Whelco Industrial, Ltd. v. U.S.
| Decision Date | 04 September 2007 |
| Docket Number | No. 3:05CV7141.,3:05CV7141. |
| Citation | 503 F.Supp.2d 906 |
| Parties | WHELCO INDUSTRIAL, LTD., Plaintiff v. UNITED STATES of America, Defendant. |
| Court | U.S. District Court — Northern District of Ohio |
H. Buswell Roberts, Jr., Shumaker, Loop & Kendrick, Toledo, OH, for Plaintiff.
Holly Taft Sydlow, Office of the U.S. Attorney, Northern District of Ohio, Toledo, OH, Lydia Bottome Turanchik, Thomas P. Cole, United States Department of Justice, Tax Division, Washington, DC, for Defendant.
This is a quiet title action in which the plaintiff, Whelco Industrial, Inc. [Whelco] seeks to remove or invalidate several federal tax liens filed by the Internal Revenue Service in 2004 against assets acquired by Whelco from a company named Whitney Electric Corporation [Whitney] in 2003. At the time of the asset acquisition, Whitney was in receivership; the state court, at the request of the receiver, approved an Asset Purchase Agreement between Whelco and Whitney.
Whelco contends that the government's liens did not, have not, and cannot attach to its assets, and that it otherwise cannot be held accountable for Whitney's tax obligations. In making this argument Whelco relies on Ohio law relating to successor corporations.
The government principally claims that federal common law, not state law, controls the determination of whether Whelco is a successor to Whitney, so that Whelco is obligated for Whitney's tax liabilities. The government also claims that the transaction between Whelco and Whitney was fraudulent, and entered into to enable the company's business operations, to continue without the encumbrance of the tax obligation. Finally, the government asserts that its notice of lien could not be undone by the state court receivership because it was not a party to that proceeding.
The case was tried without a jury. Following submission of post-trial briefs, the case is decisional.
For the reasons that follow, judgment shall be entered in favor of the government and against Whelco as to the successor corporation issue.1
For several years Whitney repaired "electric motors, gear boxes, pumps, things that are used in heavy industry to create motion" in the Toledo, Ohio, and Fort Wayne, Indiana, areas. (Tr. at 113:2-4.) During the period pertinent to this suit, attorney Richard Farrar [Richard] was Whitney's sole owner and President.
National City Bank [National City] filed a financing statement perfecting its interest in Whitney's collateral on November 13, 2001. National City's lien extended to Whitney's accounts receivable, inventory, machinery, and equipment. Greenfield Commercial Credit, LLC [Greenfield], a factoring company, also filed a financing statement on March 13, 2002, thereby also perfecting its interest in Whitney's accounts and inventory.
On July 31, 2002, the IRS filed a notice of federal tax lien against Whitney for unpaid employment taxes for the fourth quarter of 2001 and first quarter of 2002; the first quarter 2002 obligation remains unpaid.
When the IRS filed its liens, Whitney owed National City, a first lien holder, upwards of $550,000. Greenfield concurrently had a lien on all of Whitney's accounts receivable.
In August, 2002, an attorney from National City spoke with Michael Farrar [Michael], Richard's son, who was active in Whitney's management, about whether Michael would be interested in purchasing Whitney's assets. Michael expressed interest in such a purpose and growing the business.
On September 30, 2002, Whitney ceased operations. Whelco, which Richard had incorporated shortly before that date, began operations on October 1, 2002. Michael was the President and owner of Whelco.
Also on October 1, 2002, Whelco entered into a lease with Whitney, whereby Whelco could use Whitney's machines, equipment, and other personal property. The lease imposed no obligation on Whelco to assume Whitney's debts or claim the proceeds of any of Whitney's uncollected accounts receivable. Whelco continued in essentially the same business as Whitney, and operated that business from the same premises and with the same employees. Though a new bank account was opened and other incidents of operation attendant on the change of identity were instituted, the business, in terms of where it was done, what was done, how it was done, why it was done, and who was doing it, remained substantially unaltered.
On October 11, 2002, National City filed a cognovit complaint in the Lucas County, Ohio, Court of Common Pleas against Whitney; the complaint asked the court to appoint a receiver for both Whitney and the 3607 Company, a real estate holding company [owned by Richard] which owned the building in which Whelco [and previously, Whitney] had its operations.
The Common Pleas Court entered cognovit judgment that day. It concurrently appointed attorney Ralph DeNune as receiver.
During the course of the receivership, DeNune had conversations with Gregory Yurich, an IRS representative. They discussed the possible sale of Whitney's assets and National City's lien priority. Though the IRS was not made and did not become a party to subsequent proceedings in the receivership action, it was aware of a potential sale of Whitney's assets.
Michael entered into an agreement on November 20, 2003, with DeNune to purchase Whitney's assets for $555,228.85. The price was set by National City. As a result of this transaction, National City's lien was discharged. In addition, Greenfield received $325,565.48 from Whitney's accounts receivable.2
To finance the purchase, Michael received a $150,000 loan from George Ballas.3 He also obtained financing from Crestmark Bank, for which he provided his personal guarantee and mortgaged the family residence.
In the Asset Purchase Agreement Michael specifically declined to assume any of Whitney's obligations or liabilities.
The Court of Common Pleas approved the sale in January, 2004. The Motion Confirming Sale provides that the "assets were sold free and clear of all liens and encumbrances."
On January 14, 2004, the IRS filed further notices of federal tax liens against Whitney for unpaid employment tax liabilities and, as well, a notice of tax lien against Whelco as the alter ego/fraudulent transferee/nominee of Whitney. The IRS filed additional nominee liens against Whelco on April 14, 2004, April 27, 2004, and August 5, 2004. These led to the IRS's collection of upwards of $105,000 of Whelco's receivables.
In this quiet title action, which has been removed from the Lucas County Court of Common Pleas, Whelco seeks a declaration that the liens against its personal property are invalid; it asks that the liens presently pending against it be lifted.
The dispositive issue in this case is whether Whelco is a "continuation" of Whitney. Resolution of this issue depends on whether Ohio or federal common law applies.
If this determination is governed by Ohio law, Whelco is not Whitney's successor, and is not accountable for Whitney's tax obligations. In Ohio determination of whether a successor corporation is liable for a predecessor's obligations depends on "the continuation of the corporate entity, not the business operation, after the transaction." Welco Industries, Inc. v. Applied Cos., 67 Ohio St.3d 344, 350, 617 N.E.2d 1129 (1993) (citing Flaugher v. Cone Automatic Mach. Co., 30 Ohio St.3d 60, 507 N.E.2d 331 (1987)).
The fact that the new corporation has "the same physical plant, officers, employees and product line as" the old corporation does not matter. See id. at 350, 617 N.E.2d 1129. The test in Ohio is, rather, whether "the same people own[] both corporations." Id. (citing Turner v. Bituminous Cas. Co., 397 Mich. 406, 449, 244 N.W.2d 873 (1976)) (emphasis supplied).
Here, the same people do not own the prior and subsequent corporations. Michael owns Whelco; Richard owned Whitney. Even though the business and its operations are fundamentally the same, that does not matter under Welco.4
The federal common law, in contrast, applies a different test for determining whether a successor corporation is liable for the obligations of a predecessor. Rather than looking to the continuity of ownership, federal common law looks at continuity of operations: under federal common law, successor liability can be applied if the successor had notice of the potential claim before the acquisition and there is substantial continuity in the operation of the business before and after the sale. EEOC v. G-K-G, Inc., 39 F.3d 740, 748 (7th Cir.1994). This "substantial continuity in the operation of the business" exists if "before and after the sale ... no major changes are made in ... operation." Id. (citing Upholsterers' Int'l Union Pension Fund v. Artistic Furniture, 920 F.2d 1323, 1327 (7th Cir.1990); EEOC v. Vucitech, 842 F.2d 936, 944-45 (7th Cir.1988)).
Whelco was on notice of the tax liens before it took over the operations and, then, later, the assets of Whitney. Whelco's business remained the same as Whitney's. Thus, under the federal "substantial continuity of operations" test, Whelco can be held liable for the taxes owed by Whitney.
Arguing against this result, Whelco asserts that displacement of the father with the son as owner and manager was an operational change sufficient to break the chain of continuity. I disagree: as the government paints out, a change in management is likely to be a commonplace occurrence with a change in ownership. Indeed, if the owner [and thus, in all likelihood, the management] remained the same, successor liability would follow even under the continuity of ownership test of Welco.
In this case, aside from Michael taking over as owner and as President in place of Richard, nothing else of any significance changed in the nature of the business or how it was conducted. Its "product" — the servicing of motors and pumps — general mode of operation, location, employees, and customers remained the same. The circumstances...
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Whelco Indus., Ltd. v. U.S., 3:05CV7141.
...before and after the sale, made Whelco a successor to Whitney for the purposes of Whitney's tax liability. Whelco Indus., Ltd. v. U.S., 503 F.Supp.2d 906 (N.D.Ohio 2007). On September 13, 2007, plaintiff filed its pending motion to alter or amend judgment and stay execution of the judgment.......
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Bd. of Trs. v. Courtad, Inc.
...tend not to supplant state corporate liability doctrine with federal common law. For example, in Whelco Indus., Ltd. v. United States, 503 F. Supp. 2d 906 (N.D. Ohio 2007), plaintiff acquired assets from a company in receivership, then attempted to remove or invalidate federal tax liens on ......