In re Levitan
| Decision Date | 14 February 1985 |
| Docket Number | Adv. No. 883-0742-18.,Bankruptcy No. 883-31431-18 |
| Citation | 46 BR 380 |
| Parties | In re Leonard A. LEVITAN, Debtor. CONGRESS FINANCIAL CORPORATION, Plaintiff, v. Leonard A. LEVITAN, Defendant. |
| Court | U.S. Bankruptcy Court — Eastern District of New York |
COPYRIGHT MATERIAL OMITTED
Morse Geller, Forest Hills, N.Y., for debtor.
Otterbourg, Steindler, Houston & Rosen, P.C., New York City, for Congress Financial Corp.
DECISION & ORDER
On October 24, 1983 Congress Financial Corporation (the "creditor") commenced an adversary proceeding seeking to bar discharge of a $254,000 debt owed to it by Leonard A. Levitan (the "debtor"). The creditor claims that the debt is nondischargeable pursuant to several provisions of 11 U.S.C. § 523 in that the debt arose out of the debtor's 1) fraud or defalcation while acting in a fiduciary capacity (§ 523(a)(4)); 2) embezzlement (§ 523(a)(4)); 3) act of willful and malicious injury upon the creditor or its property (§ 523(a)(6)); 4) false pretenses or false representation (§ 523(a)(2)(A)).
Both parties have submitted memoranda of law and a hearing was held on June 14, 1984.
The debtor was a director and officer (Vice-President and Secretary) of, and a shareholder with a one-third interest in, Halcolite Company, Inc. and Halcolite Imports Corp. (collectively "Halcolite"). In August 1980, Halcolite, experiencing financial difficulty, entered into a financing arrangement with the creditor, a commercial finance corporation. The terms of this arrangement were contained in several documents including an "Accounts Receivable Financing Agreement (Security Agreement)," (hereinafter the "Accounts Receivable Financing Agreement") and a "Security Agreement (Inventory Lien) and (Machinery and Equipment Loan)" (hereinafter the "Inventory Lien Agreement").
Pursuant to the Agreements, the creditor, at its discretion, would lend Halcolite money calculated as a percentage of Halcolite's inventory and accounts receivable. As collateral for these loans Halcolite assigned its current and after acquired inventory, equipment and receivables to the creditor. The proceeds of the collateral were to be remitted to the creditor in kind, i.e., the debtor was to turn over the identical checks, cash, money order, etc., received from its customers. Pursuant to the terms of paragraph 3 of the Accounts Receivable Financing Agreement, Halcolite was to hold until delivery any proceeds it received "as the creditor's property, and as trustee of an express trust for the creditor's benefit." The Inventory Lien Agreement had a similar provision.
The Agreements containing these provisions were signed on behalf of Halcolite by Halcolite's President on August 21, 1980. The debtor and the two other Halcolite principals signed as primary guarantors on this same date.
The parties agree that until early May 1981, the Agreements were substantially but not strictly complied with. The creditor, on occasion, without protest, accepted Halcolite's checks in lieu of the actual proceeds received by Halcolite. Transcript of hearing held on June 14 (the "June 14 Tr.") at 33-4.
The infusion of funds from the creditor did not solve Halcolite's financial problems. In May 1981, Halcolite, in an effort to stop or postpone the collapse of its business, used the proceeds of the creditor's collateral to meet its payroll, and pay for merchandise and other business expenses.
The debtor testified that the decision to use the proceeds was made by the two other principals of Halcolite and that he opposed their decision. June 14 Tr. at 71. There is no evidence other than the debtor's testimony of his opposition. The debtor admits he did nothing to stop his co-principals from proceeding with the diversion.
Both parties agree that all the proceeds diverted from the creditor were used for business purposes. There is no evidence that the Halcolite principals acted in other than the corporation's interest.
On May 14, 1981 Halcolite and the creditor met to discuss Halcolite's financial difficulties and Halcolite's request for additional funding. The principals of Halcolite, and Halcolite's attorney, were present at this meeting. The creditor advised Halcolite that it believed Halcolite's financial future too precarious to justify additional financing.
At this meeting the creditor asked Halcolite why it had not received remittances for several days and demanded an accounting. Id. at 22. Halcolite's attorney admitted that Halcolite's principals had withheld proceeds of approximately $67,000. The principals agreed to meet with representatives of the creditor the following day at which time the debtor, on behalf of Halcolite, would deliver the withheld funds.
The following day, representatives of the creditor met with the debtor to accept delivery of the funds. At this meeting, the debtor gave the creditor a Halcolite check for $30,000 as part payment for the approximately $67,000 Halcolite had diverted. June 14 Tr. at 20-26.
Shortly after this meeting, on May 26, Halcolite closed its doors and surrendered its collateral to the creditor. An auction was held on June 25. The proceeds from this sale were insufficient to satisfy Halcolite's debt to the creditor and the creditor is still owed approximately $254,000.
On July 27, 1983 the debtor filed for individual bankruptcy relief under Chapter 7 of the Bankruptcy Reform Act (the "Code"). He scheduled the Halcolite debt he had guaranteed to the creditor. It is this debt the creditor seeks to except from discharge.
Pursuant to 11 U.S.C. § 727 a debtor who files for relief under Chapter 7 of the Code is discharged from most debts he incurred before filing for relief. The discharge of these debts is intended to facilitate a primary bankruptcy purpose: to give the honest debtor a fresh start. As the Supreme Court has said:
This purpose of the act has been again and again emphasized by the courts as being of public as well as private interest, in that it gives to the honest but unfortunate debtor who surrenders for distribution the property which he owns at the time of bankruptcy, a new opportunity in life and a clear field for future effort, unhampered by the pressure and discouragement of pre-existing debt.
Local Loan Co. v. Hunt, 292 U.S. 234, 244, 54 S.Ct. 695, 699, 78 L.Ed. 1230 (1934), citing other cases.
Certain kinds of debts, enumerated in 11 U.S.C. § 523, are excepted from this discharge. Many of the exceptions are intended to prevent a debtor from avoiding through bankruptcy the consequences of his wrongful conduct. In re Cross, 666 F.2d 873 (5th Cir.1982). A guiding principle in analyzing these exceptions is that they be narrowly and strictly construed, so as to assure that the basic bankruptcy policy of giving an honest debtor a fresh start is not frustrated. In re Materetsky, 28 B.R. 499, 502 (Bankr.S.D.N.Y.1968).
The creditor first argues that the debt is nondischargeable under that part of § 523(a)(4) which bars the discharge of a debt which arose from the debtor's "fraud or defalcation while acting in a fiduciary capacity."
In order to succeed on this ground the creditor must demonstrate that the debtor was acting in a fiduciary capacity as this term has been construed by federal courts. In re Schwartz, 36 B.R. 355, 358 (Bankr.E. D.N.Y.1984). The Code itself does not define the term.
In an early Supreme Court case decided under the predecessor provisions of § 523(a)(4), the Court held that the term fiduciary was to be limited to those who were fiduciaries under a "technical" trust. "The statute speaks of technical trusts, and not those which the law implies from the contract." Chapman v. Forsyth, 43 U.S. (2 How.) 202, 298, 11 L.Ed. 236 (1844).
As a general rule, technical trusts may be created by an agreement between the parties to impose a trust relationship; they are commonly referred to as express trusts. See, e.g., In re Paley, 8 B.R. 466, 469 (Bankr.E.D.N.Y.1981). Recently several courts have held that a technical trust may also be created by a statute which expressly imposes fiduciary obligations on a party; these are denominated "statutory trusts." See, e.g., In re Kawczynski, 442 F.Supp. 413 (W.D.N.Y.1977).
The creditor does not contend and the court does not find that the debtor was a fiduciary under a statutory trust.
The debtor was an officer, director, and shareholder of a New York corporation. As such his responsibilities to the corporation's creditors are defined by New York law. New York does not impose the express fiduciary obligation required by § 523(a)(4) upon the director, officer, or shareholder of a corporation towards its creditors. See In re Gulick, 186 F. 350, 351 (S.D.N.Y.1911): "The officers of a corporation —certainly the vice president and secretary—are not express fiduciaries for purposes of the nondischargeability provision." See also Materetsky, 28 B.R. at 500, in which the court held that the principal shareholder and president of the corporation did not have the technical fiduciary obligation to the corporation's creditors contemplated by § 523(a)(4).
Thus, if the debtor was a fiduciary within § 523(a)(4), it was by virtue of the agreement between the parties.
Under traditional trust law, a trust is a fiduciary relationship with respect to property, which subjects the person who holds title to the property to equitable duties to deal with the property for the benefit of another. This relationship arises as a result of a manifestation of the parties' intention to create it. In re Adkisson, 26 B.R. 879, 882 (Bankr.E.D.Tenn. 1983) citing Restatement (Second) of Trusts § 2 (1959). Thus, the basic prerequisite to the creation of a trust is that the parties intend to create a fiduciary relationship with respect to the property.
Courts are divided as to whether a commercial security agreement which contains a declaration of trust and imposes fiduciary-like duties upon a debtor manifests...
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...the corporation's performance he did not agree to act as a fiduciary as required by § 523(a)(4).Congress Fin. Corp. v. Levitan (In re Levitan), 46 B.R. 380, 387 (Bankr. E.D.N.Y. 1985).18. Thus, it is not the broad, general language of the guaranty agreement which could legitimately impose a......