Court: United States Bankruptcy Court, S.D. New York; June 2, 2015; Us Bankruptcy; United States Bankruptcy Court
The Trustee, James W. Giddens, filed an objection to general creditor claim number 50200 by Charles Sonson, based on claims arising from Sonson's previous litigation against MF Global Inc. (MFGI) in 2010. Sonson's claim includes allegations of breach of contract, breach of fiduciary duty, and misrepresentation under the Commodities Exchange Act, related to MFGI's liquidation of his account. The Trustee's objection, citing section 502(d) of the Bankruptcy Code, argues that Sonson's claim should be disallowed due to a negative balance in his account, which he must rectify before any claim can be honored. Sonson opposed the objection, and the Trustee subsequently replied. A hearing on the objection was held on April 7, 2015, after which the Court sustained the Trustee's objection.
The background indicates that MFGI's liquidation commenced on October 31, 2011, under the Securities Investor Protection Act (SIPA). The Claims Process Order established procedures for claims, setting deadlines for filing. Sonson opened a trading account with MFGI in 2009, governed by a Customer Agreement that allowed MFGI to liquidate his account without prior notice. On May 6, 2010, amidst market disruptions, Sonson’s account became undermargined. MFGI attempted to contact Sonson multiple times to alert him of the need for a margin deposit, which was essential to avoid liquidation, but was unsuccessful in reaching him.
On May 6, 2010, MFGI made several attempts to contact Sonson regarding a margin call. Tracy Schafroth, an MFGI representative, left voice messages on both Sonson's home and cell phones, notifying him of the $154,000 margin demand. Schafroth also sent an email outlining the implications of failing to meet the margin call. Sonson, who was traveling at the time, listened to the message shortly after it was left but chose to contact MFGI only after the market closed, despite landing in Charlotte before market closure. The Trustee claims that Sonson’s account became overdrawn within 80 minutes of the initial message, prompting MFGI to liquidate Sonson's account to cover the debit. By the next day, the account was fully liquidated, resulting in a debit balance of $51,093.46. MFGI demanded payment from Sonson, who refused, arguing that the liquidation was improper. On June 22, 2010, Sonson filed a lawsuit against MFGI in the Northern District of Illinois, seeking $284,543 in damages for breach of contract and other claims. MFGI countered, alleging breach of contract for non-payment of the debit balance. The litigation was stayed due to the MFGI Liquidation Order, and Sonson has not sought to lift this stay. On March 30, 2012, Sonson submitted a claim for approximately $545,000, asserting it was based on a hypothetical valuation of his account. The Trustee contends that under section 502(d) of the Bankruptcy Code, Sonson’s claim should be disallowed unless he pays the debit balance, which the Trustee argues is estate property subject to recovery. Sonson has refused to turn over this property, leading the Trustee to assert that his claim should be disallowed until the debt is resolved.
Sonson presents four main arguments in his Opposition. He contends that the Customer Agreement integrates federal law, regulations, and market practices, asserting that MFGI failed to comply with these standards. He claims entitlement to address a margin call by the end of trading on May 6, 2010, based on mutual understanding with Schafroth, and argues that the Customer Agreement includes a reasonable notice requirement which MFGI did not uphold before liquidating his positions. Sonson disputes the characterization of his account as being in debit at the time of liquidation, stating that accurate intraday valuations were impossible, and notes that he had similar positions in other accounts with Tradestation, which did not issue margin calls until the morning of May 7, 2010. He attributes the disputed deficit to MFGI's indiscriminate liquidation rather than his own actions and claims he is not required to pay this deficit to maintain his Claim, insisting that the Trustee must first prove he owes money to the estate under Bankruptcy Code section 502(d).
In response, the Trustee asserts that the facts surrounding Sonson’s Claim are undisputed, highlighting the rapid market decline on May 6, 2010, known as the “flash crash.” MFGI, determining Sonson's account was undermargined, communicated this through multiple messages, which Sonson acknowledged receiving before the market's close. Despite the margin call, Sonson did not respond to MFGI's attempts to contact him, as he was boarding a plane. The Trustee argues MFGI was within its rights to liquidate Sonson's account without prior notice due to the undermargined status, citing that neither federal nor Illinois law requires such notice for FCMs. Furthermore, the Trustee emphasizes that Sonson had a responsibility to not only meet the margin call but also to notify MFGI of his intention to do so, which he failed to do despite being aware of the unusual market conditions.
The Trustee argues that Sonson's claim that his account was not in debit when liquidated is unfounded. MFGI had the right to liquidate Sonson's account at its discretion if it deemed the account undermargined or at risk of a deficit. Sonson's account was indeed liquidated, resulting in a $50,000 debit, which reflects the market's valuation at that time. Under the Customer Agreement, MFGI had the authority to liquidate positions at market prices, which is deemed commercially reasonable. The Trustee asserts that Sonson's liability for the debit is unconditional and must be settled to maintain his claim. The Court can ascertain Sonson’s debt to the MFGI estate within the context of this claim objection, negating the need for a separate proceeding. Additionally, the Trustee maintains that the automatic stay should remain in effect even if the Court overrules the Objection, as Sonson has not demonstrated sufficient cause to lift it.
Section 502(d) of the Bankruptcy Code mandates the disallowance of any claim from an entity that is withholding property recoverable under section 542 unless the entity has returned that property. This section aims to ensure that entities holding estate property do not receive distributions until they have returned the property. A claim cannot be disallowed under section 502(d) without first determining the claimant's obligation to return the property. Sonson contends that his claim's disallowance is premature, as MFGI has not yet secured a judicial ruling requiring him to turn over estate property.
The Trustee asserts that the Court must evaluate Sonson's liability to MFGI when addressing the Objection to his Claim, while contending that a separate determination of liability is not necessary prior to objecting under section 502(d). Citing In re Metiom, Inc., the Trustee notes that a court can adjudicate a claimant’s liability in the context of a claim objection. In Metiom, the trustee's objection was based on the claimant receiving an avoidable preference under section 547, leading to a claim disallowance under section 502(d) until the preference was repaid. The claimant's argument against the objection centered on the need for an adversary proceeding due to the rights invoked, which the court rejected, stating that the objection could proceed without a separate adversary proceeding per Rule 3007. However, subsequent amendments to Bankruptcy Rule 3007 now prevent including requests for relief that necessitate an adversary proceeding within a claim objection.
The Trustee's Objection to Sonson’s Claim is grounded on the claim that Sonson’s account deficit is estate property subject to turnover under section 542(a) of the Bankruptcy Code. Section 542(a) mandates that entities in possession of estate property must deliver it to the trustee unless it is of inconsequential value. Bankruptcy Rule 7001(1) classifies actions to recover money or property as adversary proceedings, which require a formal complaint for a turnover action. Nevertheless, the Trustee clarifies that he is not seeking affirmative relief under section 542(a) but rather a determination of Sonson's account deficit to temporarily disallow his claim under section 502(d). Sonson concurs that establishing his account deficit would constitute the necessary judicial finding for this purpose.
The Court concludes that the Objection does not need to be overruled despite potentially seeking relief that should be pursued in an adversary proceeding. The Trustee has established a prima facie case that Sonson’s debit account balance, approximately $51,093.46, qualifies as estate property. This balance is under Sonson's control and holds significant value for the MFGI estate. Although the exact amount is contested, the Court can determine that Sonson owes this debit balance to the estate, with no factual disputes requiring resolution.
Sonson claims that MFGI improperly liquidated his account before the market closed on May 6, 2010, arguing he was informed he had until market close to meet a margin call. He alleges that MFGI liquidated most of his account about 30 minutes after this notification and that the chaotic liquidation process contributed to the deficit. The Court must decide if the debit balance constitutes estate property, leading to two possible outcomes: either Sonson breached the Customer Agreement by failing to pay the debit balance, or MFGI breached the agreement by liquidating the account improperly. Ultimately, the Court finds Sonson liable for the debit balance and determines that the Trustee has sufficiently shown that it is subject to turnover under section 542 of the Bankruptcy Code.
MFGI did not breach the Customer Agreement by liquidating Sonson's account without notice. The agreement's Margin Provision required Sonson to maintain a specified margin amount and allowed MFGI to demand deposits immediately. The Default Provision authorized MFGI to declare Sonson in default without prior notice if he breached any terms of the agreement. Upon default, the Remedy Provision permitted MFGI to sell any property in which Sonson had an interest without notice, thereby making him liable for any resulting deficiencies or losses. MFGI attempted to notify Sonson of a margin call three times on May 6, 2010, including an email warning of potential liquidation if the margin call was not met, and Sonson acknowledged learning of the margin call through a voice message. The court concluded that MFGI adequately communicated Sonson's default status and, once declared in default, was authorized to liquidate his account positions without prior notice. Furthermore, neither Illinois nor federal law mandates that a futures commission merchant (FCM) provide notice before liquidating an undermargined account.
MFGI did not breach the Customer Agreement by liquidating Sonson’s account. Sonson contends that the liquidation was inconsistent and that MFGI could not reliably value his account on May 6, 2010, due to the illiquid nature of his positions. However, the Trustee asserts that Sonson's positions were liquidated at the market price, leading to a debit balance of approximately $50,000. The Trustee emphasizes that while the value of Sonson's positions may have been theoretical before liquidation, the actual market price reflects their value at the time of liquidation. The Customer Agreement granted MFGI sole discretion in the liquidation process and imposed no limitations on how positions were liquidated. Furthermore, neither Illinois nor federal law mandates a specific liquidation method for Futures Commission Merchants (FCMs), and courts do not require them to consider less drastic alternatives. MFGI’s liquidation actions were deemed commercially reasonable, and the CME Rule 930.K supports prompt and orderly liquidation in the event of a liquidating deficit. Ultimately, the Court found that MFGI's actions adhered to the Agreement and applicable law, concluding that the liquidation did not constitute a breach. MFGI liquidated most of Sonson’s positions before market close on May 6, 2010, with the last position liquidated the following day due to a lack of market bid offers.
The Trustee has sufficiently demonstrated that Sonson's debit account balance is subject to turnover. The Customer Account stipulates that Sonson is unconditionally obligated to pay any debit balance at the lesser of the highest legal rate or two percent above the prime rate. Following the liquidation of Sonson's account, it reflected a debit balance of $51,093.46. Although Sonson contends that the balance arose from MFGI's improper liquidation process, he does not contest the existence of the debit balance. The Court finds no factual disputes and concludes that MFGI's liquidation did not breach the Customer Agreement, making Sonson liable for the debit balance.
The Trustee's allegations fulfill the criteria for turnover under section 542 of the Bankruptcy Code, which mandates that an entity owing a debt that is property of the estate must pay that debt to the trustee unless offsetting claims apply. Sonson's debit balance is classified as estate property under section 541(a), which encompasses all legal or equitable interests of the debtor at the case's commencement. The interpretation of property is broad, including both tangible and intangible assets, as well as causes of action. Since Sonson is unconditionally liable under the Customer Agreement, the debit balance is deemed a "matured" debt under section 542(b), signifying that it is presently payable rather than contingent. For a claim to qualify as matured, it must be specific regarding the amount due and the payment date.
An action qualifies as a turnover proceeding even if defendants dispute the debt's existence, provided the complaint alleges a mature debt. The Court has determined that the Trustee has established a prima facie case for turnover of the debit balance in Sonson's account under section 542 of the Bankruptcy Code. Consequently, the Court sustains the objection to Sonson’s claim under section 502(d), resulting in the disallowance of the claim. The objection is supported by the Morisseau Declaration, while Sonson’s opposition is backed by the Sonson Declaration. The Trustee also asserts that Sonson owes MFGI accrued interest and fees totaling over $27,000. The governing law for the Customer Agreement is the State of Illinois and U.S. law. Relevant rules from the Chicago Board of Trade and the Chicago Mercantile Exchange stipulate customer deposit requirements and the consequences of failing to meet margin calls, allowing commission merchants to close out trades if deposits are not made within a reasonable time. The Jacobs court noted that there are no significant differences between the relevant rules regarding margin calls. The Trustee has also presented facts supporting a turnover action under section 542(a) and generally claims that Sonson’s negative account balance is subject to turnover under section 542(b).
