Charles A. Stanziale, Jr., Chapter 7 Trustee (the "Trustee") for Conex Holdings, LLC ("Holdings"), Conex International, LLC ("Conex"), and Advantage Blasting & Coating, Inc. ("ABC" and together with Holdings and Conex, the "Debtors") filed a complaint
CopperCom moves to dismiss the Complaint in its entirety (the "Motion to Dismiss"). For the reasons set forth below, the Court will grant with prejudice the Motion to Dismiss Count I for turnover of an alleged $2.559 million receivable due to Conex from CopperCom for use of Conex's 2008 NOL. The Court will grant without prejudice the Motion to Dismiss Count II for breach of the implied covenant of good faith and fair dealing, Count III for unjust enrichment, Count IV for avoidance of transfers pursuant to Bankruptcy Code Section 549, and Count V for recovery and preservation of any transfers avoided pursuant to Bankruptcy Code Section 550. The Trustee has not pleaded adequate facts in support of his claims; however, the Court grants the Trustee leave to amend the Complaint within twenty-eight (28) days of the issuance of this opinion to adequately plead facts to support Counts II, III, IV, and V.
This Court has jurisdiction over this adversary proceeding pursuant to 28 U.S.C. §§ 157 and 1334. Venue is proper in this District pursuant to 28 U.S.C. §§ 1408 and 1409. This is a core proceeding pursuant to 28 U.S.C. § 157(b)(1) and (b)(2)(A),(E), and (O). The Court has the judicial authority to enter a final order.
On February 20, 2011 (the "Petition Date"), Wells Fargo Bank, N.A., Bank of Montreal, and The Prudential Insurance Company of America filed involuntary petitions for relief against the Debtors.
On April 22, 2013, the Trustee initiated an adversary proceeding against the Debtors' parent company, CopperCom, for turnover of an open receivable due to Conex arising from the Defendant's use of Conex's 2008 NOL and the tax benefit derived therefrom; breach of the implied covenant of good faith and fair dealing based on the Defendant's breach of an (alleged) implied-in-fact tax allocation agreement (the "TAA") relating to the Defendant's use of the tax benefit derived from Conex's 2009-2011 NOLs; or, in the alternative, unjust enrichment for the retention and utilization of Conex's 2009-2011 NOLs; and for avoidance and recovery of the value of the Debtors' 2010-2011 NOLs to the extent the NOLs were used
CopperCom, a subsidiary of Heico Holding, Inc. ("Heico"), is a Florida corporation with its principal place of business in Florida.
On August 7, 2008, Conex International, Corp., predecessor-in-interest to Conex, changed its form and structure so as to sell itself to Heico. Conex converted to a limited liability company and changed its name from Conex International Corp. to Conex International, LLC. On that date, Conex was a wholly owned subsidiary of Conex Holdings, Inc. On August 8, 2008, Conex Holdings, Inc. transferred to Holdings, a special purpose LLC created to facilitate the acquisition, its interests in Conex and ABC.
On or about September 19, 2009, CopperCom and its subsidiaries filed a 2008 federal income tax return ("2008 Consolidated Tax Return").
For the year ending December 31, 2008, CopperCom, as the Debtors' parent company, included the Debtors in the 2008 Consolidated Tax Return.
The tax benefit to CopperCom was recorded in Conex's General Ledger Account as a federal income tax expense with an offsetting entry in the same amount described as "Due From Parent Company." As a result of certain year-end adjustments, the tax benefit amount originally accrued was reduced. Conex's audited statement of earnings for the period from August 8, 2008 to December 31, 2008 reflects Conex's loss before income taxes being reduced to $7.256 million. Conex's General Ledger Account reflects a receivable due Conex from CopperCom of $2,559,369.81 (the "Receivable") as of December 31, 2008.
The Receivable due Conex from CopperCom' s use of Conex's 2008 NOL is reflected in an audit report prepared by Deloitte & Touche LLP for the year ending December 31, 2008 (the "2008 Audit Report").
Conex's management-prepared financial statements for the year ending December 31, 2010 also reflect the Receivable due from CopperCom. Conex's balance sheet as of December 31, 2010 reflects the Receivable as due and owing in its balance sheet asset account. The Receivable was never paid and remains due and owing to Conex.
For 2009, Conex reported a book loss before taxes of approximately $160.7 million and a taxable loss of approximately $22.8 million. The CopperCom Group reported a consolidated book loss of approximately $149 million and a taxable loss of approximately $19.3 million. The profitable
The Trustee asserts that the General Ledger Accounts demonstrate that Conex was recording a reduction to its federal income tax expense on a monthly basis based on the accrued benefit it was expecting to derive from the utilization of its 2009 NOL by the profitable members of the CopperCom Group and recording the benefit as an increase in the receivable due from CopperCom. Conex recorded an increase in its receivable due from CopperCom on a monthly basis throughout 2009 and through March 2010. Conex's 2009 General Ledger Account reflects a monthly addition to the balance of the receivable due Conex from CopperCom throughout 2009 and also contains an offsetting entry. The Trustee alleges that the description "FIT Benefit" provided in the General Ledger for the increase in the receivable account means "Federal Income Tax Benefit."
The aggregate of the 2009 monthly tax benefits recorded as a receivable due to Conex from CopperCom was reversed by a single audit entry reflected in the 2009 General Ledger which purports to be recorded on December 31, 2009. The Trustee believes, however, that this entry was in fact actually recorded in April 2010, because Conex's 2010 General Ledger Account No. 17150 does not reflect the reversal being recorded until April 13, 2010.
The Defendant seeks dismissal of the action on the grounds that the Trustee has failed to state a claim for which relief can be granted. This motion, under Rule 12(b)(6),
In Iqbal, the Supreme Court makes clear that the Twombly "facial plausibility" pleading requirement applies to all civil suits in the federal courts.
After Iqbal, the Third Circuit has instructed this Court to "conduct a two-part analysis. First, the factual and legal elements of a claim should be separated. The [court] must accept all of the complaint's well-pleaded facts as true, but may disregard any legal conclusions."
The claims asserted in this adversary proceeding concern the Defendant's use of NOLs generated by Conex in federal income tax returns filed by the Defendant. The Internal Revenue Code ("I.R.C.") rules govern the use of NOLs:
Section 542 provides the cause of action for turnover, which requires an entity in possession of property of the estate to deliver the property, or value thereof, to the trustee.
The Defendant argues that Count I should be dismissed because the Trustee has failed to allege that the Receivable is the undisputed property of Conex. In support, the Defendant contends that federal income tax law treats Conex as a disregarded entity for federal income tax purposes, and as a result, all of Conex's income and losses passed through to the Defendant as the parent of Conex. Therefore, Conex's NOLs for the tax years of 2008-2011 were deemed to be the losses of the Defendant for federal income tax purposes, and neither the NOLs nor the tax benefits derived therefrom are property of Conex's estate.
The Trustee alleges that "[a]s single member LLCs, both Conex and Holdings were treated as `disregarded entities' for federal income tax purposes. Under these circumstances, Coppercom, as owner of the disregarded entities, was treated as holding directly each entity's assets and liabilities."
On the Petition Date, a bankruptcy estate was created to hold "all legal or equitable interests of the debtor in property as of the commencement of the case."
"In fact, every conceivable interest of the debtor, future, nonpossessory, contingent, speculative, and derivative, is within the reach of [section] 541."
A single member limited liability company ("SMLLC") "may elect to be classified as an association taxable as a corporation or to be disregarded as a separate entity, resulting in passthrough taxation of its sole member."
The allegations show that Conex's claim to the Receivable is not undisputed because, on the one hand, the Trustee alleges that Holdings' and Conex's assets and liabilities (including tax benefits related to NOLs) were treated as held directly by the Defendant for federal income tax purposes, and on the other hand, alleges that the Receivable is due and owing to Conex.
Because the Trustee has alleged that Conex and Holdings were disregarded entities for federal income tax purposes, federal income tax law indicates that the Defendant directly held Conex's assets and liabilities, which included any tax benefits or liabilities derived from its operating losses in 2008. Section 542 is a remedy available to debtors to obtain what is acknowledged to be property of the bankruptcy estate,
Delaware courts have "recognized the occasional necessity of implying contract terms to ensure the parties' reasonable expectations are fulfilled."
"The doctrine thus operates only in that narrow band of cases where the contract as a whole speaks sufficiently
The Defendant argues that Count II should be dismissed because (i) there is no free-standing cause of action for breach of the implied covenant of good faith and fair dealing pursuant to Delaware law,
Count II for breach of the implied covenant of good faith and fair dealing alleges that the Defendant breached the covenant by failing to reimburse Conex for the amount of tax savings ($2,505,035) realized for the 2009-2011 tax years and by unilaterally rescinding the TAA in April 2010, thereby frustrating the purpose of the TAA.
The Court will consider the Operating Agreements of Conex and Holdings annexed to the Motion to Dismiss and still treat the matter under the Fed.R.Civ.P. 12(b)(6) standard because the Operating Agreements fall within the Third Circuit's "integral exception" doctrine.
Notwithstanding the Operating Agreements, the Trustee's claim for breach of the implied covenant is premised on the existence of the (alleged) implied-in-fact TAA that the Trustee seeks to establish through the parties' course of performance. The Trustee argues that Conex's practice of recording the tax benefit derived from the utilization of its 2009 and 2010 NOL on a monthly basis suggests that it was following a protocol whereby CopperCom would pay to Conex the amount by which Conex's NOLs reduced the CopperCom Group's consolidated tax liability. The Trustee further argues that CopperCom's reversal of the accounting entries indicating a receivable due to Conex for use of its NOLs constituted "arbitrary or unreasonable conduct which ha[d] the effect of preventing [Conex] from receiving the fruits" of the TAA.
Taking all of the allegations in the Complaint as true, the Trustee has failed to allege sufficient facts to support a claim for breach of the implied covenant of good faith and fair dealing because the Operating Agreements and federal income tax law permit the exact conduct of which the Trustee complains.
To the extent the Trustee relies on the existence of the (alleged) implied-in-fact TAA for this claim, the Trustee has failed to allege sufficient facts plausibly establishing the agreement. A valid contract exists when "(1) the parties intended that the contract would bind them, (2) the terms of the contract are sufficiently definite, and (3) the parties exchange legal consideration."
The only allegations to support the existence of the TAA are that Conex carried on its books and records an open and due receivable arising from the Defendant's use of the tax benefits derived from Conex's 2009-2011 NOLs, and that the Defendant made an entry in its general ledger offsetting the receivables due to Conex. The Trustee failed to plead facts plausibly show the parties' intent and mutual assent to bind them to contract.
Unjust enrichment is "`the unjust retention of a benefit to the loss of another, or the retention of money or property of another against the fundamental principles of justice or equity and good conscience.'"
The Defendant argues that Count III should be dismissed because the Trustee has failed to plausibly allege facts establishing a claim for unjust enrichment, specifically that the Defendant's retention and use of Conex's 2009, 2010, and 2011 NOLs resulted in an impoverishment to Conex. In support, the Defendant asserts that the Trustee has failed to allege that Conex had prior income or expected future income and would have been able to use the NOLs to enhance the estate.
The Trustee alleges that Conex's 2009, 2010, and 2011 NOLs are property of the estate, and the Defendant was unjustly enriched by demanding and procuring the benefit of Conex's tax losses. As a result,
Relevant provisions of the I.R.C. require the CopperCom Group's profitable members carry each year's NOLs back the statutorily mandated number of years.
Taking all of the allegations in the Complaint as true, the Trustee has failed to allege sufficient facts to support a claim for unjust enrichment. The complaint does not allege that Conex had prior or current taxable income that could have been offset by carrying back the NOLs. The complaint does not allege that Conex realized taxable income at any time prior to the bankruptcy, and therefore could have carried the NOLs back or forward to reduce that taxable income. The Trustee does not allege that Conex has any prospect for future income. Conex is in a chapter 7 liquidation and no longer operates. The Trustee has failed to allege that the Defendant's use and retention of Conex's NOLs resulted in an impoverishment to Conex. The Court will dismiss Count III without prejudice. The Trustee may amend the Complaint to allege additional facts consistent with this Opinion.
Pursuant to Section 549, a chapter 7 trustee may avoid: (1) a transfer, (2) of property of the bankruptcy estate, (3) that occurs after the commencement of the bankruptcy case, and (4) that was not authorized by any provision of the Bankruptcy Code or by order of the bankruptcy court.
Count IV asserts a claim for avoidance to the extent the Debtors transferred any of their 2010 or 2011 tax losses to the Defendant for utilization in the consolidated federal income tax filings for 2010 and 2011. Count V asserts a claim for recovery and preservation of the transfers asserted in Count IV.
The Defendant argues that Count IV, and thus Count V, should be dismissed because there was no transfer within the meaning of the Bankruptcy Code. In support, the Defendant contends that the 2010 and 2011 NOLs were never Conex's property because it was a disregarded entity for federal income tax purposes. And as a disregarded entity, there was never a transfer of the NOLs from Conex to the Defendant within the meaning of the Bankruptcy Code because the Defendant was treated as holding directly the NOLs.
The Trustee argues that Section 549 does not require the debtor to affirmatively act in order to constitute a transfer of property.
The Defendant filed consolidated federal tax returns for the CopperCom Group in accordance with the I.R.C. In doing so, the Defendant was required to apply the CopperCom Group's consolidated NOLs, and the Defendant as the parent of the CopperCom Group, was responsible for filing the consolidated federal income tax return and paying any federal income tax due on behalf of all group members regardless of whether the Defendant and Conex entered into a TAA.
The CopperCom Group's consolidated tax return reflects the income and losses of the CopperCom Group as a single entity, even though the individual members, including Conex, had to first calculate its taxable income in the same manner as if it were filing its own federal tax return.
Assuming, arguendo, that the parties entered into the TAA, the Debtors would necessarily calculate hypothetical standalone NOLs in order to file a consolidated tax return.
The Trustee requests that the Court allow leave to file an amended complaint in the event that the Court concludes that more factual detail is needed or the claims are insufficient in some manner.
Federal Rule of Civil Procedure 15(a), as made applicable to adversary actions pursuant to Federal Rule of Bankruptcy Procedure 7015, provides that "leave [to amend] shall be freely given when justice so requires." The Court grants the Trustee leave to replead with respect to Counts II, III, IV, and V — those dismissed without prejudice.
For the foregoing reasons, the Motion to Dismiss Count I will be granted with prejudice and the Motion to Dismiss Counts II, III, IV, and V will be granted without prejudice. The Court grants the Trustee leave to amend the Complaint within twenty-eight (28) days of the issuance of this Opinion. An order will be issued.
Id. at ¶¶ 34-35.
Complaint at ¶¶ 25-27.
Id. at 425 (citing Jump v. Manchester Life & Cas. Management Corp., 579 F.2d 449, 453-54 (8th Cir. 1978)).
