Okla. Dep't of Sec. ex rel. Faught v. Wilcox, s. 10–6056

• Decision Date: 20 August 2012
• Docket Number: Nos. 10–6056,10–6057.,s. 10–6056
• Citation: 56 Bankr.Ct.Dec. 257,691 F.3d 1171
• Parties: OKLAHOMA DEPARTMENT OF SECURITIES, ex. rel. Irving L. FAUGHT, Administrator, Plaintiff–Appellee, v. Marvin Lee WILCOX; Pamela Jean Wilcox, Defendants–Appellants. Oklahoma Department of Securities, ex rel. Irving L. Faught, Administrator, Plaintiff–Appellee, v. Robert William Mathews, Defendant–Appellant.
• Court: U.S. Court of Appeals — Tenth Circuit

691 F.3d 1171

56 Bankr.Ct.Dec. 257

OKLAHOMA DEPARTMENT OF SECURITIES, ex. rel. Irving L. FAUGHT, Administrator, Plaintiff–Appellee,

v.Marvin Lee WILCOX; Pamela Jean Wilcox, Defendants–Appellants.

Oklahoma Department of Securities, ex rel. Irving L. Faught, Administrator, Plaintiff–Appellee,

v.Robert William Mathews, Defendant–Appellant.

Nos. 10–6056, 10–6057.

United States Court of Appeals,

Tenth Circuit.

Aug. 20, 2012.

Robert N. Sheets, (Robert J. Haupt with him on the briefs), of Phillips Murrah P.C., Oklahoma City, OK, for Defendants–Appellants.

Amanda Cornmesser, (Gerri Kavanaugh with her on the briefs), for the Oklahoma Department of Securities, Oklahoma City, OK, for Plaintiff–Appellee.

Before BRISCOE, Chief Circuit Judge, HOLLOWAY, and O'BRIEN, Circuit Judges.

O'BRIEN, Circuit Judge.

At the behest of the Oklahoma Department of Securities, Oklahoma courts found early investors in a Ponzi scheme carried out by a third party to have been unjustly enriched and required disgorgement. Judgments were entered against those investors.We must decide whether the judgments entered against Robert Mathews, Marvin Wilcox, and Pamela Wilcox qualify as a nondischargeable debt under 11 U.S.C. § 523(a)(19). The bankruptcy court decided the debts were nondischargeable because they were “for a violation” of securities laws. The district court affirmed. We reverse and remand for further proceedings.¹

I. BACKGROUND

In 2005 Marsha Schubert pled guilty to crimes related to a Ponzi scheme ² she used to defraud multiple investors of funds totaling over nine million dollars. Her activities violated the Oklahoma security laws. Robert Mathews and the Wilcoxes were investors in Schubert's Ponzi scheme. After Schubert's conviction, the Oklahoma Department of Securities (the Department) sued over 150 of her investors, including Mathews and the Wilcoxes, to recoup funds distributed in the Ponzi scheme on the grounds of unjust enrichment, fraudulent transfer, and equitable lien. The Department later requested summary judgment only on the basis of unjust enrichment. The Oklahoma trial court granted summary judgment requiring Mathews and the Wilcoxes to repay profits of approximately half a million dollars each. The Wilcoxes, but not Mathews, unsuccessfully appealed to the Oklahoma Court of Civil Appeals and subsequently to the Oklahoma Supreme Court, which reversed and remanded for further proceedings.³See Okla. Dep't. Sec. v. Blair et al., 231 P.3d 645, 670 (Okla.2010).

Mathews and the Wilcoxes (collectively the Debtors) filed for bankruptcy protection and the Department initiated adverse proceedings to avoid discharge of the judgment debt. The bankruptcy court consolidated the cases and granted summary judgment to the Department, concluding the debts were not dischargeable because they fell under the exception in 11 U.S.C. § 523(a)(19) as judgments for the violation of securities laws. The district court affirmed. The Debtors appeal from the district court's judgment. ⁴

II. DISCUSSION

We review the bankruptcy court's interpretation of a statute de novo. In re Troff, 488 F.3d 1237, 1239 (10th Cir.2007).

The Supreme Court

has certainly acknowledged that a central purpose of the [Bankruptcy] Code is to provide a procedure by which certain insolvent debtors can reorder their affairs, make peace with their creditors, and enjoy a new opportunity in life with a clear field for future effort, unhampered by the pressure and discouragement of preexisting debt. But in the same breath that ... [it] ha[s] invoked this fresh start policy, ... [it] ha[s] been careful to explain that the Act limits the opportunity for a completely unencumbered new beginning to the honest but unfortunate debtor.

Grogan v. Garner, 498 U.S. 279, 286–87, 111 S.Ct. 654, 112 L.Ed.2d 755 (1991) (citation and quotation omitted). “Exceptions to discharge are to be narrowly construed, and because of the fresh start objectives of bankruptcy, doubt is to be resolved in the debtor's favor.” In re Sandoval, 541 F.3d 997, 1001 (10th Cir.2008) (quotation omitted).

Under 11 U.S.C. § 523:

(a) A [bankruptcy] discharge ... does not discharge an individual debtor from any debt—

(19) that—

(A) is for—

(i) the violation of any of the Federal securities laws (as that term is defined in section 3(a)(47) of the Securities Exchange Act of 1934), any of the State securities laws, or any regulation or order issued under such Federal or State securities laws....

The burden is on the creditor to show a debt is nondischargeable under § 523(a). Grogan, 498 U.S. at 283, 111 S.Ct. 654. “Section 523(a)(19) discharge exceptions are often defined by law external to the Bankruptcy Code.” In re Lichtman, 388 B.R. 396, 409 (Bankr.M.D.Fla.2008).

There is a valid state court judgment against the Debtors, entered to require them to repay profits distributed to them as a result of Schubert's Ponzi scheme. The only dispute is whether such a judgment qualifies as one “for a violation” of securities laws under § 523(a)(19). The Department argues the state court judgment is “for the violation” of securities laws because the disgorgement was a direct result of Schubert's violation of securities laws and because the Debtors materially aided in the violation. ⁵ The Debtors contend the judgment is not a debt incurred “for the violation” of securities laws because they have never been charged with such violations.

[W]e begin with the understanding that Congress says in a statute what it means and means in a statute what it says.... [W]hen the statute's language is plain, the sole function of the courts—at least where the disposition required by the text is not absurd—is to enforce it according to its terms.

Hartford Underwriters Ins. Co. v. Union Planters Bank, N.A., 530 U.S. 1, 6, 120 S.Ct. 1942, 147 L.Ed.2d 1 (2000) (quotations and citations omitted). These debts do not fall under the 523(a)(19) exception according to the plain language of the statute. The judgments at issue are not “for a violation” of securities laws but for unjust enrichment resulting from someone else's violation of those statutes.⁶ Although the Department argues such unjust enrichment is a violation of the securities laws, the Oklahoma Supreme Court clearly stated “[t]he defendants were not charged with securities violations.” Blair, 231 P.3d at 650.

During oral argument, the Department attempted to analogize this case to McKowen v. IRS, in which we concluded nondischargeable debt “for a tax” included a transferee's liability to pay taxes assessed to his defunct business. 370 F.3d 1023 (10th Cir.2004). We determined the transferee tax liability was still primarily for a tax notwithstanding the fact that responsibility for it had been transferred.⁷Id. In contrast, the debtors' liability in the instant case was never for a violation of securities laws but only for unjust enrichment. It is not a single type of liability that was transferred from one party to another, as in McKowen, but a completely different type of liability.

Examining the history behind the statute does not lead us to a different conclusion. 11 U.S.C. § 523(a)(19) was enacted as part of the Sarbanes–Oxley Act in 2002. The Senate Report on the draft legislation indicates it was enacted to address perceived loopholes in securities laws after the Enron debacle.⁸ The early language of § 523(a)(19)(A) excepted from discharge a judgment that “arises under a claim relating to” securities violations. S.Rep. No. 107–146 at 27. The language was subsequently changed to except a judgment that “is for” securities violations. 11 U.S.C. § 523(a)(19)(A).

The Department relies heavily on the Senate Report as indication that the law was intended to “help defrauded investors recoup their losses....” S.Rep. No. 107–146 at 8. Assuming the report could be a useful tool of statutory construction, it is of little help to the Department as it consistently refers to “hold[ing] accountable those who incur debts by violating our securities laws” and explains “the bill protects victims' rights to recover from those who have cheated them.” Id. at 8, 11 (emphasis added). It is evident from the text of § 523(a)(19)(A) that Congress intended to penalize the perpetrators of such schemes by denying them relief from their debts. Adopting the Department's interpretation would impose the heavy penalty of nondischargeability on violators and nonviolators alike. That Congress intended such an extreme result is evident neither in the text of the statute ⁹ nor in the historical record.

The Department cites an unpublished order in Crawford v. Myers, No. 09–1211 (Bankr.D.Colo., July 20, 2009, Order on Motion to Dismiss Complaint) ¹⁰ and SEC v. Sherman, 406 B.R. 883 (C.D.Cal.2009). The judge in the Myers case concluded the statute was intended to reach innocent investors. As we have explained, we do not believe the statute supports such a reading. Similarly, the debtor in Sherman “had obtained funds derived from a [third party's] violation of federal securities laws to which he had no legitimate claim of ownership.” Id. at 885. The bankruptcy judge determined the debt was dischargeable but the district court reasoned the SEC was merely reaching through the debtor to collect assets in which the debtor had no equitable interest and cited the bankruptcy decision in this case, concluding the repayment order was a nondischargeable debt in part because to permit discharge would “frustrate the ability of the SEC to enforce federal securities laws.” Id. at 887.

Following the briefing and oral argument in the case before us, however, the Ninth Circuit reversed the district court's decision in Sherman.Sherman v. SEC, 658 F.3d 1009, 1010 (9th Cir.2011). Recognizing the merits of the same arguments made by the dissent here, the court nonetheless concluded the narrow construction applied to discharge exclusions and the purpose of bankruptcy to provide a fresh start to honest but unfortunate debtors precluded a reading of the...