‘Bankruptcy Planning,’ Alone, Doesn’t Equal Fraudulent Intent to Evade Creditors – IL ND

A Northern District of Illinois bankruptcy judge recently rejected a creditor’s attempt to nix a debtor’s discharge for fraud.  The creditor alleged the debtor tried to escape his creditors by shedding assets before his bankruptcy filing and by not disclosing estate assets in his papers.  Finding for the debtor after a bench trial, the Court in Monty Titling Trust I v. Granrath, 15 AP 00826 illustrates the heavy burden a creditor must meet to successfully challenge a debtor’s discharge based on fraud.

The Court specifically examines the contours of the fraudulent conduct exception to discharge under Code Section 727(a)(2) and Code Section 727(a)(4)’s discharge exception for false statements under oath.

Vehicle Trade-In and Lease

The court found that the debtor’s conduct in trading in his old vehicle and leasing two new ones in his wife’s name in the weeks leading up to the bankruptcy filing was permissible bankruptcy planning (and not fraud).  Since bankruptcy aims to provide a fresh start to a debtor, a challenge to a discharge is construed strictly against the creditor opposing the discharge.  Under the Code, a court should grant a debtor’s discharge unless the debtor “with intent to hinder, delay or defraud a creditor” transfers, hides or destroys estate property.

Under the Code, a court should grant a debtor’s discharge unless the debtor “with intent to hinder, delay or defraud a creditor” transfers, hides or destroys property of the debtor within one year of its bankruptcy filing. 11 U.S.C. s. 727(a)(2)(A).  Another basis for the court to deny a discharge is Code Section 727(a)(4) which prevents a discharge where a debtor knowingly and fraudulently makes a false oath or account.

To defeat a discharge under Code Section 727(a)(2), a creditor must show (1) debtor transferred property belonging to the estate, (2) within one year of the filing of the petition, and (3) did so with the intent to hinder, delay or defraud a creditor of the estate.  A debtor’s intent is a question of fact and when deciding if a debtor had the requisite intent to defraud a creditor, the court should consider the debtor’s whole pattern of conduct.

To win on a discharge denial under Code Section 727(a)(4)’s false statement rule, the creditor must show (1) the debtor made a false statement under oath, (2) that debtor knew the statement was false, (3) the statement was made with fraudulent intent, and (4) the statement materially related to the bankruptcy case.

Rejecting the creditor’s arguments, the Court found that the debtor and his wife testified in a forthright manner and were credible witnesses.  The court also credited the debtor’s contributing his 401(k) funds in efforts to save his business as further evidence of his good faith conduct.  Looking to Seventh Circuit precedent for support, the Court found that “bankruptcy planning does not alone” satisfy Section 727’s requirement of intent.  As a result, the creditor failed to meet its burden of showing fraudulent conduct by a preponderance of the evidence.

Opening Bank Account Pre-Petition

The Court also rejected the creditor’s assertion that the debtor engaged in fraudulent conduct by opening a bank account in his wife’s name and then transferring his paychecks to that account in violation of a state court citation to discover assets.  

The court noted that the total amount of the challenged transfers was less than $2,000 (since the most that can be attached is 15% gross wages under Illinois’ wage deduction statute) and the debtor’s scheduled assets exceeded $4 million.  Such a disparity between the amount transferred and the estate assets coupled with the debtor’s plausible explanation for why he opened a new bank account in his wife’s name led the Court to find there was no fraudulent intent.

Lastly, the court found that the debtor’s omission of the bank account from his bankruptcy schedules didn’t rise to the level of fraudulent intent.  Where a debtor fails to include a possible asset (here, a bank account) in his bankruptcy papers, the creditor must show the debtor acted with specific intent to harm the bankruptcy estate.  Here, the debtor testified that his purpose in opening the bank account was at the suggestion of his bankruptcy lawyer and not done to thwart creditors.  The court found these bankruptcy planning efforts did not equal fraud.

Afterwords:

1/ Bankruptcy planning does not equate to fraudulent intent to avoid creditors.

2/ Where the amount of debtor’s challenged transfers is dwarfed by scheduled assets and liabilities, the Court is more likely to find that a debtor did not have a devious intent in pre-bankruptcy efforts to insulate debtor assets.

 

Uber and Lyft Users Unite! City of Chicago Beats Back Cab Drivers’ Constitutional Challenge to City Ridesharing Ordinance

An association representing Chicago taxicab drivers recently lost their attempt to invalidate a City of Chicago ridesharing ordinance as unconstitutional.

The crux of the cab drivers claim in Illinois Transportation Trade Ass’n v. City of Chicago, was that a City ordinance governing Transportation Network Providers (TNPs) like Uber and Lyft was too mild and didn’t subject TNPs to the same level of government oversight as Chicago cab drivers; especially in the areas of licensing and fair rates. (For example, TNPs are free to set their own rates by private contracts; something taxicabs can’t do.)

The cab drivers argued the Ordinance’s less onerous TNP strictures made it hard if not impossible for the City cabs to compete with TNPs for consumer business.

The Seventh Circuit struck down all of the plaintiffs claims and in doing so, discussed the nature of constitutional challenges to statutes in the modern, ridesharing context.

Deprivation of Property Right Without Compensation

The Court rejected the plaintiffs’ first argument that allowing TNPs to enter the Chicago taxicab market deprived plaintiffs of a property interest without compensation.

Finding that a protected property right does not include the right to be free from competition, the Court noted the City wasn’t depriving the plaintiffs of tangible or intangible property.  All the Ordinance did was codify Chicago cab drivers’ exposure to a new form of competition – competition from ridesharing services like Uber and Lyft.

And since the right to be free from competition is not a legally valid property right, the plaintiffs’ misappropriation of property theory failed.  The Court wrote that to indulge the plaintiffs’ argument that it had a property right in eliminating transportation service competition would give taxi drivers an unfair monopoly on all commercial transportation.

Equal Protection Claim: Cab Drivers and TNPs Should Be Subject to the Same Regulations

Striking down the plaintiffs’ equal protection claims, the Court framed the issue as whether “regulatory differences between Chicago taxicabs and Chicago TNPs are arbitrary or defensible.”  It found the regulatory variations were indeed defensible.  In reaching this holding the Court focused on the salient differences between taxicabs and TNPs including their distinct business models and levels of driver oversight and screening, as well as stark differences in consumer accessibility: where riders can hail a cab on any street, TNP users must first sign up with the TNP and install an app on their smartphone to hire TNP drivers.

A Dog Differs From a Cat and a Taxi Differs from a TNP Like Uber

In the end, it was the blatant qualitative differences between cab service and TNPs that carried the day and sealed the fate of plaintiffs’ constitutional challenge to the Ordinance.  The Court found there were measurable differences between taxis and TNPs in the areas of business model, driver screening and rate-setting, among others, that justified the City’s different regulatory schemes.

The Court found that the watered-down (according to Plaintiffs, anyway) TNP Ordinance rightly recognized the glaring differences between taxis and TNPs and was rationally related to the City’s interest in fostering competition in commercial transportation business.

Afterwords:

This case presents an interesting application of established constitutional equal protection principles to a progressive electronic commerce context.

In the end the case turned on whether leveling the competitive playing field to the cab drivers’ liking by striking down the Ordinance resulted in stifled competition.  Since the Court said the answer to the question was “yes,” the taxi drivers’ constitutional challenge failed.

 

 

Indy Skyline Photo Spat At Heart Of 7th Circuit’s Gloss on Affirmative Defenses, Res Judicata and Fed. Pleading Amendments – Bell v. Taylor (Part I)

Litigation over pictures of the Indianapolis skyline form the backdrop for the Seventh Circuit’s recent examination of the elements of a proper affirmative defense under Federal pleading rules and the concept of ‘finality’ for res judicata purposes in Bell v. Taylor.

There, several small businesses infringed plaintiff’s copyrights in two photographs of downtown Indianapolis: one taken at night, the other in daytime.  The defendants – an insurance company, a realtor, and a computer repair firm – all used at least one the plaintiff’s photos on company websites.  When the plaintiff couldn’t prove damages, the District Court granted summary judgment for the defendants and later dismissed a second lawsuit filed by the plaintiff against one of the defendants based on the same facts.  The plaintiff appealed.

The Seventh Circuit affirmed summary judgment of the first lawsuit and dismissal of the second action on both procedural and substantive grounds.

Turning to the claims against the computer company defendant, the court noted that the defendant denied using the plaintiff’s daytime photo.  The defendant used only the nighttime photo.  The plaintiff argued that the defendant failed to comply with Rule 8(b) by not asserting facts to support its denial that it used plaintiff’s daytime photo.

Rejecting this argument, the court noted that a proper affirmative defense limits or excuses a defendant’s liability even where the plaintiff establishes a prima facie case.  If the facts that underlie an affirmative defense are proven true, they will defeat the plaintiff’s claim even if all of the complaint allegations are true.  A defendant’s contesting a plaintiff’s factual allegation is not an affirmative defense.  It is instead a simple denial.  Since the computer defendant denied it used the daytime photo, there was no affirmative matter involved and the defendant didn’t have to comply with Rule 8’s pleading requirements.

The Seventh Circuit also affirmed the denial of the plaintiff’s attempt to amend his complaint several months after pleadings closed.  In Federal court, the right to amend pleadings is broad but not absolute.  Where allowing an amendment would result in undue delay or prejudice to the opposing party, a court has discretion to refuse a request to amend a complaint.  FRCP 15(a)(2).  Here, the Court agreed with the lower court that the plaintiff showed a lack of diligence by waiting until well after the amending pleadings deadline passed.  The plaintiff’s failure to timely seek leave to amend its complaint supported the court’s denial of its motion.

The Court also affirmed the District Court’s dismissal of the plaintiff’s second lawsuit on res judicata grounds.  When the District Court entered summary judgment for defendants on plaintiff’s copyright and state law claims (conversion, unfair competition), plaintiff’s equitable relief claims (declaratory judgment and injunctive relief) were pending.  Because of this, the summary judgment order wasn’t final for purposes of appeal.  (Plaintiff could only appeal final orders – and until the court disposed of the equitable claims, the summary judgment order wasn’t final and appealable.)

Still, finality for res judicata purposes is different from appellate finality.  An order can be final and have preclusive effect under res judicata or collateral estoppel even where other claims remain.  This was the case here as plaintiff’s sole claim against the computer company defendant was for copyright infringement.  The pending equitable claims were directed to other defendants.  So the District Court’s summary judgment order on plaintiff’s copyright infringement claims was final as to the computer defendant.  This finality triggered res judicata and barred the plaintiff’s second lawsuit on the same facts.

Afterwords:

The case’s academic value lies in its thorough summary of the pleading requirements for affirmative defenses and the factors guiding a court when determining whether to permit amendments to pleadings.  The case also stresses that finality for appeal purposes is not the same as for res judicata or collateral estoppel.  If an order disposes of a plaintiff’s claims against one but not all defendants, the order is still final as to that defendant and the plaintiff will be precluded from later filing a second lawsuit against that earlier victorious defendant.