STUART M. BERNSTEIN, United States Bankruptcy Judge:
Irving H. Picard, the trustee (the "Trustee") for the liquidation of the estate of Bernard L. Madoff Investment Securities LLC ("BLMIS") and the estate of Bernard
The background information is derived from the well-pleaded factual allegations of the Amended Complaint and other information that the Court may consider on a motion to dismiss for failure to state a claim. This adversary proceeding arose from the massive Ponzi scheme masterminded by Bernard L. Madoff and executed through BLMIS. (¶ 1.)
One important fact omitted from the Amended Complaint but subject to judicial notice concerns the date that BLMIS began operating. BLMIS, the SIPA debtor in this case, commenced operations on January 1, 2001. Prior to that date, Madoff operated his financial business as a sole proprietorship. In re BLMIS, 522 B.R. 41, 60 (Bankr.S.D.N.Y. 2014) ("Inter-Account Transfer Decision"), aff'd sub nom. Diana Melton Trust v. Picard (In re BLMIS), 15 Civ. 1151(PAE), 2016 WL 183492 (S.D.N.Y. Jan. 14, 2016). Although BLMIS did not exist as an operating entity prior to January 1, 2001, this decision generally refers to Madoff's business as BLMIS regardless of when the transactions described herein occurred and makes the distinction between his sole proprietorship and BLMIS, the SIPA debtor, when necessary.
At all relevant times, Frank J. Avellino ("Avellino") and Michael Bienes ("Bienes"), both certified public accountants, were partners in Avellino & Bienes ("A & B"). Nancy Avellino ("Mrs. Avellino") is Avellino's wife. (¶ 42.) Dianne K. Bienes ("Mrs. Bienes") is Bienes' wife, (¶ 48), and was also a partner in A & B. (¶ 58.) Thomas G. Avellino ("Thomas Avellino") is Avellino's son. (¶ 54.)
A & B was a Florida general partnership formed to practice accounting. The general partners included Avellino, Bienes
The Avellino Family Trust was a trust, and Avellino was the trustee. The Avellino Family Trust had an IA account with BLMIS in its name, and it and/or Avellino received transfers from its IA account. (¶ 60.)
Avellino & Bienes Pension Plan & Trust ("A & B Pension Plan") was a pension plan created by Avellino and Bienes, and were the trustees. The A & B Pension Plan had an IA account with BLMIS and received transfers from that account. It was a predecessor of the Avellino & Bienes Profit Sharing Plan and the Mayfair Pension Plan, which were profit sharing and/or pension plans established for the benefit of Avellino, Bienes, Mrs. Bienes and, later, Mrs. Avellino. (¶ 61.)
The following table, derived from Exhibit F to the Amended Complaint, lists the general partnerships
Post-1992 Feeder ¶General Partners IA Account Entity Grosvenor ¶ 62 Avellino, Bienes, Mrs. Avellino, Mrs. 1ZB046 Partners, Ltd. Bienes and Mayfair Ventures ("Grosvenor Partners") Mayfair Ventures, ¶ 63 Avellino, Bienes, Mrs. Avellino and Mrs. 1ZB032 GP ("Mayfair Bienes Ventures") Aster Associates ¶ 64 Avellino, Mrs. Avellino, Thomas 1ZB509 ("Aster") Avellino, and subsequent transferee defendants identified in Exhibit F St. James ¶ 65 Bienes and Mrs. Bienes 1ZB510 Associates ("St. James") Strattham Partners ¶ 66 Thomas Avellino and Ascent, Inc. 1ZB262 ("Strattham") Kenn Jordan ¶ 67 Avellino 1ZA879 Associates ("KJA")
Exhibits D and E to the Amended Complaint identify the subsequent transfers and defendants that are the subject of Count Nine. All of the Defendants, except for A & B, the Avellino Family Trust, A & B Pension Plan, Mayfair Ventures and St. James, are identified as defendants under Count Nine and, according to Exhibit D, all of the Count Nine defendants received subsequent transfers after January 1, 2001. These defendants overlap to some extent with the initial transferees but will
Exhibit B to the Amended Complaint provides a detailed itemization of the various BLMIS accounts, including all of the withdrawals. In many cases, the account activity ceased prior to January 1, 2001. This category includes the accounts in the names of A & B (1A0045, 1A0047, 1A0048,
Exhibits D and E to the Amended Complaint identify the subsequent transfers and the Subsequent Transferees. Those defendants that received subsequent transfers after January 1, 2001 include Avellino, Mrs. Avellino, the Frank J. Avellino Revocable Trust, the Nancy Carroll Avellino Revocable Trust, the Avellino Family Foundation, Bienes, Mrs. Bienes, Thomas Avellino, Grosvenor Partners, Aster, Strattham, KJA, Ascent, Mayfair Bookkeeping, Avellino & Bienes Accounting Services, 27 Cliff, LLC, Rachel A. Rosenthal a/k/a Rachel Liersch, the Rachel Anne Rosenthal Trust U/A dated June 29, 1990, the Rachel Anne Rosenthal Trust #3, Heather C. Lowles, the Heather Carroll Lowles Trust, Tiffany Lowles, the Tiffany Joy Lowles Trust U/A dated June 29, 1990, Melanie A. Lowles a/k/a Melanie Flowers, the Melanie Ann Lowles Trust, the Taylor Ashley McEvoy Trust U/A dated June 24, 1992, Madison Alyssa McEvoy, the Madison Alyssa McEvoy Trust U/A dated June 29, 1990, the S.A. Grantor Retained Annuity Trust and S.A. a minor. These Subsequent Transferees are referred to collectively as the "Post-2000 Subsequent Transferees."
In or around 1960, Madoff began operating a brokerage firm called "Bernard L. Madoff" from the offices of Alpern & Heller, his father-in-law Saul Alpern's accounting firm, where Avellino worked as an accountant. (¶¶ 102, 115.) From the early 1970s through the early 1990s, Madoff claimed to invest customer funds using a "convertible arbitrage investment strategy," (¶ 103), but beginning in the 1990s, Madoff claimed to use the "split-strike conversion" investment strategy (the "SSC Strategy"). According to Madoff, the SSC Strategy would produce steady returns without the volatility in the stock market or other high return investment
Madoff moved his business out of Alpern & Heller's offices in 1961, (¶ 115), and around that time, the firm, now known was Alpern & Avellino, began operating BLMIS's first "feeder fund" by pooling customers' capital and providing it to Madoff to make discretionary investments in securities. After Alpern's retirement, the firm was renamed A & B, and Avellino and Bienes operated the firm and the feeder fund as general partners. (¶ 116.)
For decades, Avellino and Bienes raised hundreds of millions of dollars through A & B for investment in BLMIS, and earned tens of millions of dollars in profits from their pooling and investment activities. (¶ 117.) With the help of their wives, they attracted new customers to the feeder fund by promising guaranteed annual rates of return ranging from 13% to 18% of the original investments. Avellino and Bienes called these investments "loans" and issued letters to investors specifying the rate of return for each "loan" in order to avoid scrutiny from securities regulators. (¶ 118.) Madoff, in turn, guaranteed significant annual returns to Avellino, Bienes, their wives, and A & B in order to continue the flow of customer funds into BLMIS. A & B retained the spread between the returns it was receiving from BLMIS and the returns it had guaranteed to its own investors. By 1984, Avellino and Bienes ceased operating the accounting business in order to focus exclusively on recruiting investors for the feeder fund. (¶ 119.)
A & B investors included other entities that pooled customer funds for investment in A & B and, ultimately, BLMIS (collectively, the "A & B Business Associates"). (¶ 120.) The entities were operated by friends of Avellino and Bienes. (¶ 121.) Avellino, Bienes, Mrs. Avellino and Mrs. Bienes also invested their personal funds with BLMIS. (¶ 124.) In addition, Avellino, Bienes, Mrs. Avellino, and Mrs. Bienes each benefitted from the A & B Pension Plan's account. (¶ 125.)
In June 1992, the SEC commenced an investigation of A & B, Avellino and Bienes to determine whether they were selling unregistered securities to the public and acting as unregistered investment advisors. (¶ 126.) Avellino and Bienes told the SEC that A & B owed its investors over $400 million, all of which was invested with BLMIS. (¶ 130.) The IA accounts, however, held $49.6 million less than the amount owed to A & B's investors, (¶ 131), and A & B's bank account held far less than what was needed to cover the shortfall. (¶ 134.) Avellino and Bienes testified before the SEC that they had engaged in a meticulous review and reconciliation of their IA account statements and were aware of the shortfall. (¶ 133.) In addition, Avellino testified that A & B always maintained a cushion in excess of the $400 million owed to investors, which was partly composed of additional investments in Treasuries. (¶¶ 136-38.)
Avellino and Bienes knew their representations to the SEC were false. Prior to their testimony before the SEC, BLMIS created a fake IA account to make up for the shortfall and corresponding account
Avellino also worked with Madoff to alter A & B's historical account statements. Avellino, with Bienes' knowledge and consent, returned old account statements to BLMIS for the purpose of concealing the alterations from the SEC and the receiver appointed by the court to liquidate A & B (the "Receiver").
With Avellino's and Bienes' knowledge, BLMIS created a new set of statements for A & B's IA accounts for production to the SEC and the Receiver. (¶ 159.) In some instances, BLMIS created false transactions to cover up the shortfall between what A & B owed investors and the value of A & B's accounts as reflected in the account statements. (¶¶ 160-163.) BLMIS created "sub-accounts" housing fictitious, backdated transactions generating cash in order to cancel out negative cash balances in some A & B accounts to support Avellino's and Bienes' testimony touting the accounts' positive cash balances. (¶ 164.) Other statements were altered in order to cover up inconsistencies with Madoff's representations and to prevent additional questions from the SEC. (¶ 165.)
The Receiver sought to audit A & B's books and records for an eight-year period, from 1984 to 1992. Avellino and Bienes could only produce limited accounting records and documents for a much shorter period, from 1989 to 1992, the period covered by the altered account statements. Avellino told the Receiver that A & B did not keep detailed financial records, and directed the auditor to conduct its audit using documents provided by Madoff. (¶ 167.)
Finally, on July 17, 1992, BLMIS, Avellino and Bienes made efforts to "paper" the creation of the A & B accounts, which had been in existence for years. Avellino, Bienes and Mrs. Bienes executed partnership account agreements, trading authorizations, customer agreements, margin agreements, option agreements and other account opening documents. (¶ 168.)
On November 17, 1992, the SEC filed a complaint against Avellino, Bienes and A
Despite the permanent injunction, Avellino and Bienes attempted to find people willing to act as "front men" for new BLMIS investment vehicles. (¶ 175.) They arranged with Michael Sullivan and Greg Powell to create the partnerships S & P and P & S. Avellino and Bienes agreed to refer investors to these partnerships, which would, in turn, invest those funds with BLMIS. The partnerships agreed to pay Avellino and Bienes 10% of the annual returns received on account of the referrals. (¶ 176.) Through this arrangement, Avellino and Bienes received $112,500 from 2000 to 2002 and $599,190 from 2003 to 2007. (¶ 177.)
Following the liquidation of A & B, the Individual Defendants also created a web of interconnected entities, each of which lacked employees, corporate form, or any independent business purpose. These entities included Grosvenor Partners, Mayfair Ventures, Aster, St. James, and Strattham (previously defined, with KJA, as the "Post-1992 Entities"). Avellino and Bienes opened six IA accounts (the "Post-1992 IA Accounts")
In 1992 or 1993, Madoff agreed to provide Avellino, Bienes and certain A & B Business Associates with financial incentives to encourage former A & B investors to reinvest with BLMIS following the liquidation of A & B because he did not want Avellino and Bienes to reveal what they knew about his scheme to regulators. (¶ 208.) With Bienes' knowledge, Avellino met with Madoff in the winter of 1993. In return for encouraging former A & B investors to open direct IA accounts with
BLMIS did not actually make the side payments in cash. Instead, it credited the IA accounts with highly profitable, non-hedged options transactions. BLMIS would purportedly purchase an option through an IA account and later sell it for a profit, thereby increasing the balance in the account. In reality, these option transactions were never executed, (¶ 216), and BLMIS' delivery of the side payments through specific, on-demand gains was impossible under any strategy. (¶ 217.) The Individual Defendants received at least $59 million, directly or indirectly, in side payments through 2007, which were recorded in the Post-1992 IA Accounts as fictitious gains that the Individual Defendants were free to withdraw. (¶ 219.) The following table, taken from ¶ 221 of the Amended Complaint, shows how the side payments were allocated to each IA account:
Allocation of Side Payments ($)
Year Mayfair Grosv'r Mayfair Aster St. James Strat. KJA Total
Ventures Book. 8
1994 2,297,700 1,357,575 0 0 0 0 0 0
1995 486,500 164,400 0 0 0 0 0 650,900
1996 0 5,577,228 0 0 0 0 0 5,577,228
1997 428,670 1,948,500 2,922,750 0 0 0 0 5,299,920
1998 500,220 6,272,600 1,198,940 0 0 0 0 7,971,760
1999 1,005,875 2,011,750 2,518,120 0 0 0 0 5,535,745
2000 5,372,000 1,074,400 537,200 0 0 0 0 6,983,600
2001 8,172,800 0 0 0 0 0 0 8,172,800
2002 2,164,320 1,743,480 0 0 0 0 0 3,907,800
2003 3,202,760 0 0 0 0 0 0 3,202,760
2004 1,785,810 66,516 270,402 41,934 41,934 26,028 20,244 2,252,868
2005 108,640 2,266,242 146,664 353,080 282,464 179,256 57,306 3,393,382
2006 1,679,230 0 0 0 0 0 0 1,679,230
2007 1,685,480 0 0 0 0 0 0 1,685,480
Total 28,890,005 22,482,691 7,594,076 395,014 324,398 205,284 77,280 59,968,748
[
The side payments often inflated annual rates of return in some years to greater than 80%. Avellino and Bienes scrutinized their monthly statements from BLMIS and knew that these rates of return were impossible and the product of fraud. (¶ 223.)
BLMIS employees tracked the accounts to ensure that they received the guaranteed rate of return through a process referred to internally at BLMIS as
On at least an annual basis, Avellino, on Bienes' behalf and with his knowledge, performed calculations on their IA accounts to determine if the rate of return matched what Madoff had promised. If the return was less than what was promised, Avellino, with Bienes' knowledge, communicated this to Madoff and Frank DiPascali. Madoff and DiPascali would then manufacture fictitious trades in order to make up the difference. Avellino, with Bienes' knowledge, would also identify the accounts that should receive the Schupt payments. (¶ 238.)
For example, in May 1996, Avellino sent a spreadsheet to DiPascali containing his calculation of guaranteed returns from 1993 to 1995. Avellino stated that he discovered "a difference of $434,000 in my favor." (¶ 239.) In December 1998, Avellino wrote to DiPascali
(¶ 240 (emphasis in original).) As a result of Avellino's letter, fictitious trades totaling approximately $7.9 million were reflected on the December 1998 account statements for the IA accounts identified — the amount necessary to make the side payments and meet the guaranteed rate of return. (¶ 241.)
Avellino, Bienes and Thomas Avellino carefully reviewed account documentation from BLMIS, and knew of or deliberately disregarded certain impossibilities revealed in the documentation.
Avellino, Bienes and Thomas Avellino were aware of or willfully blind to the fact that their accounts were receiving returns that were impossibly and implausibly consistent. (¶¶ 251, 255, 262, 267.) The Post-1992 IA Accounts received guaranteed annual rates of return of 17% from 1993 to 2001, 14% in 2002, and 11% from 2003 through 2008, and the side payments increased returns to higher than 80% for certain accounts in some years. (¶¶ 244-47.) The accounts received these returns even when financial markets plunged. (¶ 248.) The accounts also experienced positive returns far more consistently than the S & P 100 Index. (¶ 249.)
Avellino and Bienes had actual knowledge of the rates because they used those figures to calculate the rates of return to A & B's investors. Avellino and Bienes
Avellino, Bienes and Thomas Avellino were aware of or willfully blind to trading impossibilities revealed in account documentation. Account statements and trade confirmations for the Post-1992 IA Accounts showed hundreds of instances of purchases and sales of options that were quantitatively impossible on a particular day because they would have exceeded the total trading volume of those options on the market that day. (¶¶ 252-54.) The account statements and trade confirmations also showed stock and option transactions that occurred at prices outside the daily range. (¶¶ 256-260.) Avellino and Bienes had the ability to look up price information on securities on any given day, and such effort was required in order to calculate the equity in the pre-1992 IA accounts, a task which they represented to the SEC they performed daily. (¶ 261.)
From November 1978 through July 1992, the A & B account documentation reflected numerous impossibilities in BLMIS' apparent execution of its convertible arbitrage investment strategy. (¶ 275.) For example, of the hundreds of convertible securities trades in the A & B accounts during that period, over 90% of the trades were 30 times greater than the total reported trading volume for the day, and 10% of the trades were 50 times greater than the total reported trading volume. In one instance, BLMIS reported trades of a particular security that was 500 times greater than the total trading volume of the security for that day. (¶¶ 276-78.) Further, approximately 44% of trades were made on days when there was no reported trading volume at all in the particular security. (¶ 277.) Finally, of the approximately 1,000 securities with unique prices traded between 1978 and 1992, 75% of them were reported by BLMIS at prices outside the reported daily range of market prices for those securities. (¶ 279.)
From December 1978 to November 1986, Avellino and Bienes received statements for the A & B accounts that reported numerous backdated trades. (¶¶ 281-82.) For example, the September 1979 BLMIS statement for one A & B account (1A0045) showed six transactions that purportedly occurred two months earlier in July 1979. These transactions did not appear on the July or August 1979 statements for the account. The October 1979 statement for another A & B account (1A0048) showed fourteen transactions that occurred between August and September 1979. These transactions also did not appear on the account statements for those months. (¶ 283.) It is industry practice for investment advisors to record executed trades on customer account statements in the months in which they occurred. (¶ 284.) If a trade had actually occurred and settled on its stated date, then it would have appeared on that respective month's statement. (¶ 285.)
Finally, Avellino and Bienes knew or were willfully blind to the fact that BLMIS' auditor was incapable of providing large-scale domestic and international auditing services to BLMIS. (¶ 288.) BLMIS, which reputedly ran the world's largest hedge fund, was audited by Friehling
On February 9, 2009, Bienes gave a videotaped interview to a television journalist for the Public Broadcasting Service's Frontline program. Bienes stated that he never had any "inkling" of the BLMIS fraud and that he never verified that stock transactions occurred because the gains from these transactions were small and "nothing ever jumped out at [him]." (¶¶ 309-10.) At the time, Bienes knew that account statements from BLMIS included backdated trades and that the statements generated for the fake IA account in 1992 showed transactions that resulted in massive gains, including a single trade in January 1991 that purportedly generated $18,019,575. (¶¶ 311-312.) Bienes also stated that he only received "9 and half, 10 [percent] maybe" after he reinvested with BLMIS following A & B's liquidation. (¶ 313.) At the time, Bienes knew that Madoff had promised and delivered an 11-17% rate of return. He also knew that he and Avellino received side payments, which provided additional returns. (¶ 314.)
Bienes then stated, "I walked away from the whole thing.... I had no clients. I brought no one to him. I never mentioned his name." (¶ 315.) Bienes also stated that he did not know if S & P and P & S clients had invested through A & B, even though he received a percentage of the management fees that former A & B clients paid to P & S and S & P. (¶ 316.) When confronted with the fact that almost all of the A & B investors reinvested with Madoff, Bienes, who received side payments specifically calculated from the amount of money reinvested with BLMIS, stated, "I don't know if almost all of them did, because I didn't track it. I didn't care." (¶ 317.) Bienes also stated that he did not know if Avellino was investing customer funds with BLMIS through the Post-1992 Entities or steering investors to S & P or P & S. (¶ 318.)
Bienes admitted that he believed it was "a little strange" that BLMIS used a small auditing firm because "auditing is a very labor-intensive business." (¶ 321.) Bienes also admitted that he had not had a "down year." (¶ 322.) When asked about the implausibility of BLMIS' annual returns, Bienes stated, "Bernie was the well. I just turned the spigot, sent him the fax, the money came." (¶ 323.) Bienes also stated that BLMIS was "like a money machine." (¶ 324.) He stated that neither he nor Avellino conducted any inquiry into
The Trustee commenced this adversary proceeding on December 10, 2010, and filed the Amended Complaint on November 24, 2011. The Amended Complaint asserts thirteen counts summarized in the following table:
Summary of Counts Count ¶¶Defendant(s) Description The Individual Defendants, Avoid and recover two-year actual 1 484-89 and the Post-1992 Entities, fraudulent transfers under 11 U.S.C. §§ excluding KJA 105(a), 502(d), 548(a)(1)(A), 550(a) and 551 The Individual Defendants Avoid and recover two-year constructive 2 490-98 and the Post-1992 Entities, fraudulent transfers under 11 U.S.C. §§ excluding KJA 105(a), 502(d), 548(a)(1)(B), 550(a) and 551 The Individual Defendants Avoid and recover six-year actual 3 499-504 and the Post-1992 Entities fraudulent transfer under New York Debtor and Creditor Law §§ 276, 276-a and/or 279, and 11 U.S.C. §§ 105(a), 502(d), 544(b), 550(a), 551, The Individual Defendants Avoid and recover six-year constructive 4 505-10 and the Post-1992 Entities fraudulent transfers under New York Debtor and Creditor Law §§ 273, 278 and/or 279, and 11 U.S.C. §§ 105(a), 502(d), 544(b), 550(a), and 551 The Individual Defendants Avoid and recover six-year constructive 5 511-16 and the Post-1992 Entities fraudulent transfers under New York Debtor and Creditor Law §§ 274, 278 and/or 279 and 11 U.S.C. §§ 105(a), 502(d), 544(b), 550(a) and 551 The Individual Defendants Avoid and recover six-year constructive 6 517-22 and the Post-1992 Entities fraudulent transfers under New York Debtor and Creditor Law §§ 275, 278 and/or 279, and 11 U.S.C. §§ 105(a), 502(d), 544(b), 550(a), and 551 The Individual Defendants Avoid and recover undiscovered actual 7 523-29 and the Entity Defendants fraudulent transfer under New York Debtor and Creditor Law §§ 276, 276-a, 278 and/or 279, and 11 U.S.C. §§ 105(a), 502(d), 544(b), 550(a) and 551 Avoid and recover 90-day preferential 8 530-40 Strattham transfer under 11 U.S.C. §§ 105(a), 502(d), 547(b), 550(a) and 551 All defendants, other than Recover subsequent transfers under New 9 541-47 A&B, Avellino Family York Debtor and Creditor Law §§ 276-a Trust, A&B Pension Plan, and 278, 11 U.S.C. §§ 105(a) and 550(a), Mayfair Ventures, and St. and SIPA § 78fff-2(c)(3) James Strattham, KJA and Mayfair Objection to and disallowance of 10 548-53 Bookkeeping customer claims under 11 U.S.C. §§ 502(a) and 502(b)(1) and SIPA § 78fff-2 Strattham, KJA and Mayfair Equitable disallowance of claims against 11 554-59 Bookkeeping BLMIS Strattham, KJA and Mayfair Equitable subordination of customer 12 560-66 Bookkeeping claims under 11 U.S.C. §§ 105(a) and 510(c) The Individual Defendants, Impose general partner liability for 13 567-70 Mayfair Ventures, and judgments against the Entity Defendants Subsequent Transferee Defendants who were partners in the Post-1992 Entities
The motion to dismiss the Amended Complaint was filed by some but not all of the defendants on January 28, 2015. The original movants are identified in Exhibit A to the Defendants' Memorandum of Law in Support of Their Motion to Dismiss,
In the main, the Defendants contend that the Amended Complaint fails to adequately allege that they had actual knowledge that no securities transactions were being conducted by Madoff or BLMIS or that Madoff's business was a Ponzi scheme. Consequently, the transfers made more than two years before to the Filing Date are protected by the safe harbor in section 11 U.S.C. § 546(e). They also contend that the Amended Complaint fails to adequately allege the Defendants' willful blindness, and, therefore, the transfers made within two years prior to the Filing Date are protected by the "good faith" defense under 11 U.S.C. § 548(c). Moreover, they argue that Avellino's knowledge cannot be imputed to Mrs. Avellino, the non-individual Defendants, or to their general or limited partners. In addition, they assert a number of additional arguments that are addressed below.
The Defendants make several arguments addressed to the Trustee's standing and the Court's jurisdiction. One in particular is critical to the disposition of this motion and the Trustee's claims, and it is discussed immediately below.
As noted, prior to 2001, Madoff operated his business as a sole proprietorship; BLMIS, the SIPA debtor, a limited liability company, Began operations on January 1, 2001. The Defendants contend that the Trustee cannot recover transfers made by the sole proprietorship. (Defendants Memo at 2-4; Defendants' Reply Memorandum of Law in Support of Defendants' Motion to Dismiss Trustee's
The "debtor" in a SIPA liquidation proceedings is "a member of SIPC with respect to whom an application for a protective decree has been filed under section 78eee(a)(3) of this title." SIPA § 78111(5). SIPC filed an application for a protective decree against "Bernard L. Madoff Investment Securities LLC," and the District Court's order identifies the Defendant as "Bernard L. Madoff Investment Securities LLC."
The distinction is an important one. The customer property invested with BLMIS never became property of Madoff or BLMIS under applicable non-bankruptcy law, and an ordinary bankruptcy trustee could not recover it. Picard v. Fairfield Greenwich Ltd., 762 F.3d 199, 213 (2d Cir.2014); Grayson Consulting, Inc. v. Wachovia Secs., LLC (In re Derivium Cap. LLC), 716 F.3d 355, 361 (4th Cir. 2011) (assignee of bankruptcy trustee lacks standing to recover transfers of non-debtor property). SIPA § 78fff-2(c)(3)
The substantive consolidation of the BLMIS and Madoff estates did not empower Madoff's chapter 7 trustee to exercise the powers of a SIPA trustee, nor could it. Following the commencement of the SIPA proceeding, several creditors commenced an involuntary case against Madoff, and the Court ordered relief on May 7, 2009. Alan Nisselson, Esq. was appointed the chapter 7 trustee for the Madoff estate. Pursuant to a consent order among the Trustee, Mr. Nisselson and SIPC, the BLMIS estate and the Madoff chapter 7 estate were substantively consolidated. (See Consent Order Substantively Consolidating the Estate of Bernard L. Madoff into the SIPA Proceeding of Bernard L. Madoff Investment Securities LLC and Expressly Preserving All Rights, Claims and Powers of Both Estates, dated June 9, 2009 ("Substantive Consolidation Order") (ECF Case No. 08-01789 Doc. #252).) Notwithstanding the substantive consolidation, each trustee remained trustee of his respective estate with the powers and duties that attended his office.
(Id. at ¶ 4.)
Finally, the Inter-Account Transfer Decision did not rule that the Trustee had the power to avoid and recover transfers of customer property made by Madoff's sole proprietorship. The Inter-Account Transfer Decision addressed the proper method for calculating the net equity in a customer account that had received an inter-account "transfer" from another BLMIS customer account. It did not concern avoidance claims and expressly rejected the argument that an inter-account transfer was a "transfer" within the meaning of the Bankruptcy Code subject to the statute of limitations on avoidance claims. Inter-Account Transfer Decision, 522 B.R. at 53-54. The Court approved the Trustee's methodology which first recomputed the net equity in the transferor account at the time of the "transfer" under the Net
One of the objections to the inter-account method argued that it could not be applied to any inter-account transfers that occurred before January 1, 2001 when Madoff operated the business as a sole proprietorship. The Court disagreed. The argument was based, in part, on the erroneous assumption that the sole proprietorship was not a member of SIPC; Madoff was a member of SIPC since 1970. Inter-Account Transfer Decision, 522 B.R. at 60. Furthermore, the change in the form of the business was irrelevant to the amount of net equity in the pre-BLMIS accounts that were transferred to BLMIS. "Fictitious profits created by Madoff, the individual, are still fictitious profits in an account maintained by BLMIS. Madoff's incorporation did not transmute those fictitious profits into principal." Id.
While the pre-2001 inter-account transfers are relevant to the computation of net equity, and in the fraudulent transfer context to whether the defendant withdrew principal or fictitious profits, it does not follow that the Trustee can recover the actual withdrawals of cash by customers of the sole proprietorship. Only the Madoff trustee can recover actual transfers by the sole proprietorship, but the customer property withdrawn prior to January 1, 2001 was not property of the Madoff sole proprietorship and cannot be avoided by the Madoff trustee or one exercising his powers pursuant to the Substantive Consolidation Order.
The Defendants other jurisdictional and standing arguments lack merit. For example, they argue that their investments in BLMIS never became customer property because they invested with BLMIS in its capacity as an investment advisor rather than as a broker-dealer, and BLMIS purported to hold the Defendants' investments in their names rather than in the name of BLMIS. (Defendants Memo at 33-37.)
"To survive a motion to dismiss, a complaint must contain sufficient factual matter, accepted as true, to state a claim to relief that is plausible on its face." Ashcroft v. Iqbal, 556 U.S. 662, 678, 129 S.Ct. 1937, 173 L.Ed.2d 868 (2009) (citations omitted); accord Bell Atlantic Corp. v. Twombly, 550 U.S. 544, 570, 127 S.Ct. 1955, 167 L.Ed.2d 929 (2007). "A claim has facial plausibility when the plaintiff pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged." Iqbal, 556 U.S. at 678, 129 S.Ct. 1937; accord Twombly, 550 U.S. at 570, 127 S.Ct. 1955. Courts do not decide plausibility in a vacuum. Determining whether a claim is plausible is "a context-specific task that requires the reviewing court to draw on its judicial experience and common sense." Iqbal, 556 U.S. at 679, 129 S.Ct. 1937. "The plausibility standard is not akin to a `probability requirement,' but it asks for more than a sheer possibility that a defendant has acted unlawfully." Iqbal, 556 U.S. at 678, 129 S.Ct. 1937; Twombly, 550 U.S. at 556, 127 S.Ct. 1955. "Where a complaint pleads facts that are `merely consistent with' a defendant's liability, it `stops short of the line between possibility and plausibility of `entitlement to relief.''" Iqbal, 556 U.S. at 678, 129 S.Ct. 1937 (quoting Twombly, 550 U.S. at 557, 127 S.Ct. 1955).
Iqbal outlined a two-step approach in deciding a motion to dismiss. First, the court should begin by "identifying pleadings that, because they are no more than [legal] conclusions, are not entitled to the assumption of truth." Iqbal, 556 U.S. at 679, 129 S.Ct. 1937. "Threadbare recitals of the elements of a cause of action supported by conclusory statements" are not factual. See id. at 678, 129 S.Ct. 1937. Second, the court should assume the veracity of all "well-pleaded factual allegations," determine whether, together, they plausibly give rise to an entitlement of relief. Id. at 679, 129 S.Ct. 1937.
In deciding the motion, "courts must consider the complaint in its entirety, as well as other sources courts ordinarily examine when ruling on Rule 12(b)(6) motions to dismiss, in particular, documents incorporated into the complaint by reference, and matters of which a court may take judicial notice." Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, 322, 127 S.Ct. 2499, 168 L.Ed.2d 179 (2007). A complaint is deemed to include any written instrument attached to it as an exhibit, documents incorporated in it by reference, and other documents "integral" to the complaint. Chambers v. Time Warner, Inc., 282 F.3d 147, 153 (2d Cir.2002) (citations omitted); accord Int'l Audiotext Network, Inc. v. Am. Tel. & Tel. Co., 62 F.3d 69, 72 (2d Cir.1995); Cortec Indus., Inc. v. Sum Holding L.P., 949 F.2d 42, 47 (2d Cir.1991), cert. denied, 503 U.S. 960, 112 S.Ct. 1561, 118 L.Ed.2d 208 (1992). "A document is integral to the complaint `where the complaint relies heavily upon its terms and effect.'" Goel v. Bunge, Ltd., 820 F.3d 554, 559 (2d Cir.2016) (quoting Chambers, 282 F.3d at 153). However, "[l]imited quotation from or reference to documents that may constitute relevant evidence in a case is not enough to incorporate those documents, wholesale, into the complaint." Sira v. Morton, 380 F.3d 57, 67 (2d Cir.2004); accord Goel, 820 F.3d at 559; Sahu v. Union Carbide Corp., 548 F.3d 59, 67 (2d Cir.2008).
Counts One and Two seek to avoid and recover the initial transfers by BLMIS to the Defendants that occurred within two years of the Filing Date pursuant to section 548 of the Bankruptcy Code, Counts Three through Six seek to avoid and recover the initial transfers by BLMIS to the Defendants made within six years of the Filing Date under New York law, and Count Seven seeks to avoid and recover all initial transfers by BLMIS to the Defendants under New York law regardless of when they occurred. Finally, Count Eight seeks to avoid and recover a preferential transfer made by BLMIS to Strattham.
The Trustee's ability to avoid and recover transfers has been limited by several decisions issued by the Second Circuit Court of Appeals, the United States District Court for the Southern District of New York and this Court. In light of the safe harbor granted under 11 U.S.C. § 546(e), the Trustee may only avoid and recover intentional fraudulent transfers under § 548(a)(1)(A) made within two years of the Filing Date, Picard v. Ida Fishman Revocable Trust (In re BLMIS), 773 F.3d 411, 423 (2d Cir.2014), cert. denied, ___ U.S. ___, 135 S.Ct. 2859, 192 L.Ed.2d 910 (2015); Picard v. Katz, 462 B.R. 447, 453 (S.D.N.Y.2011), unless the transferee had actual knowledge of Madoff's Ponzi scheme, or more generally, "actual knowledge that there were no actual securities transactions being conducted." SIPC v. BLMIS (In re BLMIS), No. 12 MC 115, 2013 WL 1609154, at *4 (S.D.N.Y. Apr. 15, 2013) ("Cohmad").
Although the safe harbor does not bar the Trustee's intentional fraudulent transfer claims under 11 U.S.C. § 548(a)(1)(A), the transferee's knowledge is still relevant under 11 U.S.C. § 548(c). Section 548(c) provides a defense to a fraudulent transfer claim brought under 11 U.S.C. § 548(a) to the extent the transferee "takes for value and in good faith." 11 U.S.C. § 548(c). Where, as here, the Trustee seeks to recover the transfer of principal in addition to fictitious profits, he must plead the transferee's lack of subjective good faith, which, in this SIPA case, means the transferee turned a blind eye to facts that suggested a high probability of fraud. Katz, 462 B.R. at 454-56; SIPC v. BLMIS (In re BLMIS), 516 B.R. 18, 21 (S.D.N.Y.2014) ("Good Faith Decision"); Picard v. Ceretti (In re BLMIS), Adv. P. No. 09-01161, 2015 WL 4734749, at *12 (Bankr.S.D.N.Y. Aug. 11, 2015) ("Kingate"),
In summary, in order to meet his pleading burden under Counts Two through Eight, the Trustee must plead that the initial transferee had actual knowledge that BLMIS was not engaged in the trading of securities. If the Amended Complaint does not plead actual knowledge, the Trustee can still recover intentional fraudulent transfers, including transfers of principal, pursuant to 11 U.S.C. § 548(a)(1)(A) under Count One if he pleads that the initial transferee willfully blinded itself to the fact that BLMIS was not engaged in the actual trading of securities. If the Trustee does not plead actual knowledge or willful blindness, his recovery under 11 U.S.C. § 548(a)(1)(A) is limited to any fictitious profits transferred to the initial transferee.
This Court outlined what it means to have actual knowledge of, or to be willfully blind to, a fact in Merkin and Kingate. "Knowledge" is "[a]n awareness or understanding of a fact or circumstance; a state of mind in which a person has no substantial doubt about the existence of a fact." BLACK'S LAW DICTIONARY 1003 (10th ed. 2014) ("BLACK"); accord Merkin, 515 B.R. at 139; Kingate, 2015 WL 4734749, at *13. "Actual knowledge" is "direct and clear knowledge, as distinguished from constructive knowledge." BLACK at 1004. "Thus, `actual knowledge' implies a high level of certainty and absence of any substantial doubt regarding the existence of a fact." Merkin, 515 B.R. at 139.
In contrast, "willful blindness" involves two elements: "(1) the defendant must subjectively believe that there is a high probability that a fact exists and (2) the defendant must take deliberate actions to avoid learning of that fact." Global-Tech Appliances, Inc. v. SEB S.A., 563 U.S. 754, 769, 131 S.Ct. 2060, 179 L.Ed.2d 1167 (2011). If a person who is not under an independent duty to investigate "nonetheless, intentionally chooses to blind himself to the `red flags' that suggest a high probability of fraud, his `willful blindness' to the truth is tantamount to a lack of good faith." Katz, 462 B.R. at 455; accord Merkin, 515 B.R. at 139. "Thus, willful blindness connotes strong suspicion but some level of doubt or uncertainty of the existence of a fact and the deliberate failure to acquire knowledge of its existence." Merkin, 515 B.R. at 140 (emphasis in original).
Although the Defendants initially disputed the allegations of willful blindness, the attorney for the original moving defendants conceded at oral argument that the Trustee had adequately alleged the defendants' willful blindness under the standard applied by the Court in Merkin.
The allegations relevant to Avellino's and Bienes's actual knowledge fall generally into the following categories: (1) the dishonest acts during the 1992 SEC investigation; (2) the circumvention of the SEC injunction through the creation of the Post-1992 Entities and corresponding IA Accounts and the diversion of former and new customers in exchange for referral fees; (3) the existence of red flags; and (4) the "Schupt" adjustments.
The Trustee spends a great deal of time discussing the 1992 SEC investigation and the dishonest acts committed by Avellino, Bienes and Madoff in connection with that investigation. The Amended Complaint attempts to tie the knowledge of false statements delivered to the SEC to knowledge of the fictitious trading that forms the basis of the Trustee's fraudulent transfer allegations. These allegations plainly support the inference that Avellino and Bienes knew that Madoff had created records of fictitious, back-dated trades to dupe the SEC. But while the fraud perpetrated on the SEC was reprehensible, it was also focused and specific. It does not support the inference that Avellino or Bienes knew that Madoff was also defrauding his customers or not engaged in the trading securities on their behalf.
The Amended Complaint does include one group of factual allegations that attempts to connect the SEC fraud to the fraudulent withdrawals that were part and parcel of the Ponzi scheme. It alleges that Madoff created Account 1A0053 (which the Amended Complaint dubs the "Phony A & B IA Account") two weeks prior to Avellino's and Bienes' testimony before the SEC, and recorded back-dated fictitious trades to increase the apparent value of the A & B accounts with BLMIS. (¶¶ 144-49.) Avellino and Bienes, who monitored their accounts to ensure they were receiving the guaranteed returns, (¶ 238), had to have known that Account 1A0053 was freshly minted and the transactions woven from whole cloth. Yet following its creation, A & B withdrew $249,031,484 from Account 1A0053, including $212,801,638 in fictitious profits. The last withdrawal occurred on December 15, 1992. (Amended Complaint, Ex. B-10, at p. 26 of 36.)
These allegations, however, are contradicted by other specific facts laid out in the Amended Complaint. Exhibit B, which reflects the Trustee's reconstruction of BLMIS' books and records, indicates that the Phony A & B IA Account was actually funded with transfers from other A & B-related accounts. (Amended Complaint, Ex. B, at p. 26 of 36.) In that case, the aggregate value of the A & B-related accounts would not change; the same amount of money would be spread among more accounts. Furthermore, if the Phony A & B IA Account was funded with transfers from other A & B-related accounts, it is more plausible that A & B thought it was withdrawing its own money
The Amended Complaint alleges that following the commencement of the SEC lawsuit, the appointment of the Receiver and the entry of the order directing A & B, Avellino and Bienes to repay their investors and refrain from various acts that violated the federal securities laws, Avellino, and possibly Bienes, took steps to circumvent the injunction. First, they redirected their former investors to other feeder funds that invested with Madoff and received commissions based on the investments that they steered to Madoff. Second, they set up the Post-1992 Entities, commingled their assets, and created accounts in which those entities invested. Again, this alleges dishonesty and implies greed, but does not support the inference that Avellino or Bienes, or both, knew that Madoff was not actually engaging in trades with the money they were funneling to him.
The Amended Complaint identifies several red flags including, impossibly consistent annual returns, trading impossibilities, impossible options trading volumes, transactions outside the daily price range, back-dated trades, and the use of an incapable, strip mall auditor. The Court considered the Trustee's red flag theory of actual knowledge in Picard v. Legacy Capital Ltd. (In re BLMIS), 548 B.R. 13 (Bankr.S.D.N.Y.2016). There, the Court observed that the "red flag" theory of scienter had been rejected in Madoff-related federal securities law litigation because it was based on hindsight and required clairvoyance. Id. at 33. Many of the red flags were generally known to investors and the SEC, and in many cases, the red flags would become visible, if at all, only after comparing the BLMIS-generated account statements with market information. Id. Furthermore, while federal securities law litigation imposed a different standard of pleading, the requirement of pleading actual knowledge in the Madoff cases was equally rigorous. Id. at 33-34.
For the same reasons, the red flags identified by the Trustee do not support a plausible inference that Avellino or Bienes had actual knowledge that Madoff was not trading securities. The consistency of Madoff's returns was a matter of general knowledge as was his strip mall auditor. In addition, certain of the red flags cited by the Trustee, including impossible option trades and equity trades falling outside the daily price range, involved transactions that appeared in account statements spanning many years. Neither Avellino nor Bienes could have discovered that Madoff's aggregate OEX option trades exceeded the total number of OEX option trades unless they knew the aggregate number of Madoff trades — not just the trades allocated to their accounts — and compared that number to the total amount of OEX option trades reported by the Chicago Board of Exchange. The Amended Complaint does not allege that they made that comparison and discovered the anomalies as a result.
Similarly, they would not have known that prices reported in their trade confirmations or account statements fell outside the daily price ranges unless they compared the prices that Madoff reported with market information disclosing the daily trading prices. Once again, the Trustee does not allege that they made this comparison or discovered Madoff's fictitious trades as a result. Instead, the Trustee alleges that "[u]pon information and belief, Avellino and Bienes had the ability to look up price information of securities on any given day." (¶ 261 (emphasis added).) Their ability to look up pricing does not
The Schupt process, on the other hand, plausibly implies that at least Avellino knew that he was withdrawing or causing the withdrawal of funds from A & B-related accounts that included fictitious trades. The Amended Complaint alleges that A & B received its guaranteed returns through the Schupt adjustment process. BLMIS employees as well as Avellino, "with Bienes's knowledge," tracked the returns and side payments to which A & B was entitled, and Avellino communicated with BLMIS employees regarding how to allocate the Schupt payments among the A & B-related accounts. Rather than simply credit the accounts with cash, "the money was paid to specific IA accounts through the fictitious purchase and sale of options engineered to deliver the predetermined dollar amount needed to pay the guaranteed rate of return and/or the fraudulent side payment." (¶ 227.) Avellino even instructed Madoff to "[p]lease make the necessary trades in all of the accounts." (¶ 240.)
Assuming the truth of the allegations as I must, there is no plausible explanation for this method of paying commissions other than the one that the Trustee suggests. The Defendants certainly haven't offered any. BLMIS did not make direct cash payments or even deposit cash in the accounts to cover the commissions. Instead, BLMIS assigned fictitious option trades that hit predetermined, targeted gains in the amounts needed to cover the Schupt payments and allocated those trades in accordance with Avellino's instructions. Given Avellino's degree of involvement in directing BLMIS employees regarding the execution of the Schupt process, (see ¶¶ 238-40), it is plausible to infer that he was an active and knowing participant in the allocation of fictitious profits from imaginary options trades to the A & B-related account. He knew, therefore, that Madoff and BLMIS were not actually engaged in trading securities, at least to the extent of the Schupt process.
The Defendants correctly acknowledge that "[t]he linchpin of the Trustee's claims is the actual knowledge of Frank Avellino." (Defendants Reply at 17 (footnote omitted).) Avellino was a general partner in four of the six Post-1992 Entities (Grosvenor Partners (¶¶ 33(c), 62, 354, 357), Mayfair Ventures (¶¶ 33(d), 63, 347), Aster (¶¶ 33(e), 64, 365) and KJA since 1998 (¶¶ 33(f), 67, 383)). Each partnership was formed under Florida law, and under Florida law, the knowledge of any partner regarding a matter concerning partnership affairs operates as knowledge of the partnership. FLA. STAT. §§ 620.8102(6), 620.1103(8) (2015). Aetna Cas. Sur. Co. v. Buck, 594 So.2d 280, 282 n. 2 (Fla.1992) ("In Florida ... under partnership law, the knowledge of any partner regarding a matter concerning partnership affairs operates as knowledge on the part of the partnership.").
The Amended Complaint plausibly alleges facts that support the imputation of Avellino's actual knowledge to the other two Post-1992 Entities, Strattham
The Amended Complaint alleges that Thomas Avellino formed Strattham for the sole purpose of investing in BLMIS, (¶ 66), was the sole decision-maker for Strattham, actively directed and controlled its daily activities, including its dealings with Madoff and BLMIS and made all decisions relating to Strattham's investments with BLMIS. (¶ 392.) Nevertheless, "Avellino acted as an agent for Strattham, assisting in the opening of Strattham's IA account and negotiating with Madoff for Strattham to receive consistent guaranteed rates of return and fraudulent side payments." (¶ 395; accord ¶ 200.) The Amended Complaint alleges, in this regard, that Strattham received Schupt payments aggregating $205,284 in 2004 and 2005. (¶¶ 221, 234, 235.) These allegations imply that Avellino acted on behalf of Strattham and exercised control over the Strattham account, at least with respect to the Schupt Process and the allocation of fictitious options, and Avellino's knowledge of the fictitious Schupt trades is imputed to Strattham.
St. James is similar to Strattham. Its general partners, Bienes and Mrs. Bienes, (¶ 373), created St. James for the sole purpose of investing with BLMIS, (¶ 65), but Avellino directed BLMIS to open the St. James account with funds transferred from Grosvenor Partners' IA account. (¶ 193.) The Bieneses dominated and controlled St. James affairs and made all of the decisions relating to St. James' investment with BLMIS. (¶ 374.) However, "[a]t certain times ..., Avellino also acted as an agent for St. James, including in negotiations with Madoff for St. James to receive impossible guaranteed rates of return and fraudulent side payments," (¶ 377), and during 2004 and 2005, St. James received a total of $324,398 in side payments. (¶¶ 221, 234, 235.) For the reasons previously discussed, Avellino's knowledge relating to the Schupt Process and the allocation of fictitious options trades to the St. James is imputed to St. James.
The Defendants nonetheless contend that Avellino's actual knowledge cannot
Furthermore, the Defendants' authorities are distinguishable. Harte, Jehly, and Snook concerned the imputation of an agent's knowledge to an individual principal. A subsequent California appellate decision distinguished Harte and Snook on that basis, observing that those decisions did not address the imputation of the agent's knowledge to a corporate principal. Syntex Corp. v. Lowsley-Williams & Cos., 67 Cal.App.4th 871, 79 Cal.Rptr.2d 371, 386 (1998); accord Wardley 61 P.3d at 1016 (knowledge cannot be imputed to an individual when determining his subjective mental state but can always be imputed to a corporate principal, which can acquire knowledge through agents). In Roberts, the New York Court of Appeals considered whether the license of a corporate real estate broker could be revoked or suspended under Real Property Law § 442-c based upon lower level employees' "actual knowledge" of a violation. The Court concluded that the statute's actual knowledge requirement had to be strictly construed. As a result, the general rules of imputation did not apply, and instead, actual knowledge would be imputed only if the registered broker or a corporate officer or director had actual knowledge of the pertinent violation. 589 N.Y.S.2d 392, 603 N.E.2d at 245.
Finally, in Lihoset v. I & W, Inc., the court ruled that the knowledge of a truck driver's work-related complaint acquired by an agent truck dispatcher could not be imputed to the corporate principal to support the motive element of a retaliatory discharge claim subsequently brought by the driver. 913 P.2d at 267. The same court reached the opposite conclusion one year later in Wiedler v. Big J Enterp., Inc., 124 N.M. 591, 953 P.2d 1089 (Ct.App. 1997), another retaliatory discharge case. There, the agent with knowledge was intimately involved in the decision to terminate the employee. The court distinguished Lihosit on the basis that the agent in that case was not involved in the decision to discharge the employee. Id. at 1099. The two New Mexico cases can be harmonized by distinguishing between an agent that receives information outside the scope of his agency and has no duty to impart the information to his principal and an agent that acquires information within the scope of his employment, and therefore,
In short, Avellino's knowledge is imputed to each of the Post-1992 Entities, the only Defendants that received initial transfers from BLMIS after 2000.
Counts Three through Seven depend on the application of the New York Debtor & Creditor Law to recover fraudulent conveyances. Because Avellino had actual knowledge that BLMIS was not actually trading securities, at least in connection with the Schupt process, the safe harbor, 11 U.S.C. § 546(e), does not bar these claims. Nevertheless, 11 U.S.C. § 544(b)(1), which makes the New York fraudulent conveyance laws available to the Trustee, adds an additional element to the claims. It provides, with exceptions that are not relevant, that
Thus, the Trustee's state law fraudulent conveyance claims depend on the existence of a creditor holding an allowed unsecured claim against BLMIS.
Aside from the safe harbor provided by 11 U.S.C. § 546(e), which does not apply because of Avellino's actual knowledge, the Defendants make three challenges to the application of § 544(b)(1): (1) the statute of limitations expired with respect to transfers sought through Count Seven that occurred more than six years before the Filing Date; (2) the Trustee "failed to plead information regarding the exact creditor that triggers 544(b)"; and (3) the Trustee cannot plead on the one hand that the Defendants knew of the Ponzi scheme, but on the other hand, contend that the Ponzi scheme could not have been discovered with reasonable diligence. (Defendants Memo at 24-25.)
Regarding the Defendants' first point, Judge Lifland previously ruled that N.Y. C.P.L.R. §§ 213(8) and 203(g) allow the Trustee to bring an intentional fraudulent conveyance claim under N.Y. Debtor & Creditor Law § 276 within two years of the date the fraud was or should have been discovered with reasonable diligence. Picard v. Madoff (In re BLMIS), 458 B.R. 87, 109 (Bankr.S.D.N.Y.2011). Count Seven, the only avoidance count that reaches back beyond the six year period, seeks to recover intentional fraudulent transfers. The question of whether a creditor exists who could not have discovered Madoff's fraud with reasonable diligence until it was revealed to the public is inherently factual but gives little pause. The Trustee has commenced hundreds of cases against so-called innocent investors who admittedly acted in good faith because they were unaware of Madoff's fraud.
There are, however, limits to how far back the Trustee can reach. As discussed at length earlier in this opinion, BLMIS could not have made a fraudulent transfer before January 1, 2001; it did not operate or make any transfers of customer property prior to that date. Furthermore, Madoff's individual trustee cannot recover any transfers of customer property made by Madoff's sole proprietorship. Accordingly, the Trustee cannot recover any transfers made prior to January 1, 2001.
Finally, the Defendants imply a fatal inconsistency; the Trustee cannot plead that they knew about the Ponzi scheme but at least one other creditor exists that could not have discovered the fraudulent transfers at issue with reasonable diligence. The allegations are not inconsistent. Madoff's Ponzi scheme went undetected for years by many, including by the SEC, but this doesn't mean that particular persons lacked knowledge. Unlike the vast majority of creditors, Avellino was a participant in the Schupt process which informed him that Madoff was not trading the securities reflected as the compensation for steering investors to BLMIS.
Bankruptcy Code § 548(c) provides a defense to a fraudulent transfer action to the extent the transferee received the transfer in good faith and for value. The Defendants maintain that they provided value for the commissions they received from BLMIS within the meaning of 11 U.S.C. § 548(c) by supplying BLMIS with investors. Hence, the Trustee cannot avoid and recover those commissions. Without deciding whether the Defendants gave value, the Amended Complaint alleges that they did not receive the transfers in good faith. The Post-1992 Entities had actual knowledge that BLMIS was not engaged in trading securities in connection with the Schupt process, and the Defendants concede that the Amended Complaint pleads their willful blindness. Accordingly, the Amended Complaint pleads facts plausibly implying that the § 548(c)
The Defendants maintain that the Amended Complaint fails to plead the elements of a claim for fraud. (Defendants Memo at 22.) The Trustee is not asserting common law fraud claims.
The Amended Complaint includes numerous allegations that the individual defendants are liable on several bases, including under an alter ego theory, for the fraudulent transfers received by the non-individual defendants.
Entity Alter Ego Allegation in the Amended Complaint A&B Avellino, Bienes ¶ 340 A&B Pension Plan Avellino, Bienes ¶ 345 Mayfair Ventures Avellino, Bienes ¶ 353 Grosvenor Partners Avellino, Bienes ¶ 363 Aster Avellino ¶ 371 St. James Bienes, Mrs. Bienes ¶ 380 KJA Avellino ¶ 389 Strattham Thomas Avellino ¶ 398 Avellino Family Trust23 Avellino ¶ 411 Frank Avellino Trusts Avellino ¶ 412 Initial Transferees Avellino, Bienes, Mrs. Avellino, Mrs. ¶ 449 Bienes, and Thomas Avellino A&B, A&B Pension Plan, Avellino ¶ 450 Avellino Family Trust, KJA, Mayfair Ventures, Grosvenor Partners, and Aster A&B, A&B Pension Plan, Bienes ¶ 451 Mayfair Ventures, Grosvenor Partners, and St. James
[
Veil piercing is unnecessary to impose liability where partnership law already imposes liability on the general partner. As discussed in connection with Count Thirteen, infra, the alleged alter egos of A & B, Mayfair Ventures, Grosvenor Partners, Aster, St. James, KJA and Strattham are also the general partners of those entities and are liable to the same extent as the respective partnerships. The Court will, therefore, limit consideration of the question to the remaining entities identified by the Trustee, namely the A & B Pension Plan, the Avellino Family Trusts and the Frank Avellino Trusts
State law determines whether a claim belongs to creditors or the debtor, St. Paul Fire & Marine Ins. Co. v. Pepsico, Inc., 884 F.2d 688, 700 (2d Cir.1989), and whether corporate veil piercing applies in bankruptcy avoidance actions. Dzikowski v. Friedlander (In re Friedlander Capital Mgmt. Corp.), 411 B.R. 434, 441 (Bankr.S.D.Fla.2009) (collecting cases). Under New York's choice of law rules, the state of incorporation determines whether the corporate veil can be pierced. Fletcher v. Atex, Inc., 68 F.3d 1451, 1456 (2d Cir.1995). The Amended Complaint alleges that the defendant corporate and partnership transferees were formed under Florida law, and although it does not allege where the trust defendants were formed, it does allege that they have Florida addresses. Finally, the parties have generally relied on Florida alter ego law in their memoranda and have therefore impliedly consented to the application of Florida law. Cf. Chau v. Lewis, 771 F.3d 118, 126 (2d Cir.2014) ("The parties' briefs assume that New York law controls, and such implied consent ... is sufficient to establish choice of law.") (quoting Krumme v. WestPoint Stevens Inc., 238 F.3d 133, 138 (2d Cir.2000)).
The Defendants' challenge to the Trustee's standing lacks merit. Florida law treats veil piercing as a remedy rather than an independent claim. Tara Prods., Inc. v. Hollywood Gadgets, Inc., No. 09-CV-61436, 2010 WL 1531489, at *9 (S.D.Fla. Apr. 16, 2010) ("Alter ego is not a separate cause of action for which relief can be granted; rather, in this case, alter ego serves as a theory to impose liability on an individual for the acts of a corporate entity."); In re Fiddler's Creek, LLC, No. 9:10-bk-03846-ALP, 2010 WL 6618876, at *2 (Bankr.S.D.Fla. Sept. 15, 2010) (piercing the corporate veil "is a means of imposing liability on the shareholder based on an underlying cause of action for which the corporation is liable"); Turner Murphy Co. v. Specialty Constructors, Inc., 659 So.2d 1242, 1245 (Fla.Dist.Ct.App. 1995) ("Piercing a corporate veil is not itself a cause of action any more than the doctrine of respondeat superior is."). The remedy travels with the underlying claim, and the party with standing to assert the claim can seek the remedy. The Trustee has standing to seek his avoidance and other claims asserted in the Amended Complaint. If he prevails on his underlying claims he has standing to pursue his alter ego remedies to the extent they are available under Florida law.
Even if the alter ego remedy was an independent claim, the Trustee would still have standing to assert it. As a rule, a chapter 7 trustee has standing to bring an alter ego claim if the claim is general to all creditors of the estate and is allowed by state law. Baillie Lumber Company, LP v. Thompson (In re Icarus Holding, LLC), 391 F.3d 1315, 1321 (11th Cir.2004); In re Xenerga, Inc., 449 B.R. 594 (Bankr. M.D.Fla.2011). On the other hand, an individual creditor has standing to assert the claim if it suffered a unique and personal harm. Icarus, 391 F.3d at 1321; Xenerga, 449 B.R. at 599 ("Conversely, a trustee may not bring an alter ego claim if the alleged injury is specific to one creditor and not to the debtor corporation and creditors generally.")
The Court also rejects the Defendants' related argument that in pari delicto bars the alter ego claim. In pari delicto is both an affirmative defense and an equitable defense under Florida law that is applied flexibly in a manner that ensures its application does not defeat public policy. Earth Trades, Inc. v. T & G Corp., 108 So.3d 580, 583-84 (Fla.2013). The doctrine is based on the rule that the agent's knowledge and actions are imputed to his principal. Kirschner v. KPMG LLP, 15 N.Y.3d 446, 912 N.Y.S.2d 508, 938 N.E.2d 941, 950 (2010). Where the agent and principal are one, the principal's wrongful acts preclude the corporation from recovering for injury resulting from its own wrongful conduct. See O'Halloran v. PricewaterhouseCoopers LLP, 969 So.2d 1039, 1044 (Fla.Dist.Ct.App.2007).
Neither the defense of in pari delicto nor the related standing rule of Shearson Lehman Hutton, Inc. v. Wagoner, 944 F.2d 114 (2d Cir.1991) bars the Trustee's fraudulent transfer actions because those claims are specifically conferred on the Trustee by the Bankruptcy Code and SIPA.
Although the Court concludes that the Trustee has standing to assert any veil piercing claims otherwise available under Florida law, it declines to decide whether the Amended Complaint states veil piercing claims against the Avellino Trusts. According to Exhibit D to the Amended Complaint, only the Frank J. Avellino Revocable Trust and the Nancy Avellino Revocable Trust received subsequent transfers after 2000.
"The question whether the `alter ego theory' of piercing applies to trusts is a matter of state law." Babitt v. Citibank, N.A. (In re Vebeliunas), 332 F.3d 85, 90 (2d Cir.2003). The parties have not discussed or briefed the question of whether Florida law would apply alter ego liability to pierce the veil of a trust, and the Court's research indicates that Florida law is unsettled. In Henkel v. Bros. Mill Ltd. (In re Eddy), No. 6:13-ap-00112-CCJ, 2015 WL 1585513 (Bankr.M.D.Fla. Apr. 3, 2015), the chapter 7 trustee brought an action seeking, inter alia, a declaration that certain property of an irrevocable trust
The Amended Complaint does not allege whether the Avellino Trusts are revocable or irrevocable trusts, but the names suggest that many or all are revocable trusts. This distinction may make a difference. Florida law authorizes what amounts to reverse veil piercing
FLA. STAT. § 736.0505(1)(a). In addition, under Florida law, "[a] trustee is personally liable for torts committed in the course of administering a trust or for obligations arising from ownership or control of trust property only if the trustee is personally at fault." FLA. STAT. § 736.1013(2).
The Avellino Trusts' fraudulent transfer liability arises from Avellino's control over their IA Accounts through his role as trustee, presumably rendering him personally liable for their fraudulent transfer debts. Given the parties' failure to raise or brief the difficult question of whether Florida law would allow the piercing of the trusts' veils, and if it did, whether it would impose liability on the settlor, the trustee and/or the beneficiaries, and since it appears unnecessary to pierce their veils to impose liability on Avellino, the Court declines to address it. It therefore denies this aspect of the Defendants' motion without prejudice.
In summary, and subject to the disposition of the other defenses raised by the Defendants and discussed below, the motion to dismiss Counts One through Seven is denied as to the Post-1992 Entities except that the fraudulent conveyance claims asserted in Count Seven are limited to transfers made by BLMIS, the SIPA debtor in this case. The motion to dismiss claims for initial transfers under Counts One through Seven is otherwise granted.
The Amended Complaint alleges that Strattham received preferential transfers in the sum of $4,250,000 consisting entirely of fictitious profits. (¶¶ 530-40, Ex. B-16, at p. 34 of 36 (col.9).) As Avellino's knowledge is imputed to Strattham, the safe harbor does not bar the claim. The Defendants do not point to any other pleading deficiency,
Count Nine asserts claims to recover the avoided Initial Transfers from the Subsequent Transferees. The Defendants seek dismissal of Count Nine, but do not challenge the sufficiency of the allegations relating to the transfers themselves. Instead, they lump the Subsequent Transferees with the Initial Transferees and contend that the Amended Complaint fails to plead their actual knowledge, (Defendants Memo at 16), or a basis for imputation. (Id. at 29.)
The motion to dismiss Count Nine as against the Post-2000 Subsequent Transferees, identified above, is denied. Section 550(a)(2) of the Bankruptcy Code allows the Trustee to recover an avoidable transfer from "any immediate or mediate transferee of" an initial transferee. A trustee may not, however, recover the avoided transfer from a subsequent transferee that "takes for value, including satisfaction or securing of a present or antecedent debt, in good faith, and without knowledge of
Given the Defendants' concession that the Amended Complaint pleads their willful blindness, the Court concludes that it adequately pleads that Post-2000 Subsequent Transferees' lack of good faith for purposes of 11 U.S.C. § 550(a)(2). The claims against the remaining Subsequent Transferees must be dismissed. They received subsequent transfers prior to 2001. Because BLMIS did not operate before then, these subsequent transfers could not have originated from an avoidable initial transfer.
Finally, the Defendants contend that the Trustee cannot recover subsequent transfers between or credits to BLMIS accounts because they were not transfers of property and did not deplete the estate. (Defendants Memo at 37-40.) The Trustee is not seeking to recover inter-account transfers or credits; he is seeking to recover actual withdrawals of cash from BLMIS.
Counts Ten, Eleven and Twelve seek to disallow or subordinate the claims filed by Strattham, KJA and Mayfair Bookkeeping (the "Claimants") on equitable grounds. The inequitable conduct involves the knowing participation in the BLMIS fraudulent scheme and the withdrawal of funds to the detriment of other BLMIS creditors.
Count Ten relies on equitable principles to disallow the claims filed by the Claimants under applicable provisions of SIPA, including section 78fff-2(b), that are incorporated in 11 U.S.C. § 502(b)(1). It alleges that the Claimants acted with actual knowledge of BLMIS' fraudulent activity or willfully blinded themselves to it, and enabled BLMIS to perpetrate its fraudulent scheme. Although the Defendants have sought to dismiss the entire Amended
Accordingly, their motion to dismiss Count Ten is denied.
Count Eleven seeks to disallow the Claimants claims under general equitable principles unrelated to SIPA. It alleges that the Claimants benefitted from their inequitable conduct at the expense of other, innocent customers. (¶¶ 554-59.) Conflating equitable disallowance (Count Eleven) with equitable subordination (Count Twelve), the Defendants concede that equitable disallowance is a "potential, though extreme remedy." (Defendants Memo at 31 (citing Adelphia Commc'ns Corp. v. Bank of Am., N.A. (In re Adelphia Commc'ns Corp.), 365 B.R. 24, 73 (Bankr. S.D.N.Y.2007)).
For the reasons stated, the Court concludes that the Amended Complaint adequately alleges that the Claimants received their transfers with actual knowledge of Madoff's fictitious trading scheme and in bad faith. Furthermore, the withdrawals prejudiced BLMIS creditors because but for the withdrawals, the funds would have been available for distribution to net losers. Merkin, 515 B.R. at 160. Accordingly, the motion to dismiss Count Eleven is denied.
Count Twelve asserts an equitable subordination claim based on substantially the same conduct and injury to the net losers alleged in Count Eleven. The Amended Complaint states a claim for equitable subordination for the same reasons that it adequately pleads a claim for equitable disallowance.
The Defendants also argue that the Trustee lacks standing to assert an equitable subordination claim and is barred by the doctrine of in pari delicto. (Defendants Memo at 31-33.) The Court rejected the same arguments in Merkin. A claim of equitable subordination arises under 11 U.S.C. § 510(c) rather than under non-bankruptcy law, and the limitations on the causes of action that become property of the estate under 11 U.S.C. § 541(a), such as in pari delicto, do not apply. See Merkin, 515 B.R. at 159. Further, the Trustee has standing to assert the claim if he alleges that the inequitable conduct injured the creditor body as a whole; conversely, a creditor seeking to assert an equitable subordination claim must allege a particularized injury. See id. The Amended Complaint alleges that Strattham and KJA withdrew nearly $30
Exhibit F to the Amended Complaint identifies the following partnerships and their general partners:
Partnership General Partners A&B Avellino, Bienes, Mrs. Bienes Grosvenor Avellino, Bienes, Mrs. Avellino, Mrs. Bienes, Mayfair Ventures Mayfair Ventures Avellino, Bienes, Mrs. Avellino, Mrs. Bienes, Aster Avellino, Mrs. Avellino, Thomas Avellino, Rachel A. Rosenthal X Rachel Anne Rosenthal Trust U/A dated June 29, 1990, Rachel Rosenthal Trust Number 3, Heather C. Lowles, Heather Carroll Lowles Trust U/A dated June 29, 1990, Tiffany Joy Lowles Trust U/A dated June 29, 1990, Melanie Ann Lowles Trust U/A dated June 29, 1990, Taylor Ashley McEvoy Trust U/A dated June 24, 1992, Madison Alyssa McEvoy Trust U/A dated June 29, 1990, S.A. Grantor Retained Annuity Trust St. James Bienes, Mrs. Bienes Strattham Thomas Avellino, Ascent, Inc. KJA Avellino
Count Thirteen seeks to impose liability on the general partners identified in Exhibit F if the corresponding partnerships cannot satisfy the judgments against them.
The Court previously concluded that the knowledge of the general partners in the partnership entities is imputed to the partnerships. The question of liability runs in the opposite direction. All of the defendant partnerships were formed under Florida law, and under Florida law, the general partners are jointly and severally liable for the debts of either a general partnership, FLA. STAT. § 620.8306(1),
The Court has considered the parties' remaining arguments, and concludes that
(Transcript of July 29, 2015 Hrg. at 26:24-27:20 (ECF Doc. #106).)
