Multiponics, Inc., Matter of, 77-2581

• Decision Date: 16 July 1980
• Docket Number: No. 77-2581,77-2581
• Citation: 622 F.2d 725
• Parties: In the Matter of MULTIPONICS, INCORPORATED, Bankrupt. FIRST NATIONAL CITY BANK (CITIBANK), Appellant, v. William W. HERPEL, Trustee for Multiponics, Inc. in a Proceeding for Reorganization under Chapter X of the Bankruptcy Act, Appellee.
• Court: U.S. Court of Appeals — Fifth Circuit

Page 725

622 F.2d 725

6 Bankr.Ct.Dec. 959

In the Matter of MULTIPONICS, INCORPORATED, Bankrupt.

FIRST NATIONAL CITY BANK (CITIBANK), Appellant, v. William W. HERPEL, Trustee for Multiponics, Inc. in a

Proceeding for Reorganization under Chapter X of

the Bankruptcy Act, Appellee.

No. 77-2581.

United States Court of Appeals, Fifth Circuit.

July 16, 1980.

Raymond J. Salassi, Jr., New Orleans, La., for appellant.

Peter J. Butler, New Orleans, La., for appellee.

Appeal from the United States District Court for the Eastern District of Louisiana.

Before BROWN, TJOFLAT and GARZA, Circuit Judges.

JOHN R. BROWN, Circuit Judge:

This case, Multiponics II, involves another part of the Multiponics bankruptcy reorganization, elaborately depicted in Multiponics I. ¹ Here we face an attempted setoff by a bank of funds belonging to Multiponics, the bankrupt debtor. We hold that the setoff was improper and affirm the District Court's order directing the bank to turn over the funds to the bankruptcy trustee.

Setup For Setoff

On February 19, 1970 Lehman Commercial Paper, Inc. (Lehman) loaned Multiponics (then called Ivanhoe Associates) $4,500,000 in exchange for Multiponic's interest-bearing promissory note. Lehman gave Multiponics a check for the $4,500,000 which Multiponics endorsed over to Citibank (then called First National City Bank). Citibank then issued an irrevocable letter of credit in favor of Lehman for the $4,500,000. In addition, as security for the letter of credit, Citibank and Multiponics entered into a letter agreement whereby the $4,500,000 was placed in a non-interest-bearing bank account.

To cover the first year's interest payments on the promissory note, Citibank issued a second irrevocable letter of credit in the amount of $440,562.50 in favor of Lehman. The interest payments were due quarterly, with the final payment of $106,625 due on March 1, 1979. In addition, Citibank and Multiponics entered into a second letter agreement whereby $440,562.50, the total amount of interest payments, was placed in a second non-interest-bearing account at Citibank. ² In that agreement, Multiponics gave Citibank the authority to charge the account by the amount of the interest payment. Multiponics also agreed that it would make no withdrawals unless Citibank agreed to them. ³

On February 8, 1971, approximately one year later, and three weeks before the final payment of interest on the promissory note was due, Multiponics filed its Chapter X petition for reorganization. On February 11, the District Court issued an order to stay creditors from interference with the possession or maintenance of Multiponics' assets. On February 16, in accordance with the first letter of credit, Citibank paid the principal due Lehman on the $4,500,000 Multiponics promissory note. However, under the second letter of credit, Citibank was still required to forward to Lehman the full sum of $106,875, which included the March 1 payment of $16,625. Lehman and Citibank then reached an "understanding" whereby Lehman returned the $16,625 interest overpayment. However, the overpayment was returned not to the trustee but to Citibank. On March 1, upon receipt of the interest overpayment, Citibank set off the $16,625 against a larger indebtedness of Multiponics to the bank.

On August 25, 1971 the trustee filed an application for a turnover order to compel the return by Citibank of the setoff funds. The District Court ordered the turnover. In re Multiponics Inc., 436 F.Supp. 1072 (E.D.La.1977).

Discrediting The Creditor

Section 68a of the Bankruptcy Act, 11 U.S.C.A. § 108, provides that a bankrupt and creditor may set off all mutual debts and credits:

In all cases of mutual debts or mutual credits between the estate of a bankrupt and a creditor the account shall be stated and one debt shall be set off against the other, and the balance only shall be allowed or paid.

Clearly, for this right of setoff to apply, there must be mutuality of obligation between debtor and creditor, a true debtor-creditor relationship. See generally 4 Collier On Bankruptcy P 68.04 (14th ed. 1978). Here there is no question that Multiponics was the debtor of Citibank due to a prior obligation. The only question is whether Citibank was the debtor of Multiponics by virtue of the second bank account.

Generally, where funds are on deposit at a bank, a presumption of a debtor-creditor relationship arises . Republic National Bank of Houston v. Sheinfeld (In re Goodson Steel Corp.), 488 F.2d 776, 779 (5th Cir. 1974). "As a general rule, in the absence of an agreement to the contrary, a deposit, not made specifically applicable to some other purpose, may be applied by the bank in payment of the indebtedness of the depositor." United States v. Butterworth-Judson Corp., 267 U.S. 387, 394-95, 45 S.Ct. 338, 340, 69 L.Ed. 672, 677 (1925) (citing authority).

Nonetheless, this presumption is rebutted and mutuality negated when the funds on deposit with the bank are held in a special account or impressed with a trust. Id.; Ribaudo v. Citizens National Bank of Orlando, 261 F.2d 929, 933 (5th Cir. 1958); New Jersey National Bank v. Gutterman (In re Applied Logic Corp.), 576 F.2d 952, 958 (2d Cir. 1978). As we explained in Goodson :

When money or its equivalent is deposited in a bank without any special agreement, the law implies that it is to be mingled with the other funds of the bank, the relation of debtor and creditor is created between the bank and the depositor, and the deposit is general. In such a transaction the bank becomes the owner of the fund.

488 F.2d at 779 (quoting authority). By contrast,

When, on the other hand, money or its equivalent is so deposited with an accompanying agreement that the identical thing deposited shall be returned, or that the same shall be paid out for a specific purpose, the relation thus created is not that of debtor and creditor. Such a transaction is a special deposit, and the bank is liable only as a bailee. In such a case the fund is a trust fund, the bank acquires no title thereto, and is a mere trustee for the safekeeping, return, or disbursement of the fund, according to the special contract by which the deposit is made.

Id. (quoting authority).

Close examination of these general principles reveals some fuzziness and overlap in the analysis and terminology regarding the right of setoff. Kaufman v. First National Bank of Opp, Alabama, 493 F.2d 1070, 1071 (5th Cir. 1974). Some Courts look to the law of trusts, requiring an understanding that the funds be kept separate from the rest of the bank's funds to preclude a setoff. E. g., First National Bank of Clinton v. Julian, 383 F.2d 329 (8th Cir. 1967); Kaufman v. First National Bank of Opp, Alabama, 493 F.2d at 1072; In re Goodson Steel Corp., supra ; Restatement (Second) of Trusts § 324, Comment i (1959). Other Courts ask whether a special deposit has been created, with a special purpose known to the parties involved, rather than a general fund. E. g., In re Goodson Steel Corp., supra; Ribaudo v. Citizens National Bank of Orlando, supra. See also In re Applied Logic Corp., supra. Still others use the terminology interchangeably. See Kaufman v. First National Bank of Opp, Alabama, 493 F.2d at 1072. ⁴ The difficulty of characterization of an account is further complicated by the general rule that a federal court must look "with an interested eye" to state law. In re Goodson Steel Corp., 488 F.2d at 779.

In this case, regardless of whether we characterize this account as a trust or a special account, it is clear that the presumption of a debtor-creditor relationship was rebutted. Here, the second account was established solely to secure the payment by Citibank under the second letter of credit. The entire arrangement suggests an understanding between Multiponics and the Bank that something other than an ordinary deposit was effected.

Citibank vigorously asserts that First National Bank of Clinton v. Julian, 383 F.2d 329 (8th Cir. 1967) controls this case, requiring that a setoff be allowed. In Julian, the bankrupt, an automobile dealer, had a floor plan mortgage and other financial arrangements with the bank. According to the bank, a "Reserve account" was established to provide additional security for the bank on the bankrupt's actual and contingent indebtedness. The Eighth Circuit accepted the bank's explanation for the account, observed that the bankrupt could not withdraw funds from the account without the bank's permission, and pointed out that the bank did not and need not separate the reserve account from its other funds. On these bases, the Court held that the account was merely a general deposit for a special purpose and allowed the bank to set off the funds.

In our case, as in Julian, the account in question was established as security, to ensure the payment by Citibank under the letter of credit. And, like Julian, Multiponics could not withdraw funds without Citibank's permission. Unlike Julian, however, Citibank at all times segregated the funds from the rest of its accounts. One of Citibank's own officers explained this segregation:

Q. Tell me what happened then in the first quarter of 1971, if anything, with reference to that time deposit?

A. We honored our commitment and we made the final payment.

Q. From that particular account?

A. That's correct.

Q. How was it done, mechanically on the bank's books?

A. I'm not sure I can tell you the internal bookkeeping on this. Let me just think. We charged the account for the remaining dollars in that account, which were exactly comparable to the amount required for the final payment, and issued a cashier's check to Lehman and delivered it to Lehman.

Deposition, Guy W. Byrd, then Assistant Vice-President of Citibank, June 16, 1962 (emphasis added). And the funds were in fact used by Citibank as intended solely to satisfy the interest payments under the letter of credit.

Also, in our case, the nature of the agreement...