ROBERT KWAN, Bankruptcy Judge.
Pending before the court are various motions by Debtor Domum Locis LLC ("Debtor") and Creditor Lloyds TSB Bank plc ("Lloyds") in the main bankruptcy case and in the adversary proceeding brought by Debtor against Lloyds, which were set for hearing on October 22, 2014. The court has found that because the material facts necessary to resolve these motions are not in dispute, there is no need to proceed with the evidentiary hearings for these matters and that further hearings are no longer necessary because the parties have fully briefed these matters and the court has fully heard the oral arguments of the parties at prior hearings and additional argument would not be helpful. Accordingly, the court dispenses with the evidentiary hearings and further oral argument on these matters and takes the matters under submission, and issues this decision resolving these matters.
These motions are: (1) Debtor's Motion for the Entry of an Order: (I) Authorizing Debtor to Utilize Cash Collateral Pursuant to 11 U.S.C. § 363; and (II) Granting Adequate Protection to Pre-Petition Secured Parties Pursuant to 11 U.S.C. §§ 361 and 363, 2:14-bk-23301-RK, ECF 3; (2) Debtor's Motion to Approve Residential Lease Agreements, 2:14-bk-23301-RK, ECF 2; (3) Lloyds's Motion for (A) Relief From the Automatic Stay Under 11 U.S.C. Section 362 (Real Property), and (B) Relief from Turnover Under 11 U.S.C. Section 543 by Prepetition Receiver or Other Custodian ("First Motion for Relief from Stay"), 2:14-bk-23301-RK, ECF 11; (4) Lloyds's Motion for Protective Order Limiting the Scope of Discovery, 2:14-bk-23301-RK,
The relevant facts material to the motions before the court are undisputed and straightforward. At issue are three parcels of real property listed by Debtor on its bankruptcy schedules as assets of its bankruptcy estate: (1) the "Strand Property" located at 1614-1618 The Strand, Hermosa Beach, California 90254; (2) the "North Flores Property," located at 1308 North Flores Street, West Hollywood, California 90069; and (3) the "Vista Chino Property," located at 424 West Vista Chino, Palm Springs, California 92262 (the three properties are collectively known as "the Properties"). Adversary Complaint, 2:14-ap-01594-RK, ECF 1 at ¶ 8; Debtor's Opposition to Lloyds Motion for Relief from Stay, 2:14-bk-23301-RK, ECF 34 at 7:14-18. Debtor claims ownership of the Properties. Id.; Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 3:26-4:3.
The Strand Property and the North Flores Property are located in Los Angeles County, and the Vista Chino Property is located in Riverside County. Debtor is a California limited liability company which was formed on June 13, 2012, and is owned 100 percent by Michael Kilroy ("Kilroy"). Adversary Complaint, 2:14-ap-01594-RK, ECF 1 at ¶ 6; Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 3:24-25. Kilroy is the principal of Debtor. Adversary Complaint, 2:14-ap-01594-RK, ECF 1 at ¶ 10; Debtor's Opposition to Lloyds Motion for Relief from Stay, 2:14-bk-23301-RK, ECF 34 at 8:9-10.
In or around December 2006 to May 2007, Kilroy took out loans from Lloyds, borrowing an aggregate amount of about $9 million, and then as the owner of the Properties, gave trust deeds on the Properties to secure repayment of the loans (the "Loans"). Adversary Complaint, 2:14-ap-01594-RK, ECF 1 at ¶ 12; Debtor's Opposition to Lloyds Motion for Relief From Stay, 2:14-bk-23301-RK, ECF 34 at 8:26-27. Kilroy stopped making interest payments on the Loans in April 2009. Adversary Complaint, 2:14-ap-01594-RK, ECF 1 at ¶ 20; Debtor's Opposition to Lloyds Motion for Relief From Stay, 2:14-bk-23301-RK, ECF 34 at 10:26-27. Kilroy contends that Lloyds has charged him significantly more interest than permitted under the loan documents. Id.; Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 4:7-6:7.
On November 12, 2011, Lloyds filed complaints for injunctive relief and appointment of a receiver against Michael Kilroy regarding the loans on the Strand and North Flores Properties in the Superior Court of California, County of Los Angeles ("Los Angeles Superior Court"). Adversary Complaint, 2:14-ap-01594-RK, ECF 1 at ¶ 21; Debtor's Opposition to Lloyds Motion for Relief From Stay, 2:14-bk-23301-RK, ECF 34 at 11:2-9; Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 6:9-23. On December 1, 2011, the Los Angeles Superior Court entered an order granting Lloyds's ex parte application for appointment of a rents and profits receiver and related relief, including a
On May 21, 2014, Lloyds filed amended complaints in these actions in the Los Angeles Superior Court to, among other things, add Debtor as a defendant and further add a judicial foreclosure cause of action against Kilroy and Debtor. Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 6:24-28. The amended complaints in these actions alleged causes of action for appointment of a receiver, accounting and specific performance of the rents and profits clause, injunctive relief, breach of contract and judicial foreclosure. Id. Kilroy filed amended cross-complaints against Lloyds for fraud and deceit, negligent misrepresentation, tortious breach of the implied covenant of good faith and fair dealing, breach of contract, violation of the California unfair competition law, violation of Hong Kong law, Section 108 of the Securities and Futures Ordinance Cap 571, and declaratory and injunctive relief. Id. at 7:1-6.
In or about April 2012, Lloyds filed a complaint for the appointment of a receiver, accounting and specific performance of the rents and profits clause, injunctive relief, and judicial foreclosure and deficiency against Kilroy regarding the loans on the Vista Chino Property in Superior Court of California, County of Riverside ("Riverside Superior Court"). Adversary Complaint, 2:14-ap-01594-RK, ECF 1 at ¶ 25; Debtor's Opposition to Lloyds Motion for Relief From Stay, 2:14-bk-23301-RK, ECF 34 at 11:10-16; Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 7:9-19. On May 1, 2012, the Riverside Superior Court entered an order granting Lloyds's ex parte application for a rents and profits receiver and related relief. Id. Since that time, the receiver, Mr. Warren, has had possession of the Vista Chino Property. Id. The Riverside Superior Court confirmed the appointment of the receiver in or about June 2012. Id. Debtor is not a party to the Riverside Superior Court action. Id.
On July 13, 2012, Kilroy transferred his interests in the Properties to Debtor. Adversary Complaint, 2:14-ap-01594-RK, ECF 1 at ¶ 28; Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 7:24-8:2. As alleged by Debtor, it is the owner of the Properties, apparently based on these transfers from Kilroy to it. Id. at ¶¶ 8 and 28 and Exhibit C attached thereto (copies of grant deeds transferring Strand and North Flores Properties from Kilroy to Debtor); Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 7:23-8:2.
On July 11, 2014, Debtor filed its voluntary petition for relief under Chapter 11 of the Bankruptcy Code. Petition, 2:14-bk-23301-RK, ECF 1. On July 25, 2014, Debtor filed its Summary of Schedules and Schedules, listing the Properties as assets of the bankruptcy estate, and valuing the Properties at $14,470,000. Summary of Schedules and Schedules, 2:14-bk-23301-RK, ECF 23 at 2.
On July 14, 2014, Debtor filed a Motion for Cash Collateral and Adequate Protection. Motion for the Entry of an Order: (I) Authorizing Debtor to Utilize Cash Collateral Pursuant to 11 U.S.C. § 363; and (II) Granting Adequate Protection to
On July 18, 2014, Lloyds filed a Motion for Relief from Stay on grounds that Debtor's Chapter 11 bankruptcy case was filed in bad faith. Motion for (A) Relief from the Automatic Stay under 11 U.S.C. § 362 (Real Property) and (B) Relief from Turnover under 11 U.S.C. § 543 by Prepetition Receiver or Other Custodian, 2:14-bk-23301-RK, ECF 11.
On August 18, 2014, Lloyds filed a Motion for Protective Order Limiting the Scope of Discovery in response to discovery requests propounded by Debtor in relation to Lloyds Motion for Relief from Stay (Real Property), the Motion for Cash Collateral, and the Motion to Approve Residential Lease Agreements. Motion for Protective Order Limiting the Scope of Discovery, 2:14-bk-23301-RK, ECF 46.
On August 26, 2014, Lloyds filed a Second Motion for Relief from Stay. Motion for Relief from the Automatic Stay under 11 U.S.C. § 362 (with supporting declarations) (Action in Nonbankruptcy Forum), 2:14-bk-23301-RK, ECF 57.
On September 10, 2014, Debtor initiated an adversary proceeding, number 2:14-ap-01594-RK. The adversary complaint named Lloyds as a defendant and pleaded two claims for relief: (1) Declaratory Relief that the Real Properties are Property of the Estate Pursuant to 11 U.S.C. § 541; and (2) Objection to Claim Pursuant to Federal Rule of Bankruptcy Procedure 3007. Adversary Complaint, 2:14-ap-01594-RK, ECF 1. Lloyds filed a Motion to Dismiss the Adversary Proceeding on September 19, 2014. Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 9.
State law determines whether a particular right, power, or interest is "property" and the nature and extent of the debtor's interest therein. Butner v. United States, 440 U.S. 48, 54, 99 S.Ct. 914, 59 L.Ed.2d 136 (1979). Based on the Butner principle, the Ninth Circuit in In re Pettit, 217 F.3d 1072, 1078 (9th Cir. 2000) described the applicable law governing the bankruptcy court's determination whether a property interest was included in a bankruptcy estate of a debtor subject to administration under the Bankruptcy Code: "Although the question whether an interest claimed by the debtor is `property of the estate' is a federal question to be decided by federal law, bankruptcy courts must look to state law to determine whether and to what extent the debtor has any legal or equitable interests in property as of the commencement of the case." 217 F.3d at 1078, citing Butner v. United States, 440 U.S. at 54-55, 99 S.Ct. 914; accord, In re First Protection, Inc., 440 B.R. 821 (9th Cir. BAP 2010). Thus, the court is to look to state law, here, California law, to determine whether Debtor had any interest in the Properties, real property situated in California, at the commencement of the bankruptcy case to be considered property of the bankruptcy estate under 11 U.S.C. § 541.
As the Ninth Circuit also noted in In re Pettit, "[u]nder California law, property is
Ownership of property in California is also defined in provisions of the California Civil Code. California Civil Code §§ 669 et seq. California Civil Code § 678 provides that the ownership of property is either "absolute" or "qualified." California Civil Code § 679 defines "absolute ownership" as follows: "The ownership of property is absolute when a single person has the absolute dominion over it, and may use it or dispose of it according to his pleasure, subject only to general laws." California Civil Code § 680 defines "qualified or base ownership" as follows: "The ownership of property is qualified: 1. When it is shared with one or more persons; When the time of enjoyment is deferred or limited; 3. When the use is restricted." California Civil Code § 681 defines "sole or several ownership" as follows: "The ownership of property by a single person is designated as a sole or several ownership." It is undisputed that Kilroy had "sole or several ownership" of the Properties when he purportedly transferred the Properties. The dispute here is whether Kilroy, as the sole owner, still had the power to transfer the Properties under California law once the court-appointed receiver took over possession of the Properties pursuant to the orders of the Los Angeles and Riverside Superior Courts.
As discussed above, the undisputed facts indicate that at the request of Lloyds, the Los Angeles and Riverside Superior Courts appointed Mr. Warren as the receiver for the Properties and had possession of the Properties before Kilroy transferred his interests in the Properties to Debtor and before Debtor filed its Chapter 11 bankruptcy case. The issue before the court which has been the subject of briefing and oral argument on these matters is whether or not Kilroy's transfers of his interests in the Properties, which are in the possession of the court-appointed receiver, validly conveyed ownership of the Properties to Debtor and are therefore property of the bankruptcy estate under 11 U.S.C. § 541 when Debtor filed its bankruptcy petition. To resolve this issue of whether Debtor had any legal or equitable interests in the Properties as of the petition date, the court must also consider the California law of receiverships.
In Kreling v. Kreling, 118 Cal. 421, 50 P. 549 (1897), the California Supreme Court observed: "A receiver is an officer or representative of the court, appointed to take the charge and management of property which is the subject of litigation before it, for the purpose of its preservation and ultimate disposition according to the final judgment therein." 118 Cal. at 422, 50 P. at 550, cited in, 6 Witkin, California Procedure, Provisional Remedies, Receivers, § 419 at 357 (5th ed. 2008). The appointment of a receiver is an equitable remedy. 55 Cal.Jur.3d, Receivers, § 1 at 8 (2012), citing, McLane v.
The statutory provisions governing the appointment of receivers and defining their functions and powers are set forth in California Code of Civil Procedure §§ 564 through 570. Pursuant to California Code of Civil Procedure § 564(a), a receiver may be appointed by the court in which an action or proceeding is pending, in any case in which the court is empowered by law to appoint a receiver. See also, 6 Witkin, California Procedure, Provisional Remedies, Receivers, § 419 at 358. "Generally, the functions and powers of a receiver are controlled by statute, by order of appointment, and by the court's subsequent orders." City of Santa Monica v. Gonzalez, 43 Cal.4th 905, 930, 76 Cal.Rptr.3d 483, 502, 182 P.3d 1027 (2008) (citations omitted). California Code of Civil Procedure § 568 provides:
California Code of Civil Procedure § 568.5 further provides: "A receiver may, pursuant to an order of the court, sell real or personal property in the receiver's possession. . . The sale is not final until confirmed by the court."
"It has been long recognized that a receiver is an agent and officer of the appointing court." City of Santa Monica v. Gonzalez, 43 Cal.4th at 930, 76 Cal.Rptr.3d at 502, 182 P.3d 1027, citing inter alia, Lesser & Son v. Seymour, 35 Cal.2d 494, 499, 218 P.2d 536 (1950). "As an officer of the court, a receiver is not an agent of any particular party to the action, but represents all persons interested in the property." City of Santa Monica v. Gonzalez, 43 Cal.4th at 930, 76 Cal.Rptr.3d at 502, 182 P.3d 1027 (citation omitted). "Property in receivership remains under the court's control and continuous supervision, and the importance of such supervision cannot be overstated." Id. (citation omitted). Id. (citation omitted); see also, Lesser & Son v. Seymour, 35 Cal.2d at 499, 218 P.2d 536 (citations omitted). Thus, California jurisprudence has long recognized that property subject to a court-appointed receivership is in custodia legis, that is, it is in the custody of the court itself. Id.; Pacific Railway Co. v. Wade, 91 Cal. 449, 455, 27 P. 768 (1891); Tapscott v. Lyon, 103 Cal. 297, 305-306, 37 P. 225 (1894); 1 Ahart, California Practice Guide: Enforcing Judgments and Debts, ¶ 4:937 at 4-170.11 (2014).
In Pacific Railway Co. v. Wade, the California Supreme Court held that a party seeking relief as to property of an insolvent debtor held by a receiver must petition the court in which the receiver is acting because the property held by the receiver is held under court supervision in custodia legis. 91 Cal. at 455-456, 27 P. 768. The facts involved the Pacific Railway Co., a railway company running a street railroad operated by wire cables ("cable car company"), which was an insolvent debtor whose assets were in possession of a receiver appointed by the superior court upon the petition of a judgment creditor. Id. at 450-451, 27 P. 768. Another railway company, the Los Angeles Consolidated Electric Railway Company ("electric car company"), petitioned the court to allow it to operate over and on some of the cable car company's tracks pursuant to provisions of the California Civil Code which governed the joint use of railroad tracks on city streets and the proper method of determining compensation
The California Supreme Court in Pacific Railway Co. first determined that the electric car company had the absolute right under state law to use the cable car company's track upon payment of the applicable compensation. Id. at 454, 27 P. 768. The California Supreme Court then observed that "the question before us whether the [superior court] has the right to fix the amount of damages or compensation to be paid by the electric [car] company is a simple one." Id. In answering this specific question of the superior court's jurisdiction in a receivership action, the California Supreme Court discussed the general principles of receivership law in California as follows:
Id. at 455, 27 P. 768 (emphasis added), citing inter alia, California Code of Civil Procedure § 568 and Wiswall v. Sampson, 55 U.S. 65, 14 How. 52, 14 L.Ed. 322
Id. at 455-456, 27 P. 768 (citations omitted). The California Supreme Court in Pacific Railway Co. further rejected the petitioner's argument that the receivership court's determination of compensation or damages to be paid as to property of the debtor would deprive them of the right to jury trial because a receivership action is a case of equity jurisdiction for which there is no common law right to a jury trial. Id. at 456, 27 P. 768. Accordingly, the California Supreme Court denied the application for a writ of prohibition and discharged the alternative writ. Id. at 457, 27 P. 768.
In Tapscott v. Lyon, 103 Cal. 297, 37 P. 225 (1894), the California Supreme Court held that a court appointed receiver could not be sued for conversion of assets he transferred in his capacity as a receiver because he was holding the property in custodia legis. 103 Cal. at 305-306, 37 P. 225. The facts involved two debtors who were operating a general merchandise business but were insolvent, having debts of $15,000 and assets worth only $8,000. Id. at 301-302, 37 P. 225. The debtors transferred all of their assets to a buyer who was fully aware of their insolvency for $2,000. Id. The creditors of the debtors instituted state law insolvency proceedings under the Insolvent Act of 1880 in the superior court, which appointed a receiver to take charge of the assets of the debtors. Id. at 302, 37 P. 225. The receiver then took possession of the assets after he demanded them from the buyer, who voluntarily relinquished the assets to the receiver. Id. at 302-303, 37 P. 225. The buyer then filed an application in the superior court against the receiver for turnover of the assets to him, which application was denied by the superior court. Id. at 303, 37 P. 225. Pursuant to court order, the receiver sold the assets and turned over the proceeds to a court appointed assignee, who distributed the sales proceeds to creditors in payment of the debts owed by the debtors. Id. at 304, 37 P. 225. The buyer then brought an action in the superior court against the receiver for wrongful taking and conversion, alleging trespass, which action was tried to a jury, which rendered a verdict in favor of the buyer and against the receiver. Id. at 304-305, 37 P. 225. The California Supreme Court held that the receiver "did not take the goods as a trespasser, and has disposed of them under express direction of this
In drawing this contrast between the sheriff acting as the agent of creditors and the receiver acting as the agent of the court, the California Supreme Court observed in Tapscott:
Id. 307-308, 37 P. 225. (citations omitted) In describing the role and powers of a court appointed receiver, the court also stated:
Id. at 306, 37 P. 225.
Citing Pacific Railway Co. v. Wade and Tapscott v. Lyon, one California treatise on enforcement of judgments and debts has stated: "The appointing court has custody over all property in the receiver's possession and has plenary jurisdiction to resolve disputes concerning such property. Thus, only the court may authorize a transfer or encumbrance of the property." 1 Ahart, California Practice Guide: Enforcing Judgments and Debts, ¶ 4:937 at 4-170.11, citing, Pacific Railway Co. v. Wade, 91 Cal. at 455, 27 P. 768; Tapscott v. Lyon, 103 Cal. at 305-306, 37 P. 225.
The California case law following Pacific Railway Co. v. Wade and Tapscott v. Lyon is consistent. For example, in Withington v. Shay, 47 Cal.App.2d 68, 119 P.2d 1 (1941), the district court of appeal held that a judgment creditor could not execute a judgment levy on surplus proceeds of a sale of property in the hands of the sheriff under court supervision in an action for judicial foreclosure of a mechanics lien. Id. at 73-75, 119 P.2d 1. The surplus proceeds were not subject to a judgment levy because the sheriff held the funds on behalf of the court to determine entitlement to the proceeds after the sale, and thus, the funds were held in custodia legis and immune from attachment. Id. at 74-75, 119 P.2d 1. The court stated:
Id. at 74, 119 P.2d 1, citing inter alia, Clymer v. Willis, 3 Cal. 363 (1853). Thus, under the above-discussed authorities, California law vests the power to dispose of property subject to a receivership in the receiver alone, and that power is subject to prior authorization from the appointing court.
The case law in the federal courts reflects the common law doctrine of in custodia legis as represented in the California jurisprudence of receiverships discussed above that the property is held by a court-appointed receiver under court supervision in custodia legis.
55 U.S. at 66 (emphasis added); see also, In re Technical Land, Inc., 172 B.R. at 432. Similarly, in Hitz v. Jenks, 185 U.S. 155, 22 S.Ct. 598, 46 L.Ed. 851 (1902) (interpreting District of Columbia law), the United States Supreme Court held that a sale of property in receivership pursuant to a deed of trust by a court-appointed receiver who was also trustee under the deed of trust was invalid and conferred no title because the property was in custodia legis and the receivership court had not granted permission for the sale. Id.; see also, In re Technical Land, Inc., 172 B.R. at 431.
In North American Broadcasting, LLC v. United States, 306 Fed.Appx. 371 (9th Cir.2008),
Id., citing inter alia, Booth v. Clark, 58 U.S. 322, 17 How. 322, 15 L.Ed. 164 (1854).
In Matter of The Rubicon, Ltd., 331 F.Supp. 1307 (N.D.Cal.1971), the district court held that funds of a debtor in the possession of a bankruptcy trustee in a Chapter XII arrangement proceeding under the Bankruptcy Act of 1898 were held under the supervision of the bankruptcy court in custodia legis and could not be subjected to garnishment pursuant to a writ of attachment issued by a state court against a debtor. Id. at 1309. The facts were that the debtor was a real estate investment business, which was sued by a creditor in state court. Id. at 1307. Soon afterwards, the debtor filed a petition for arrangement (reorganization) under Chapter XII of the Bankruptcy Act in the bankruptcy court. Id. The bankruptcy referee appointed a trustee to manage the assets of the debtor, including the collection of rents. Id. However, after the debtor conceded at a hearing before the bankruptcy referee that it was unable to obtain postpetition financing necessary to an effective plan of arrangement, the bankruptcy referee ordered that the bankruptcy case be dismissed, that the trustee file his final account, and that jurisdiction be retained until the trustee's final account was filed and heard before the district court. Id. at 1307-1308 After dismissal of the bankruptcy case, the creditor obtained a writ of attachment from the state court and requested the bankruptcy referee to honor the state court garnishment under the writ of attachment, but the bankruptcy referee refused and ordered the funds be paid to administrative expenses and then to the holder of the senior trust deed on one of the debtor's properties. Id. The creditor petitioned the district court for review, which affirmed the bankruptcy referee's ruling. Id. at 1308-1310. The district court held that the funds in possession of a bankruptcy trustee pursuant to a Chapter XII bankruptcy proceeding are held under bankruptcy court supervision in custodia legis and are not garnishable until the funds are disbursed by the trustee. Id. at 1308, citing, In re Argonaut Shoe Co., 187 F. 784 (9th Cir.1911) and Gilbert v. Quimby, 1 F. 111 (C.C.N.Y.1880). Since the funds had not yet been disbursed by the trustee, they remained held by the trustee in custodia legis, that is, under the custody of the bankruptcy court, and thus, not attachable by process from a state court without consent of the bankruptcy court. Id. at 1309. In so holding, the district court in The Rubicon cited In re Argonaut Shoe Co., which in turn cited Gilbert v. Quimby, which stated regarding the holding that bankruptcy dividends in the hands of a bankruptcy trustee are not attachable by state court process until distribution:
Id. at 1308, quoting, Gilbert v. Quimby, 1 F. at 113. Then, the court in The Rubicon quoted the statement of the Ninth Circuit in In re Argonaut Shoe Co.:
Id. at 1308-1309, quoting, In re Argonaut Shoe Co., 187 F. at 785-786, quoting, In re Cunningham, Fed. Cas. No. 3,478, 6 F. Cas. 958 (D.Iowa 1879). The holdings in The Rubicon and Argonaut Shoe Co. were that state court attachment orders were ineffective to attach to property held by a bankruptcy trustee under the supervision of the bankruptcy court in custodia legis. Id.
In In re Keller, 185 B.R. 796 (9th Cir. BAP 1995), the Bankruptcy Appellate Panel of the Ninth Circuit held that the debtor in a pending Chapter 7 bankruptcy case had no interest in the proceeds from the sale of a home ordered by a state family law court which retained jurisdiction to adjust the distribution of those proceeds between the spouses, including the debtor. Id. at 802. The facts were that a California family law court entered a judgment dissolving the marriage of the debtor and his wife, and ordered that the family residence be sold, with each spouse to receive an equal share of the proceeds, subject to future adjustments by the family law court. Id. at 797-798. When the family residence was sold, the debtor's share of the sales proceeds was insufficient to cover various support payments and attorneys' fees imposed by the family law court on him, which reduced his share to zero. Id. at 798. The debtor filed a Chapter 7 bankruptcy petition soon afterwards, and the Chapter 7 trustee then filed a preference avoidance action pursuant to 11 U.S.C. §§ 547 and 550 to recover the debtor's half of the family residence sale proceeds. Id. The bankruptcy court held that the payments and penalties imposed by the family law court's orders against the debtor's one-half share were avoidable preferences. Id. The Bankruptcy Appellate Panel reversed, agreeing with the wife and her counsel that the debtor's "rights in the proceeds were subject to adjustment and determination by the Family Law Court pursuant to the final judgment of dissolution, and his rights in the proceeds therefore could not vest until the court so decreed." Id. at 799. The Bankruptcy Appellate Panel stated: "We agree with the appellants' essential premise that the debtor never possessed a vested right to one half of the net sale proceeds [and
The case law as discussed above has recognized that attempts to sell or transfer interests in property held under court supervision in custodia legis are ineffective. Pacific Railway Co. v. Wade, 91 Cal. at 455, 27 P. 768; Tapscott v. Lyon, 103 Cal. at 305-306, 37 P. 225; Withington v. Shay, 47 Cal.App.2d at 75, 119 P.2d 1; North v. Evans, 1 Cal.App.2d 64, 68-69, 36 P.2d 133 (1934) ("It follows, from the premises that defendant has given us, that the possession by the clerk was the possession of the law and that the subsequent execution sales were of no effect."); see also, Wiswall v. Sampson, 55 U.S. at 66; Hitz v. Jenks, 185 U.S. at 166, 22 S.Ct. 598; North American Broadcasting, LLC v. United States, 306 Fed.Appx. at 373; In the Matter of The Rubicon, Ltd., 331 F.Supp. at 1309-1310; In re Keller, 185 B.R. at 800 ("Once the Family Court ordered the residence sold and retained jurisdiction to approve disbursement of the proceeds, those proceeds were for all practical purposes held in custodia legis by that court. As such, they were at all times subject to distribution pursuant to the court's direction, beyond the reach of the debtor, alienation by his creditors, and were not part of the bankruptcy estate.") (citation omitted); In re Technical Land, Inc., 172 B.R. at 432; 1 Ahart, California Practice Guide: Enforcing Judgments and Debts, ¶ 4:937 at 4-170.11. Thus, under these authorities, any attempt to transfer an interest in property held in custodia legis is void and ineffective, though none of these cases involved property held by a court-appointed receiver, but other court-supervised parties or agents (e.g., clerk of the Superior Court the family law department of the Superior Court, the sheriff as the agent of the Superior Court).
Debtor cites the majority opinion by Presiding Justice Langdon in Mercantile Trust Co. of San Francisco v. Sunset Rd. Oil Co., 50 Cal.App. 485, 494-495, 195 P. 466 (1920) for the proposition that California
Id. at 498, 195 P. 466.
The distinction made by the majority in Mercantile Trust between one creditor and multiple creditor receiverships has not been accepted by other courts. Mercantile Trust has never been cited by a California court and has apparently been cited only once by a court outside the state in In re Technical Land, Inc., 172 B.R. at 432, which declined to follow it.
Debtor argues that based on the majority opinion in Mercantile Trust, the transfer of property in the possession of a receiver in a "one creditor" receivership is only voidable rather than being void ab initio. Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 14:18-18:28. Thus, according to Debtor, even though Kilroy may have violated injunction orders issued by the state courts presiding over the receiverships prohibiting him from transferring the Properties, his transfers of his ownership interests in the Properties to Debtor were legally effective because the injunction orders only had in personam effect as to Kilroy and had no effect on his power to transfer the Properties in rem, and thus, Debtor now owns the Properties from Kilroy's transfers, which are now part of its bankruptcy estate. Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 21:11-24:28, citing inter alia, In re Demis, 191 B.R. 851, 858 (Bankr.D.Mont.1996). In this regard, the court concludes that Debtor's reliance on Mercantile Trust is misplaced because to accept its premise based on an artificial distinction between receiverships for the benefit of one creditor and for the benefit of all creditors is flatly inconsistent with the California law of property and California law of receiverships. The reasoning of Mercantile Trust is unsound in drawing an artificial distinction between receiverships for one creditor versus those for multiple creditors because the fundamental purpose of a receivership is to determine the rights of all parties to the property, including the rights of creditors and the debtor who is claiming a title interest in the property. See, e.g., Pacific Railway Co. v. Wade, 91 Cal. at 455, 27 P. 768 ("The property of the cable [car] company is in custodia legis. The receiver is indifferent between the parties. His possession is the possession of the court, for the benefit of all persons interested, whether named as parties in the action or not, and it cannot be disturbed without the consent of the court. No one claiming a right paramount to that of the receiver can assert it in any action without the permission of the court.
Debtor argues that Lloyds's motion to dismiss the first claim for relief of the adversary complaint for declaratory relief that the Properties are property of its bankruptcy estate is incorrect because Kilroy effectively transferred title to the Properties under California law. Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 20:14-26. Debtor contends:
Under California law, a receiver has possession only; title remains in those who had it at the time of appointment. Witkin, California Procedure, Provisional Remedies, Receivers, § 454 (Possession and Control of Property) (5th ed. 2012) (citing North v. Cecil B. De Mille Productions, 2 Cal.2d 55, 57, 39 P.2d 199 (1934)); see also, 75 C.J.S. Receivers § 89.
Id. As discussed above, Kilroy, as the sole owner of the Properties, attempted to transfer them to Debtor after the receiver took possession pursuant to the state court receivership orders. While Kilroy may have had absolute ownership of the Properties within the meaning of California Civil Code § 679 to "to dispose of [them] according to his pleasure" before the court-ordered imposition of the receiverships on the Properties, his ownership of the Properties became restricted by the receivership orders, which included injunctions prohibiting transfers of the Properties and orders for the receiver to assume possession of the Properties, so that his ownership under California law was no longer absolute, but qualified within the meaning of California Civil Code § 680. The restrictions on Kilroy's ownership rights were authorized pursuant to the California law of receiverships, including the statutory provisions in the California Code of Civil Procedure §§ 564 et seq., and the California common law of receiverships, including the doctrine of in custodia legis. Kilroy's absolute ownership of the Properties was also subject to the general laws of California as set forth in California Civil Code § 679, including the statutory receivership provisions in California Code of Civil Procedure §§ 564 et seq., so it cannot be said that Kilroy had the absolute right to transfer ownership of the Properties, regardless of the California law of receiverships, including the statutory receivership provisions which are part of the general laws. Thus, it does not necessarily follow as argued by Debtor that because Kilroy had title at the time the receiver was appointed does not mean that he had the power to transfer title; as discussed herein, he did not because once the Properties were in the receiver's possession, they were under the control and supervision of the receivership courts under the doctrine of in custodia legis and could not be transferred without the permission of the receivership courts. The court further concludes that Debtor's reliance on the majority opinion in Mercantile Trust does not support its argument that the transferor, Kilroy, could transfer the Properties to it legally and effectively, regardless of possession of the Properties by the court-appointed receiver. That case is an aberration and does not square with the California common law governing property held in custodia legis, including the California Supreme Court opinions in Pacific Railway Co. v. Wade and Tapscott v. Lyon and general common law authority such as the Supreme Court opinions in Wiswall and Hitz, holding that property under court supervision may not be transferred without court authorization.
The concurring opinion in Mercantile Trust by Justice Brittain, concurring in the decision, discussed some of the problems with the reasoning of the majority opinion in Mercantile Trust. 50 Cal.App. at 500-506, 195 P. 466. Although Justice Brittain concurred with the decision "in so far as it declared the execution sale to be void and in so far as it restrained the appellant from hypothecating or disposing of the property involved," he identified three objectionable aspects in the decision. Mercantile Trust Co., 50 Cal.App. at 500, 195 P. 466. The first objection noted by
Id. at 502, 195 P. 466.
The notion that a debtor can transfer property in the possession of a court-appointed receiver holding it under court supervision in custodia legis to a wholly controlled entity to remove it from court supervision in a receivership is a remarkable proposition because it flatly inconsistent with the California law of receiverships and is, in this court's opinion, ultimately erroneous. To paraphrase the observations of the Ninth Circuit in Argonaut Shoe Co., the reason for the doctrine of in custodia legis seems to be that the court having the property in its custody under the law holds it for some purpose, of which that court is exclusive judge. See Matter of The Rubicon, Ltd., 331 F.Supp. at 1308-1309, quoting, In re Argonaut Shoe Co., 187 F. at 785-786, quoting, In re Cunningham, Fed. Cas. No. 3,478, 6 F. Cas. 958 (D.Iowa 1879). To permit property thus held to be transferred, encumbered, or otherwise alienated would therefore defeat the very purpose for which it is held, and in many cases enable some other court to dispose of property or money, and wholly divert it from the end or purpose for which possession has been taken. Id. A conflict of jurisdiction and decision would in many cases ensue. Id.
Debtor argues that the doctrine of in custodia legis should not be applied because there is no jurisdictional conflict. Debtor's Opposition to Lloyds Motion to Dismiss Adversary Proceeding, 2:14-ap-01594-RK, ECF 15 at 19:1-20:13. Debtor contends:
Id.
The court disagrees with, and rejects, Debtor's argument that the doctrine of in custodia legis should not apply on grounds that there is no jurisdictional conflict. As discussed herein, the issue before the court is whether the interests in the Properties claimed by Debtor are property of its bankruptcy estate, and to resolve this issue, the court must look to state law to determine whether and to what extent the Debtor had any legal or equitable interests in property as of the commencement of the case. In re Pettit, 217 F.3d at 1078, citing Butner v. United States, 440 U.S. at 54-55, 99 S.Ct. 914. If under state law, Kilroy could not have transferred the Properties to Debtor while in the possession of the court-appointed receiver, then there were no valid transfers of the Properties to Debtor, which means that they are not property of the estate. There is no need to consider in the abstract whether there are jurisdictional conflicts between the state courts and the bankruptcy court regarding disposition of the Properties as argued by Debtor. The black letter law cited by Debtor that a bankruptcy case supersedes a state court receivership proceeding would only have applied to the situation of a debtor like Kilroy filing a bankruptcy petition for himself while the property was held in the possession of a receiver. But that situation is distinguishable from the one here, where the property in the hands of a court-appointed receiver was transferred by a debtor to another party. The first situation, where a debtor whose property is being held in the possession of a court-appointed receiver files a federal bankruptcy petition, is not a violation of state law whereas, the second situation, as here, where a debtor whose property being held in the possession of a court-appointed receiver under the doctrine of in custodia legis, attempts to transfer that property to another entity, is a violation of state law, i.e., California Code of Civil Procedure § 568 as well as a court injunction order.
As discussed above, it is undisputed that Kilroy purported to transfer his interests in the Properties to Debtor after the court-appointed receiver in the Los Angeles and Riverside County receivership cases took possession of the Properties. Because the receiver had taken possession of the Properties, under California
Accordingly, because the Properties are not assets or property of Debtor's bankruptcy estate, Lloyds's motion to dismiss the adversary proceeding under Fed.R.Civ.P. 12(b)(6) for failure to state a claim upon which relief can be granted should be granted. The facts as alleged in the adversary complaint are that Debtor purportedly acquired its ownership interests in the Properties through transfers by Kilroy while the Properties were being held by the court-appointed receiver in custodia legis. Those transfers are legally ineffective under state law. The other cause of action pleaded in the adversary complaint, the objection to the so-called informal proof of claim of Lloyds, is premature as Lloyds has not filed a proof of claim in Debtor's bankruptcy case (most likely, given the court's rulings, Lloyds would not do so because any claim would be against the Properties which are determined not to be assets of Debtor's bankruptcy estate and there are no facts that indicate that Lloyds would have a claim against Debtor since Kilroy was the obligor on the disputed loans). Moreover, Lloyds's motion for relief from stay under 11 U.S.C. § 362(d)(1) should be granted to allow the nonbankruptcy litigation in the actions before the Los Angeles and Riverside Superior Courts with respect to the Properties to proceed since the automatic stay does not apply to the Properties, which are not assets of Debtor's bankruptcy estate. The state courts may determine the rights of the parties to the Properties in the judicial foreclosure actions. Debtor's motions to use cash collateral (i.e., rental revenue from the Properties) and to assume a lease on a unit of the North Flores Property should be denied because the Properties are not assets of the bankruptcy estate. Lloyds's motion for protective order should be deemed moot because the proceedings to which the discovery was being sought is resolved by the court's rulings and there is no further need for discovery and a protective order.
The court hereby directs that the Clerk of Court enter this memorandum decision in both the main bankruptcy case and in the adversary proceeding brought by Debtor against Lloyds.
Counsel for Lloyds is hereby ordered to submit proposed final orders consistent with this memorandum decision within 14 days of entry of the decision.
IT IS SO ORDERED.
