Unpublished Disposition, 940 F.2d 669 (9th Cir. 1988)

MEMORANDUM^* 

Pacific Northern Oil (PNO) received a check drawn on debtor Seaway Express Corporation's (Seaway) disbursement account during the preference period through a complicated transaction. The trustee sued to avoid this transfer. The bankruptcy court held that the transfer was not avoidable. The Bankruptcy Appellate Panel (BAP) reversed. PNO appeals the BAP's order allowing recovery under 11 U.S.C. § 547 and requiring PNO to return the payment drawn on account in the name of Seaway. We affirm the judgment of the Bankruptcy Appellate Panel.

Seaway is a wholly-owned subsidiary of WFI Industries, Inc. ("WFI"). On February 14, 1986, Seaway filed bankruptcy under Chapter 11 of Title 11 of the United States Code. On December 16, 1986, the bankruptcy court converted the case to a Chapter 7 proceeding.

In August 1985, PNO and WFI signed a contract whereby PNO promised to provide fuel for any one of four specified WFI subsidiaries in return for each subsidiary's promise to remain jointly and severally liable for each other's fuel bills. Pursuant to this agreement, on November 6, 1985, PNO delivered fuel to a ship owned by a WFI subsidiary: Marine Logistics Corp., ("MLC"). PNO sent the fuel bill for $76,460.16 to Seaway, as requested by WFI.

When payment became past due on November 21, 1985, PNO commenced efforts to obtain payment. PNO learned that Petro Pacific Corporation ("Petro") would soon owe MLC $44,828 for towing services that MLC planned to provide. Although Petro was independent of both PNO and WFI, PNO and Petro shared a director on their respective boards of directors. On December 19, 1985, Petro, PNO, MLC, and Seaway entered an agreement. The agreement states in part:

(1) MLC ... and [Seaway] assign all right title and interest in those certain freight monies owing from [Petro] to MLC by virtue of [towing provided to Petro].

(2) When payment of MLC's invoice arising from the [towing] becomes due, [Petro] shall deliver to the general counsel of PNO a check for good funds and sums sufficient to pay MLC's invoice to Petro, which check shall be payable to MLC.

(3) Upon receipt, general counsel for PNO shall deliver said check to MLC whereupon said check shall be exchanged for a check for good funds in a like amount drawn upon the account of [Seaway] payable to PNO.

(4) PNO shall apply the sums derived from this transaction against that certain invoice No. 38944 to [Seaway] in the amount of $76,460.16 described above, as a partial payment against same....

Pursuant to this agreement, Petro delivered to PNO a check for $44,828 drawn on Petro's checking account and made payable to MLC. On January 10, 1986, PNO's general counsel Mr. Waldschmidt met with WFI's Mr. Wooster to deliver this check which was deposited into an MLC depository account. In accordance with paragraph three of the agreement, WFI's Mr. Wooster then gave PNO's Mr. Waldschmidt check # 05926 for $44,828 drawn on a WFI disbursement account in Seaway's name at the National Bank of Alaska.

On September 6, 1988 the trustee commenced an adversary proceeding against PNO to avoid the transfer of check # 05926. After trial, the bankruptcy court dismissed the preference action because check # 05926 was not "property of the estate." The bankruptcy court concluded that WFI owned and controlled the funds in Seaway's disbursement account.

Critical to the bankruptcy court's characterization that funds in Seaway's disbursement account belonged to WFI and were not "property of the estate," was the relationship between WFI's master credit line at the National Bank of Alaska and the subsidiary disbursement and depository accounts. Each WFI subsidiary had its own disbursement account funded by a centralized WFI fund at the National Bank of Alaska. Whenever a subsidiary needed money, WFI would borrow against its own master credit line and release these funds to the subsidiary's disbursement account.

Seaway's disbursement account was located at the National Bank of Alaska. Each WFI subsidiary also had a depository account and all funds from these accounts were cleared each day and credited against WFI's master credit line. Because the receivables in these depository accounts were collateral for WFI's line of credit with National Bank of Alaska, all deposits went against the line of credit.

The bankruptcy court agreed with PNO that any funds drawn on Seaway's disbursement account belonged to WFI because WFI controlled the source of funds in Seaway's disbursement account and controlled Seaway's depository account. However, Glenna Mileson, controller of Seaway, testified that the funds in Seaway's disbursement account belonged to Seaway.

As a second basis for denying the relief requested by the trustee, the bankruptcy court concluded that the exchange of the Petro/MLC check for the check drawn on Seaway's disbursement account was intended by WFI and PNO, and in fact was, a substantially contemporaneous exchange of PNO's property for WFI's property.

The trustee appealed to the BAP. The BAP held that the check was part of Seaway's estate because the funds in Seaway's disbursement account belonged to Seaway. The BAP also concluded that the expenditure of these funds deprived Seaway's estate of assets that could be used to pay creditors and that the purported assignment of Petro's debt to PNO was ineffectual. The BAP held that the bankruptcy court erred in its holding that the check was intended to be a contemporaneous exchange for new value because Seaway did not receive anything of value from PNO.

DISCUSSION

PNO asserts that the bankruptcy court is a court of equity and that it should look behind the technical form of the transaction to its substance. We agree. "In determining whether a transfer has been a preference, a bankruptcy court must 'look ... through form to substance, [and] treat the transaction according to its real nature.' " Nelson v. Nelson (In re Bailey), 17 Bankr. 50, 52 (Bankr.W.D. Ark. 1981) (citing Katz v. First Nat'l Bank, 568 F.2d 964, 970 (2d Cir. 1977), cert. denied, 434 U.S. 1069 (1978)).

Viewed in its substance, PNO argues, this transaction is not a preference because, under the earmarking doctrine, a debtor's payment financed by a third party for purposes of making payment to a creditor does not result in a preference. See Coral Petroleum, Inc. v. Banque Paribas-London, 797 F.2d 1351, 1355-56 (5th Cir. 1986); McCuskey v. National Bank (In re Bohlen Enters., Ltd.), 859 F.2d 561, 566-67 (8th Cir. 1988). PNO asserts that the transaction is a payment from MLC to pay off MLC's debt funneled through Seaway's checking account.

The trustee of a Chapter 7 debtor can avoid transfers from the debtor under certain circumstances:

the trustee may avoid any transfer of an interest of the debtor in property--

(1) to or for the benefit of a creditor;

(2) for or on account of an antecedent debt owed by the debtor before such transfer was made;

(3) made while the debtor was insolvent

(4) made--

(A) on or within 90 days before the date of the filing of the petition;

.............................................................

...................

* * *

(5) that enables such creditor to receive more than such creditor would receive if--

(A) the case were a case under chapter 7 of this title.

11 U.S.C. § 547(b). The only element of this statute which is at issue in this case is whether the check drawn on Seaway's disbursement account was an interest of the debtor in property. The bankruptcy court held that the trustee had not established that the property transferred was property of Seaway's estate. The BAP reversed this finding as clearly erroneous.

The term "property of the debtor" is not defined in the Bankruptcy Code. Danning v. Bozek (In re Bullion Reserve of North America), 836 F.2d 1214, 1217 (9th Cir.), cert. denied, 486 U.S. 1056 (1988). However, we define the term broadly. Id. " [P]roperty belongs to the debtor for purposes of Sec. 547 if its transfer will deprive the bankruptcy estate of something which could otherwise be used to satisfy the claims of creditors." Id. The dual purposes of Sec. 547 are (1) "to discourage creditors from racing to the courthouse to dismember the debtor during its slide into bankruptcy and (2) to further the prime bankruptcy policy of equal distribution among similarly situated creditors." Id.

The receipt of a check on the debtor's account and its subsequent payment by the drawee bank constitutes prima facie evidence that the money is property of the debtor. See Henderson v. Allred (In re Western World Funding, Inc.), 54 Bankr. 470, 475 (Bankr.D. Nev. 1985). Here, the trustee presented evidence that the Seaway check was drawn on Seaway's account and subsequently paid. Therefore, the trustee has presented prima facie evidence that this money was property of Seaway.

Viewing this transaction in its form, PNO, Seaway and WFI structured a transaction that looked like Seaway was not paying its own invoice with its own property. The form of this transaction fits neatly into the definition of the earmarking doctrine. See Coral Petroleum, 797 F.2d at 1356; Bohlen, 859 F.2d at 566. However, when we look beyond the form of this transaction to its substance, we are convinced that the bankruptcy court clearly erred in holding that the check given to PNO was not property of Seaway.

Viewed in its substance, we conclude this transaction was a complicated shell game in which Seaway used its own property to pay off its own invoice for the $76,460.16 worth of fuel. Before Seaway, MLC, Petro, and PNO entered into their structured repayment, the invoice was made out to Seaway. The money was withdrawn from Seaway's account. The transaction deprived Seaway's creditors of funds that they could have used to pay off its creditors. We hold that the bankruptcy court's conclusion to the contrary is clearly erroneous.

Allowing this transaction to go unchallenged would run contrary to the bankruptcy goal of equal distribution. Those creditors who are smart enough and quick enough to structure a complex transaction such as this will be able to loot a corporation of its assets. We conclude that the bankruptcy court erred in determining that the check was not property of Seaway's estate.

PNO asserts that the trustee cannot avoid this transaction because it was a contemporaneous exchange of property for new value. The Bankruptcy Code provides:

The trustee may not avoid under this section a transfer ... to the extent that such transfer was ... intended by the debtor and the creditor to or for whose benefit such transfer was made to be a contemporaneous exchange for new value given to the debtor; and ... in fact a substantially contemporaneous exchange [.]

11 U.S.C. § 547(c) (1) (A). By its terms, the statute requires that value be given to the debtor.

PNO asserts that Petro's check made payable to MLC, which PNO transferred to Mr. Wooster, represented a valuable property right equal to the value of the check PNO received back from Seaway. PNO further argues that Mr. Wooster was acting as Seaway's agent when he received the check. This is not supported by the record. The bankruptcy court concluded that the exchange of checks "was intended by WFI and PNO and in fact was, a substantially contemporaneous exchange of PNO's property for WFI's property." (emphasis added). Seaway and WFI are separate entities. What WFI received has no relevance under this section. Seaway received no new value from PNO in exchange for the check drawn on its disbursement account. Seaway paid off a preexisting debt. We hold that this section is therefore inapplicable and the bankruptcy court's conclusion that Sec. 547(c) bars recovery by the trustee is erroneous.

The bankruptcy court's conclusion that the check written on Seaway's disbursement account that PNO received from Seaway was not property of the estate is clearly erroneous. No contemporaneous exchange for new value occurred in this case.

Therefore, the judgment of the Bankruptcy Appellate Panel is

AFFIRMED.