Opinion
Case No. 01-10220-SSM, Adversary Proceeding No. 01-1186
October 25, 2002
Charles A. Cuprill-Hernandez, Esquire, of Counsel for plaintiffs
Jorge Rios-Torres, Esquire, Annandale, VA, of Co-counsel for plaintiffs
Thomas P. Gorman, Esquire, Tyler, Bartl, Gorman Ramsdell, PLC, Alexandria, VA, of Counsel for defendants
March 10, 2004
Attached is a copy of an opinion rendered by Judge Mitchell which is being forwarded as being of interest to our local bar, but not of sufficient general interest to warrant publication in the Bankruptcy Reporter.
If you have difficulty opening the attachment (which is being sent in Word Perfect), please feel free to call.
Thank you.
Pixie Shannon Judicial Assistant to the Hon. Stephen S. Mitchell United States Bankruptcy Court EDVA, Alexandria Division 703-258-1242
MEMORANDUM OPINION
A trial was held in open court on July 1 and August 5, 2002, on the complaint filed by Lawrence and Maureen Glaser ("the debtors") against Chelec, Inc., doing business as National Pawnbrokers, and its president, Gary Chelec, for various forms of relief growing out of a pawn transaction and real estate loan. The plaintiffs were present in person and were represented by their attorneys of record. Defendant Chelec, Inc., was present by counsel. Defendant Gary Chelec was present in person and was represented by his attorney of record. Following the trial, the court took the issues under advisement. For the reasons stated, all of the claims will be dismissed except for the preference claim, as to which a money judgment will be entered against Chelec, Inc., for the amount by which the value of the pawned goods exceeded the amount due on the loan. This opinion constitutes the court's findings of fact and conclusions of law under F.R.Bankr.P. 7052 and Fed.R.Civ.P. 52(a).
Both parties subsequently submitted post-trial memoranda which the court has considered.
Facts
Lawrence F. Glaser filed a voluntary chapter 11 petition in this court on January 19, 2001, and remains in possession of his estate as debtor in possession. His wife, Maureen A. Glaser, filed a separate chapter 11 petition in this court on October 18, 2001, and likewise remains in possession of her estate. An order was entered on January 15, 2002, directing joint administration of their estates. A plan of reorganization has not yet been proposed.
The roots of the present controversy go back to July 2000. Mr. Glaser had invested heavily in the stock of a company known as Enzo Biochem, Inc. ("Enzo Biochem"). The stock of that company had declined in value, and Mr. Glaser needed to quickly borrow $375,000.00 in order to meet a margin call. He had previously borrowed money on three occasions from National Pawnbrokers secured by a pledge of jewelry and on another occasion had obtained a short term loan secured by a deed of trust against real estate. Those loans had all been repaid without incident.
On July 28, 2000, Mr. Glaser pawned thirteen items of jewelry and a number of coins with National Pawnbrokers as security for a loan of $125,000. National Pawnbrokers is a division of Chelec, Inc. The decision as to the amount that would be loaned based on the security of the jewelry and coins was made by Lee Siegel, a 10-year employee of National Pawnbrokers and son-in-law of its president, Gary Chelec. The loan carried a periodic interest rate of 5% per month (60% per year) and was to mature on November 28, 2000, at which time the total amount due (principal and interest) would be $150,000.00. Mr. Glaser was given a pawn ticket setting forth the financial details of the transaction and listing all the jewelry but only a portion of the coins. This is because the computer program used by National Pawnbrokers to itemize goods accepted for pawn could only print 14 entries on the pawn ticket. The first thirteen entries were utilized to describe the items of jewelry. Four entries had been used to list the various coins. Although all four entries were maintained within the computer data base, only the first one (which listed four coins) was printed on the pawn ticket. Contemporaneously with the issuance of the pawn ticket, the same computer program generated a report to be filed with the Arlington County Police Department listing the pawned items. Like the pawn ticket, it listed only four of the coins.
Three days later, August 1, 2000, the debtors jointly borrowed an additional $250,000.00 from Chelec, Inc., secured by a recorded deed of trust that was a second lien against a lot with a partially completed house owned by the debtors in Fairfax County, Virginia, and a first lien against an adjacent vacant lot. The note carried an interest rate of 24% per annum and was due in full on December 1, 2000. The debtors were charged a loan origination fee of 10 points ($25,000.00), which was deducted from the loan proceeds. The net check received by the debtors was in the amount of $225,000.00.
Mr. and Mrs. Glaser also paid $1,650.00 in other settlement charges.
At the time the real estate note was executed and the jewelry and coins were pawned, Mr. Glaser's net worth, by his estimate, was approximately $9 million. Unfortunately, the value of his Enzo Biochem shares continued to drop. On November 28, 2000, the date the pawn matured, Mr. Glaser did not have sufficient funds to redeem the jewelry and coins or even to pay the accrued interest ($25,000.00). Approximately a month later, Mr. Siegel sent Mr. Glaser a form letter dated December 29, 2000, stating as follows:
Your loan #238218 has expired. Please pay interest on your pawn or redeem your merchandise.
If you settle this matter within 10 days of the date of this notice, your pawn will remain active. This notice indicates that you are a minimum of 2 months past due.
On January 3, 2001, accounting entries were made in the books of Chelec, Inc., transferring the pawned goods to sales inventory. Such accounting entries are the normal method by which Chelec, Inc., effects a forfeiture of pawned goods. On that date, the amount due on the loan was $157,500.00. Mr. Glaser was not given notice that this had been done, but in any event did not have sufficient cash to redeem the pawn at any time prior to the filing of his chapter 11 petition on January 19, 2001. He further testified that on the date the goods were forfeited he was insolvent, having become insolvent in October or November 2000 as a result of the precipitous slide in the value of the Enzo Biochem stock.
Mr. Glaser filed his petition pro se, and counsel did not enter an appearance on his behalf until February 7, 2001, approximately two and a half weeks later. National Pawnbrokers was included on the list of creditors filed with the petition and was mailed notice of the commencement of the case on January 25, 2001. On his schedules — which were not filed until February 15, 2001 — the debtor listed National Pawnbrokers as a secured creditor with two claims: one in the amount of $175,000.00, secured by pawned jewelry and coins having a value of $44,500.00, and a second in the amount of $275,000.00, secured by real estate worth $2,050,000. On the summary of schedules filed in the case, Mr. Glaser listed total assets of $2,539,350 and total liabilities of $4,192,571. The figure shown for total assets on the summary page, however, omitted unliquidated claims against two brokerage firms and Enzo Biochem which were listed on Schedule B ("Personal Property") in the amount of $24 million. The resulting actual total shown on Schedule B for the "CURRENT MARKET VALUE" of Mr. Glaser's interest in personal property is $24,802,850.00. When added to the $2,050,000 in value that he placed on his interest in real estate, the total asset value would be $26,852,850. At trial, however, Mr. Glaser testified that he did not consider the $24 million in unliquidated claims to be "assets" for balance sheet purposes because their value was "very contingent on outcome" and "you can't borrow against them." No further evidence was offered by either side concerning the value of the unliquidated claims.
See Pl.'s Ex. 15, Schedule D ("Creditors Holding Secured Claims"). Elsewhere, the schedules describe what is apparently intended to be the same property as "Miscellaneous coins and stamps (In possession of National Pawnbrokers)" and list the value as $200,000.00. Pl.'s Ex. 15, Schedule B, item 33.
Mr. Glaser testified that within one week of the bankruptcy filing he received a telephone call from Gary Chelec telling him that it was in his best interest to make a "deal," because otherwise counsel would get involved on both sides, and it would cost a lot of money. Apparently, there was no direct reference to the bankruptcy case having already been filed, but according to Mr. Glaser, Mr. Chelec mentioned that he had "expert bankruptcy counsel" and warned Mr. Glaser that he would only hurt himself by not making a deal. In his own testimony, Mr. Chelec denied that this particular conversation occurred but did testify to an earlier telephone call he had made to Mr. Glaser around the end of December 2000 during which Mr. Glaser told him that he was unable to repay the loans and that he was going to file bankruptcy.
Mr. Chelec testified that following the forfeiture of the pawned goods on January 3, 2001, the jewelry and coins were offered for sale. However, he acknowledged that if Mr. Chelec had come in after January 3rd with the funds to pay off the loan, the goods would have been returned to him. The coins were sold to a dealer, Maryland Coin Exchange, as a single lot for $71,000.00 on or about January 26, 2001. One of the items of jewelry, a pear-shaped diamond on a chain, was sold for $90,000.00. Neither Mr. Chelec nor Mr. Siegel could testify as to whether any of the other items had been sold, and, if so, for what price. Surprisingly, it appears that the computer system used by National Pawnbrokers does not track sales of pawned goods after they have been forfeited.
The debtors offered into evidence at trial a spreadsheet, captioned "Description and Value of Pawned Jewelry and Coins to Chelec, Inc.," listing 48 separate items of jewelry and a figure for each item which was represented to be its "Paid Value". Pl.'s. Ex. 1. The total of the values shown was $426,889.50. According to Mr. Glaser, he created the document by copying into an Excel spreadsheet file a list which his wife maintained for insurance purposes as a WordPerfect computer file. For some of the items, the value was based on purchase receipts, copies of which were attached; for others, Mr. Glaser testified that he based the values on his memory of what he paid. Many of the more expensive items, he testified, were purchased at "wholesale" prices.
In his initial testimony, Mr. Glaser unequivocally identified the exhibit as a list of the coins and jewelry that had been pawned. When examined on voir dire, however, he quickly admitted that a number of the listed items had not been among the items pawned. While on the witness stand, he produced a revised exhibit. Pl.'s. Ex. 1-A. This revised exhibit had been prepared the night before the trial, when, according to Mr. Glaser, he first realized (after his wife brought it to his attention) that the original exhibit included items of jewelry which were not part of the pawn transaction. This list was the same as the original, except that 33 of the items were marked with asterisks, which Mr. Glaser testified meant they had not been pawned. The values shown for the marked items totaled $26,477.00, thereby reducing the claimed value of the pawned coins and jewelry to $398,415.50.
Remarkably, neither party asked Mr. Siegel what value he had placed on the jewelry and coins at the time he had made the loan. Nor did either party ask Mr. Siegel or Mr. Chelec what practice or policy National Pawnbrokers had as to the amount it would customarily loan relative to the value of the goods that were offered as collateral. For the reasons that will be discussed in more detail, the court finds that the aggregate value of the pawned jewelry and coins was $231,000.00.
After the chapter 11 petition was filed, Chelec, Inc., brought a motion for relief from the automatic stay in order to foreclose under its deed of trust. That motion was denied while the debtors marketed the unimproved lot, which they eventually sold for $417,000.00. The $250,000.00 real estate note held by Chelec, Inc., was paid in full out of the proceeds of sale.
Conclusions of Law and Discussion I.
The present action was commenced on October 3, 2001, and sets forth seven claims for relief:Count Description
1 Avoidance and recovery of a preference 2 Recovery of value of coins and jewelry as unjust enrichment 3 Violation of Virginia law regulating pawnbrokers 4 Avoidance and recovery of a fraudulent transfer 5 Damages for violation of the automatic stay 6 Equitable subordination of Chelec's claim 7 Reformation of interest rate on real estate loan Count 7 was previously dismissed on motion for summary judgment, leaving only Counts 1 through 6 for trial. As discussed in a prior memorandum opinion and order which denied the defendants' motion to dismiss for lack of jurisdiction, this court has subject-matter jurisdiction under 28 U.S.C. § 1334 and 157(a) and the general order of reference from the United States District Court for the Eastern District of Virginia dated August 15, 1984. Venue is proper in this district under 28 U.S.C. § 1409(a). Counts 1 through 6 are core proceedings as to defendant Chelec, Inc., and Count 5 is a core proceeding as to defendant Gary Chelec. The defendants have been properly served and have appeared generally.II. The Value of the Pawned Goods
The fraudulent conveyance, preference, and unjust enrichment claims are all grounded on the assertion that the value of the pawned goods, on the date they were forfeited, vastly exceeded the amount due on the loan. Thus, it is appropriate first to address how much the pawned goods were worth.
A.
As an initial matter, there is a factual dispute as to how many items of jewelry were pawned. The pawn ticket lists 13 items of jewelry. Mr. Glaser's original spreadsheet listed 48 items, and his revised spreadsheet lists 16. Because of differences between the way the various items are described, it is not always easy to determine which item on the pawn ticket corresponds to a specific line entry on the spreadsheet. In any event, the court has more confidence in the business records maintained by National Pawnbrokers than in the trial exhibit prepared by Mr. Glaser. The court finds, therefore, that only 13 items of jewelry were pawned.
B.
The debtors, as plaintiffs, have the burden of proving value. In this connection, Mr. Glaser's testimony that the pawned jewelry and coins were worth at least $398,415.50 was not convincing. Although owners have historically been allowed to offer opinion testimony as to the value of their real and personal property, the probative value of such testimony is frequently not very high. Additionally, Mr. Glaser is hardly a disinterested witness, and his credibility was seriously undercut by his initial trial testimony — quickly retracted — that Exhibit 1 accurately listed the items that were pawned, when he had already learned the evening before that it did not. His credibility was further undercut by the fact that he had, under penalty of perjury, listed the value of the pawned goods on one of his schedules at $44,500, and on another at $200,000. Although many of the values to which he testified were supported by purchase receipts, there were no receipts for other items, and a few of the values were based solely on what Mr. Glaser said was his memory of what he had paid for them.
See Haynes v. Glenn, 197 Va. 746, 750, 91 S.E.2d 433, 436-37 (1956) (owner was competent to testify as to value of jewelry she had placed with her attorney for safekeeping); In re Petrella, 230 B.R. 829, 834 (Bankr. N.D. Ohio 1999) (owner's lay opinion as to value of real estate admissible but less credible than expert testimony).
With respect to the most highly valued item — a 5-carat diamond solitaire pendant — Mr. Glaser's valuation of $70,000.00 is readily supported by the evidence that National Pawnbrokers was able to resell it for $90,000.00. On the other hand, Mr. Glaser's valuation of the coins as being worth $190,000.00 is considerably undercut by the fact that they brought only $71,000.00 in what appears to be an arm's length purchase by a dealer in the business. Indeed, one of the puzzles in attempting to fix a value on the pawned goods is determining the relevant market. As many a bankruptcy trustee has learned, there is often a surprising spread between the price at which jewelry is purchased and the price at which it can be sold. The issue of relevant market is further complicated because it appears that National Pawnbrokers disposes of some forfeited goods by traditional retail sales at its store and others by sales to dealers. While the issue of value is therefore hardly free from doubt, the court finds from the evidence presented that the value of the jewelry on the date the pawn was forfeited was $160,000.00 and the value of the coins was $71,000.00, for an aggregate value of $231,000.00.
III. Was the Forfeiture a Constructively Fraudulent Conveyance?
The plaintiffs contend that the forfeiture of the pawned jewelry and coins is avoidable as a fraudulent conveyance. The Bankruptcy Code permits a trustee or chapter 11 debtor-in-possession to avoid, as a fraudulent conveyance, not only transfers made with actual intent to hinder, delay, or defraud creditors, but also any transfer, voluntary or involuntary, made within the one-year period prior to the filing of the bankruptcy petition if the debtor received "less than a reasonably equivalent value in exchange for such transfer" and was insolvent on the date that the transfer was made or became insolvent as a result of the transfer. § 548(a)(1)(B), Bankruptcy Code. The term "transfer" in turn is broadly defined as "every mode, direct or indirect, absolute or conditional, voluntary or involuntary, of disposing of or parting with property or with an interest in property, including retention of title as a security interest and foreclosure of the debtor's equity of redemption." § 101(54), Bankruptcy Code.
The pawn transaction here involved two separate transfers. The first was the pledging of the pawned goods that occurred on July 28, 2000, while the second was the forfeiture of those goods on January 3, 2001. Although the debtors complain that National Pawnbrokers should have loaned Mr. Glaser more against the value of the jewelry and coins, the pledge itself cannot be avoided as a constructively fraudulent conveyance for the simple reason that Mr. Glaser, by his own testimony, was more than solvent at the time the transfer was made. The question then becomes whether the second transfer — the forfeiture of the pawned goods — caused the debtors to receive "less than reasonably equivalent value."
The value received by the debtors in connection with the second transfer was the satisfaction of an indebtedness upon which $157,500.00 was then due. The value of the pawned goods, as this court has found, was $231,000.00. The Fourth Circuit has explained, however, that "reasonably equivalent value" under Section 548 is not necessarily synonymous with fair market value. Cooper v. Ashley Communications, Inc. (In re Morris Communications NC, Inc.), 914 F.2d 458, 466-67 (4th Cir. 1990). Rather, the value given in exchange for the transfer must be evaluated in light of all the surrounding circumstances. In Morris, the transfer in question was the sale of the debtor's stock interest in a corporation. The Court held that the factors to be considered in determining whether the debtor received reasonably equivalent value included the good faith of the transferee, the relation between the amount paid compared to the fair market value, and whether the sale was an arm's length transaction between a willing buyer and a willing seller. Id. at 467.
Subsequent to Morris, the Supreme Court addressed the issue of whether a foreclosure sale of real estate could be avoided under Section 548 simply because the price obtained was less than the fair market value of the property. BFP v. Resolution Trust Corp., 511 U.S. 531, 114 S.Ct. 1757, 128 L.Ed.2d 556 (1994). The Supreme Court, like the Fourth Circuit, rejected the argument that reasonably equivalent value means fair market value and held that the price obtained at a regularly conducted, non-collusive foreclosure sale was reasonably equivalent value for purpose of Section 548.
The defendants concede that BFP is not directly dispositive of the present case because the forfeiture of pawned goods, unlike the foreclosure of real estate, is not attended by the safeguards of a public auction sale or court oversight. Id. at 537 n. 3, 114 S.Ct. at 1761 n. 3 (emphasizing that opinion covers only mortgage foreclosure of real estate and that different considerations might apply in other kinds of foreclosure or forced sales). BFP is nevertheless important because of its teaching, which is consistent with the Fourth Circuit's ruling in Morris, that reasonably equivalent value is not viewed strictly in terms of fair market value.
Here, the totality of the circumstances supports a determination that the debtor received reasonably equivalent value. First, the court finds that National Pawnbrokers acted in good faith in entering into the pawn transaction in the first instance. It loaned Mr. Glaser $125,000.00 against the value of the jewelry and coins. The interest rate of 5% per month, while objectively high, is permitted by the relevant Virginia statute regulating pawnbroker loans. Va. Code Ann. § 54.1-4008. The term of the loan was four months, at the end of which the amount required to redeem the pawned goods was $150,000.00. Although the loan was not paid at maturity, National Pawnbrokers did not declare the pawned goods forfeited at the expiration of the 15-day grace period required by Virginia law, but continued to carry the loan on its books for more than 30 days after it matured. Additionally, the forfeiture occurred only after Mr. Glaser told Mr. Chelec that he could not pay the interest, let alone the principal, on the loan.
The amount due at the maturity of the loan on November 28, 2000, was $150,000.00. However, Virginia law requires an additional 15-day grace period before pawned goods can be sold. Va. Code Ann. § 54.1-4005. The additional 15 days of interest would have brought the total to $153,125.00 on the earliest date the goods could actually have been forfeited. As noted, neither party elicited testimony concerning the customary loan-to-value ratio or "cushion" in the pawnshop industry. Nevertheless, it seems obvious that in extending a loan solely on the strength of pawned goods a pawnbroker would require a fairly substantial cushion. First, as Mr. Chelec testified, pawned goods occasionally turn out to have been stolen, in which event the pawnbroker is required to turn them over to the police. Second, in a pawn transaction, unlike a conventional secured loan, the pawnbroker is not entitled to a deficiency judgment against the borrower in the event the goods turn out to be worth less than the amount owed.
Based on the court's finding that the jewelry and coins had a fair market value of $231,000.00, the loan-to-value ratio on the earliest date the goods could have been forfeited was 66%. On January 3, 2001, the date of forfeiture, the amount due was $157,500.00, for a loan-to-value ratio at that time of 68%. Prior to the Supreme Court's decision in BFP, some courts had adopted a bright-line rule that a foreclosure sale of real estate for less than 70% of fair market value constituted less than reasonably equivalent value. See, e.g., Durrett v. Washington Nat. Ins. Co., 621 F.2d 201, 203-04 (5th Cir. 1980). However, this court concludes that adoption of a bright-line rule, even outside the context of a mortgage foreclosure, would be inconsistent with the teaching of Morris. Moreover, whatever argument might be made in favor of a "70% rule" for a secured transaction in which the lender has a right of recourse against the borrower, the court is doubtful that it makes sense in the unique world of pawnshop loans, where the pawnbroker has no right of recourse against the borrower and must run the risk that the collateral will turn out to be stolen goods.
The 70% figure that later came to be called the "Durrett Rule" was arguably dicta, since the property in Durrett had actually sold for only 57% of fair market value.
But see Bell v. Instant Car Title Loans (In re Bell), 279 B.R. 890 (Bankr. N.D. Ga. 2002), in which the court held that a chapter 13 debtor had made a sufficient showing of probable success on the merits to justify a preliminary injunction against any further sale or disposition of a pawned automobile worth at least $10,000 that was forfeited to satisfy a $5,300 obligation, stating, "A vehicle worth $10,000 is not reasonably equivalent in value to an obligation of $5,300." Id. at 898.
Finally, the court finds that the forfeiture occurred as part of an arm's length transaction between willing, and indeed sophisticated, parties. Mr. Glaser was no naïf. He clearly had the ability to form his own opinion as to the value of the jewelry and coins based on his experience. Additionally, he had borrowed money on three prior occasions from National Pawnbrokers by pawning jewelry and was obviously experienced in this sort of transaction. By his own estimate, he was worth $9 million at the time he pledged the jewelry and coins to borrow $125,000.00 so that he could meet a margin call and thereby retain his stock in Enzo Biochem. Based on all the circumstances, the court is unable to find that the forfeiture of the pawned goods in full satisfaction of the amount due on the loan resulted in the debtors receiving less than reasonably equivalent value. For that reason, judgment will be entered for the defendants on Count 4, and Count 4 will be dismissed with prejudice.
IV. Did the Forfeiture Constitute "Unjust Enrichment"?
The debtors' next theory is that the forfeiture of the jewelry and coins constituted "unjust enrichment," such that the debtors should be able to recover from Chelec, Inc., the difference between the value of the pawned goods and the amount that would been required to redeem them. No reported Virginia case has ever applied such a theory to a pawn transaction. In Virginia, the doctrine of unjust enrichment appears to have been applied solely to allow the recovery of money, under a theory of implied contract or quasi-contract, where one person confers a benefit upon another (such as by advancing money, providing goods, or furnishing services) for which the latter ought to pay, or where money has been paid under a mistake of fact. 4A Michie's Juris. of Va. and W. Va., Contracts § 99 (1999 Repl. Vol.). As explained by the then-Supreme Court of Appeals of Virginia, where one person "confers benefit upon another for which the latter ought to pay," an implied contract to repay "rests . . . `upon the doctrine that a man shall not be allowed to enrich himself unjustly at the expense of another.'" Rinehart v. Pirkey, 126 Va. 346, 351, 101 S.E. 353 (1919) (citation omitted). The elements required to prevail in an action for unjust enrichment are (1) a benefit conferred by the plaintiff on the defendant; (2) knowledge by the defendant of the conferring of the benefit; and (3) acceptance or retention of the benefit by the defendant under circumstances that would render it inequitable to retain the benefit without paying for its value. Nossen v. Hoy, 750 F. Supp. 740, 744-45 (E.D. Va. 1990) ; In re Cherokee Corp. of Linden, Va., Inc., 222 B.R. 281, 287 (Bankr. E.D. Va. 1998).
However, a court will grant recovery under a theory of quasi-contract only in the absence of an enforceable express contract. Ellis Myers Lumber Co. v. Hubbard, 123 Va. 481, 502, 96 S.E. 754 (1918) ("It is only in the absence of an express or of an enforceable contract between parties, that the law (whether at law or in equity) will, from [the] circumstances, imply a contract between them."). Here, there was undeniably an express contract between National Pawnbrokers and Mr. Glaser, the terms of which are definite and complete. Specifically, National Pawnbrokers agreed to loan him $125,000.00 upon the condition that he would repay it, with interest (or at least pay the interest), in four months or suffer the forfeiture of his collateral. Because there was an express agreement that the pawned goods would be forfeited if the loan were not repaid at maturity, the doctrine of "unjust enrichment" simply cannot be used to graft onto the agreement a provision requiring the pawnbroker to account for any excess value of the collateral over the amount due on the loan.
A related equitable notion, that of unconscionability, is sometimes invoked by courts to bar enforcement of contract terms that are so unfair or unjust as to shock the conscience. 4A Michie's Juris., Contracts § 119. Although the debtors have not pleaded unconscionability in express terms, the court has nevertheless considered whether the forfeiture of the jewelry and coins might be avoided or set aside on that ground. In this connection, Virginia's highest court has explained:
While the jurisdiction undoubtedly exists in the courts to avoid a contract on the ground that it makes an unconscionable bargain, nevertheless an inequitable and unconscionable bargain has been defined to be "one that no man in his senses and not under a delusion would make, on the one hand, and no fair man would accept, on the other." The inequality must be so gross as to shock the conscience.
Smyth Bros.-McCleary-McClellan Co. v. Beresford, 128 Va. 137, 170, 104 S.E. 371, 382 (1920). That standard is clearly not met in this case. As noted already, Mr. Glaser was a sophisticated businessman who could intelligently weigh the risk of losing the collateral against the benefit to be realized from the loan in light of his own understanding as to the value of the property being pledged. This was not the first time Mr. Glaser had pawned jewelry with National Pawnbrokers, and he certainly understood the nature of the transaction. Basically, he gambled that the long-term value of the Enzo Biochem shares was worth the risk that he might not be able to repay the loan at maturity. The interest rate charged, though high, was within legal limits, and forfeiture did not occur prior to the time allowed by statute. Nor is this a case in which the default triggering the forfeiture was insubstantial, trivial, or technical. As in Smyth Bros., in which the Court upheld a judgment in favor of a broker for commissions that the defendant agreed to pay in connection with the sale of horses, the bargain here "grew out of a situation in which intelligence and experience met intelligence and experience, and a mutual understanding followed." 128 Va. at 168, 104 S.E. at 381.
In short, under the facts of this case, the court cannot find that either the doctrine of unjust enrichment or the doctrine of unconscionability as they exist under Virginia law will permit the debtors to set aside the forfeiture of the pawned coins and jewels or recover from the pawnbroker the difference between the value of the pawned goods and the amount owed on the loan at the time they were forfeited. Accordingly, judgment will be entered for the defendants on Count 2, and Count 2 will be dismissed with prejudice.
V. Did the Forfeiture Constitute a Preference? A.
The debtors' remaining avoidance theory is that the forfeiture of the pawned goods constituted an avoidable preference. Outside of bankruptcy, the fact that one creditor has been paid by an insolvent debtor, while another has not, does not ordinarily give rise to a cause of action against the creditor who has been paid. In bankruptcy, however, the rule is different. To effectuate the important bankruptcy goal of equality of distribution, a bankruptcy trustee is allowed to set aside and recover certain transfers that occur in the period immediately leading up to the bankruptcy filing. § 547, Bankruptcy Code. In a chapter 11 case in which no trustee has been appointed, the debtor, in its capacity as debtor in possession, has the powers of a trustee, and thus standing to pursue preference claims. § 1107(a), Bankruptcy Code.
Specifically, a trustee or debtor in possession may avoid any "transfer" that is (1) made to or for the benefit of a creditor; (2) that is made on account of an antecedent debt; (3) that is made within the 90-day period prior to the filing of the bankruptcy petition; (4) that is made while the debtor was insolvent; and (5) that enables the creditor to receive more than if the transfer had not been made and the debtor's estate were liquidated under chapter 7 of the Bankruptcy Code d as "every mode, direct or indirect, absolute or conditional, voluntary or involuntary, of. § 547(b), Bankruptcy Code. The term "transfer," as previously noted, is define disposing of or parting with property or with an interest in property, including retention of title as a security interest and foreclosure of the debtor's equity of redemption[.]" § 101(54), Bankruptcy Code. A number of transactions that might otherwise fall within the literal definition are protected against avoidance. See § 547(c), Bankruptcy Code. However, the burden is on the transferee of showing that the transfer qualifies for one of the exceptions. § 547(g), Bankruptcy Code. No argument has been made in this case that any of the statutory exceptions apply.
The period is extended to one year if the transferee is an "insider." § 547(b)(4)(B), Bankruptcy Code.
An individual debtor is "insolvent" if the sum of his or her debts is greater than all of his or her property "at fair valuation," exclusive of exempt property and property transferred, concealed or removed with intent to hinder, delay, or defraud creditors. § 101(32)(A), Bankruptcy Code.
As discussed above, the transaction between Mr. Glaser and National Pawnbrokers involved two distinct transfers. The pledging of the pawned goods on July 28, 2000, was one, while the forfeiture of those goods on January 3, 2001, was the other. The first transfer — the pledge — was clearly not a preference. Among other things, it was neither made on account of an antecedent debt, nor was it made within 90 days of the bankruptcy petition. However, the second transfer — the forfeiture — did occur within 90 days of the filing of the bankruptcy petition and was also made on account of an antecedent debt. For preference purposes, there is a presumption of insolvency during the 90-day period preceding the filing of the bankruptcy petition. § 547(f), Bankruptcy Code. Although the presumption is rebuttable, the defendants did not present any evidence at the trial to rebut the statutory presumption. That leaves for consideration only the improvement-of-position test: namely, whether the transfer enabled Chelec, Inc., to receive "more" on account of its claim than if the forfeiture had not occurred and the debtors' estate had been liquidated under chapter 7.
5 Collier on Bankruptcy ¶ 547.12 at 547-98 (15th ed. rev. 2002). Once "some evidence" is presented by the defendant that the debtor was solvent at the time of the transfer, the burden shifts back to the trustee or debtor in possession to affirmatively demonstrate the debtor's insolvency. Id.
The presumption of insolvency within the 90-day period leading up to the bankruptcy applies only for preference purposes and not for fraudulent conveyance purposes. Thus, the burden was on the debtors to prove their insolvency for the purpose avoiding the forfeiture as a fraudulent conveyance under § 548, Bankruptcy Code. Since the court has determined that the debtors received reasonably equivalent value, the court is not required to determine whether, in connection with the fraudulent conveyance claim, the debtors affirmatively carried their burden of showing that they were insolvent at the time the pawned goods were forfeited. The uncertainty, of course, arises from the unliquidated damage claims against the two brokerages and Enzo Biochem. If these turn out to have even one-quarter of the value ascribed to them by Mr. Glaser on his schedules, the debtors would by no means be insolvent. Since suit has not yet even been filed, there is no evidence by which the court can determine whether these claims have any value or are mere wishful thinking.
B.
There is no dispute that Chelec, Inc., was a fully secured creditor. Because a fully secured creditor would normally receive full payment of its claim in a chapter 7 liquidation, pre-bankruptcy payments to such a creditor are generally not avoidable as a preference. 5 Alan J. Resnick and Henry J. Sommer, Collier on Bankruptcy ¶ 547.03 (15th ed. rev. 2002). The debtors do not dispute this general proposition, but urge that a preference exists in this case because Chelec, Inc., received, not merely full payment of its claim, but more than the amount of its claim when the pawned goods were forfeited.
The debtors have not cited the court to any case in which a pawnbroker was held to have received an avoidable preference simply as a result having acquired title to collateral worth more than the amount due on the debt. Indeed, both at trial and earlier in ruling on a motion for summary judgment, the court expressed skepticism that a fully secured creditor which, in a non-fraudulent transaction, receives its collateral in full satisfaction of its debt could be found to be the recipient of a preferential transfer simply because the collateral was worth more than the amount due on the debt. See Turner v. United States (In re Turner), 225 B.R. 595, 599-600 (Bankr. D. S.C. 1997) ("[P]repetition transfers of property to secured creditors are not preferences.").
The preference argument was raised in Noland v. FRE, Inc. (In re Jackson), 95 B.R. 68 (Bankr. S.D. Ohio 1998), further op. 105 B.R. 15 (Bankr. S.D. Ohio 1989), but ultimately not decided because the court concluded that the pawned ring did not belong to the debtor but was still property of her late husband's estate at the time it was forfeited.
C.
As it turns out, however, the issue may not be that simple. Following the Supreme Court's decision in BFP, most courts have held that a secured creditor which acquires real estate by virtue of being the high bidder at a regularly conducted, non-collusive foreclosure sale has not received an avoidable preference simply because the property was worth more than the debt. Ehring v. Western Community Moneycenter (In re Ehring), 900 F.2d 184, 188-89 (9th Cir. 1990); In re Pulcini, 261 B.R. 836, 843-45 (Bankr. W.D. Pa. 2001). However, a few courts have reached the opposite conclusion. Norwest Bank Minnesota, N.A. v. Andrews (In re Andrews), 262 B.R. 299 (M.D. Pa. 2001) (foreclosure sale at which the mortgage holder became the purchaser of mortgaged property worth $93,500 to satisfy debt of $77,822 was avoidable as a preferential transfer); see also In re Park North Partners Ltd., 80 B.R. 551, 554-55 (N.D. Ga. 1987) (pre- BFP decision holding that a fully secured creditor receives a preference when it purchases collateral at a foreclosure sale for less than its fair market value, with the amount of the preference being the difference between the collateral's fair market value and the debt secured).
Of course, if the mortgage is defective, the payment of the mortgage debt out of the foreclosure sales proceeds could very well constitute a preference. See, e.g., Boberschmidt v. Society Nat'l Bank (In re Jones), 226 F.3d 917 (7th Cir. 2000).
Although BFP specifically addressed avoidance claims brought under the Bankruptcy Code's fraudulent conveyance provisions, this court agrees with Pulcini that, when the collateral consists of real estate, the policy concerns expressed in BFP apply with equal force in the preference arena. As the Pulcini correctly notes, to rule otherwise would "profoundly affect [the state's] essential interest in making title to real property stable and secure" and would render title to real property purchased at a foreclosure sale subject to "a federally created cloud." 261 B.R. at 844. Additionally, the court agrees with Ehring that it would be incongruous to allow the avoidability of a real estate foreclosure to depend upon the identity of the purchaser. If a third party were the high bidder at a regularly conducted, non-collusive foreclosure sale of real estate, the sale could not be avoided as a fraudulent conveyance under BFP and also could not be avoided as a preference because the purchaser did not receive the property on account of an antecedent debt. That the high bidder happened to be the mortgage holder protecting its interest should not result in a different outcome.
The policy concerns expressed in BFP with respect to the integrity of state land titles, however, have limited, if any, force in the context of a pawn transaction. Carter v. H B Jewelry Loan Co. (In re Carter), 209 B.R. 732 (Bankr. D. Ore. 1997). In Carter, the court rejected the argument that the existence of a "comprehensive, even protective, [state] statutory scheme" regulating pawnbrokers would insulate a pawn forfeiture from the possibility of being set aside as a fraudulent transfer simply because it was conducted in full compliance with that law. 209 B.R. at 736-37. BFP was distinguished because, among other things, "where a transfer is not a sale but is a forfeiture, there is no assurance that the value of the forfeited property will bear any relationship to the worth of the personal property," and also because setting aside a pawn forfeiture, unlike a real estate foreclosure, would not impinge upon "the essential sovereign interest in the security and stability of title to land." 209 B.R. at 736-37.
When the case actually came to trial, however, the court found that the debtor had received reasonably equivalent value when the pawned ring, which the court valued at $750, was forfeited in return for releasing debtor from her obligation to repay a loan on which $690 was due. Carter v. H B Jewelry Loan Co., 212 B.R. 972 (Bankr. D. Ore. 1997).
D.
Once the special concerns surrounding real estate foreclosures are eliminated, it is hard to quarrel with the argument that a creditor who receives collateral worth in excess of the amount of its claim has received "more" than it would have received under the chapter 7 distribution scheme had the transfer not been made. To be sure, a passionate argument to the contrary has been made. In re Park North Partners Ltd., 85 B.R. 916 (Bankr. N.D. Ga. 1988). In that case, the property was worth $1,050,000 and the amount of the secured claim was $857,210. The District Court had held that to the extent the creditor received property worth more than the amount of its debt within 90 days of the bankruptcy filing, the excess constituted a preference. In re Park North Partners Ltd., 80 B.R. 551, 554-55 (N.D. Ga. 1987). On remand, Chief Judge Kahn, although complying with the District Court's direction and entering judgment against the secured creditor for $192,790, strongly urged the District Court to reconsider its ruling in the event another appeal was taken. 85 B.R. at 918. Judge Kahn reasoned that a secured creditor which receives its collateral has not received "more" than it would under a hypothetical chapter 7 distribution because "a secured creditor receives no distribution under chapter 7." Id. Therefore, the court opined, "to attempt to apply the fifth element of a preference . . . is like comparing apples to oranges." Id. The court reasoned that to the extent a foreclosing creditor receives collateral worth more than the amount of the debt, the excess is not received "on account of" the debt but is merely a windfall which can be avoided, if at all, only under a fraudulent transfer theory. Id. To hold otherwise, the court reasoned, would effectively require the lender to make loans at 100% of fair market value, which "was not the bargain it struck with the debtor." Id. at 919. Finally, where the collateral consists of personal property, allowing preference attacks on otherwise lawful dispositions of collateral "would jeopardize every commercial sale under the Uniform Commercial Code occurring within 90 days of bankruptcy and would also allow debtors to time their bankruptcy filings in order to take advantage of fluctuating markets." Id. Judge Kahn concluded,
Conceptually, then, a preference cannot be created if, within 90 days of bankruptcy, a secured creditor forecloses on his collateral and buys it in for at least the amount of his debt. At that time, the rights of the parties are fixed. Only when a secured creditor gets property at an unconscionably low price are new rights created and then only in the form of a fraudulent conveyance claim. . . .
Id. (emphasis in original).
It is certainly a fair question whether Congress actually intended that a trustee be able to recover from a fully secured creditor that receives its collateral in satisfaction of its debt. The problem, however, is that the only reliable guide to Congressional intent is the plain language of the statute. That language, as noted in Norwest Bank Minnesota, N.A. v. Andrews (In re Andrews), 262 B.R. 299 (M.D. Pa. 2001), is fully broad enough to allow recovery against a secured creditor that receives collateral worth more than the amount of its claim within the 90-day period leading up to bankruptcy. As that court observed,
Why not apply simple mathematics to this issue? If Congress intended some other result, it could have used terms such as "reasonably equivalent value" or adopted a bright line standard such as seventy percent of fair market value. . . .Instead, it chose to use the term "more."
Id. at 306. Although, for the reasons already stated, this court would not apply the holding of Andrews to a foreclosure sale of real estate, the court is hard pressed to see why the literal language of § 547 should not apply in other contexts.
Furthermore, the assertion in Park North Partners that a secured creditor does not receive "payment of its debt" in a chapter 7 case is simply not true. Quite the contrary. Under the chapter 7 distribution scheme, the trustee is required to address secured claims prior to making distribution on account of priority and general unsecured claims:
After the commencement of a case under this chapter, but before final distribution of property of the estate under section 726 of this title, the trustee, after notice and a hearing, shall dispose of any property in which an entity other than the estate has an interest, such as a lien, and that has not been disposed of under another section of this title.
§ 725, Bankruptcy Code (emphasis added). There are basically two ways in which a chapter 7 trustee may "dispose" of property that is subject to a lien. This first is by abandoning the property, which the trustee may do if the property "is burdensome to the estate or . . . is of inconsequential value and benefit to the estate." § 554(a), Bankruptcy Code. The second is by selling the property, which may be done free and clear of liens (with the liens attaching to the proceeds of sale) if "the price at which such property is to be sold is greater than the aggregate value of all liens on such property." § 363(f), Bankruptcy Code. Where property is worth more than the amount of the debt, the trustee would presumably sell rather than abandon the property and would pay the secured creditor's claim out of the proceeds of sale. The secured creditor in that event would receive full payment of its claim, but the benefit of any excess value would inure to the benefit of the other creditors. See Unisys Fin. Corp. v. Resolution Trust Corp., 979 F.2d 609 (7th Cir. 1992) ("[i]f a secured creditor is oversecured, in the sense that the value of the security pledged to repay the debt owed him exceeds any plausible estimate of the debt, the bankruptcy court can take away the excess security and give it to another creditor.") (dicta).
Since the preference analysis focuses on what would happen in chapter 7 if the transfer in question had not been made, it is of no moment that the expiration of the redemption period prior to the bankruptcy filing may have extinguished the debtors' interest in the pawned goods. Dunlap v. Cash America Pawn of Nashville (In re Dunlap), 158 B.R. 724, 727-28 (M.D. Tenn. 1993) (pawned goods not property of estate where redemption period expired prepetition); Cash America Pawn L.P. v. Murph, 209 B.R. 419, 423 (E.D. Tex. 1997) (where statutory redemption period expired post-petition, debtor's right to redeem was extended to 60 days following commencement of the case but no further); In re Jackson 133 B.R. 541, 546 (Bankr. W.D. Okla. 1991) (pawned goods as to which redemption period had expired prepetition were not property of estate but goods as to which redemption period had not expired prior to the filing of the bankruptcy were property of estate). Had the forfeiture not occurred, the trustee would have had the right, at a minimum, to redeem the goods from pawn by paying the pawnbroker the amount due on the loan. Indeed, even without first redeeming, the trustee would arguably be entitled to turnover of the pawned goods for the purpose of selling them (with the pawnbroker's lien attaching to the proceeds of sale, and with the pawnbroker having the right to credit bid at the sale). §§ 363(f), 363(k), and 542(a), Bankruptcy Code; United States v. Whiting Pools, Inc., 462 U.S. 198, 103 S.Ct. 2309, 76 L.Ed.2d 515 (1983) (personal property seized by IRS prepetition to satisfy tax lien was subject to turnover, since debtor retained an "interest" in the property until it was sold). In either event, the pawnbroker would receive on account of its secured claim no more than the amount due on the loan, and any excess would not go to the pawnbroker but to the bankruptcy estate for the payment of administrative and general unsecured claims. Because under the facts of this case, Chelec, Inc., received property worth more than the amount due on its secured claim, the excess value, under a plain reading of § 547, can be recovered by the debtors in possession for the benefit of the bankruptcy estate.
This is not to say there might not be a practical problem if the estate were otherwise short of cash. But, at least in theory, the trustee could borrow the necessary funds. § 364, Bankruptcy Code.
As previously discussed, the value of the pawned goods on the date they were forfeited, was $231,000.00, while the amount then due on the loan was $157,500.00. Thus, Chelec, Inc., received $73,500.00 more as a result of the forfeiture than if a chapter 7 trustee had administered the property and paid the secured claim in full. The other requirements for a preference having been met, the debtors in possession are entitled to a judgment avoiding the forfeiture of the collateral to the extent of the excess value. Once a transfer is avoided, a trustee or debtor in possession is entitled to recover the property transferred, or its value, from the initial or subsequent transferees. § 550(a), Bankruptcy Code. Although the trustee cannot recover from a subsequent transferee who takes for value without knowledge of the voidability of the transfer, § 550(b), Bankruptcy Code, there is no equivalent restriction on the trustee's right to recover from the initial transferee. Accordingly, a money judgment will be entered against Chelec, Inc., in the amount of $73,500.00.
The court recognizes the possibility that the unliquidated claims against the two brokerages and Enzo Biochem might result in such a dramatic recovery as to demonstrate that the debtors were not actually insolvent on the date the forfeiture occurred. If that were to occur, the court would certainly entertain a motion under F.R.Bankr.P. 9024 for relief from the judgment.
VI. Did Chelec Violate Virginia Law Regulating Pawnbrokers?
The court will next address the claim that Chelec, Inc., is liable to the debtors for violating the relevant Virginia statutes regulating pawnbrokers. A pawnbroker is defined by statute as "any person who lends or advances money or other things for profit on the pledge and possession of tangible personal property, or other valuable things . . . or who deals in the purchasing of personal property or other valuable things on condition of selling the same back to the seller at a stipulated price." Va. Code Ann. 54.1-4000. A pawnbroker in Virginia must be licensed by the county, city, or town in which the business is conducted and must post a bond in the minimum amount of $50,000. Va. Code Ann. §§ 54.1-4001 and 54.1-4003. At the time of making a loan, a pawnbroker must deliver to the person pawning or pledging property a memorandum containing a description of the pawned goods; the date, time, and place of the transaction; the amount of money being loaned; the rate of interest to be paid; an itemization of any fees charged by the pawnbroker; the full name, residence address, telephone number, and driver's license number of the person pawning or pledging the goods; and the terms and conditions of the loan, including the period for which the loan is made. Va. Code Ann. §§ 54.1-4004 and 54.1-4009. The maximum rate of interest on a loan of $100 or more is 5% per month. Va. Code Ann. § 54.1-4008. A pawnbroker may not sell pledged or pawned items until they have been in his possession for the minimum term set forth in the memorandum, but not less than 30 days, plus a grace period of 15 days. Va. Code Ann. § 54.1-4005. A violation of any of these provisions constitutes a prohibited practice under the Virginia Consumer Protection Act. Va. Code Ann. § 54.1-4014(B). The Consumer Protection Act in turn allows any person who suffers loss as a result of a violation to maintain an action to recover actual damages, or $500, whichever is greater, plus reasonable attorney's fees and court costs. Va. Code Ann. 59.1-204. If the trier of fact finds that the violation was willful, damages may be awarded up to three times actual damages, or $1,000, whichever is greater. Id. The only violation shown by the evidence of the Virginia statutes regulating pawnbrokers is the failure of the pawn ticket to list all of the coins Mr. Glaser pawned, as required by §§ 54.1-4004 and 54.1-4009(A)(1), Code of Virginia. As noted, Mr. Glaser pawned a number of coins. These were entered into the computer record system maintained by National Pawnbrokers as four line items, each describing a number of coins. Only the first of these line items (describing four coins) was printed in the pawn ticket, however. This was because the description of the pawned jewelry took up 13 lines, and the pawn ticket had room only for 14 lines, leaving no room for the three additional line entries needed to list all the coins. That this was a violation of the statutory requirement that Mr. Glaser receive a memorandum setting forth a "description . . . of the goods, article or thing pawned or pledged" seems clear. The question, however, is whether the debtors suffered a "loss" as a result of the failure to list all the coins on the pawn ticket.
Based on the evidence presented, the court cannot find that the debtors suffered any quantifiable loss. This is not a case in which a borrower attempted to redeem a pledge but did not receive all of his or her property back because it was not listed on the pawn ticket. Although the pawn ticket itself was incomplete, the computer record system contained a complete listing of the coins that Mr. Glaser had pawned, and there is no evidence that he would not have received all of the coins back had he repaid the loan (which, of course, he did not). As noted, the Virginia Consumer Protection Act permits recovery of actual damages, or $500, whichever is greater. But because the right to maintain an action is conferred in the first instance only on a "person who suffers loss," the court concludes that the General Assembly did not intend to create a statutory penalty of $500 in the absence of any actual damages, but rather intended simply to allow the recovery of at least $500 even if the actual damages were less than that amount. Since the debtors in this case have proven no actual loss from the failure to list all the coins, there is simply no basis for an award of damages, whether in the amount of $500.00 or otherwise. Alston v. Crown Autos, Inc., 224 F.3d 332 (4th Cir. 2000); Polk v. Crown Auto, Inc., 228 F.3d 541 (4th Cir. 2000). Accordingly, judgment will be entered for the defendants on Count 3, and Count 3 will be dismissed.
VII. Did Chelec, Inc. or Mr. Chelec Violate the Automatic Stay?
The debtors next seek damages for an alleged violation of the automatic stay. The filing of a bankruptcy petition of course creates an automatic stay of a broad range of creditor actions, including "any act to collect, assess, or recover" a claim against the debtor that arose before the commencement of the case. § 362(a), Bankruptcy Code. As has been many times observed, the automatic stay is one of the fundamental protections provided by the Bankruptcy Code. In re Terry, 7 B.R. 880, 882 (Bankr. E.D. Va. 1980). So central is the automatic stay to the orderly administration of bankruptcy cases that it is effective even as to parties who had no notice of the filing. In re Boston Business Machines, 87 B.R. 867, 870 (Bankr. E.D. Pa. 1988). No special action or request by the debtor is required to make the stay effective. As explained by the United States District Court for this district,
The automatic stay is a self-executing provision of the Bankruptcy Code and begins to operate nationwide, without notice, once the debtor files its petition for relief.
In re A. H. Robins Co., Inc., 63 B.R. 986, 988 (E.D. Va. 1986) (Mehrige, J.) (emphasis added), aff'd Grady v. A. H. Robins Co., Inc., 839 F.2d 198 (4th Cir. 1988), cert. dismissed, Joynes v. A. H. Robins Co., Inc., 487 U.S. 1260, 109 S.Ct. 201, 101 L.Ed.2d 972 (1988). A willful violation of the automatic stay may be proceeded against as a contempt of court. Burd v. Walters, 868 F.2d 665 (4th Cir. 1989). Alternatively, the debtor may bring an action against the offending creditor for actual damages, including costs and attorneys fees, and, in appropriate circumstances, punitive damages. § 362(h), Bankruptcy Code; Budget Serv. Co. v. Better Homes of Va., Inc., 804 F.2d 289, 292 (4th Cir. 1986). Where an offending party is ignorant of the bankruptcy filing itself, actions taken in unwitting violation of the stay, although voidable, would not support a finding of contempt or a recovery of damages under § 362(h). But where a party has actual knowledge of the bankruptcy, and despite such knowledge intentionally undertakes actions that in fact violate the stay, the party's ignorance of the legal effect of the stay is no defense. In re Manuel, 212 B.R. 517 (Bankr. E.D. Va. 1997); In re Peterkin, 102 B.R. 50, 53-54 (Bankr. E.D.N.C. 1989).
The evidence before the court falls substantially short of proving that Mr. Chelec willfully engaged in a prohibited act to collect a prepetition debt. The only evidence is Mr. Glaser's uncorroborated testimony that Mr. Chelec telephoned him approximately a week after the bankruptcy filing and told him that it was in his best interest to make a deal, because otherwise counsel would get involved on both sides, and it would cost a lot of money. Mr. Chelec denies having made the call at all, but even if Mr. Glaser's testimony is preferred over Mr. Chelec's, it does not show that Mr. Chelec had actual knowledge that a bankruptcy petition had been filed. The telephone call, according to Mr. Glaser, occurred approximately a week after the bankruptcy petition was filed. The clerk's notice of the bankruptcy filing was mailed to National Pawnbrokers six days after the filing itself. Thus, it is far from clear that the notice had actually been received at the time the phone call was made. Although by his own admission Mr. Chelec was aware that Mr. Glaser intended to file bankruptcy, it is not a violation of the automatic stay for a creditor to contact a debtor who has merely announced an intention to file for bankruptcy.
More fundamentally, a creditor's statement that it is in the debtor's best interest "to make a deal" is, to say the least, equivocal. To a great extent, making deals is what reorganization cases are all about. The automatic stay certainly does not prohibit a creditor in a reorganization case from asking a debtor, say, to consent to relief from the automatic stay, to provide adequate protection upon specified terms, or to incorporate specific treatment of the creditor's claim in any reorganization plan that might be filed. Where a debtor is represented by an attorney, obviously any such communication should be with the attorney, and not directly with the debtor. In this case, however, Mr. Glaser, although he had consulted with an attorney before filing the chapter 11 petition, nevertheless filed the petition pro se, and counsel did not formally enter an appearance until February 7, 2001. Mr. Glaser testified that only a single call was made, and it was evidently brief. Even if Mr. Glaser's testimony is accepted at face value, it does not show that Mr. Chelec berated the debtor, threatened extra legal action, called at an unusual time of day, or even made an express demand for payment. Accordingly, even if the court could find — which it cannot — that Mr. Chelec had actual knowledge of the bankruptcy filing at the time he telephoned Mr. Glaser, the court would be unable to conclude that the mere statement that the debtor should "make a deal," without more, violated the automatic stay. Accordingly, judgment will be entered for the defendants on Count 5, and Count 5 will be dismissed.
VIII. Are Chelec's Claims Properly Subject to Equitable Subordination?
The final remaining claim is one for equitable subordination. A bankruptcy court is permitted, after notice and a hearing,
(1) under principles of equitable subordination, [to] subordinate for purposes of distribution all or part of an allowed claim to all or part of another allowed claim or all or part of an allowed interest to all or part of another allowed interest; or
(2) [to] order that any lien securing such a subordinated claim be transferred to the estate.
§ 510(c), Bankruptcy Code. The Bankruptcy Code sets forth no specific test as to when equitable subordination might be appropriate. The Supreme Court, although holding that a bankruptcy court could not, under the rubric of equitable subordination, categorically reorder the Bankruptcy Code's distribution scheme, provided no further guidance beyond stating that subordination requires a balancing of the equities based on the particular facts of a case. United States v. Noland, 517 U.S. 535, 116 S.Ct. 1524, 134 L.Ed.2d 748 (1996). The Fourth Circuit, adopting a test first articulated in Benjamin v. Diamond (In re Mobile Steel Co.), 563 F.2d 692, 699-700 (5th Cir 1977), has stated that equitable subordination generally requires an inquiry into (1) whether the claimant engaged in fraudulent conduct, (2) whether the conduct resulted in injury to creditors, and (3) whether subordination would be consistent with other bankruptcy law. EEE Comm'l Corp. v. Holmes (In re ASI Reactivation, Inc.), 934 F.2d 1315, 1320-1321 (4th Cir. 1991).
As an initial matter, it is unclear just how equitable subordination would apply in this case, since at this point Chelec, Inc., has no claim against the bankruptcy estate. The pawn loan was fully satisfied by the forfeiture of the jewelry and coins prior to the filing of the bankruptcy petition, while real estate loan was fully satisfied at the time the unimproved lot was sold. If the debtors were to propose a reorganization plan today, there would be no claim of Chelec, Inc., for the debtors to pay, let alone subordinate. But even assuming, without deciding, that the power to subordinate includes by implication the power to recover a payment already made on account of a subordinated debt, the court is unable to find that the factual circumstances here would support equitable subordination of either the pawn loan or the real estate loan.
The debtors present only vague and generalized complaints that Chelec, Inc., dealt unfairly with them. Although they argue that they should have been loaned $250,000.00 on the strength of the jewelry and coins, and $125,000.00 on the strength of the real estate, the court has difficulty seeing how the transaction actually consummated was abusive or unfair, even putting aside the issue of valuation. The pawn loan carried interest at 5% per month, or 60% per year, while the real estate loan carried a periodic rate of 24% per year. Shifting $125,000 from the real estate loan to the pawn loan would have resulted in an additional $15,000 in interest over the four month term of the loan. Even taking into account that 10 points were charged in connection with the real estate loan, the $12,500 reduction in the loan discount fee would still be offset by the additional interest payable because of the higher periodic rate. Although both interest rates were high, neither rate was usurious under Virginia law. Given that pawnbrokers are typically lenders of last resort, it is hardly surprising that the interest rate charged was substantially higher than a bank might have charged if it had been willing to make the loan. This is not a case, moreover, where the creditor's actions caused or contributed to the debtors' insolvency. The debtors became insolvent, according to Mr. Glaser, only because he had invested heavily in the stock of a company that declined precipitously in value. Finally, there is no evidence that the creditor was guilty of fraud or misrepresentation. Accordingly, even if the claims of Chelec, Inc., had not already been satisfied, the court would find no basis to order that they be equitably subordinated to the payment of other creditors or that the liens securing the claims be transferred to the bankruptcy estate, thereby rendering the claims unsecured. For that reason, judgment will be entered for the defendants on Count 6, and Count 6 will be dismissed.
Conclusion
For the reasons stated, a separate judgment will be entered for the plaintiffs on Count I avoiding the forfeiture of the jewelry and coins as a preference to the extent of $73,500.00. Judgment will be entered for the defendants dismissing Counts 2, 3, 4, 5, and 6 with prejudice. Count 7 has been previously dismissed on the defendant's motion for summary judgment.