Leonard v. Optimal Payments Ltd. (In Re National Audit Defense Network)
Docket: 19-10443
Court: United States Bankruptcy Court, D. Nevada; June 23, 2005; Us Bankruptcy; United States Bankruptcy Court
In the bankruptcy case of National Audit Defense Network, Inc. (NADN), Chapter 7 Trustee William A. Leonard, Jr. is pursuing claims against Optimal Payments Ltd. (OPL) and Optimal Payments, Inc. (OPI) for breach of a credit card processing agreement. The Trustee seeks damages exceeding $1 million, an accounting of funds processed, and a turnover of funds held by Optimal. Optimal argues that the funds do not belong to the Trustee or the estate and asserts that OPI is not subject to the court's jurisdiction.
The court previously upheld Optimal's motion to dismiss, but the Trustee has amended the complaint. In this memorandum, the court dismisses the Trustee's claims for turnover and accounting but allows the breach of contract claims and bankruptcy avoidance actions to proceed, requiring Optimal to respond within thirty days.
NADN allegedly engaged in selling questionable tax advice and processed significant credit card payments through Optimal. The complaint states OPL possesses nearly $1 million in prepetition credit card payments and has improperly assessed fines and chargebacks against NADN. Optimal maintains that OPI lacks jurisdiction in this forum, while OPL claims ownership of the retained funds and asserts it has provided a sufficient accounting. The issues of jurisdiction and the merits of the claims are central to the proceedings.
Under Rule 12(b)(2), the Trustee bears the burden of proving personal jurisdiction. The Trustee must make a prima facie showing of jurisdiction to counter the defendant's motion to dismiss, relying on facts taken as true unless contradicted. In the absence of a federal statute, state law applies, necessitating the Trustee to demonstrate that Nevada's long-arm statute allows jurisdiction over Optimal and that exercising such jurisdiction complies with due process requirements. Nevada's long-arm statute aligns with constitutional standards, meaning jurisdiction must meet due process, which requires minimum contacts with the forum state to avoid offending traditional notions of fair play and substantial justice.
For personal jurisdiction to exist, there are two types: general and specific. General jurisdiction requires "continuous and systematic general business contacts" with the state, approximating physical presence. The Trustee argues for general jurisdiction based on Optimal's common website accessible in Nevada. However, courts have established that merely maintaining a website does not alone create sufficient minimum contacts; there needs to be interactivity or a specific targeting of users in the state. In this case, Optimal’s website likely does not fulfill the requirements for general jurisdiction, as it does not demonstrate the necessary level of continuous and systematic business interactions.
The Ninth Circuit previously determined that an Ohio business with limited ties to California, including an accessible website, did not meet the criteria for general jurisdiction due to insufficient "continuous and systematic" contacts. The case at hand shifts focus to specific jurisdiction, which applies when a cause of action arises from a defendant's activities in a state. The Ninth Circuit employs a three-part test for specific jurisdiction: (1) the non-resident defendant must purposefully direct activities or transactions with the forum state; (2) the claim must arise from those activities; and (3) exercising jurisdiction must align with fair play and substantial justice.
In this matter, the plaintiff seeks to recover funds from OPI and its subsidiary OPL, which operated a contract with NADN and maintained an interactive website. OPI contends that its lack of physical presence in the U.S. negates jurisdiction. However, the complaint indicates OPI may be acting as an agent for OPL, which is significant, as agency relationships can establish jurisdiction. The court references controlling Ninth Circuit opinions indicating that a subsidiary's activities can be imputed to a parent if they are substantial enough that the parent would otherwise need to perform them.
The evidence presented suggests that OPI provides essential services to OPL, accounting for over 95% of OPI’s revenue, with operations based in Montreal. The court concludes that if OPL, which conducts business in the U.S., lacked OPI's support, it would have to perform those services itself. Thus, OPI cannot evade jurisdiction by utilizing a subsidiary. The allegations imply that OPI acted as OPL’s agent in soliciting business in the U.S., thereby establishing specific jurisdiction over both entities.
Optimal's motion to dismiss for lack of jurisdiction is denied. The court evaluates Optimal's additional motion to dismiss parts of the adversary proceeding under Rule 12(b)(6) of the Federal Rules of Civil Procedure, as follows:
1. Optimal argues that the funds mentioned in the Trustee's complaint are not part of NADN's estate, thus dismissing the Third Claim for Relief related to turnover.
2. Alternatively, they contend that the contested nature of amounts owed under the Agreement precludes turnover under Section 542, warranting dismissal of the Third Claim.
3. They assert that most postpetition transfers cited are actually prepetition, leading to the dismissal of the Trustee's Second Claim for Relief based on Section 549.
4. Optimal claims to be a secondary transferee, making any recovery claims premature if OPI is subject to the court's jurisdiction.
5. They argue that the breach of contract claim against OPL lacks material facts, justifying summary judgment on the Fifth Claim for Relief.
6. Since OPL provided an accounting to the Trustee, they argue the First Claim for Relief is moot and should be dismissed.
7. They also state that OPI, not being a party to the Agreement, cannot be subject to any accounting claims or relief.
The court notes the high standard under Rule 12(b)(6), emphasizing that all well-pled facts in the complaint must be accepted as true, allowing for dismissal only if no set of facts can be proven that would entitle the Trustee to relief. The court assesses each of Optimal's arguments in detail, particularly focusing on the turnover of funds collected under the Agreement, as the Trustee claims Optimal possesses over $1 million in collections owed to NADN's estate. Optimal counters that British law denies NADN or the Trustee any claim to these funds. The distinction between property rights and personal rights is critical, as the Trustee could seek turnover under Section 542(a) if Optimal had a fiduciary obligation regarding the funds collected for NADN.
Trust relationships in commercial transactions are uncommon, and courts are hesitant to recognize them in typical commercial dealings. Optimal argues against the Trustee's claims by stating their relationship with NADN resulted in unsecured personal obligations rather than trust-based obligations. They assert that the Agreement, governed by English law, establishes that funds paid by NADN's customers via credit card belong to Optimal, not NADN. Optimal managed NADN's credit card transactions, collecting requests and credit information from customers and forwarding them to banks, which extended credit and remitted funds to Optimal. Importantly, Optimal did not receive funds directly from NADN's customers; instead, it received them from the customers' banks prior to any payment made by the customers themselves.
Optimal contends that its obligation to pay NADN arose only after it collected funds from the banks, and thus it was not required to pay NADN the actual currency paid by customers. Instead, it owed NADN an amount equivalent to the funds collected, subject to the deduction of its fees. Therefore, NADN only has an unsecured claim against Optimal, potentially offset by any claims Optimal may have against NADN. The flow of funds confirms that the Trustee lacks property rights for a claim under Section 542(a), as the payments were made through standard banking processes. Optimal asserts that title to the funds transferred to it vested upon successful electronic transfer from the banks, establishing that it possessed both title to the funds and a corresponding obligation to pay NADN, less its fees. A declaration from a British barrister supports Optimal's position regarding the ownership of the funds in the Reserve Account, affirming they are Optimal's property.
Various English authorities support the notion that a debtor’s provision of security for a secured creditor’s obligation does not contradict the secured party's ownership of the underlying funds. Optimal asserts it has no obligation to turn over any funds to NADN because those funds were never NADN's. The cited authorities align with established U.S. law, clarifying that a bank account represents a contractual relationship, yielding only an unsecured claim by the customer against the bank. Optimal further contends that any creditor can secure its own debt while fulfilling obligations to another party. The Trustee's claims of mischaracterized transactions conflict with the actual flow of funds as described in the Agreement. The court favors Optimal's perspective, determining that NADN and its estate never held title to the funds paid by customers. As such, claims based on the notion of title are dismissed.
However, despite Optimal’s success regarding the title issue, the matter is not fully resolved. Under federal bankruptcy law, specifically Section 542, a personal obligation may still be subject to turnover actions. This section mandates that an entity with a matured, payable debt to the estate must pay it to the trustee unless offset by a counterclaim. The case of Coppa v. Security Bank of Nevada illustrates that an examination of the underlying contract is necessary to determine if a matured debt exists. The Trustee must demonstrate that the debt owed to NADN qualifies under Section 542(b). It is crucial to note that an active dispute over the owed amount excludes the action from turnover proceedings, which are reserved for undisputed funds.
Disputes regarding amounts owed to Source by MCI involve breach of contract issues, which are classified as noncore claims. Established legal precedent indicates that a debtor cannot utilize turnover provisions to resolve contract disputes or claim assets with disputed title. In this case, significant disagreement exists over the amounts owed under the Agreement, evidenced by both parties' filings. The Trustee's request for an accounting acknowledges this ongoing dispute, preventing the use of turnover proceedings; hence, Optimal's motion to dismiss this claim is granted.
Regarding post-petition transfers, Optimal contests the Trustee's claim that any transfers of money from NADN to Optimal after June 11, 2003, are avoidable under the Bankruptcy Code, specifically Section 549. Optimal argues that these alleged post-petition transfers were actually prepetition transactions due to existing obligations and agreements. The distinction between the characterization of a prepetition claim and the occurrence of a postpetition transfer is crucial, as a postpetition transfer can convert a contingent prepetition claim into a fixed claim. The definitions of "claim" and "transfer" under the Bankruptcy Code are broad; thus, actions related to prepetition transactions that occur postpetition are classified as postpetition transfers and are subject to scrutiny under Section 549.
The Trustee's assertion that there was no contractual basis for the transfers implies that they are mere breaches of contract, which would negate any prepetition categorization. Optimal argues that its actions were a form of recoupment, which involves netting debts from a single transaction, with obligations arising at any time relative to the case. Recoupment functions as a defense aimed at justly apportioning liability from a singular transaction, and the burden of proof lies with the party claiming recoupment rights. Optimal claims that postpetition modifications of debits and credits merely reflect netting of amounts owed, a practice allowed without prior relief from the stay, particularly in healthcare reimbursements, as supported by various case law. Although courts are divided, a prevailing view suggests that the automatic stay does not impede legitimate recoupment rights, as it pertains to defining obligations rather than enforcing a separate debt. However, Optimal seeks a legal determination that its recoupments were appropriate and executed prepetition, which it cannot currently substantiate due to its burden of proof. Despite presenting spreadsheets of claims, much of the data is redacted, hindering the Trustee and the court's ability to assess the information. Furthermore, Optimal's claims of indemnification from NADN and the estate for chargebacks lack adequate evidential support regarding both the basis for indemnification and the legitimacy of the charges involved. The distinction between prepetition and postpetition claims is deemed largely irrelevant.
Key issues addressed involve the limitations of actions under the Agreement, particularly in relation to the Trustee's breach of contract claim. Optimal argues that the Trustee's claims against OPI under Section 550 are premature, asserting that no transfer has been avoided or deemed avoidable. The Trustee's complaint alleges that OPI received funds from OPL, which were originally from NADN and are part of NADN's estate. If the Trustee proves the transfers from NADN to OPL are voidable, OPI could be liable to return the property or its value.
Mediate transferees like OPI have more defenses than immediate transferees. They can defend themselves if they took the property for value, in good faith, and without knowledge of the voidability of the transfer. Additionally, a shelter defense exists for mediate transferees who receive property in good faith from another mediate transferee protected under Section 550(b)(1). The Trustee claims OPI had knowledge that the funds were part of the Debtor's estate, which supports a case under Section 550(b)(1).
Optimal contends the Trustee must first avoid the initial transfers to OPL before pursuing recovery from OPI, citing Section 550(a) language that avoidance must occur prior to liability. However, courts have noted that requiring avoidance of initial transfers creates a harsh outcome, allowing transferees to evade liability by re-transferring funds. While there is no controlling law in the Ninth Circuit, existing precedent tends to support the Trustee's position.
In Kendall v. Sorani and related cases, it is established that once a trustee demonstrates that a transfer is avoidable, recovery can be sought from any transferee or entity benefiting from the transfer. The court clarified that the phrase "to the extent that" in Section 550 acknowledges partial avoidance and that only the avoided portion of a transfer can be recovered. The legislative history indicates that liability does not apply to a good faith transferee who has provided value for a transfer deemed a fraudulent transfer.
In the context of the Trustee's breach of contract claim against Optimal, the court found that Optimal's assertions about compliance with the Agreement were not substantiated enough to warrant dismissal, as they relied on self-serving interpretations. The court emphasized that under Rule 56(c) of the Federal Rules of Civil Procedure, summary judgment is appropriate only when there are no genuine material facts in dispute. The moving party must provide evidence to demonstrate this absence of genuine issues. Importantly, when evaluating such motions, the court must accept the non-moving party's evidence as true and draw all reasonable inferences in their favor, particularly at this preliminary stage before any answer has been filed.
Motions for summary judgment must rely solely on the existing record rather than speculative expectations about future evidence. Speculative conjecture is inadequate to prevent summary judgment. In the context of the case, the court must view the facts favorably toward NADN and the estate, which reveals significant factual disputes. The complaint states that NADN contracted with SF (now OPL) in 2002 for credit card transaction processing, requiring a security deposit while allowing Optimal to withhold a percentage of receipts for potential liabilities. The Agreement clarifies that the reserve account funds are intended solely for covering NADN's obligations and do not imply perpetual ownership by Optimal. Specific clauses indicate Optimal may withdraw funds only to satisfy amounts owed under the Agreement and that interest on the security deposit and reserve account also belongs to NADN. The provisions establish that the reserve account’s value is not available to Optimal without limitation. The Trustee alleges that Optimal misused these funds and that the timeframe for Optimal’s retention of funds has expired, meaning Optimal may owe money to the estate. Given that NADN filed for bankruptcy over two years ago, the stipulated seven-month retention period has lapsed, suggesting Optimal has no further claim to the funds, allowing for the Trustee's claims to proceed after resolving any disputed charges or penalties.
NADN's assertion that it has no interest in the Reserve Account or other funds until Optimal releases them is incorrect, highlighting a significant factual dispute. The Trustee claims Optimal improperly assessed $344,650 in post-petition fines and $97,325 in pre-petition fines without adequate accounting or proof of their legitimacy. Despite having sufficient legal grounds for a breach of contract claim, the Trustee continues to pursue an accounting claim, which traditionally serves as a restitutionary remedy to compel fiduciaries to account for profits derived from property belonging to beneficiaries. However, there is no fiduciary relationship between NADN and Optimal, as their connection is merely a business arrangement. Courts may extend the accounting remedy to nonfiduciaries in complex situations where an equitable master is required to resolve intricate dealings. Optimal has moved to dismiss the accounting claim, arguing it does not possess any of NADN's property, which raises the question of whether possession is necessary for such a claim between nonfiduciaries. The legal authorities suggest that possession of the plaintiff's property is typically essential in these circumstances.
Remedies such as accounting are focused on restoring what the plaintiff is rightfully owed, based on profits derived from the plaintiff's property or its use. An accounting is not applicable when the complaining party lacks legal title to the property held by the defendant. Additionally, when the parties have fulfilled their contractual obligations, claims for unjust enrichment or restitution are generally unavailable, as performance has been completed, and any payments due are specified in the contract. The value of benefits conferred after full performance aligns with the parties' contractual terms, negating the need for an accounting to determine financial responsibilities. The breach of contract claim provides sufficient relief, leading to the court granting Optimal's motion regarding the first claim for relief. OPI's argument against the accounting claim, based on a lack of privity with NADN, hinges on allegations that OPI acted as a subagent for OPL, handling funds that should have been allocated to NADN. A subagent operates under the authority of an agent, for whom the agent remains primarily liable, thus potentially allowing for a claim against OPI.
An agent hired by another agent to fulfill a principal's work becomes the agent of the hiring agent unless the principal has authorized the retention of a subagent. In this case, OPI, as a subagent hired without NADN's express or implicit authority, was not in contractual privity with NADN and cannot be sued for breach of contract. Consequently, OPI does not owe a fiduciary duty to NADN or the Trustee, negating any claim for an accounting. If an agent hires a subagent without the principal's authorization, the subagent remains solely the agent of the primary agent. Any potential liability for an accounting would rely on nonfiduciary principles, which are considered obsolete in federal courts. Additionally, because the complaining party lacks legal title to any property held by OPI, no accounting can be sought from OPI. Therefore, OPI is shielded by OPL's status as a party to the Agreement, and NADN will seek remedies only from OPL. The request for an accounting against OPI is dismissed.
OPL and OPI are under the jurisdiction of the court and must respond to the complaint. There are substantive disputes between the Trustee and OPL regarding the Agreement's interpretation, which present genuine issues of material fact; thus, summary judgment for the breach of contract claim is denied. The Trustee has also raised valid claims regarding unauthorized prepetition and postpetition transfers under Sections 548 and 549. However, other claims, primarily for turnover and accounting, will be dismissed since they do not involve estate property or fiduciary duties.
OPC is identified as a wholly owned subsidiary of OPI, making OPL and OPC corporate siblings under OPI. However, on March 7, 2005, the court approved a stipulation to dismiss OPC from the case without prejudice, thus it will not be referenced further in this memorandum. Optimal has filed for partial summary judgment concerning jurisdiction, accompanied by various declarations about jurisdictional facts; however, no party sought an evidentiary hearing, meaning these declarations have not been cross-examined. The court cites Harris Rutsky, indicating that claims must directly contradict well-pled facts to challenge the Trustee's jurisdictional assertions. Optimal concedes that the court holds jurisdiction over OPL, given that OPL knowingly contracted with a Nevada corporation engaged in significant business in Nevada, thereby accepting the benefits and burdens of operating there. If a customer of NADN pays fees via credit card and opts for installment payments, Optimal may have received funds before the customer settled their credit card debt. Similar scenarios apply if payment was made by check or cash, with legal implications stemming from the delivery of such instruments. Under Nevada law, once money is deposited with a bank, it becomes the bank’s property, establishing a debtor-creditor relationship, which is consistent with broader U.S. legal principles.
In United States v. Banco Cafetero Panama, the court clarifies that depositing money in a commercial bank establishes a debtor-creditor relationship, not a trust, as acknowledged by Article 9 of the Uniform Commercial Code and Section 506(a) of the Bankruptcy Code. The case involves Optimal, a non-bank, which complicates the typical banking context, as it raises issues of recoupment rather than standard bank deposit account issues. The complaint alleges only cash transfers without detailing other methods, such as checks or electronic transfers, suggesting a limitation in financial transactions that may not reflect ordinary business practices. Optimal argues that if transfers are deemed prepetition, they cannot be avoided under Section 549. The definition of a "claim" encompasses various rights to payment and equitable remedies, irrespective of their status. The court distinguishes this case from Sherman v. First City Bank, emphasizing that relationships governed by recoupment differ from setoff scenarios. Optimal's motion to dismiss fraudulent transfer claims against OPL is denied, while its timing argument applies solely to OPI. Additionally, interpretations of the term "avoided" are not universally accepted as past tense.
Judge Lief Clark's interpretation of the phrase "to the extent that a transfer is avoided" indicates that a transferee is not liable if protected under provisions such as section 548(c). This implies that in section 550, "avoided" should be understood in the present perfect tense, meaning that the avoidance of a transfer does not necessarily need to occur in a prior, separate procedure, but rather acknowledges limitations on recovery due to safe harbor provisions.
The court's ruling on turnover's unavailability suggests that its jurisdiction over the common law breach of contract claim is noncore, aligning with the precedent that breach of contract actions are classified as noncore claims. Since neither party has objected to the court's jurisdiction and Optimal requested it, both parties have effectively consented to a final order regarding Optimal's summary judgment motion on this count.
There are potential fraudulent transfer implications associated with the nature of the transaction, alongside unresolved issues regarding the interpretation of the Agreement concerning chargebacks and penalties. Optimal argues that the Agreement mandates NADN to cover all payments made to its customers' banks, while the Trustee disagrees. The differing interpretations of Section 4.16 have not clarified the matter, making summary judgment inappropriate.
Section 8.3 of the Agreement establishes that the relationship between the parties is that of independent contractors, explicitly stating that they are not partners or joint venturers. Additionally, the remedy of accounting, historically used in equity to facilitate discovery, is now considered obsolete in federal courts post-merger of law and equity in 1938, with discovery being broadly available in civil actions. This raises significant jury trial issues that are outside the current motion's scope, leading to the conclusion that the traditional accounting remedy no longer exists in federal courts.
