MARIAN F. HARRISON, Bankruptcy Appellate Panel Judge.
Following a trial, Samuel Gaft and Marilyn Cibor ("Plaintiffs") filed this appeal from the bankruptcy court's dismissal of their dischargeability complaint against Thomas R. Sheidler and Margaret J. Sheidler ("Debtors") for failure to state a cause of action. For the reasons stated below, the Panel affirms the bankruptcy court's ruling.
Whether the bankruptcy court's findings with respect to the dischargeability of the debt owed to the Plaintiffs under 11 U.S.C. § 523(a)(2)(A) and findings with respect to objections to discharge under 11 U.S.C. § 727(a)(3) and/or (a)(4)(A) were clearly erroneous, and whether the bankruptcy court erred by refusing to address dismissal of the underlying bankruptcy case for bad faith under 11 U.S.C. § 707(b)(3).
The United States District Court for the Western District of Michigan has authorized appeals to the Panel, and no party has timely elected to have this appeal heard by the district court. 28 U.S.C. § 158(b)(6), (c)(1). A final order of the bankruptcy court may be appealed as of right pursuant to 28 U.S.C. § 158(a)(1). For purposes of appeal, a final order "ends the litigation on the merits and leaves nothing for the court to do but execute the judgment." Midland Asphalt Corp. v. United States, 489 U.S. 794, 798, 109 S.Ct. 1494, 1497 (1989) (citations and internal quotations omitted). "Determinations of dischargeability are final orders for purposes of appeal." Lowry v. Nicodemus (In re Nicodemus), 497 B.R. 852, 854 (B.A.P. 6th Cir. 2013) (citation omitted).
Legal determinations concerning dischargeability are reviewed de novo. In re Nicodemus, 497 B.R. 852, 855 (B.A.P. 6th Cir. 2013). Similarly, the application of the law for the denial of a discharge is reviewed de novo. Roberts v. Erhard (In re Roberts), 331 B.R. 876, 880 (B.A.P. 9th Cir. 2005).
Factual findings are reviewed for clear error. Rembert v. AT&T Universal Card Servs., Inc. (In re Rembert), 141 F.3d 277, 280 (6th Cir. 1998). "A finding of fact is clearly erroneous when although there is evidence to support it, the reviewing court on the entire evidence is left with the definite and firm conviction that a mistake has been committed." Riverview Trenton R.R. Co. v. DSC, Ltd. (In re DSC, Ltd.), 486 F.3d 940, 944 (6th Cir. 2007) (internal quotation marks and citations omitted). Even greater deference is given when findings of fact are based on determinations regarding the credibility of the witnesses. Hamilton v. Carell, 243 F.3d 992, 997-98 (6th Cir. 2001) (citation omitted).
In 1996, the Debtors purchased real property in Suttons Bay, Michigan, known as the Stone Schoolhouse. The Debtors operated the property as a bed and breakfast. However, this venture was not particularly successful, so the Debtors decided to convert the property into condominiums. To facilitate the condominium development, the Debtors formed Stone Schoolhouse, LLC ("LLC") and transferred the real property into the company. The LLC took out a commercial loan (about $600,000) with Northwestern Bank, granting a mortgage on units one, two, three, and five of the real property. The funds were used to pay off the Debtors' underlying debt on the property. In its opinion, the bankruptcy court did not draw a distinction between the Debtors and the LLC.
In 2006, the Plaintiffs were considering buying a retirement home in Northern Michigan. The Plaintiffs hired a real estate agent, who showed them several properties, including the Stone Schoolhouse Condominiums. On March 5th or 6th of that year, the Plaintiffs met with the Debtors, their real estate agent, and George Newpower ("Newpower"), a local builder, at the Stone Schoolhouse property. A follow-up meeting was held by the same parties on March 18, 2006, to discuss what was being offered for the $270,000 purchase price for unit four. Prior to purchasing unit four, the Plaintiffs reviewed one document regarding the Stone Schoolhouse Condominiums that was prepared by Mr. Sheidler for purposes of marketing. The Plaintiffs point to two statements in the document as being material misrepresentations:
(Advertising Material, Plaintiff Exh. 1).
The Debtors admitted to being the developers referred to in the later statement, and at the time of this representation, the Debtors did live on-site at the Stone Schoolhouse property. The Debtors later moved off-site after the purchase agreement with the Plaintiffs closed and the construction began on the Plaintiffs' unit. At trial, Mr. Gaft testified that he recalled having the belief that the most important part of this representation was that everything would be done to his complete satisfaction rather than whether the Debtors actually lived on-site. (Trial Tr. vol. 1, 121:17, Adv. Case ECF No. 120).
At some point after executing the purchase agreement for unit four, the Plaintiffs were also provided with other written information concerning the Stone Schoolhouse Condominiums. This document provided additional information about the project and included the following statement under a section entitled "BRIEF DESCRIPTION OF THE PROJECT:"
(Project Description, Plaintiff Exh. 3).
The Plaintiffs decided to purchase unit four at the Stone Schoolhouse property, and the follow-up meeting resulted in a purchase agreement for unit four being executed on April 28, 2006. The total purchase price shown on the purchase agreement was $270,000. However, an exhibit to the purchase agreement includes handwritten notes by Mr. Sheidler, indicating that $120,000 was due at various times. Ms. Cibor testified that the $120,000 "were the monies that my husband and I would be responsible for." (Trial Tr. vol. 1, 19:3-4).
An amendment to the purchase agreement, with the date of August 16, 2006, reflects a revised purchase price of $150,000 "as Buyer is going to supply his own construction funds." (Amended Purchase Agreement, Plaintiff Exh. 5). The amendment was signed by Ms. Cibor, but she claims that the document was not signed until sometime in September or October 2006. Mr. Gaft testified that the signature on the amendment was not his.
The sale closed in August 2006. According to the settlement statement, the contract price was $150,000 and the construction funds were $120,000. (Settlement Statement, Plaintiff Exh. 8). The Plaintiffs financed $216,479.05 through Northwestern Bank and paid $59,676.59 in cash to the LLC. This amount included a $10,000 down payment. In return, the title to unit four was transferred to the Plaintiffs. The $120,000 was held in escrow by Northwestern Bank to be used for the construction of unit four. Neither the Debtors nor the LLC received any portion of the escrowed funds.
After closing, Newpower began the work on unit four even though he had no written agreement with any of the parties. Despite the lack of a written agreement, the Plaintiffs made five payments to Newpower. The first disbursement of $50,000 to Newpower or his company was a draw on the Plaintiffs' construction escrow account at Northwestern Bank on August 24, 2006. The disbursement order states "THE UNDERSIGNED OWNERS JOIN IN AND DO APPROVE OF THIS DRAW REQUEST, AND HAVE RELIED UPON THEIR OWN INDEPENDENT DETERMINATION AND EVALUATION OF THE CONSTRUCTION PROGRESS, COMPLETION COST AND LOAN FUNDS REMAINING AVAILABLE." (Disbursement Order, Defendant Exh. I).
On September 1, 2006, the Plaintiffs paid Newpower $15,000 from their Flint Area School Employees Credit Union account so that Newpower could make a down payment on cabinetry. (Check to Newpower, Plaintiff Exh. 6 at 1). On April 4, 2007, the Plaintiffs made a $10,000 payment from their credit union account to Newpower and his company. (Check to Newpower, Plaintiff Exh. 6 at 2). Ms. Cibor testified that Newpower claimed to have received only $50,000 instead of $60,000 as part of the first draw from the Northwestern Bank escrow account. (Trial Tr. vol. 1 at 30:1-4). On July 2, 2007, the Plaintiffs made a $3000 payment to Newpower and his company in order to secure a fireplace for the bedroom. (Check to Newpower, Plaintiff Exh. 6 at 3). Finally, on July 12, 2007, another $35,222.47 was disbursed from the construction escrow account. (Disbursement Order, Defendant Exh. M). The disbursement order was approved and signed by both Plaintiffs.
While the Plaintiffs did not regularly visit the condo to check on the progress during the winter of 2006-2007, Ms. Cibor testified that the Plaintiffs visited the site once or twice a month in the spring of 2007. During their visits, it became evident that not much work was being done on unit four. At the time the Plaintiffs wrote the $10,000 check in April 2007, Ms. Cibor testified that the unit had been "roughed in" with some electrical work done. Ms. Cibor also testified that after the last $35,000 draw, no further work was done on unit four.
On March 19, 2007, Newpower prepared a contract between his company and the Plaintiffs for the $120,000 build out. This document was signed by Ms. Cibor in May of 2007. She testified that she signed the document under duress and pressure from Newpower. Mr. Gaft testified that he originally signed the document, changed his mind, and wrote Newpower and told him he was canceling his signature.
In October 2007, it became clear that despite Newpower being in receipt of the money, he would not be finishing the work on unit four. After Newpower defaulted, the Plaintiffs had discussions with Mr. Sheidler and Newpower's nephew about developing an attic unit or finishing unit four for additional funds, but none of these discussions developed into an agreement.
The Plaintiffs stopped making their mortgage payments to Northwestern Bank some time in 2009 and sued the Debtors, the LLC, and others in state court. As part of the resolution, the Plaintiffs gave the deed to Northwestern Bank, and Northwestern Bank released the Plaintiffs from further liability under the note. In addition, the Plaintiffs were paid $92,634.58 by the title insurance company, and as of September 2014, the Plaintiffs had received $6,447.48 in restitution from Newpower as a result of his criminal conviction arising out of this transaction. Shortly before the final pretrial conference in the state court action, the Debtors and the LLC filed for bankruptcy protection on August 23, 2011.
The Plaintiffs filed this adversary complaint on December 12, 2011, asserting that their claim is nondischargeable pursuant to 11 U.S.C. § 523(a)(2)(A) and that the Debtors should be denied a discharge pursuant to 11 U.S.C. § 727(a)(3) and (a)(4)(A). The Plaintiffs filed an amended complaint on November 15, 2013.
The Plaintiffs do not dispute that the bankruptcy court applied the correct legal standards. Instead, the Plaintiffs assert that the bankruptcy court's findings of fact were clearly erroneous.
The bankruptcy court held that the Plaintiffs failed to meet their burden of showing that the debt owed to them by the Debtors was nondischargeable pursuant to 11 U.S.C. § 523(a)(2)(A).
Exceptions to discharge are to be construed strictly against the creditor. Gleason v. Thaw, 236 U.S. 558, 562, 35 S.Ct. 287, 289 (1915). The burden of proof falls upon the party objecting to discharge to prove by a preponderance of the evidence that a particular debt is nondischargeable. Grogan v. Garner, 498 U.S. 279, 291, 111 S.Ct. 654, 661 (1991).
Section 523(a)(2)(A) denies discharge of a debt:
11 U.S.C. § 523(a)(2)(A).
The Sixth Circuit has held that:
Rembert, 141 F.3d at 280-81 (citation and footnote omitted). Under Rembert, intent is measured subjectively. Id. at 281. "[A] debtor's intent to deceive a creditor occurs when the debtor makes a false representation which the debtor knows or should have known would induce another to advance money, goods or services to the debtor." Bernard Lumber Co. v. Patrick (In re Patrick), 265 B.R. 913, 916 (Bankr. N.D. Ohio 2001) (citation omitted). An intent to deceive may be inferred from a "`[r]eckless disregard for the truth or falsity of a statement combined with the sheer magnitude of the resultant misrepresentation.'" Haney v. Copeland (In re Copeland), 291 B.R. 740, 786 (Bankr. E.D. Tenn. 2003) (citation omitted). Nonetheless, "`[i]f there is room for an inference of honest intent, the question of nondischargeability must be resolved in favor of the debtor.'" Star Banc Fin., Inc. v. Bird (In re Bird), 224 B.R. 622, 627 (Bankr. S.D. Ohio 1998) (citations omitted).
In ruling on this issue, the bankruptcy court went through the Rembert factors thoroughly and methodically:
(Telephonic Bench Opinion Tr. 22:1-30:8, Adv. Case ECF No. 135, Feb. 24, 2015) ("Opinion Tr.") (internal citations omitted).
The bankruptcy court also held that the Plaintiffs could not circumvent the causation issue by arguing that the Debtors were responsible for Newpower's tortious actions because Newpower was not acting as the Debtors' agent.
Under Michigan law, an agent's authority may be actual or apparent. "`An agent acts with actual authority when, at the time of taking action that has legal consequences for the principal, the agent reasonably believes, in accordance with the principal's manifestations to the agent, that the principal wishes the agent so to act.'" Mais v. Allianz Life Ins. Co. of N. Am., 34 F.Supp.3d 754, 762 (W.D. Mich. 2014) (citation omitted). In contrast, "`[a]pparent authority is the power held by an agent or other actor to affect a principal's legal relations with third parties when a third party reasonably believes the actor has authority to act on behalf of the principal and that belief is traceable to the principal's manifestations.'" Id. (citation omitted). Apparent authority cannot be established by the acts and conduct of the agent. Instead, it must be traceable to the principal. Id. (citation omitted). "[A] principal may be vicariously liable for an agent's tortious conduct based upon an apparent authority theory, if the principal cloaked its agent with apparent authority, i.e., held the agent out to third parties as possessing sufficient authority to commit the particular act in question, and there was reliance upon the apparent authority." Jones v. Federated Fin. Reserve Corp., 144 F.3d 961, 965 (6th Cir. 1998) (citations omitted).
In this case, the bankruptcy court correctly held that Newpower never had actual authority to act as the Debtors' agent and that the Debtors never manifested an intent to have Newpower act on their behalf so as to establish an apparent agency relationship. Specifically, the bankruptcy court made the following findings:
(Opinion Tr. 31:16-32:19).
Finally, the bankruptcy court considered whether there was actual fraud under 11 U.S.C. § 523(a)(2) and determined that the same facts which precluded a finding of fraudulent misrepresentation, "including the Debtors' lack of intent to deceive Plaintiffs, and the failure to establish a causal link between the Debtors' conduct and the Plaintiffs' losses" precluded it from finding that the Debtors committed actual fraud. (Opinion Tr. 34:22-24).
The bankruptcy court's finding that the debt owed to the Plaintiffs is dischargeable is supported by the record and is not clearly erroneous.
Although 11 U.S.C. § 523(a)(4) was not raised until the post-trial briefs, the bankruptcy court considered whether the proof conformed to a finding that the Debtors should be held responsible for the embezzlement of Newpower under a theory of agency.
11 U.S.C. § 523(a)(4) provides, in relevant part, that a discharge can be denied as to a debt for "embezzlement." As discussed above, the bankruptcy court correctly applied Michigan law to determine that Newpower did not act as the Debtors' agent, and therefore, the Debtors could not be held responsible for Newpower's embezzlement.
The Plaintiffs assert that the bankruptcy court's findings regarding 11 U.S.C. § 727(a)(4)(A) were also clearly erroneous.
A discharge can be denied under § 727(a)(4)(A) when a debtor knowingly and fraudulently makes a false oath in connection with a bankruptcy proceeding. "`The fundamental purpose of § 727(a)(4)(A) is to insure that the trustee and creditors have accurate information without having to do costly investigations.'" United States Tr. v. Zhang (In re Zhang), 463 B.R. 66, 86 (Bankr. S.D. Ohio 2012) (citation omitted). In order to deny a debtor's discharge under § 727(a)(4)(A), a plaintiff must establish by a preponderance of the evidence the following five elements: "1) the debtor made a statement under oath; 2) the statement was false; 3) the debtor knew the statement was false; 4) the debtor made the statement with fraudulent intent; and 5) the statement related materially to the bankruptcy case." Keeney v. Smith (In re Keeney), 227 F.3d 679, 685 (6th Cir. 2000) (citation omitted). An analysis under § 727(a)(4)(A) is a question of fact. Id. (citation omitted). The bankruptcy court made the following findings on this issue:
(Opinion Tr. 35:23-38:3) (internal citations omitted).
The testimony showed that at the time the Debtors filed their bankruptcy petition, there were seven people living in their home: the Debtors, the husband's 97-year-old mother, a son with a mental disability, and a daughter with her two children. Mr. Sheidler was unemployed, and his unemployment benefits had stopped prior to filing for bankruptcy. The daughter was unemployed and not receiving regular child support payments. The son's income was approximately $20,000. While the bankruptcy court failed to address the fact that the son's income was not listed on Schedule I, there was no proof that this omission would have affected the outcome of the bankruptcy. Based upon these facts, the bankruptcy court's findings concerning the § 727(a)(4) count were not clearly erroneous.
The Plaintiffs assert that the bankruptcy court's findings regarding 11 U.S.C. § 727(a)(3) were also clearly erroneous.
Pursuant to § 727(a)(3), a discharge is denied if "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 . . . was justified under all the circumstances of the case." In order to sustain an objection to discharge under § 727(a)(3), the evidence must show that:
Solomon v. Barman (In re Barman), 244 B.R. 896, 900 (Bankr. E.D. Mich. 2000) (internal quotation marks and citations omitted).
A review of the trial transcripts reflects that no questions were asked regarding the Debtors' record keeping, nor were any exhibits introduced to show that the Debtors failed to keep or preserve records. The bankruptcy court correctly held that there was no evidence to support this count.
On appeal, the Plaintiffs assert that the Debtors' bankruptcy case should have been dismissed pursuant to 11 U.S.C. § 707(a) and/or (b). As to 11 U.S.C. § 707(a), the Plaintiffs argue that the case should have been dismissed because "[t]hese Debtors filed on the eve of trial when the Plaintiffs' claims are the only substantial debt they have, and they have the ability to pay their debts." (App. Brief at 26, June 11, 2015, B.A.P. Case ECF No. 17). Regarding 11 U.S.C. § 707(b), the Plaintiffs assert that by overstating the amount of non-consumer debt owed and undervaluing the income and assets, the Debtors were attempting to circumvent the Chapter 7 Means Test and avoid the presumption of abuse that would arise under 11 U.S.C. § 707(b)(2)(A). Even without this presumption, the Plaintiffs assert that the case should be dismissed for bad faith pursuant to 11 U.S.C. § 707(b)(3).
In ruling that the issue of dismissal was not properly presented, the bankruptcy court stated:
The question before the Court in this adversary proceeding is, and always has been, whether the Debtors intentionally made materially false oaths in their bankruptcy case such that the discharge should be denied. The Court finds that they did not.
(Opinion Tr. 38:23-39:9).
The Plaintiffs contend that the bankruptcy court's finding that they never formally pled a cause of action under § 707 either in the adversary proceeding or in a separate motion was clearly erroneous. The Plaintiffs assert that they first raised these claims in their pretrial statement, then in their responses to a motion for summary judgment, and in their pre- and post-trial briefs. The Plaintiffs' admission that this argument was not raised in their complaint, amended complaint, or in a separate motion supports the bankruptcy court's finding. A pleading is defined in Federal Rule of Civil Procedure 7(a), made applicable by Federal Rule of Bankruptcy Procedure 7007, and none of the documents listed by the Plaintiffs constitute a formal pleading.
Moreover, when the Plaintiffs raised § 707 issues, it was under the heading "Non-dischargeability in general." (Plaintiffs' Trial Brief at 7, Sept. 11, 2014, Adv. Case ECF No. 117; Plaintiffs' Post-Trial Brief at 10, Oct. 7, 2014, Adv. Case ECF No. 122).
Finally, the Plaintiffs' argument that Federal Rule of Civil Procedure 15(b)(2) required the bankruptcy court to consider § 707 is without merit. The Plaintiffs submit that the § 707 claims were "virtually always part of the case," that the Debtors did not object, and that the matter was tried by the parties. (App. Brief at 25, June 11, 2015, B.A.P. Case ECF No. 17). The bankruptcy court ruled that "[t]he question before the Court in this adversary proceeding is, and always has been, whether the Debtors intentionally made materially false oaths in their bankruptcy case such that the discharge should be denied." (Opinion Tr. 39:5-8). The Plaintiffs' references to their pretrial statement, responses to summary judgment, and pre- and post-trial briefs, are insufficient to indicate that there was express or implied consent on the part of the debtors to consideration of these issues, or that these issues were tried by the parties over the two-day trial. Accordingly, the bankruptcy court did not abuse its discretion by refusing to consider any § 707 issues. See Ale v. TVA, 269 F.3d 680, 692 (6th Cir. 2001) (trial court's decision whether to amend under Rule 15(b) is reviewed for abuse of discretion).
For the reasons stated, the bankruptcy court's order dismissing the Plaintiffs' complaint is AFFIRMED.
