Connor, Hale and Dorr, Boston, MA.

John Francis Gough, W. Jeffrey Garson, Montgomery, McCracken, Walker & Rhoads, Philadelphia, PA.

Morton R. Branzburg, Klehr, Harrison, Harvey, Branzburg & Ellers, Philadelphia, PA.

MEMORANDUM OPINION

BRUCE I. FOX, Bankruptcy Judge.

On June 26, 1996, the chapter 7 trustee, Arlin M. Adams, filed an adversary proceeding against defendant Prudential Securities, Inc. ("PSI"). While the complaint asserts thirty-four claims against PSI, the claims are quite similar for the most part.

The trustee contends that PSI received numerous "fraudulent conveyances" within the provisions of 11 U.S.C. § 548(a)(1) over a period of approximately one year, when it received transfers of funds from the debtor which were treated by PSI as repayment of margin loans made to the debtor. As the basis for these fraudulent conveyance claims, the trustee maintains that by July 25, 1994, PSI knew, should have known, or had a reasonable basis to suspect that the debtor was operating a pyramid scheme and misrepresenting the nature of its commercial relationship with PSI to third parties. The trustee alleges that PSI acted improperly or failed to act properly in order to continue earning "excessive" profits on interest and commissions from its transactions with the debtor.

The trustee seeks the recovery of all sums paid to PSI by the debtor during a certain period as fraudulent. He also asserts in his complaint that PSI received certain preferential transfers that are avoidable. Further, he alleges that the original loan transfers from PSI to the debtor were fraudulent and thus avoidable. As trustee's counsel explained at oral argument, the trustee seeks to achieve a litigation result in this proceeding whereby PSI returns all funds paid to it by the debtor but would not hold any claim for prepetition loans made to the debtor which, due to the trustee's avoidance litigation, go unpaid. Alternatively, the trustee asserts in his complaint that all claims which PSI may hold as a result of unpaid loans should be subordinated to the claims of other creditors.

PSI filed a timely answer to this complaint on July 29, 1996. In its answer, it disputes certain of the trustee's factual assertions and raises numerous defenses to the relief sought. PSI contends that it neither knew nor should it have known of any fraudulent activities of the debtor. Indeed, PSI maintains that it too was duped by the debtor. It denies making "excessive" profits from its transactions with the debtor. Further, it argues that various third parties, not PSI, were the beneficiaries of the debtor's misconduct. Thus, PSI asserts that it simply made loans to the debtor, which were secured by the debtor's property, and which were properly repaid.

Since all loans made by PSI to the debtor were repaid in full, PSI has filed no proof of claim in this chapter 7 bankruptcy. However, on August 8, 1996, in response to the complaint of the trustee, PSI filed two third-party complaints which are the subject of the instant dispute.

The first is directed against John G. Bennett, Jr., who was the founder of the debtor and its former president and chief executive officer. PSI alleges that this third-party defendant made repeated misrepresentations and false statements to PSI's employees in order to hide his operation of a pyramid scheme. PSI contends that, to the extent the trustee succeeds in recovering the payment of loan proceeds made to PSI, PSI relied upon these material misrepresentations made by Mr. Bennett to its detriment. As a result, it asserts:

If the trustee were to recover the loan repayments he seeks to recover from PSI, then Bennett would be liable to PSI because he defrauded PSI into making the loans to New Era.

Third-Party Complaint, ¶ 21.

This third-party complaint also contends that bankruptcy court subject matter jurisdiction exists over PSI's third-party claim against Mr. Bennett both by virtue of 28 U.S.C. § 1334, because the third-party claim "relates" to the New Era bankruptcy case, and by virtue of 28 U.S.C. § 1367 (supplemental jurisdiction) even if the third-party claim is not related to the New Era bankruptcy case. The complaint further states that this third-party proceeding is non-core. ¶ 4. See Fed.R.Bankr.P. 7008(a).1

The second third-party complaint was also filed by PSI on August 8, 1996. This complaint is against thirty-nine entities whom PSI contends received "the proceeds which PSI was defrauded into providing to New Era." Third-Party Complaint, at 2.2 PSI alleges:

If the Trustee were to recover the amounts he seeks to recover from PSI, the proceeds of the margin loans the Debtor defrauded PSI into making would not rightfully belong to the third-party defendants, and the third-party defendants, as recipients of the loan proceeds, would be unjustly enriched at the expense of PSI.
An injustice would result if the recipients of the proceeds of the fraud against PSI were not required to return those proceeds to PSI, and the unjust enrichment realized by the third-party defendants would violate fundamental principles of justice, equity, and good conscience.

Third-Party Complaint, ¶¶ 18, 19. As relief, PSI requests that various third-party defendants be held liable to it for the proceeds of margin loans made by PSI to the debtor which were received by these third-party defendants, but only to the extent that PSI is liable to the trustee to return those loan repayments already received from the debtor.

Again, this third-party complaint asserts that these claims by PSI are non-core claims related to the New Era bankruptcy case and that bankruptcy court subject matter jurisdiction exists by virtue of 28 U.S.C. §§ 1334 and 1367. Third-Party Complaint, ¶ 4.

I.
A.

The chapter 7 trustee has filed a motion seeking to strike the two third-party complaints as violative of Fed.R.Bankr.P. 7014, which incorporates Fed.R.Civ.P. 14. Alternatively, he seeks to sever these two third party actions from the main proceeding. Third-party defendant John G. Bennett was present at the hearing held on this motion, through counsel, and took no position on the trustee's motion. Various other third-party defendants appeared through counsel and generally agreed with the trustee's request, although some prefer that the third-party litigation involving the alleged loan proceed recipients be "stayed" pending the outcome of the main proceeding, as opposed to "severed."

PSI opposes the trustee's motion by arguing that its two third-party complaints are properly filed within the limitations posed by Rule 14. It maintains that the contentions of the trustee and the supporting third-party defendants in seeking to strike its third-party complaints raise issues regarding the validity of the third-party claims, which issues should be considered only in the context of a motion to dismiss under Fed.R.Bankr.P. 7012, and not in the context of a motion to strike. In addition, PSI asserts that all issues regarding trial procedure should be deferred until trial is near; however, PSI also suggests that discovery on the third-party complaints will be directed to facts germane to the trustee's claims against it and so should proceed along with discovery on the trustee's claims.

Before I may determine the trustee's motion, it is essential that I have the power to hear these third-party complaints. Toward that end, I requested that all parties address whether I have subject matter jurisdiction over the third-party complaints. Accord, e.g., Liberty Mut. Ins. Co. v. Ward Trucking Corp., 48 F.3d 742, 750 (3d Cir.1995) (federal courts should raise, even sua sponte, jurisdictional issues); In re Hall's Motor Transit Co., 889 F.2d 520, 522 (3d Cir.1989) (same). They have done so, by way of memoranda and argument.3

PSI and one of the third-party defendants (Presbyterian Childrens Village) maintain that jurisdiction over both third-party complaints exists under 28 U.S.C. § 1334 (although very different reasons are advanced by these two entities). Alternatively, PSI argues that "supplemental jurisdiction" should be exercised under 28 U.S.C. § 1367. The...

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