In re John F. LUBY

• Decision Date: 30 September 2010
• Docket Number: Adversary No. 07-0250.,Bankruptcy No. 06-16050 SR.
• Citation: 438 B.R. 817
• Parties: In re John F. LUBY and Vanessa Luby, Debtors. Panda Herbal International, Inc., AFAB Industrial Services, Inc., SVT, Inc., Carolina Fulfillment, Everett L. Farr, III, and Henry Hadry, Plaintiffs v. John F. Luby and Vanessa Luby, Defendants.
• Court: U.S. Bankruptcy Court — Eastern District of Pennsylvania

438 B.R. 817

In re John F. LUBY and Vanessa Luby, Debtors.Panda Herbal International, Inc., AFAB Industrial Services, Inc., SVT, Inc., Carolina Fulfillment, Everett L. Farr, III, and Henry Hadry, Plaintiffs

v.John F. Luby and Vanessa Luby, Defendants.

Bankruptcy No. 06-16050 SR.

Adversary No. 07-0250.

United States Bankruptcy Court,E.D. Pennsylvania.

Sept. 30, 2010.

COPYRIGHT MATERIAL OMITTED.

COPYRIGHT MATERIAL OMITTED.

COPYRIGHT MATERIAL OMITTED.

COPYRIGHT MATERIAL OMITTED.

COPYRIGHT MATERIAL OMITTED.

COPYRIGHT MATERIAL OMITTED.

Robert Szwajkos, Esquire, Curtin & Heefner, LLP, Morrisville, PA, George Conway, Esquire, Office of the United States Trustee, Philadelphia, PA, for Plaintiff.

John F. Luby, Morrisville, PA, pro se.

Vanessa Luby, Morrisville, PA, pro se.

Opinion

STEPHEN RASLAVICH, Chief Judge.

Introduction

In this adversary proceeding, the Plaintiffs seek two measures of relief: first, that the Debtors be denied their discharge or, alternatively, that the Plaintiffs' claims be excepted from any discharge which the Debtors might be granted. The Debtors oppose both requests and after lengthy, acrimonious pre-trial discovery, a trial was held over four days.

Summary ¹

Based on the factual findings made herein, the Court will enter judgment in favor of the Plaintiffs denying the Lubys a discharge pursuant to Bankruptcy Code § 727(a). Alternatively, the record also supports the Plaintiffs' contention that the following claims be declared non-dischargeable pursuant to Bankruptcy Code § 523(a):

                +-----------------------------------------------------------------------------+
                ¦Claim #¦Holder¦Basis                                ¦Amount Not Dischargeable¦
                +-------+------+-------------------------------------+------------------------¦
                +-------+------+-------------------------------------+------------------------¦
                ¦4      ¦Farr  ¦Converted funds                      ¦$130,074.35             ¦
                +-------+------+-------------------------------------+------------------------¦
                ¦5      ¦Panda ¦Trademark Infringement/              ¦$216,000                ¦
                ¦       ¦      ¦Cybersquatting                       ¦                        ¦
                +-------+------+-------------------------------------+------------------------¦
                ¦6      ¦Farr  ¦Legal Fees                           ¦$ 38,264.36             ¦
                +-------+------+-------------------------------------+------------------------¦
                ¦11     ¦Panda ¦Converted equipment                  ¦$ 71,500                ¦
                +-------+------+-------------------------------------+------------------------¦
                ¦13     ¦Panda ¦Converted equipment                  ¦$ 81,800                ¦
                +-----------------------------------------------------------------------------+
                

Factual Background

The Plaintiffs are two individuals ² and the four business corporations ³ they control. Among their businesses is Plaintiff Panda Herbal International (Panda). Panda is in the business of producing and selling herbal supplements. It has been in existence since 1996. PE I-27. ⁴ Farr is its sole officer. Id. It sells its product online. Testimony of Robert Brodie, 4/15/10, 1:56 p.m. ⁵ Its trademarks are registered. PE I-32-36. It also operates under the fictitious name “Lenex Labs/ Viable Herbal Solutions.” PE I-28. In 1996, the Plaintiffs hired the Lubys to run the herbal business from Pennsylvania. Mr. Luby's expertise was in computers and so he handled the online operations (J.Luby, 4/19/10, 2:16 p.m.); Mrs. Luby would handle phone sales out of their home in Pennsylvania. Brodie, 4/15/10, 1:56 p.m. As an inducement to the Lubys to take the job, Farr offered Mr. Luby an option to purchase the business on specified terms. DE I-24 Option Agreement. As to that option, the record reflects that the Lubys never exercised it and so it lapsed.

Sometime in 2001, after they became dissatisfied with their employment arrangement, the Lubys began the process of converting all aspects of the Panda herbal business. To that end, they concealed the level of business of Panda and diverted sale proceeds to themselves. Farr, 4/16/10, 11:25-12:49; PE I-31, 36, 38. In August 2004 they incorporated Viable Herbal Solutions, Inc., the related Debtor corporation without Farr's knowledge or consent. PE I-37. However, Viable Herbal solutions had already been registered by Farr as a fictitious name in 1999. ⁶ PE I-28. The Lubys thereafter ceased reporting to Panda any herbal products operations and expenses while opening secret bank accounts of their own. Farr, 4/16/10, 12:20-12:47; PE I-46, 47. During this general time period, they continued to use Farr's credit lines (an American Express account) to fund, not Panda's, but their own competing operation. PE I-50, Deposition Testimony of Vanessa Luby, 84-85; V. Luby 5/3/10, 4:18 to 4:21 p.m.

In January 2005, Farr became suspicious when he could not reconcile Panda's high expenses with its sales volume. Farr, 4/16/10, 12:50 p.m. He thus demanded an accounting from the Lubys. Id. In particular, he requested expense documentation to justify what were unusually high expenses charged to Farr's American Express account. Id. The Lubys' response was twofold: first, they ignored the request for information; and second they affirmatively set out to harm Farr and the other Plaintiffs by doing a number of discrete things. First, they stopped payment on a $20,000 check payable to AMEX. Second, they failed to pay what had become a $140,000 balance on the AMEX account thereby leaving Farr to pay that himself. Id.

In June 2005, the Plaintiffs filed suit against the Lubys and Viable in federal district court in Philadelphia. PE I-1 There, they alleged trademark infringement, cybersquatting, and conversion of assets. Id. In December 2006, trial in the trademark litigation case in Philadelphia occurred. The jury found in favor of the Plaintiffs and against the Lubys. PE II-2. Specifically, the Lubys and their company were found liable for trademark violations and cybersquatting. Id. Damages were assessed at $200,000 for trademark infringement. Id. Before judgment could be entered, however, both the Lubys and Viable filed Chapter 7 bankruptcy petitions. ⁷

Plaintiffs' Contentions

The Complaint alleges that the Lubys' prepetition conduct constitutes actual fraud and willful, malicious injury as to them, in particular, and dishonesty, generally, as to the Court, the Trustees and the creditor body. The Court will take up first the latter question; i.e., whether the Lubys are entitled to a discharge generally, before analyzing whether certain debts should be declared non-dischargeable.

Objection to Discharge

Pursuant to § 727(a), an individual debtor will be granted a discharge in bankruptcy unless the debtor has committed one (or more) of the transgressions enumerated in that subsection. The Plaintiffs contend that the Lubys are guilty of several violations. They say that the Debtors concealed property from Farr as well as the Trustee, destroyed financial records, made false statements in their bankruptcy, failed to explain unaccounted-for assets, violated court orders, and committed misconduct in this as well as their related corporate case.

Considerations Regarding Discharge and its Denial

Courts have generally recognized that denial of a debtor's discharge is a harsh sanction. See In re Gioioso, 979 F.2d 956, 962 (3d Cir.1992). Accordingly, “[c]onsistent with the ‘fresh start’ policy underlying the Code, these exceptions to discharge should be construed strictly against the creditor and liberally in favor of the debtor.” Matter of Juzwiak, 89 F.3d 424, 427 (7th Cir.1996); Rosen v. Bezner, 996 F.2d 1527, 1531 (3d Cir.1993) (“Completely denying a debtor his discharge, as opposed to avoiding a transfer or declining to discharge an individual debt pursuant to § 523, is an extreme step and should not be taken lightly.”) The elements must be shown by a preponderance of the evidence by the party opposing discharge. In re Zimmerman, 320 B.R. 800, 806 (Bankr.M.D.Pa.2005); In re Jacobs, 381 B.R. 147, 159 (Bankr.E.D.Pa.2008)

Nevertheless, courts have also acknowledged that, “a discharge in bankruptcy is a privilege, not a right, and should only inure to the benefit of the honest debtor.” E.g., Matter of Juzwiak, 89 F.3d at 427. Thus, where a debtor has been dishonest in his dealings with the court or his creditors, it may be appropriate to deny his discharge, notwithstanding that an underlying goal of federal bankruptcy law is to provide a debtor with a fresh start. “While the law favors discharges in bankruptcy, it will not ordinarily tolerate the [debtor's] intentional departure from honest business practices where there is a reasonable likelihood of prejudice.” Kentile Floors, Inc. v. Winham, 440 F.2d 1128, 1131 (9th Cir.1971).

Relevance of the Viable Case

It is dishonest business practices which make up many of the allegations of objectionable conduct on the Lubys' part. The Lubys' transgressions, Plaintiffs allege, occurred not only in their own case, but in the Viable bankruptcy as well. This is important because a denial of discharge is not limited to what a debtor may have done in his or her own bankruptcy case. Indeed, § 727 will also deny a discharge to the debtor who has

committed any act specified in paragraph (2), (3), (4), (5), or (6) of this subsection, on or within one year before the date of filing of the petition, or during the case, in connection with another case, under this title ... concerning an insider.

11 U.S.C. § 727(a)(7) (emphasis added). A leading commentator explains the purpose of this provision:

Section 727(a)(7) extends the basis for denial of discharge to the debtor's misconduct in a substantially contemporaneous related bankruptcy case. Thus, if the debtor engages in objectionable conduct in a case involving a relative of the debtor, a partnership in which the debtor is a partner, a general partner of the debtor or a corporation of which the debtor is an...