Opinion
No. 02-81018
June 27, 2002
OPINION
Before the Court is the Supplemental Emergency Motion for Annulment of the Automatic Stay for Cause ("Motion for Annulment") filed by Mary Vallero and Joanie Vallero (jointly referred to as "VALLEROS"), seeking that the stay be annulled to validate the filing of their state court complaints against Thomas D. Hiles ("THOMAS"), one of the Debtors, and other co-defendants including Lincoln Financial Advisors, d/b/a Lincoln Financial Group ("LINCOLN FINANCIAL"), which occurred after the bankruptcy petition was filed.
BACKGROUND
THOMAS worked as a securities salesman and investment advisor since 1991, doing business under the name Hiles Associates. In late 2000 and early 2001, several investors filed complaints against THOMAS, LINCOLN FINANCIAL, and Vernon Shiflett and Midwest Financial Services, alleging violations of the Illinois Securities Law of 1953, ( 815 ILCS 5/1 et seq.), violations of the Illinois Consumer Fraud and Deceptive Business Practices Act, ( 815 ILCS 505/1 et seq.), common law fraud and professional negligence, arising from the sale of unregistered securities during the two-year period beginning in 1998.
According to the allegations of the motion for relief from the stay filed by the VALLEROS, LINCOLN FINANCIAL was THOMAS' "broker/dealer" and held THOMAS out as its financial advisor/securities salesperson.
According to that same motion, Shiflett and Midwest Financial Services were THOMAS' "contacts" for selling certain unregistered securities, receiving referral commissions from those sales.
THOMAS and his wife Donna (jointly referred to as "DEBTORS") filed a joint petition under Chapter 7 on February 28, 2002. Because the creditor matrix was not filed with the petition, notice of the bankruptcy filing was not sent to creditors until March 14, 2002. Unaware of the bankruptcy filing, the VALLEROS filed separate suits in state court on March 5, 2002, five (5) days after the petition was filed. When their counsel learned of the bankruptcy filing, he contacted the DEBTORS' attorney, and an agreement was reached that the postpetition lawsuits would be "permitted," but that no further action would be taken against THOMAS.
The debtor in a voluntary case is required to file a list containing the name and address of each creditor (the "creditor matrix"). FRBP 1007(a). The Notice of Commencement of the case is mailed by the clerk of the bankruptcy court in conjunction with the Bankruptcy Noticing Center, to each creditor listed on the creditor matrix. The DEBTORS did not file the creditor matrix until March 7, 2002 with the bankruptcy clerk and the Bankruptcy Noticing Center mailed the Notice of Commencement of the case to creditors on March 14, 2002.
Soon after the filing of the petition, several investors, including the VALLEROS, filed an emergency motion for relief from the stay, alleging that critical statutes of limitations were about to expire and requesting prospective modification of the automatic stay to permit the serving and filing of notices of rescission, filing complaints in state court, conducting of discovery, and completing the litigation of the cases in state court. A telephonic hearing was held on April 24, 2002, on short notice, participated in by THOMAS and LINCOLN FINANCIAL, during which LINCOLN FINANCIAL voiced its opposition to the motion.
The other movants were Stanley Paul, Erik Brown, James Musolf, Jean Musolf, Richard Duff, Dorothy Duff, Marlene Bullock, and Janice Swanson. Of those persons, only the first two had complaints on file on the date the bankruptcy was filed.
Determining that no immediate action need be taken with respect to the suits which were already on file, this Court issued an oral ruling modifying the stay prospectively to permit service of notices of rescission by, or on behalf of, the named movants who had not yet filed complaints and to allow those movants to file complaints in state court naming THOMAS as a defendant. The Court also ruled that service of process would be permitted with respect to the newly filed actions, but that any further action was stayed. A written order was entered on May 9, 2002. The Court reserved for later determination the issue of whether the stay should be further modified to permit the state court cases to proceed.
Dorothy King, another investor, filed an emergency motion seeking to join in the relief granted to those investors and an order was entered on May 16, 2002, modifying the stay to permit her to take those same steps authorized by this Court's prior order. Other investors, including Melvin L. Landuyt, Connie S. Landuyt, Tamra S. Woodley, Betty Reinschmidt, Russell Swise, Rosemary Swise and Rita Marks, have since sought relief from the stay to continue their pending actions in state court against THOMAS.
On April 23, 2002, one day prior to the telephonic hearing on the motion for relief from the stay filed by the VALLEROS and other investors, LINCOLN FINANCIAL removed the VALLEROS' action to federal district court, alleging subject matter jurisdiction and taking the position that the complaints filed against THOMAS, in violation of the automatic stay, were void. The VALLEROS then filed their Motion for Annulment seeking retroactive validation of their complaints filed postpetition. The DEBTORS, honoring their prior agreement with the VALLEROS' counsel to permit the postpetition complaints to be valid, do not oppose the requested stay annulment. LINCOLN FINANCIAL does, however, and filed a response to the VALLEROS' motion. The VALLEROS filed a reply and the Court took the matter under advisement.
The VALLEROS have filed a motion in the district court proceeding to remand the case to state court. That motion is presently pending.
ANALYSIS
Before turning to the merits of the VALLEROS' motion, the Court must address two preliminary issues. First, the VALLEROS contend that LINCOLN FINANCIAL lacks standing to oppose their motion to annul the stay. In response, LINCOLN FINANCIAL argues that as a creditor of THOMAS, it is entitled to the protection of the stay. Pointing to the Chapter 7 Trustee's declination to participate in this matter, LINCOLN FINANCIAL relies on the rule that it is appropriate to permit an unsecured creditor to assert the estate's rights. Though it appears that LINCOLN FINANCIAL is not seeking to protect any interest of the bankruptcy estate, but, admittedly, its own economic interest as a co-defendant in the state court proceeding, the issue need not be determined, because, even assuming that LINCOLN FINANCIAL has standing, this Court finds that the VALLEROS are entitled to the relief requested in their motion.
LINCOLN FINANCIAL holds a contingent claim for reimbursement of any amount it pays to disappointed investors on account of THOMAS' actions.
Second, LINCOLN FINANCIAL asserts that the Court must disregard the agreement entered into by the VALLEROS and THOMAS which "permits" the postpetition actions taken by the VALLEROS, because the protection afforded by the automatic stay cannot be waived. Because the automatic stay is also designed to protect creditors, a debtor's agreement granting relief from the stay is not binding per se on the debtor or the interests of other creditors. Here again, the Court does not consider the consensus reached by THOMAS and the VALLEROS to be dispositive or to preclude consideration of the issues raised. Rather, the agreement merely reflects THOMAS' position on the matter, and is but one factor, albeit an important one, to be taken into account.
The automatic stay which issues pursuant to Section 362(a) of the Bankruptcy Code upon the filing of a petition is one of the fundamental protections provided by the bankruptcy laws, designed both to give the debtor breathing space from financial pressures and to protect the relative positions of creditors vis-a-vis one another. It operates to stop all collection efforts, including the commencement of suits against the debtor. Courts are not in agreement, however, whether actions taken in violation of the stay are voidable, or whether such actions are void ab initio, and the Seventh Circuit Court of Appeals has expressly declined to determine that issue. A majority of the courts which consider such actions to be void, recognize, however, that the automatic stay may be modified retroactively, under exceptional or compelling circumstances. In re Soares, 107 F.3d 969 (1st Cir. 1997). The authorization for such action by the court is expressly found in the Bankruptcy Code itself. Section 362(d) provides that "[o]n request of a party in interest and after notice and a hearing, the court shall grant relief from the stay . . . such as by terminating, annulling, modifying, or conditioning such stay." 11 U.S.C. § 362(d) (emphasis added).
See, Pettibone Corp. v. Easley, 935 F.2d 120 (7th Cir. 1991); Middle Tennessee News Co., Inc. v. Charnel of Cincinnati, Inc., 250 F.3d 1077, n. 6 (7th Cir. 2001).
Annulment of the automatic stay operates retroactively to validate actions taken by a creditor after the bankruptcy case was filed but before the creditor had notice of the filing. In re National Environmental Waste Corp., 129 F.3d 1052 (9th Cir. 1997); Sikes v. Global Marine, Inc., 881 F.2d 176 (5th Cir. 1989); In re Albany Partners Ltd., 749 F.2d 670 (11th Cir. 1984).
Although courts acknowledge that annulment is an exceptional form of relief to be granted under limited circumstances, where the requisite circumstances are present, annulment is routinely granted. See, e.g., In re Bates, 270 B.R. 455 (Bankr.N.D.Ill. 2001) (stay annulled to validate postpetition application for issuance of tax deed); In re Syed, 238 B.R. 126 (Bankr.N.D.Ill. 1999), motion to amend den'd, 238 B.R. 133 (Bankr.N.D.Ill. 1999) (stay annulled to validate postpetition foreclosure sale); In re Hall, 216 B.R. 702 (Bankr.E.D.N.Y. 1998) (stay annulled to validate postpetition foreclosure sale); In re Lipuma, 167 B.R. 522 (Bankr.N.D.Ill. 1994) (stay annulled to validate postpetition sale of delinquent real estate taxes).
Among the factors considered by the courts in determining whether it is appropriate to grant retroactive relief from the stay are:
(1) if the creditor had actual or constructive knowledge of the bankruptcy filing and, therefore, of the stay; (2) if the debtor has acted in bad faith; (3) if there was equity in the property of the estate; (4) if the property was necessary for an effective reorganization; (5) if grounds for relief from the stay existed and a motion, if filed, would have been granted prior to the violation; (6) if failure to grant retroactive relief would cause unnecessary expense to the creditor; and (7) if the creditor has detrimentally changed its position on the basis of the action taken.
In re Stockwell, 262 B.R. 275 (Bankr.D.Vt. 2001); In re Scott, 260 B.R. 375 (Bankr.D.S.C. 2001).
When annulling the stay, most courts place particular emphasis upon the creditor's lack of actual knowledge of the bankruptcy filing and the existence of prejudice to the creditor if the action taken in violation of the stay is not subsequently validated. Bates, 270 B.R. at 470; Syed, 238 B.R. at 144; Lipuma, 167 B.R. at 526.
Based upon a consideration of those factors which are present here and the particular facts and circumstances of the case, this Court concludes that the stay should be annulled for the limited purpose of validating the VALLEROS' filing of the complaints and the service of summons. First and most importantly, it is undisputed that the VALLEROS were unaware of the bankruptcy filing when they filed their complaints in state court. Even though the Chapter 7 petition was filed on February 28, 2002, the DEBTORS did not file the creditor matrix containing the names and addresses of creditors until March 7, 2002, and the "Notice of Chapter 7 Bankruptcy Case, Meeting of Creditors and Deadlines" was not mailed by the Bankruptcy Noticing Center in Reston, Virginia, to the creditors on the matrix until March 14, 2002. Receipt of that notice was the first notice of the bankruptcy filing that creditors received from the bankruptcy court.
Apart from lack of court notice, the record supports the conclusion that the VALLEROS did not have actual knowledge of the bankruptcy filing prior to March 5, 2002, when they filed their complaints in state court. Counsel for the VALLEROS have represented to the Court that they did not have actual knowledge of the bankruptcy filing until they received the court notice on or about March 20, 2002. There is no allegation that THOMAS, his attorneys, or LINCOLN FINANCIAL'S attorneys advised the VALLEROS' attorneys of the bankruptcy filing. While not disputing that the VALLEROS did not have actual knowledge of the bankruptcy filing, LINCOLN FINANCIAL contends that they knew that THOMAS' bankruptcy filing was imminent.
Given that depositions in the state court cases that had been filed by the same attorneys on behalf of other investors had been scheduled for the first week of March, 2002, it is surprising, if not inexplicable, that THOMAS' counsel would not have immediately made plaintiffs' counsel aware of the bankruptcy filing. While the Bankruptcy Code may not place an express duty upon a debtor who is a defendant in a pending lawsuit to advise the other parties of the filing, principles of fairness give rise to an implicit duty to do so. See, In re Smith Corset Shops, Inc., 696 F.2d 971, 977 (1st Cir. 1982) (criticizing a debtor who remained "stealthily silent" while a creditor unknowingly violated the automatic stay).
LINCOLN FINANCIAL relies upon a letter from its attorney to THOMAS' attorney, dated January 18, 2002, copied to the VALLEROS' counsel, stating that he had become aware that a petition would be filed "sometime next week." The bankruptcy was actually filed more than a month after the letter. A creditor need not remain in suspended animation upon a general forewarning, which may be no more than a whistle in the wind. It is only knowledge that a bankruptcy case is presently being or has actually been filed which is germane to this inquiry.
Second, the VALLEROS would be unfairly prejudiced if the stay was not now annulled to validate their prior actions which were innocently taken in violation of the automatic stay. The claims asserted by the VALLEROS in their state court complaints are subject to relatively short statutes of limitations. Depending upon those applicable limitations periods and given that several nondebtor defendants, including LINCOLN FINANCIAL, are named in the state court suits, there is at least a potential severe prejudice to the VALLEROS if the March 5, 2002 date that they filed their complaints in state court is altered. In addition, the time and expense that would be needed to duplicate what was done postpetition is also prejudicial.
Third, the DEBTORS themselves do not oppose annulment of the stay in favor of the VALLEROS and there is no evidence here that the filing of the complaints by the VALLEROS enables them to improve their position vis-a-vis other creditors of the estate. LINCOLN FINANCIAL has failed to show that any protectable interest that it has by virtue of the automatic stay has been damaged by the VALLEROS' actions. If the VALLEROS were forced to refile their complaints, LINCOLN FINANCIAL may gain a time-bar defense or some procedural advantage that it would not otherwise enjoy. But any such advantage is clearly not within the scope of the protection that the automatic stay is intended to offer to creditors of the DEBTORS. Moreover, the VALLEROS relied upon THOMAS' agreement to allow the postpetition complaints to stand. It would be grossly unfair to penalize them for that reliance simply because a codefendant perceives THOMAS' agreement as disadvantageous to its interest.
Next, weighing convincingly in the VALLEROS' favor is the granting of similar stay relief to other investors. Had the VALLEROS been made aware of the bankruptcy filing and first petitioned for relief from the stay, they, like Dorothy King, James and Jean Musolf, Richard and Dorothy Duff, Marlene Bullock and Janice Swanson, would have been granted the requested relief.
Finally, this Court notes that twenty-three (23) investors, including the VALLEROS, have filed complaints to determine the dischargeability of their debts under §§ 523(a)(2)(A) and (a)(4) of the Bankruptcy Code, requesting that this Court defer to the state court to proceed with the actions pending there against THOMAS, LINCOLN FINANCIAL and other codefendants. A determination of the facts and issues bearing upon the dischargeability issue must be made in some forum — whether it is this Court, the state court, or the federal district court. Requiring the VALLEROS to begin anew should this Court later determine that the cases should proceed in another forum, would serve no useful purpose and it is in the best interests of judicial economy to enable the VALLEROS to keep pace with the other investors.
For these reasons, a separate Order will be entered granting the VALLEROS' motion for annulment of the automatic stay. This Opinion constitutes this Court's findings of fact and conclusions of law in accordance with Federal Rule of Bankruptcy Procedure 7052.
ORDER
For the reasons stated in an Opinion filed this day, IT IS HEREBY ORDERED that the Supplemental Emergency Motion for Annulment of the Automatic Stay for Cause filed by Mary Vallero and Joanie Vallero on May 2, 2002, is GRANTED and the automatic stay is annulled to validate the filing of the complaints by the VALLEROS in the Knox County Circuit Court on March 5, 2002, and service of process on all Defendants named therein.