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Transferee’s Knowledge of Debtor’s Intent Not Relevant For Fraudulent Transfer Claim For Actual Intent To Defraud

SB Liquidation Trust v. Preferred Bank (In re Syntax-Brillian Corp.), Nos. 13-1373, 13-1959, 2014 WL 3893292 (3d Cir. Aug. 11, 2014)

In these consolidated appeals stemming from a 2011 Bankruptcy Court decision, the Third Circuit vacated the Bankruptcy Court’s dismissal of certain fraudulent transfer claims against appellee Preferred Bank because the debtor’s intent determines whether a fraudulent transfer claim may be maintained, not the transferee-defendant’s knowledge of the debtor’s intent.  However, the Court affirmed the Bankruptcy Court’s dismissal of all other claims.

The Third Circuit and Bankruptcy Court Opinions detail an alleged fraudulent scheme by certain officers and directors (the “Kolin Faction”) of Syntax-Brillian Corp. (“SBC”) that precipitated SBC’s insolvency and Delaware bankruptcy filing in 2008.  A trust was established under SBC’s liquidation plan (the “Trust”), and it filed the instant adversary proceeding against Preferred Bank, alleging that Preferred Bank assisted the Kolin Faction in perpetuating a fraud that funneled millions of dollars from SBC to Taiwan Kolin Co. (“Kolin”).  Essentially, the Trust alleged that Preferred Bank provided SBC a line of credit that SBC used to obtain merchandise from Kolin for resale.  The Trust further alleged that Preferred Bank knew SBC’s sales were less than the cost from Kolin, but continued to extend credit (and even amended the line of credit several times) as SBC’s debt grew.  The Trust sought to avoid certain transfers made to Preferred Bank with actual intent to defraud under 11 U.S.C. §§ 548(a)(1)(A), 544(b), and 6 Del. Code § 1304(a)(1).  The Trust also sought to avoid the same transfers as constructively fraudulent transfers.  Finally, the Trust asserted claims against Preferred Bank for aiding and abetting the Kolin Faction in breaching their fiduciary duties and committing fraud.

The Bankruptcy Court dismissed all claims at the pleadings stage because the Trust did not show that Preferred Bank had knowledge of the fraudulent scheme.  While the Trust’s appeal was pending, it filed a motion for relief from the Bankruptcy Court dismissal due to newly discovered evidence.  Based on a recently filed Securities and Exchange Commission (“SEC”) complaint against directors and officers of SBC, the Trust asserted that SBC’s sales were fake altogether.  Although the Bankruptcy Court acknowledged that the Trust better understood the alleged fraud, the new facts did not implicate Preferred Bank in any new way, and the court denied the motion.  The Trust appealed both orders and the Third Circuit granted certification for direct appeal, and consolidated the appeals.

The “collapsing doctrine” is an equitable tool that allows a court to collapse multiple transactions and consider the transactions as a whole, for purposes of fraudulent transfer liability.  Some courts require proof of the debtor and the transferee’s knowledge of the fraudulent scheme.*  However, actual fraud claims under 11 U.S.C. § 548(a)(1)(A) and 6 Del. Code § 1304 only require evidence of the debtor’s intent, and thus, the relevant transfers could be avoided without application of the collapsing doctrine.  The Court stated that “[n]either the Bankruptcy Code nor Delaware law refers to the intent of the obligee defendant as a factor in determining whether a specific obligation is fraudulent and therefore avoidable.”  Therefore, the Third Circuit vacated the dismissal of the avoidance claims for actual fraud, but noted that the transferee-defendant’s intent, although not relevant for the Trust’s prima facie case, would become relevant in Preferred Bank’s affirmative defense of good faith, available under both the Bankruptcy Code and Delaware law.  The Court also left for the Bankruptcy Court to determine whether the Trust sufficiently alleged actual fraud under the heightened pleading standards.

* The Third Circuit expressed no view as to whether the collapsing doctrine requires proof of the transferee-defendant’s intent because challenges to the constructive fraud claims’ dismissal were not raised on appeal, and thus, were affirmed by the Court on purely procedural grounds.  Moreover, the Court held that the actual fraud claims could be decided without the need for the collapsing doctrine.