Opinion
Case No. 01-11384-JKC-7, Adv. Pro. No. 03-0076.
September 22, 2003
AMENDED ORDER ON MOTION TO DISMISS
This matter comes before the Court on Debtor/Defendant Manuel T. Gonzalez's Motion to Dismiss Motor Enterprises, Inc.'s Amended Complaint to Revoke and Deny Discharge and Request for Sanction under Bankruptcy Rule 9011 (the "Motion"). After a hearing on August 18, 2003, the Court took the matter under advisement and now issues the following Amended Order.
The Court issues this Amended Order to correct its references, found on page 10 of the original Order, to F.R.Bankr.P. 4007(c). The Order should have referenced, and now does, Rule 4007(b). The Court apologizes for any confusion.
Facts and Procedural History
On or about December 5, 2000, Motor Enterprises, Inc., ("MEI") loaned $1,000,000 (the "Loan" to GSC Manufacturing, Inc. ("GSC") pursuant to a Loan and Security Agreement (the "Loan Agreement"). Gonzalez signed the Loan Agreement and promissory note in his capacity as President of GSC. The Loan was for GSC's working capital needs and to pay certain trade creditors. Gonzalez, along with his brothers Martin D. Gonzalez, Robert S. Gonzalez and Benedict Gonzalez all executed an Unconditional Continuing Guaranty jointly and severally guaranteeing payment of the Loan (the "Guaranty").
GSC never made any payment to MEI, and the entire principal balance of the Loan and accrued unpaid interest remains outstanding. On May 21, 2001, GSC filed a petition under Chapter 11 of the United States Bankruptcy Code (the "Code"), and its case is still pending (the "GSC Bankruptcy"). On February 3, 2003, the GSC Bankruptcy was converted to a case under Chapter 7 of the Code. On August 23, 2002, MEI filed a proof of claim in the GSC Bankruptcy.
On July 27, 2001, Gonzalez filed a petition under Chapter 7 of the Bankruptcy Code (the "Gonzalez Bankruptcy"). While Gonzalez scheduled MEI as a creditor, notice of the bankruptcy case was not sent to the proper address and MEI did not immediately learn of the case. On December 13, 2001, MEI, unaware of the Gonzalez Bankruptcy, notified Gonzalez and the other guarantors that GSC was in default under the Loan Agreement and Note and demanded immediate payment of their obligations under the Guaranty. Gonzalez failed to respond to the demand, indicate that he had filed for bankruptcy protection, or complain that MEI was violating the automatic stay. Gonzalez received his discharge on February 25, 2002.
MEI inadvertently learned of the Gonzalez Bankruptcy on or about May 31, 2002, two days after the bar date for filing proofs of claim, and well after the deadline for filing nondischargeability complaints, had expired. On June 12, 2002, MEI filed a belated proof of claim, which the Court allowed on July 30, 2002. The Gonzalez Bankruptcy was closed on October 9, 2002.
On February 18, 2003, MEI filed a Motion to Reopen Case and a Complaint to Revoke and Deny Discharge, the latter of which was then amended on February 20, 2003 (the "Amended Complaint"). The Court granted the Motion to Reopen on February 25, 2003. In response to the Amended Complaint, Gonzalez has filed a Motion to Dismiss, asserting a number of grounds discussed more specifically below. Gonzalez has also requested the imposition of sanctions under Bankruptcy Rule 9011.
Discussion and Decision 1. MEI's Claim under 11 U.S.C. § 727(d)
Under the heading "Revocation of Discharge Under 11 U.S.C. § 727(d)(1) and (d)(2)," the Debtor's Amended Complaint alleges the following:
29. MEI realleges and incorporates by reference Paragraphs 1 through 28 above.
In ¶ 28 of the Amended Complaint, MEI alleges that "[u]pon information and belief, the Loan from MEI to GSC was not used for the Purpose but instead was used to make certain GSC and/or Industries director, officer, or shareholder distributions and/or bonuses."
30. On information and belief, Debtor's discharge was obtained through the fraud of the Debtor by the following acts:
a. Upon information and belief, Debtor, within one year before the date of the filing of the GSC Bankruptcy, with intent to hinder, delay or defraud MEI, has transferred, removed, destroyed, mutilated or concealed, or has permitted to be transferred, removed, destroyed, mutilated or concealed, property of the estate, including amounts representing the Loan and certain books, records, and documentation from which Debtor's financial condition might be ascertained in the Gonzalez Bankruptcy or the GSC Bankruptcy.
b. Upon information and belief, Debtor, after the date of filing the GSC Bankruptcy, Debtor, with intent to hinder, delay or defraud MEI, has transferred, removed, destroyed, mutilated or concealed, or has permitted to be transferred, removed, mutilated, or concealed, property of the estate, including amounts representing the Loan and certain books, records, and documentation from which Debtor's financial condition might be ascertained in the Gonzalez Bankruptcy or the GSC Bankruptcy.
c. Upon information and belief, within one year before the date of the filing of the GSC Bankruptcy, Debtor may have transferred, concealed, destroyed, mutilated, falsified, or failed to keep or preserve recorded information from which Debtor's financial condition or business transactions with the Gonzalez Brothers, GSC and/or Industries might be ascertained in the Gonzalez Bankruptcy or the GSC Bankruptcy.
d. Upon information and belief, within one year before the date of the filing of the GSC Bankruptcy, Debtor may have transferred property of the estate to any of (a) any "insider" as that term is defined under § 101 of the Code; (b) Industries, (c) GSC, or (d) the Gonzalez Brothers, and MEI believes that Debtor may have been engaged in a scheme to defraud Debtor's creditors in the Gonzalez Bankruptcy or in the GSC Bankruptcy.
e. Upon information and belief, within one year before the date of the filing of the petition for the GSC Bankruptcy, Debtor has knowingly and fraudulently gave, offered, received, or attempted to obtain money, property, or advantage, or a promise of money, property, or advantage from MEI, for acting or forbearing to act in the Gonzalez Bankruptcy or GSC Bankruptcy.
f. Upon information and belief, within one year before the date of the filing of the petition in the GSC Bankruptcy, Debtor has knowingly and fraudulently withheld from an officer of the estate entitled to possession under this title, any recorded information including books, documents, records, and papers related to the Debtor's property or financial affairs in the Gonzalez or the GSC Bankruptcy.
g. Upon information and belief, within one year before the date of filing of the petition in the GSC Bankruptcy, Debtor has not produced exculpatory information and/or records in the Gonzalez Bankruptcy or in the GSC Bankruptcy that related to or explain certain pre-petition activity by Debtor within one year of the GSC Bankruptcy's petition date, including but not limited to, the reasons behind GSC's failure to use the Loan for the Purpose and GSC's and/or Industries [sic] payment of excessive officer, director, or shareholder distributions and/or bonuses.
h. Upon information and belief, within one year before the date of the filing of the GSC Bankruptcy, Debtor has failed to explain satisfactorily losses of assets or deficiencies of assets to meet Debtor's liabilities in the Gonzalez Bankruptcy or in the GSC Bankruptcy.
31. MEI did not know of such fraud until after the granting of Debtor's discharge.
32. Debtor's actions described above were not justified under the circumstances.
Gonzalez first argues that MEI's claims under § 727(d)(1) and (d)(2) of the Code should be dismissed because they have not been plead with sufficient particularity, as required by Federal Rule of Civil Procedure 9(b). In response, MEI argues that the Amended Complaint does meet the particularity requirement and, in any event, that any deficiency should be excused since it did not have access to additional information through discovery.
Federal Rule of Civil Procedure 9(b) (applicable in bankruptcy pursuant to Federal Rule of Bankruptcy Procedure 7009) provides that "[i]n all averments of fraud or mistake, the circumstances constituting fraud or mistake shall be stated with particularity." In contrast, "[m]alice, intent, knowledge, and other conditions of mind of a person may be averred generally." This requirement means that the plaintiff must state, with sufficient detail, the "who, what, when, where, and how" of the alleged fraud. See Ernst and Young, 901 F.2d 624, 627 (7th Cir. 1990).
Clearly, MEI has failed to offer much, if any, factual basis for its allegations of fraud against Gonzalez. In fact, none of the allegations contain any factual support or detail. In defense of the Motion to Dismiss, MEI maintains that it did not have access to the information needed to plead more particularly. The Court finds this argument to be rather disingenuous. Upon moving to file its belated proof of claim, MEI could have obtained permission to conduct a Rule 2004 examination of Gonzalez and also could have conducted discovery upon filing its Complaint. MEI chose to do neither and apparently still has not learned any of the factual details that will be necessary to prevail on its claims.
For these reasons, the Court must conclude that MEI's Amended Complaint does not meet the requirements of Federal Rule of Civil Procedure 9(b). MEI is given 30 days in which to further amend its Amended Complaint. Failure to timely do so will result in dismissal of the § 727 claims without further notice.
Gonzalez also argues that MEI's claims under § 727(d)(1) and (d)(2) should be dismissed under Federal Rule of Civil Procedure 12(b)(6) in that they fail to state a claim upon which relief can be granted. For the reasons stated below, the Court disagrees with the Debtor's argument.
The purpose of a motion to dismiss under Rule 12(b)(6) (applicable in bankruptcy pursuant to Federal Rule of Bankruptcy Procedure 7012) is to challenge the legal sufficiency of a complaint, not the merits of the case. Autry v. Northwest Premium Servs., Inc., 144 F.3d 1037, 1039 (7th Cir. 1998); United States v. Sherwin-Williams Co., 165 F. Supp.2d 797, 803 (C.D.Ill. 2001). When ruling on a motion to dismiss, the court "must accept as true all well-pleaded factual allegations in the claim, and draw all reasonable inferences in the light most favorable to the nonmoving party." Sherwin-Williams, 165 F. Supp.2d at 803 (citing Gutierrez v. Peters, 111 F.3d 1364, 1368-69 (7th Cir. 1997)). The Court may also consider "those matters of which the court may take judicial notice." Gomez v. Ill. State Bd. of Educ., 811 F.2d 1030, 1039 (7th Cir. 1987). Dismissal is appropriate only if it appears beyond doubt that the nonmoving party can prove no set of facts that would entitle the nonmoving party to the relief requested in the complaint. Henderson v. Sheahan, 196 F.3d 839, 846 (7th Cir. 1999). The nonmoving party must allege all the elements for each cause of action to withstand a motion to dismiss. Lucien v. Preiner, 967 F.2d 1166, 1168 (7th Cir. 1992).
Section 727(d)(1) of the Code provides that a discharge will be revoked if "such discharge was obtained through the fraud of the debtor, and the requesting party did not know of such fraud until the granting of such discharge." To prevail under this section, MEI must establish "actual fraud," or "fraud in fact," e.g., the intentional failure to schedule an asset of the estate. See 6 Collier on Bankruptcy ¶ 727.15[2], p. 727-74 (rev.15th ed. 2000). This is not to say, however, that fraud under § 727(d)(1) is limited to misrepresentations in the debtor's schedules or petition. While the Amended Complaint — paragraphs 28 and 30 in particular — lack the required specificity, the Court cannot conclude that MEI has failed to state a claim under § 727(d)(1) upon which relief can be granted. MEI has alleged fraudulent pre- and post-petition conduct which was not discovered until after entry of the discharge. These allegations are sufficient for Rule 12(b)(6) purposes, and the Court cannot conclude at this point in the proceeding that MEI is incapable of proving a set of facts upon which the discharge must be revoked.
Section 727(d)(2) provides that a discharge may be revoked if "the debtor acquired property that is property of the estate, or became entitled to acquire property that would be property of the estate, and knowingly and fraudulently failed to report the acquisition of or entitlement to such property, or to deliver or surrender such property to the trustee." Again, while MEI's Amended Complaint does not comply with Rule 9(b), it does, in the very least, allege conduct that falls under this subsection and which, if proven, would compel the Court to revoke the discharge.
In a related argument, Gonzalez maintains that MEI's § 727(d) claim is actually a claim under § 727(a) of the Code and should, therefore, be dismissed as untimely. Pursuant to § 727(e), claims under § 727(d)(1) must be brought within one year of discharge while claims under § 727(d)(2) must be brought within one year of discharge or before the case is closed, whichever is later. In contrast, claims under § 727(a) must be brought within 60 days of the first date set for the first meeting of creditors. F.R.Bankr.P. 4004(a).
Even assuming that MEI's § 727(d)(1) claim is actually a § 727(a) claim in disguise, the court cannot conclude that it is untimely. Admittedly, the deadline to file an objection to discharge under § 727(a) has long since passed. However, principles of equity compel the Court to conclude that the deadline was equitably tolled so as to render MEI's claim — to the extent it falls under § 727(a) — timely filed. Recently, the Seventh Circuit held that the deadlines imposed by Bankruptcy Rules 4004(a) and 4007(c) are not jurisdictional but are "subject to equitable defenses . . . applied in a manner consistent with the manifest goals of Congress to resolve the matter of dischargeability promptly and definitively in order to ensure that the debtor receives a fresh start unobstructed by lingering doubts about the finality of the bankruptcy decree." In re Kontrick v. Ryan (In re Kontrick), 295 F.3d 724, 733 (7th Cir. 2002), cert. granted, 123 S.Ct. 1899 (2003)
Section 727(a) provides in relevant part that the discharge will not be granted if:
(2) the debtor, with intent to hinder, delay, or defraud a creditor or an officer of the estate charged with custody of property under this title, has transferred, removed, destroyed, mutilated, or concealed, or has permitted to be transferred, removed, destroyed, mutilated, or concealed —
(A) property of the debtor, within one year before the date of the filing of the petition; or
(B) property of the estate, after the date of the filing of the petition;
(3) the debtor has concealed, destroyed, mutilated, falsified, or failed to keep or preserve any recorded information, including books, documents, records, and papers, from which the debtor's financial condition or business transactions might be ascertained, unless such act or failure to act was justified under all of the circumstances of the case;
(4) the debtor knowingly and fraudulently, in or in connection with the case —
(A) made a false oath or account;
(B) presented or used a false claim;
(C) gave, offered, received, or attempted to obtain money, property, or advantage, or a promise of money, property, or advantage, for acting or forbearing to act; or
(D) withheld from an officer of the estate entitled to possession under this title, any recorded information, including books, documents, records, and papers, relating to the debtor's property or financial affairs;
(5) the debtor has failed to explain satisfactorily, before determination of denial of discharge under this paragraph, any loss of assets or deficiency of assets to meet the debtor's liabilities;
(6) the debtor has refused, in the case —
(A) to obey any lawful order of the court, other than an order to respond to a material question or to testify;
(B) on the ground of privilege against self-incrimination, to respond to a material question approved by the court or to testify, after the debtor has been granted immunity with respect to the matter concerning which such privilege was invoked; or
(C) on a ground other than the properly invoked privilege against self-incrimination, to respond to a material question approved by the court or to testify;
(7) the debtor has committed any act specified in paragraph (2), (3), (4), (5), or (6) of this subsection, on or within one year before the date of the filing of the petition, or during the case, in connection with another case, under this title or under the Bankruptcy Act, concerning an insider;
Because Gonzalez failed to properly schedule MEI as a creditor, MEI did not timely learn of the deadline to file a complaint under § 727(a). Even assuming that Gonzalez was only negligent in sending notice of the bankruptcy to an incorrect address, he cannot now complain that MEI's claim — if it really is a claim under § 727(a) — is untimely. Thus, while MEI's allegations lack the specificity required under Rule 9(b), they do timely state a claim upon which relief can be granted under Code § 727(a).
The Court notes that MEI's allegations confusingly reference the date the GSC Bankruptcy, and not the Gonzalez Bankruptcy, was filed. Only the date of the Gonzalez Bankruptcy is relevant for purposes of § 727(a). However, since both dates fall within one year of the subject transfer(s), which presumably occurred sometime after the loan was made to GSC, the Court will overlook this "mistake" for purposes of this opinion and allow MEI to amend its Complaint. The Court further notes that in ¶ 30(c) of the Amended Complaint, MEI equivocally alleges that the Debtor " may have transferred, concealed, destroyed . . . recorded information. . . ." A complaint should not be based on speculation or conjecture. In order withstand any further challenges by the Debtor under either Fed.R.Civ.P. 9(b) or 12(b)(6), MEI will be expected to amend it Complaint to either restate or delete this allegation depending on whether it is reasonably supportable.
2. MEI's claim under Section 523(a)(3)(B)
Gonzalez also argues that MEI's nondischargeability claim, brought under § 523(a)(3)(B) of the Code eight months after MEI first learned of the bankruptcy, is barred by the equitable doctrine of laches. In response, MEI insists that there is no deadline for asserting a claim under § 523(a)(3)(B). For the reasons stated below, the Court concludes that laches is an available affirmative defense to a § 523(a)(3)(B) action. However, laches does not act as a bar to the instant action.
MEI's claim under § 523(a)(3)(B) is predicated on § 523(a)(2)(A), (a)(4) and (a)(6).
Section 523(a)(3)(B) of the Code excepts from discharge debts that are:
(3) neither listed nor scheduled under section 523(a) of this title, with the name, if known to the debtor, of the creditor to whom such debt is owed, in time to permit — (B) if such debt is of a kind specified in paragraphs (2), (4), or (6) of this subsection, timely filing of a proof of claim and timely request for a determination of dischargeability of such debt under one of such paragraphs, unless such creditor had notice of actual knowledge of the case in time for such timely filing and request.
While creditors generally have 60 days from the first date set for § 341 meeting of creditors in which to file a nondischargeability complaint under § 523(a)(2), (4), (6) or (15), a complaint under § 523(a)(3)(B) may be filed "at any time" according to Federal Rule of Bankruptcy Procedure 4007(b). Notwithstanding the arguable clarity of Rule 4007(b), a handful of courts have ultimately concluded that a claim filed under § 523(a)(3)(B) is subject to the equitable defense of laches.
For instance, in Beaty v. Selinger (In re Beaty), 306 F.3d 914 (9th Cir. 2002), the Ninth Circuit Court of Appeals reasoned that such a conclusion was consistent with the "two fundamental tenets of bankruptcy law." First, the bankruptcy laws are designed to "secure the prompt and effectual administration and settlement of the estate." Second, a bankruptcy court is a court of equity and should invoke equitable principles, refusing to do so only when it is inconsistent with the Bankruptcy Code. Id. at 922. "These two principles combine to create a presumption that the equitable doctrine of laches, which has as its goal the prevention of prejudicial delay in the bringing of a proceeding, is a relevant and necessary doctrine in the bankruptcy context." Id.
The Ninth Circuit's conclusion in Beaty is consistent with the logic expressed by the Seventh Circuit in Kontrick. As indicated in the Court's previous discussion of that case, deadlines imposed by the bankruptcy rules should be applied "in a manner consistent with the manifest goals of Congress to resolve the matter of dischargeability promptly and definitively in order to ensure that the debtor receives a fresh start unobstructed by lingering doubts about the finality of the bankruptcy decree." Kontrick, 295 F.3d at 733. Thus, while the language of § 4007(b) is arguably clear, the Court is nevertheless compelled to conclude that the equitable doctrine of laches may be asserted in defense of a § 523(a)(3)(B) claim. Otherwise, there is little incentive for creditors with claims under § 523(a)(3)(B) to promptly assert them upon learning of the bankruptcy, leaving debtors with little finality.
However, as emphasized in Beaty, "bankruptcy courts [should] be especially solicitous to § 523(a)(3)(B) claimants when laches is invoked, and [should] refuse to bar an action without a particularized showing of demonstrable prejudicial delay. Beaty, 306 F.3d 926. A debtor will not prevail on "conclusory" or "generic" claims of prejudice. Id. at 927-28.
With no apparent justification, MEI waited some eight months after learning of the Gonzalez Bankruptcy to file its nondischargeability complaint. Significantly, however, the Debtor has neither alleged nor demonstrated that he was prejudiced by this delay. Absent such a showing, the Court must reject Gonzalez's argument that MEI's claim is barred by laches.
Gonzalez further maintains that MEI's § 523(a)(3)(B) claim is defective in that it, too, lacks the specificity required under Federal Rule Civil Procedure 9(b). As with its § 727 claim, MEI's has not included any factual detail as to "who, what, when, where, and how" in support its allegations of fraud. To the extent MEI wishes to proceed further under either § 523(a)(2)(A) or (a)(4), the Complaint must therefore be amended within the next 30 days to provide the detail required under Rule 9(b). Otherwise, the claim will be allowed to proceed under only § 523(a)(6) since that section is not based exclusively on fraudulent conduct.
3. Sanctions under Rule 9011
Finally, the Court addresses Gonzalez's request that sanctions be imposed under Federal Rule of Bankruptcy Procedure 9011 and MEI's Motion to Strike. Rule 9011 provides in relevant part:
(b) By presenting to the court . . . a petition, pleading, written motion, or other paper, an attorney or unrepresented party is certifying to the best of the person's knowledge, information, and belief, formed after an inquiry reasonable under the circumstance, —
(1) it is not being presented for any improper purpose, such as to harass or to cause unnecessary delay or needless increase in the cost of litigation;
(2) the claims, defenses, and other legal contentions therein are warranted by existing law or by a nonfrivolous argument for the extension, modification, or reversal of existing law or the establishment of new law;
(3) the allegations and other factual contentions have evidentiary support or, if specifically so identified, are likely to have evidentiary support after a reasonable opportunity for further investigation or discovery; and
(4) the denials of factual contentions are warranted on the evidence or, if specifically so identified, are reasonable based on a lack of information or belief.
F.R.Bankr.P. 9011(b). The rule further states:
If, after notice, and a reasonable opportunity to respond, the court determines that subdivision (b) has been violated, the court may, impose an appropriate sanction. . . . A motion for sanctions under this rule shall be made separately from other motions or requests and shall describe the specific conduct alleged to violate subdivision (b). . . . The motion for sanctions may not be filed with or presented to the court unless, within 21 days after service of the motion (or such other period as the court may prescribe), the challenged paper, claim, defense, contention, allegation, or denial is not withdrawn or appropriately corrected. . . .
MEI's Motion to Strike is well taken in that Gonzalez's request does not meet the requirements of Rule 9011(c), i.e., it was not filed separately and was not served on opposing counsel prior to being filed with the Court. However, the Court also notes that while MEI's Amended Complaint is not a model pleading, its deficiencies do not warrant the imposition of sanctions. The Court therefore declines to rule on MEI's Motion to Strike and instead denies Gonzalez's request for sanctions on its merits.
Conclusion
In conclusion, the Court finds that MEI's claims — to the extent they are predicated on 11 U.S.C. § 727(a) or (d), and 523(a)(2)(A) and (a)(4) — were not plead with sufficient particularity. MEI is given 30 days within which to amend its Complaint, and the failure to timely do so will result in dismissal of these claims without further notice. Notwithstanding Gonzalez's arguments to the contrary, MEI's § 727 claims — whether stated under subsections (d)(1), (d)(2) or (a) — are timely and withstand scrutiny under Rule 12(b)(6). Finally, the Court rejects Gonzalez's request that sanctions be imposed against MEI under Bankruptcy Rule 9011.