45 John Lofts, LLC v. Meridian Capital Grp. LLC (In re 45 John Lofts, LLC)

Citation: 599 B.R. 730Docket: Case No. 16-12043 (SHL) (Jointly Administered); Adv. No. 17-01179 (SHL)

Court: United States Bankruptcy Court, S.D. New York; April 24, 2019; Us Bankruptcy; United States Bankruptcy Court

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Motions for dismissal of a complaint in an adversary proceeding have been filed by multiple defendants, including Bo Jin Zhu, Crown Mansion LLC, and Meridian Capital Group LLC, along with other parties seeking to join these motions. The court received letters from several defendants indicating their support for the motions to dismiss, even if they had already filed answers to the complaint. The court denied the dismissal motions except for certain counts related to disallowance of claims.

The complaint seeks the return of a $14,330,000 deposit received by the debtor in connection with the sale of property, which was later transferred to other parties amid complex transactions involving a member of the debtor. These transactions underpin the plaintiff's claims for avoidance, fraudulent transfers, and disallowance of creditor proofs of claim. The debtor, prior to filing for bankruptcy, was comprised of members Chaim Miller and Chun Peter Dong, with Miller sometimes acting on behalf of the debtor. The debtor's only asset was an 84-unit vacant condominium located at 45-49 John Street, New York, which was purchased for $60 million, financed by three mortgage loans totaling $49.5 million from Madison Realty Capital affiliates, a lender previously used by Miller for other transactions.

Miller and Sprei were involved in the $31,000,000 buy-out of Bo Jin Zhu's membership interests in four limited liability companies, each owning separate commercial properties, under the Zhu Buy-Out Contract with Zhu's assignee, Renatus Portfolio Company, LLC. An initial deposit of $7,000,000 was paid, with a closing initially scheduled for August 11, 2014, later extended to September 15, 2014, following an additional deposit of $1,500,000 made by Joseph Brunner using funds from entities he controlled. By late August 2014, Miller and Sprei could not secure the remaining purchase funds, prompting them to attempt to raise the needed capital through property sales and refinancing efforts.

They negotiated an Agreement of Purchase and Sale (PSA) to sell a property to HS 45 John LLC for a total price of $64,500,000, including a down payment of $14,330,000, which was not required to be held in escrow—information unknown to other Debtor members. On September 19, 2014, the PSA was executed by Miller on behalf of Debtor without the consent of Dong, Debtor's managing member, or the 41% Investors. On the same day, most of the PSA Down Payment was transferred to Riverside Abstract Company to fund the Zhu Buy-Out, while $1,000,000 was sent to Meridian Capital Group LLC. Upon discovering the unauthorized PSA, Dong and the 41% Investors were misled by Miller and Sprei, who provided a fabricated letter to obscure their misappropriation of the PSA Down Payment.

The Quick Title Letter, allegedly from Quick Title Search, LLC and signed by Abraham Teitelbaum, claimed to hold $12,453,980 in 1031 exchange proceeds for Harry Miller. However, Sprei testified that the letter was a hoax, created by a friend without Quick Title’s knowledge, and that Quick Title had no dealings with Miller or Sprei. Sprei provided the letter to appease the "Asian Group," concerned about the unauthorized property sale and potential misappropriation of funds. To finance the Zhu Buy-Out, Miller and Sprei secured mezzanine financing from Madison, yielding $16,073,911 in addition to the PSA Down Payment. 

The total funds, amounting to $29,403,911.98, were transferred to Riverside to facilitate the Zhu Buy-Out. Riverside disbursed these funds to various parties, including $19,672,687.23 to Herrick Feinstein, LLP for Renatus, $2,827,312.77 to Mega International Commercial Bank, and additional amounts to other entities and individuals. Herrick further allocated $5,600,000 to Treff, Lowy, PLLC, $1,000,000 to Defendant Abraham Mandel, and $13,072,687.23 to SGG. The T.L. Transfer represented a partial repayment of a $7,000,000 loan made by T.L. to Anmuth Holdings, LLC, owned by Defendants Brunner and Abraham Mandel, who guaranteed the loan. Subsequently, T.L. distributed part of the T.L. Transfer to various defendants, retaining a small portion for itself.

The SGG Transfer is alleged to have benefited Brunner by repaying funds he loaned via SGG and Brooklyn Realty Holdings, LLC to Miller and Sprei for an Extension Payment related to the Zhu Buy-Out Contract. Mega reportedly received a disbursement from Riverside to settle Zhu's debts, with Sprei confirming that part of the proceeds ($2,827,312.77) was used to pay off Mega on Zhu's behalf. Crown Mansion LLC had previously borrowed $2,700,000.00 from Mega, which Zhu guaranteed, and a letter from Mega indicated the total amount due under this loan was $2,827,312.77, matching the amount transferred. After receiving the Mega Transfer, Mega terminated a UCC-1 financing statement filed in its favor. Additionally, a disbursement schedule showed that Defendant Babad received the Congregation Transfer instead of the Congregation itself, contradicting the Debtor's counsel's understanding that the transfer was meant for the Congregation.

In February 2015, Dong initiated a legal action in New York Supreme Court to prevent the sale of Property, resulting in a temporary restraining order. Following this, HS 45 filed a Chapter 11 petition and sought specific performance of a Purchase and Sale Agreement (PSA). The Property was ultimately sold for $73,000,000.00, with proceeds allocated to settle Madison Mortgage Loans and claims against HS 45, and remaining proceeds distributed to Dong and the 41% Investors.

The Plaintiff's Complaint includes 81 counts against 17 Defendants, requesting avoidance of transfers related to the Adjusted Down Payment and damages equal to those transfers. It alleges multiple causes of action for fraudulent conveyances under both the Bankruptcy Code and New York Debtor and Creditor Law. The Complaint also seeks to disallow any claims from the Defendants unless they return their portion of the PSA Down Payment. The Dismissal Motions challenge the pleadings' sufficiency and present several affirmative defenses, to which the Plaintiff responded with an omnibus opposition, while only Zhu and Meridian filed replies.

Federal Rule of Civil Procedure 12(b)(6) governs the dismissal of claims that fail to state a valid cause of action, applicable in bankruptcy through Federal Rule of Bankruptcy Procedure 7012(b). Under this rule, a claim should not be dismissed unless it is clear that the plaintiff cannot prove any set of facts that would warrant relief. Courts assess motions under Rule 12(b)(6) using the same standards as those for Rule 12(c) motions. In making a determination, courts may consider exhibits, referenced materials, and documents integral to the complaint, provided the complaint clearly mentions these materials and the plaintiff relied on them. 

There are different pleading standards for fraudulent transfer claims. Intentional fraudulent transfer claims necessitate a heightened standard of "particularity," as outlined in Federal Rule of Civil Procedure 9(b). Conversely, constructive fraudulent transfer claims are subject to the more lenient Rule 8(a)(2) standard, which requires only that the defendant receive adequate notice to prepare a defense. This "fair notice" standard mandates that the plaintiff provide enough detail for the defendant to understand the nature of the allegations.

Federal law under Section 548(a)(1)(A) of the Bankruptcy Code prohibits intentional fraudulent transfers made with the intent to hinder, delay, or defraud creditors, referred to as "actual fraud." Courts assess the intent of corporate agents in cases involving corporations, allowing for the imputation of a corporate officer's intent to the corporation if they had control over its property. Circumstantial evidence and "badges of fraud" can support claims of actual fraud, which include factors such as inadequate consideration, relationships between parties, retention of property benefits, the financial condition of the debtor, patterns of transactions following debt incurrence, chronological events, unusual transaction characteristics, and secrecy or haste.

Additionally, constructive fraudulent transfers are addressed under Section 548(a)(1)(B), where proving actual fraud is not necessary. Instead, a trustee must demonstrate that the debtor received less than reasonable equivalent value in exchange for a transfer, was insolvent at the time of the transfer or became insolvent due to it, engaged in business with unreasonably small capital, or transferred assets to an insider outside the ordinary course of business.

Fraudulent transfers under New York law are governed by the New York Debtor and Creditor Law (N.Y. DCL), which parallels Section 548(a)(1)(A) of the Bankruptcy Code in allowing recovery for transfers made with actual fraudulent intent (N.Y. DCL § 276). Both federal and state law share similar pleading requirements, necessitating the identification of the property transferred, the timing and frequency of the transfer, and the consideration involved (Official Comm. of Unsecured Creditors v. JP Morgan Chase Bank, N.A., In re M. Fabrikant & Sons, Inc.). Additionally, the N.Y. DCL permits recovery for constructive fraudulent transfers in the absence of actual fraudulent intent, aligning with Section 548(a)(1)(B) of the Bankruptcy Code (Am. Federated Title Corp. v. GFI Mgmt. Servs.).

New York law does not prohibit transfers unless the debtor is left insolvent, undercapitalized, or anticipates incurring debts beyond their ability to pay (N.Y. DCL §§ 273, 275). However, transfers are considered fraudulent under Sections 273 and 274 unless made with "fair consideration," which requires both fair equivalency of value and good faith (DCL §§ 272(a), 273, 274). The trustee can counter a motion to dismiss by alleging a lack of "fair consideration" through insufficient value or bad faith on the part of the transferee. Good faith involves more than the absence of fraudulent intent; it necessitates honest and fair dealings (Southern Indus. Inc. v. Jeremias).

Regarding standing to pursue avoidance actions, the Bankruptcy Code's Section 544(b)(1) stipulates that a debtor in possession can avoid any transfer that is voidable under applicable law by a creditor with an allowable unsecured claim. "Applicable law" encompasses both federal and state law (Tronox Inc. v. Anadarko Petroleum Corp.). The trustee must demonstrate that at least one current unsecured creditor holds an allowable claim against whom the transfer was invalid under the relevant laws (Mendelsohn v. Kovalchuk).

Plaintiff's standing under Section 544 is challenged by Defendants, who argue that Plaintiff has not identified any qualifying unsecured creditor and that the schedules and claims are contested, thus invalidating reliance on them for establishing standing. Defendants assert that the proceeding benefits equity holders rather than unsecured creditors, referencing case law to support their position. However, it is clarified that the Complaint need not identify a specific unsecured creditor with an allowed claim, as established in relevant case law. Defendants' claim that the Trustee must identify such a creditor contradicts legal precedents in the District, which suggest that the determination of qualifying creditors is a factual issue to be resolved later in the proceedings, not at the motion to dismiss stage. Additionally, regarding claims of intentional fraudulent transfers, Defendants argue that no intent to defraud exists because a secured creditor was to be paid in full, but this reasoning is deemed premature and inconsistent with the presence of filed claims by unsecured creditors. All arguments by Defendants related to both standing and fraudulent transfers are ultimately deemed unpersuasive.

Defendants contend that Plaintiff has not adequately demonstrated an intent to defraud. The Court finds that the intent to defraud is sufficiently alleged in the Complaint, which details extensive misconduct by Miller. Under New York law, actions of agents and their acquired knowledge within the scope of their authority are imputed to their principals. A limited liability company acts through its authorized agents, and all actions by an agent are imputed to the company unless exceptions apply. The Complaint establishes Miller as a member and agent of Plaintiff and outlines various actions he took, including negotiating the sale of property, misappropriating sale proceeds, and attempting to conceal these actions from other members. It is alleged that Plaintiff received no consideration for transfers initiated by Miller and Sprei, with the exception of a claimed brokerage fee. None of the funds or benefits received by Defendants contributed to the Debtor's benefit, and payments were not disbursed to Madison, even though they were stipulated in the sale agreement. These allegations align with the indicators of fraud recognized in relevant case law, supporting the claim against Defendants. Zhu's argument that Miller and Sprei were unauthorized agents falls short, as it was presented for the first time in a reply, limiting Plaintiff's opportunity to respond. Consequently, the Court may disregard these new arguments. Additionally, Zhu's claim regarding the lack of agency requires evaluation of evidence outside the Complaint, which the Court is not permitted to consider at this stage, as there has been no request to convert the motions to summary judgment.

Plaintiff alleges that the transfer of the Adjusted Down Payment to Defendants constituted constructive fraudulent conveyance, asserting that the Debtor received nothing of value in return, fulfilling the first prong of Section 548(a)(1)(B)(i). To establish its federal constructive fraud claim, Plaintiff must meet one of the four criteria outlined in Section 548(a)(1)(B)(ii) and related New York DCL sections. Zhu contends that the Complaint lacks balance sheet information to prove insolvency under Section 548(a)(1)(b)(ii)(I) and Section 273 of the N.Y. DCL. Conversely, Meridian acknowledges adequate solvency calculations but claims they demonstrate the Debtor was solvent. 

The legal definition of insolvency under New York law requires that the present fair salable value of assets be less than the total probable liabilities, while the Bankruptcy Code defines insolvency as assets exceeding liabilities at the time of transfer. Plaintiff asserts its assets totaled $64,500,000, while liabilities included $51,429,334 for an unpaid mortgage, $14,330,000 for the potential return of the PSA Down Payment, and $1,779,322.99 for management fees, totaling $67,538,666.99 in liabilities. Following the transfer, the Debtor's assets decreased by the Adjusted Down Payment amount, resulting in insolvency. Defendants further argue that Plaintiff has not demonstrated whether capital became unreasonably small due to the transfers, as required by Section 548(a)(1)(b)(ii)(II) and Section 274 of the N.Y. DCL.

Under the Bankruptcy Code and the New York Debtor and Creditor Law, transfers are presumed fraudulent if the transferor, though technically solvent, is deemed "doomed to fail." In this context, factors such as the transferor's debt-to-equity ratio, capital cushion, and working capital needs are relevant in assessing whether the transferor was left with unreasonably small capital. The Court finds that the Plaintiff has adequately alleged it was left with unreasonably small capital after a transfer, noting that it had approximately $67 million in debts against $51 million in assets. Additionally, the Plaintiff's lack of cash flow following the sale of its only income-generating asset supports this claim.

Defendants argue that the Plaintiff failed to provide evidence of its ability to pay debts as they come due, as required by the Bankruptcy Code and DCL. However, the Court emphasizes that a complaint does not need to explicitly state that the transferor believed it would be unable to pay debts; this can be inferred from the facts presented. The allegations include that the Plaintiff's only revenue-generating asset was disposed of, additional liabilities were created, and funds were transferred to the Defendants without value to the Plaintiff. These points allow for an inference that the transferor intended to incur debts it could not repay.

Furthermore, the Defendants' argument regarding the need to trace specific dollar amounts from the transferor to the transferees is deemed unfounded, as established legal principles do not require such tracing to withstand a motion to dismiss.

A plaintiff at the pleading stage is not required to provide a detailed accounting of transfers, but must instead allege sufficient facts showing the pathways of the funds involved. In this case, the Complaint claims that a significant payment, the Adjusted Down Payment, was transferred into an account at Riverside and subsequently disbursed to the Defendants, which is adequate to survive a motion to dismiss. 

Reliable's argument for dismissal cites a prior state court statement by the Plaintiff, which suggests the transfer was made from other properties' refinancing rather than from Plaintiff. Judicial admissions, defined as formal concessions that remove a fact from contention, are conclusive only in the context of the case in which they are made and serve only as evidence in subsequent cases. The Court declines to dismiss based on this prior statement, noting that judicial admissions are not binding in different proceedings and that the context of the state court case is unclear. The Court acknowledges confusion related to the actions of Miller and Sprei during the bankruptcy proceedings, emphasizing the need for a more developed factual record before evaluating the relevance of the prior statement.

Additionally, Zhu contends that the safe harbor provision of Section 546(e) of the Bankruptcy Code should apply to most claims related to a significant transfer, arguing for dismissal of all but the intentional fraudulent transfer claims under Section 548(a)(1)(A). This safe harbor provision protects certain transfers, such as margin or settlement payments, from being avoided under specific bankruptcy sections.

A transfer made by or to various financial entities, including commodity brokers and securities clearing agencies, in connection with securities or forward contracts prior to case commencement is generally protected by the safe harbor provisions of Section 546(e) of the Bankruptcy Code. Zhu asserts that the safe harbor applies due to Mega's status as a financial institution and the characterization of ownership interests in the Zhu Buy-Out as securities, with partial proceeds transferred to Mega. However, dismissing the case on these grounds is premature since the safe harbor defense must be clearly established in the complaint. The court highlights that the complaint fails to demonstrate that the ownership interests qualify as securities and raises doubts about the Mega Transfer's sole purpose being to settle Zhu's debts related to the Crown Mansion Loan. Additionally, the record does not confirm Mega's knowledge or participation in the contested transfers. The court indicates that more evidence is necessary to explore the potential multiple purposes of these transfers, as Zhu contends. Furthermore, the legal landscape regarding safe harbor provisions is evolving, influenced by recent Supreme Court rulings that may alter prior interpretations. Zhu also argues that a property sale in a related bankruptcy case addressed fraudulent transfer claims, potentially leading to double recovery issues under Section 550(d) of the Bankruptcy Code, which allows only a single satisfaction of claims.

Section 550(a) of the Bankruptcy Code allows a trustee to recover property transferred or its value if the transfer is avoided under specific sections of the Code. However, the trustee's total recovery is limited to the initial transfer or its value, regardless of the number of defendants involved. Zhu's argument under Section 550(d) is flawed because it applies only when transfers have been avoided and recovered under Section 550(a) and its associated sections. Zhu has not demonstrated how the HS 45 bankruptcy plan and settlement satisfy the claims in this case, nor has he provided adequate support for his claims.

Additionally, Reliable, one of the defendants, requests dismissal of claims against it to pursue its proof of claim separately, citing Section 105(a) of the Bankruptcy Code. However, the court finds that dismissing these claims would not simplify litigation and would lead to inefficiencies due to overlapping legal and factual issues among all defendants. The court emphasizes that the efficient administration of the debtor's estate is paramount, and the broader needs of the case take precedence over the individual interests of Reliable, despite its prolonged litigation efforts.

Defendants have sought dismissal of the claims for disallowance due to the absence of filed proofs of claim by all parties except Reliable, rendering the claims premature. The Court concurs, citing Section 502(d) of the Bankruptcy Code, which disallows claims from creditors who received avoidable transfers unless they return those transfers. To maintain a legally sufficient disallowance claim, the Trustee must also plead a valid avoidance claim, and a proof of claim must be filed by the creditor in question. Plaintiff acknowledges that only three entities have filed claims, which limits disallowance actions to those creditors. Consequently, the Court dismisses the disallowance claims against all Defendants except Reliable. The motions to dismiss regarding avoidance claims are denied. Additionally, other arguments from Defendants that are not addressed are deemed without merit. Plaintiff is instructed to submit a proposed order on notice, including details about the filing and service requirements. Furthermore, the excerpt mentions that four proofs of claim were filed prior to the adversary proceeding, countering Defendants' standing argument. Zhu's argument on intentional fraudulent transfers lacks engagement with essential legal concepts and fails to establish an intention to hinder or defraud. Lastly, the Plaintiff provides figures indicating insolvency prior to the contested transfer, which are not included in the initial complaint.

The Complaint lacks clarity regarding certain figures related to liabilities, making it difficult to ascertain their existence at the time of the transfer. The Court has interpreted the information in the Complaint in the most favorable light for the Plaintiff, following the precedent set in *Official Comm. of Unsecured Creditors of Vivaro Corp. v. Leucadia Nat'l Corp.* If fair consideration is not adequately established, the court may presume insolvency, placing the burden on the defendants to refute this presumption. Furthermore, even if funds fraudulently transferred from the Debtor returned pre-petition, this does not automatically negate the potential for recovery in this case. There exists a circuit split on this issue, as demonstrated by differing opinions from the Seventh and Eleventh Circuits regarding the relevance of returned funds to damage calculations. The Seventh Circuit has ruled that the nature of the transfer remains unaffected by subsequent returns, a stance supported by additional local case law. Defendant Meridian raises two procedural arguments that do not seek dismissal: capping claims above the value of allowed claims and staying proceedings until proofs of claim are resolved, which are better suited for discussion at a status conference.