In Re: Charles Atwood Flanagan, No. 04-5638 (2d Cir. 2007)

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04-5638-bk In Re: Charles Atwood Flanagan 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 37 38 39 40 41 42 43 44 45 46 UNITED STATES COURT OF APPEALS FOR THE SECOND CIRCUIT _______________ August Term, 2006 (Argued September 14, 2006 Decided: October 9, 2007) Docket Nos. 04-5638-bk(L), 06-0731-bk(XAP) _______________ In Re: Charles Atwood Flanagan *************************************************** Cadle Co., D.A.N. Joint Venture, L.P., Appellants-Cross-Appellees, v. Bonnie C. Mangan, Trustee. Charles Atwood Flanagan, John C. Flanagan, Appellees-Cross-Appellants, U.S. Trustee, Trustee. _______________ Before: CARDAMONE, MINER, and STRAUB, Circuit Judges. _______________ Appellants the Cadle Company and D.A.N. Joint Venture, L.P. appeal from a September 30, 2004 judgment of the United States District Court for the District of Connecticut (Arterton, J.), affirming the July 3, 2003 decisions of the United States Bankruptcy Court for the District of Connecticut (Dabrowski, B.J.), which denied appellants' request for the imposition of a 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 constructive trust over certain securities. Appellee-CrossAppellant Bonnie C. Mangan, trustee, cross-appeals from the same judgment insofar as it found that a payment of $99,542.87 made by the debtor Charles Flanagan to appellants was partially protected from avoidance by the earmarking doctrine. Affirmed. _______________ EDWARD C. TAIMAN, Jr., Sabia, Taiman, Moskey, Albano & Shea, LLC, Hartford, Connecticut, for Appellants-Cross-Appellees. JOSEPH L. RINI, New Haven, Connecticut, for Appellee-CrossAppellant John C. Flanagan. JAMES C. GRAHAM, Pepe & Hazard, LLP, Hartford, Connecticut, for Appellee-Cross-Appellant Bonnie C. Mangan, Trustee. _______________ 1 2 CARDAMONE, Circuit Judge: This appeal arises from two separate but related adversary 3 bankruptcy proceedings that we will describe in a moment. 4 Charles A. Flanagan (debtor) filed a petition under Chapter 11 of 5 the U.S. Bankruptcy Code, 11 U.S.C. § 101 et seq., for bankruptcy 6 relief in the United States Bankruptcy Court for the District of 7 Connecticut (Dabrowski, B.J.) on February 17, 1999. 8 debtor-in-possession under Chapter 11, Flanagan instituted the 9 first adversary proceeding (Preference Action) in the bankruptcy 10 court against Cadle Company to avoid and recover for the bankrupt 11 estate a $99,542.87 payment he had made to Cadle Company. 12 Following the conversion of Flanagan's Chapter 11 case to one 13 under Chapter 7, Bonnie C. Mangan was appointed trustee of 14 Flanagan's bankrupt estate and substituted as party plaintiff in 15 the Preference Action. 16 While Cadle Company and D.A.N. Joint Venture, L.P. (collectively 17 Cadle Creditors or appellants) then brought a second separate 18 adversary proceeding (Constructive Trust Action) seeking a 19 declaratory judgment and the imposition of a constructive trust 20 over certain securities that Flanagan owned prior to the 21 bankruptcy filing. 22 2003, the bankruptcy court denied the equitable relief requested 23 by the Cadle Creditors and ruled the trustee could avoid the 24 payment from Flanagan to Cadle only to the extent of $14,542.87. 25 The bankruptcy court went on to hold that the payment was 26 partially protected from avoidance by the earmarking doctrine. In two memorandum decisions issued on May 22, 2 1 Following a motion for reconsideration, the bankruptcy court 2 affirmed its original decisions on July 3, 2003. 3 appealed. 4 Connecticut (Arterton, J.) affirmed the decisions of the 5 bankruptcy court on September 30, 2004. 6 Both parties The United States District Court for the District of As Sir Walter Scott observed "Oh, what a tangled web we 7 weave, when first we practise to deceive." 8 Stanza 17 (1808). 9 debtor's conduct revealed by the record in the appeal before us. 10 Fortunately, these tangled facts were carefully sorted out in the 11 bankruptcy court in its decisions and in the district court's 12 September 30, 2004 decision affirming the judgment of the 13 bankruptcy court. 14 district court. 15 16 Marmion, Canto VI, Such well describes the circumstances of the We now in turn affirm the judgment of the BACKGROUND The facts of this case were laid out in detail by the 17 district court in Cadle Co. v. Mangan, 316 B.R. 11, 14-17 (D. 18 Conn. 2004). 19 we include a summary of those facts relevant to the disposition 20 of this appeal. 21 Nonetheless, for purposes of clarity and analysis, Prior to Flanagan's bankruptcy filing of February 17, 1999, 22 the Cadle Creditors obtained several money judgments against 23 Flanagan in federal and state court. 24 purposes is a judgment obtained by Cadle against Flanagan on 25 March 20, 1997 in the United States District Court for the 26 District of Connecticut (Covello, J.) in the amount of $90,747.87 3 Most significant for our 1 (federal judgment). 2 federal judgment was a 50 percent equity interest in Thompson & 3 Peck, Inc. and Flanagan/Prymus Insurance Group, Inc. 4 (collectively Thompson & Peck), valued in excess of $100,000. 5 Flanagan had possession of the Thompson & Peck stock certificates 6 at the time of the federal judgment in March 1997. 7 1997 he transferred the certificates to Socrates Babacas as 8 security for loans made by Babacas to him in the amount of 9 $85,000 (Babacas loan). 10 Among Flanagan's assets at the time of the In September Cadle's attempts to locate assets with which to satisfy its 11 federal judgment focused principally upon Flanagan's equity 12 interest in Thompson & Peck. 13 Flanagan to appear before Judge Covello for an examination of the 14 debtor and for Flanagan to produce, inter alia, "[a]ll documents 15 and communications related to or evidencing any interest which 16 [Flanagan] may hold in Thompson & Peck, Inc." 17 for the hearing but did not produce any documents that would 18 reveal his interest in Thompson & Peck. 19 made a motion for a turnover order commanding Flanagan to "turn 20 over all evidence of . . . ownership and/or other interest in 21 Thompson & Peck . . . including any and all stock certificates in 22 [his] possession, under [his] control and/or available to [him]." 23 The turnover order was granted by the district court on April 13, 24 1998 and upheld on reconsideration. 25 26 In March 1998 Cadle subpoenaed Flanagan appeared On March 12, 1998 Cadle Despite this court order, Flanagan persistently failed to comply with its instructions. Consequently, on November 16, 1998 4 1 a hearing was held at which Flanagan was ordered to show cause 2 why he should not be held in contempt for his failure to comply 3 with the court's turnover order. 4 hearing, Judge Covello found Flanagan had willfully and 5 intentionally not complied with the turnover order and ordered 6 him committed to the Bureau of Prisons until he complied. 7 execution of the contempt order was stayed and a hearing 8 scheduled a week later to allow Flanagan one final opportunity to 9 comply. 10 At the conclusion of the The When Flanagan's father, John Flanagan, learned that his son 11 was facing contempt sanctions, he lent him $100,222.87 for the 12 purpose of satisfying the federal judgment (family loan). 13 Flanagan had never loaned money to his son before and did so on 14 this occasion only to prevent Charles Flanagan from being 15 imprisoned and to protect the family's reputation. 16 loan was secured by the debtor's equity interest in Thompson & 17 Peck and Flanagan arranged for Babacas to deliver the stock 18 certificates to his father's home. 19 the family loan, Flanagan delivered the funds to his lawyer so 20 that the federal judgment could be satisfied. 21 1998 Flanagan's attorney deposited the funds into the registry of 22 the district court and Cadle received payment on December 3, 1998 23 (Payment). 24 John The family Immediately upon receipt of On November 20, Following Flanagan's bankruptcy and the filing of the 25 Preference Action to avoid and recover the Payment as a 26 preferential transfer under 11 U.S.C. § 547, the Cadle Creditors 5 1 mounted a two-pronged defense. In the Preference Action and in 2 the Constructive Trust Action instituted by appellants, the Cadle 3 Creditors sought the imposition of a constructive trust over the 4 Thompson & Peck stock for their benefit. 5 was solely because of Flanagan's wrongful concealment of his 6 equity interest in Thompson & Peck that they had been unable to 7 execute upon the stock and secure the federal judgment and other 8 judgments they had obtained prior to the 90-day preference 9 period. Appellants argued it Thus, they sought the imposition of a constructive trust 10 over the Thompson & Peck stock to restore them to the secured 11 position they would have occupied absent Flanagan's misconduct. 12 The Cadle Creditors asserted the Payment did not improve their 13 position relative to other creditors (as required by 11 U.S.C. 14 § 547(b)(6)) because, due to their constructive possession of the 15 Thompson & Peck stock, the Cadle Creditors possessed a fully 16 secured lien in the stock prior to the preference period. 17 The second prong of the Cadle Creditors' defense against the 18 Preference Action was their argument that the family loan funds 19 had been earmarked by John Flanagan for the sole and specific 20 purpose of satisfying the federal judgment against his son. 21 Accordingly, they maintained that the family loan funds had never 22 constituted an "interest of the debtor in property" as required 23 by § 547(b). 24 The bankruptcy court resolved the Preference Action and the 25 Constructive Trust Action in two decisions issued on May 22, 26 2003. Both decisions were upheld on reconsideration and a 6 1 modified opinion was issued in the Preference Action on July 3, 2 2003. 3 bankruptcy court found the imposition of a trust inappropriate in 4 the circumstances. 5 an expectation of the potential fruits of execution [on the 6 stock]," and concluded that a constructive trust should not be 7 imposed to "protect property rights which may or may not have 8 become vested and indefeasible." 9 In response to Cadle's constructive trust claim, the It noted the Cadle Creditors possessed "only The bankruptcy court also ruled the Payment was partially 10 protected from avoidance by the earmarking doctrine because the 11 family loan was made for the sole and specific purpose of 12 enabling Flanagan to satisfy the federal judgment. 13 bankruptcy court further held that "even though the transaction 14 fits the earmarking defense insofar as it replaced one creditor 15 (Cadle) with another ([John] Flanagan), the substitution of a 16 secured for an unsecured obligation attenuates that defense 17 because, and to the extent, it caused a diminution to Flanagan's 18 personal estate." 19 judgment in favor of the trustee to avoid the transfer but only 20 to the extent of $14,542.87, an amount equal to the difference 21 between the family loan and the Babacas loan whose security 22 interest had been supplanted. 23 But the As a consequence, the bankruptcy court entered The Preference Action and the Constructive Trust Action were 24 consolidated on appeal to the district court. 25 2004 Judge Arterton of the United States District Court for the 26 District of Connecticut affirmed the decisions of the bankruptcy 7 On September 30, 1 court. 2 Mangan, together with John and Charles Flanagan (appellees) 3 cross-appealed. 4 The Cadle Creditors appealed, and the trustee, Bonnie C. Meanwhile, the Cadle Creditors instituted two additional 5 proceedings against Charles Flanagan: (1) a civil RICO action in 6 the United States District Court for the District of Connecticut 7 (Covello, J.) alleging, inter alia, fraud and conspiracy in 8 connection with resisting creditors' collection efforts, and (2) 9 an adversary proceeding in bankruptcy court seeking denial of 10 discharge. In 2004, the discharge action was withdrawn from the 11 bankruptcy court and consolidated with the RICO action in the 12 district court before Judge Covello. 13 On April 8, 2005 while the instant appeal was pending, the 14 Cadle Creditors and Flanagan entered into a proposed settlement 15 agreement in the consolidated RICO/discharge action. 16 the proposed settlement, the Cadle Creditors and Flanagan entered 17 into a "Mutual Release of All Claims" (General Release) which 18 stated As part of 19 20 21 22 23 24 25 26 27 Upon execution of this Release, both Cadle and Flanagan hereby release each other of and from any and all claims, whether now known or unknown, whether now in existence or arising hereafter, which each has or may have against each other from the beginning of time until the date of the execution of this Release. Judge Covello entered an order approving the proposed settlement 28 on May 5, 2005, and dismissing the RICO/discharge action with 29 prejudice. 8 1 DISCUSSION 2 I Jurisdiction 3 The first issue we address is whether, in light of the 4 General Release, we retain subject matter jurisdiction over that 5 portion of the appeal relating to the Constructive Trust Action. 6 Appellees assert that by executing the General Release the Cadle 7 Creditors relinquished all claims against Flanagan, including 8 claims against Flanagan's bankrupt estate. 9 reasons the Cadle Creditors have extinguished the basis for the 10 relief sought in the Constructive Trust Action, rendering that 11 portion of the appeal moot. 12 The trustee thus In order for there to be a valid exercise of subject matter 13 jurisdiction, a federal court must have before it an actual 14 controversy at all stages of review, not simply at the time the 15 complaint was filed. 16 (1974). 17 pending that renders it impossible for the court to grant any 18 form of effectual relief to plaintiff, the matter becomes moot 19 and subject matter jurisdiction is lost. 20 Sch. Dist., 245 F.3d 49, 69 (2d Cir. 2001); see also Church of 21 Scientology of Cal. v. United States, 506 U.S. 9, 12 (1992). 22 However, when an appellant retains an interest in a case so that 23 a favorable outcome could redound in its favor, the case is not 24 moot. 25 561, 568-72 (1984). Steffel v. Thompson, 415 U.S. 452, 459 n.10 In general, if an event occurs while an appeal is Altman v. Bedford Cent. See Firefighters Local Union No. 1784 v. Stotts, 467 U.S. 9 1 The crux of the trustee's contention is that the Cadle 2 Creditors' claims against Flanagan's bankrupt estate became 3 unenforceable when they entered into the post-petition settlement 4 agreement with the debtor that included a mutual general release 5 of all claims. 6 language in § 502(b)(1) of the Bankruptcy Code. 7 states a claim is disallowed in bankruptcy to the extent that it 8 is "unenforceable against the debtor and property of the debtor, 9 under any agreement or applicable law for a reason other than In making this argument, appellees rely on That section 10 because such claim is contingent or unmatured." 11 § 502(b)(1). 12 to disallow not only claims that are unenforceable against the 13 debtor at the time the bankruptcy petition is filed but also 14 those claims that become unenforceable against the debtor over 15 the course of the bankruptcy and prior to discharge. 16 11 U.S.C. The trustee asserts that § 502(b)(1) should be read We think the trustee's interpretation of § 502(b)(1) is an 17 untenable reading of the statutory text because it ignores the 18 provision's context within the Bankruptcy Code. 19 instructs the bankruptcy court to "determine the amount of such 20 claim . . . as of the date of the filing of the petition" except 21 to the extent that "such claim is unenforceable against the 22 debtor." 23 reading of the statute thus suggests that the bankruptcy court 24 should determine whether a creditor's claim is enforceable 25 against the debtor as of the date the bankruptcy petition was 26 filed. Section 502(b) 11 U.S.C. § 502(b), (b)(1) (emphasis added). A plain Were this Court to adopt the trustee's interpretation of 10 1 § 502(b)(1), we would be forced to conclude that all pre-petition 2 unsecured claims are disallowed to the extent they did not 3 represent non-dischargeable debts. 4 aptly noted in In re Strangis, 67 B.R. 243 (Bankr. D. Minn. 5 1986), "[a]bsent a finding of nondischargeability, no such 6 unsecured claim is enforceable post-petition against a debtor and 7 property of a debtor." 8 9 For, as the bankruptcy court Id. at 246. The General Release could not have impacted any claims held by or against Flanagan's bankrupt estate for an additional and 10 related reason. Flanagan simply did not have the authority to 11 settle any claims against the bankrupt estate. 12 established that once a trustee is appointed, a debtor loses all 13 authority to litigate any claim for or against the estate. 14 noted in Collier on Bankruptcy It is well As 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 The trustee, as representative of the estate, has the exclusive capacity to sue and be sued on behalf of the estate, and is charged by law with representing the interest of the estate against third parties claiming adversely to it. . . . 3 Collier on Bankruptcy ¶ 323.03, .03[1], at 323-7 to -9 (Alan N. 31 Resnick et al. eds., rev. 15th ed. 2007); see also 10 Collier on 32 Bankruptcy ¶ 6009.03, at 6009-3 to -6.1. . . . After appointment of a trustee, a debtor no longer has standing to pursue a cause of action that existed at the time the order for relief was entered. Only the trustee has the authority and discretion to prosecute, defend and settle, as appropriate in its judgment, such a cause of action. 11 1 Here, not only was the trustee not a party to the General 2 Release, but there is no indication the bankruptcy court was ever 3 presented with a motion to settle, compromise, disallow, or 4 otherwise dismiss the Cadle Creditors' claims. 5 R. 9019 ("On motion by the trustee and after notice and a 6 hearing, the court may approve a compromise or settlement."); 10 7 Collier on Bankruptcy ¶ 9019.01, at 9019-2 (noting that any 8 "settlement must be approved by the court"). 9 have had the authority to settle civil claims that arose against See Fed. Bankr. While Flanagan may 10 him after his bankruptcy filing, he had no authority to settle 11 claims against the bankrupt estate. 12 Having established that the bases for the relief sought by 13 the Cadle Creditors in the Constructive Trust Action have not 14 been extinguished, and that a favorable result could redound in 15 their favor, we conclude those claims are not moot. 16 retain subject matter jurisdiction to review them. 17 II 18 Hence, we Standard of Review In an appeal from a district court's review of a bankruptcy 19 court's decision, we conduct an independent examination of the 20 bankruptcy court's decision. 21 (In re Bethlehem Steel Corp.), 479 F.3d 167, 172 (2d Cir. 2007). 22 The bankruptcy court's factual findings will be upheld unless 23 clearly erroneous, and its legal conclusions are reviewed de 24 novo. 25 impose an equitable remedy -- such as a constructive trust or an 26 equitable lien -- is reviewed for abuse of discretion. Id. Supplee v. Bethlehem Steel Corp. The ultimate determination of whether or not to 12 See 1 Adelphia Bus. Solutions, Inc. v. Abnos, 482 F.3d 602, 607 (2d 2 Cir. 2007) (bankruptcy court's decision whether to exercise its 3 equitable authority is reviewed only for abuse of discretion); 4 see also Burkhart Grob Luft und Raumfahrt GmbH v. E-Systems, 5 Inc., 257 F.3d 461, 469 (5th Cir. 2001) ("Because a constructive 6 trust is an equitable remedy, the decision whether to impose it 7 is entrusted to the discretion of the district court, and we 8 review the district court's decision only for an abuse of 9 discretion."). However, legal determinations upon which the 10 dispensation of equitable relief may depend are reviewed de novo. 11 See Superintendent of Ins. v. Ochs (In re First Cent. Fin. 12 Corp.), 377 F.3d 209, 213 (2d Cir. 2004) (reviewing de novo the 13 legal conclusion as to whether a party has been unjustly 14 enriched). 15 16 III General Law on Transfer Avoidance Pursuant to § 547(b) of the Bankruptcy Code, a trustee in 17 bankruptcy may avoid certain transfers if the following criteria 18 are met: 19 20 21 22 23 24 25 26 27 28 29 30 (1) the transfer is of an interest of the debtor in property; (2) to or for the benefit of a creditor; (3) on account of an antecedent debt; (4) made while the debtor was insolvent; (5) within 90 days of bankruptcy or within a year of bankruptcy if the creditor was an insider; (6) and the transfer enabled the creditor to receive more than it would have received in a chapter 7 liquidation had the transfer not taken place. 13 1 11 U.S.C. § 547(b). 2 these elements by a preponderance of the evidence rests on the 3 trustee in bankruptcy. 4 Indus., Inc.), 78 F.3d 30, 34 (2d Cir. 1996). 5 Creditors do not contest that the Payment was made within 90 days 6 of Flanagan's bankruptcy, while he was insolvent, on account of 7 an antecedent debt, and for the benefit of a creditor. 8 therefore only the first and sixth of these criteria that are at 9 issue in this appeal. 10 IV Lawson v. Ford Motor Co. (In re Roblin The Cadle It is Transfer Improves Cadle Creditors' Position in Bankruptcy 11 12 The burden of proof to establish each of A. The Constructive Trust Claim Concerning the sixth criterion required by 11 U.S.C. 13 § 547(b), the Cadle Creditors aver that the Payment did not 14 improve their position in bankruptcy. 15 result of their constructive possession of the Thompson & Peck 16 stock, they possessed a fully secured lien in the stock. 17 imposition of a constructive trust is necessary, they insist, to 18 remedy the harm caused by Flanagan's willful failure to comply 19 with the turnover order, which prevented them from perfecting 20 their judgments more than 90 days prior to the bankruptcy filing. 21 We believe the lower courts' refusal to impose a constructive 22 trust on the Thompson & Peck stock was well founded. 23 They allege that as a The The effect of a constructive trust in bankruptcy is 24 profound. While the bankrupt estate is defined very broadly 25 under § 541(a)(1) of the Bankruptcy Code to include all legal or 26 equitable interests of the debtor, any property that the debtor 14 1 holds in constructive trust for another is excluded from the 2 estate pursuant to § 541(d), which states 3 4 5 6 7 8 9 10 11 12 11 U.S.C. § 541(a)(1), (d); see also Sanyo Elec., Inc. v. 13 Howard's Appliance Corp. (In re Howard's Appliance Corp.), 874 14 F.2d 88, 93 (2d Cir. 1989). 15 beneficiary ahead of other creditors with respect to the trust 16 res. 17 Property in which the debtor holds, as of the commencement of the case, only legal title and not an equitable interest . . . becomes property of the estate . . . only to the extent of the debtor's legal title to such property, but not to the extent of any equitable interest in such property that the debtor does not hold. A constructive trust thus places its The question of whether the imposition of a constructive 18 trust is appropriate in a particular set of circumstances is 19 governed, in the first instance, by state law. 20 Butner v. United States, 440 U.S. 48, 54-55 (1979). 21 Court of Connecticut has stated: See id.; see also The Supreme 22 23 24 25 26 27 28 29 30 31 32 33 34 [A] constructive trust arises contrary to intention and in invitum, against one who, by fraud, actual or constructive, by duress or abuse of confidence, by commission of wrong, or by any form of unconscionable conduct, artifice, concealment, or questionable means, or who in any way against equity and good conscience, either has obtained or holds the legal right to property which he ought not, in equity and good conscience, hold and enjoy. Wendell Corp. Tr. v. Thurston, 680 A.2d 1314, 1317 (Conn. 1996). 35 It is uncontested that Flanagan wrongfully concealed evidence of 36 his equity interest in Thompson & Peck. 15 While such conduct could 1 potentially give rise to a constructive trust in other 2 circumstances, it did not do so here because the Cadle Creditors 3 would not be the proper beneficiaries of such a trust. 4 A constructive trust has been imposed most often by 5 Connecticut courts "to restore to the plaintiff property of which 6 he has been unjustly deprived." 7 1029, 1037 (Conn. App. Ct. 2002) (quoting Restatement (First) of 8 Restitution § 160 cmt. d (1937)); see also Starzec v. Kida, 438 9 A.2d 1157 (Conn. 1981) (affirming imposition of constructive 10 trust for benefit of testator's children where testator gave 11 property to second wife on condition she devise property to his 12 children); Cohen v. Cohen, 438 A.2d 55 (Conn. 1980) (affirming 13 imposition of constructive trust over condominium property where 14 plaintiff conveyed property to son under oral agreement pursuant 15 to which son was to reconvey property back to plaintiff at her 16 request). 17 Cadle Co. v. Gabel, 794 A.2d Here, the Cadle Creditors were never entitled to an 18 ownership interest in the Thompson & Peck stock. 19 Connecticut's post-judgment remedy statute, the turnover order 20 only entitled appellants to gain possession of the stock as the 21 first of several steps in executing a levy upon it. 22 316 B.R. at 20-21 (describing and applying to the facts of this 23 case Connecticut's post-judgment remedy statute). 24 district court aptly noted: 25 26 27 Rather, under See Mangan, As the [Appellants'] interests in the stock were subject to a series of contingencies, in which other creditors with secured interests 16 1 2 3 4 5 6 7 8 9 10 Id. at 21. 11 by Flanagan with the family loan funds, Cadle lost any 12 expectation interest in the Thompson & Peck stock it might have 13 once had as a result of the district court's turnover order. 14 in the stock were entitled to prevent execution or gain priority status over Appellants. The distinction here -- that the turnover order did not entitle Appellants to own Flanagan's stock, just to gain possession as an aid to execution of a levy upon it -is one that Appellants appear to have blurred. Indeed, once the federal judgment had been satisfied The Cadle Creditors point out Connecticut courts have in 15 some situations imposed a constructive trust when the plaintiff 16 was not entitled to an ownership interest in the trust property 17 and had not suffered a loss commensurate to the benefit received 18 by the defendant. 19 for constructive trust over property in favor of plaintiff 20 unsecured creditor because defendant had been unjustly enriched 21 by sham transactions used to shield property from creditors). 22 these situations, "the defendant is compelled to surrender the 23 benefit on the ground that he would be unjustly enriched if he 24 were permitted to retain it." 25 See, e.g., Gabel, 794 A.2d at 1039 (allowing In Id. at 1037. However, the argument that Flanagan would be unjustly 26 enriched absent the imposition of a constructive trust is 27 unconvincing when made in the context of a bankruptcy proceeding. 28 See First Cent., 377 F.3d at 218 ("[W]e believe it important to 29 carefully note the difference between constructive trust claims 30 arising in bankruptcy as opposed to those that do not . . . ."). 17 1 It has been observed that the "equities of bankruptcy are not the 2 equities of the common law." 3 Omegas Group, Inc.), 16 F.3d 1443, 1452 (6th Cir. 1994). 4 particularly true in the context of constructive trust law. 5 discussed above, the effect of a constructive trust in bankruptcy 6 is to take the property out of the debtor's estate and to place 7 the constructive trust claimant ahead of other creditors with 8 respect to the trust res. 11 U.S.C. § 541(a)(1), (d); Howard's 9 Appliance, 874 F.2d at 93. It is therefore not the debtor who XL/Datacomp, Inc. v. Wilson (In re This is As 10 generally bears the burden of a constructive trust in bankruptcy, 11 but the debtor's general creditors. 12 one unsecured claim over another clearly thwarts the principle of 13 ratable distribution underlying the Bankruptcy Code. 14 consequence bankruptcy courts have been reluctant, absent a 15 compelling reason, to impose a constructive trust on the property 16 in the estate. 17 cases); Haber Oil Co. v. Swinehart (In re Haber Oil Co.), 12 F.3d 18 426, 436 (5th Cir. 1994); Omegas Group, 16 F.3d at 1452 19 ("Constructive trusts are anathema to the equities of bankruptcy 20 since they take from the estate, and thus directly from competing 21 creditors, not from the offending debtor."). 22 This type of privileging of As a See First Cent., 377 F.3d at 217-18 (collecting The Cadle Creditors make no argument as to why Flanagan's 23 bankrupt estate or, more to the point, Flanagan's general 24 creditors, would be unjustly enriched by the estate's continued 25 ownership interest in the Thompson & Peck stock. 18 Accordingly, we 1 affirm the bankruptcy court's refusal to impose a constructive 2 trust on the stock. 3 B. Availability of an Equitable Lien 4 In the alternative, the Cadle Creditors declare that an 5 equitable lien should be imposed on the Thompson & Peck stock to 6 the extent of their claims. 7 bankruptcy court, but appears to have been prompted by language 8 in the district court's opinion. 9 were not claiming they rightfully owned the stock, but only that This point was not raised before the In noting that the appellants 10 they were entitled to reach the stock as security for their 11 claims, the district court observed that an "equitable remedy 12 that would give Cadle a perfected lienholder status might be best 13 described as an 'equitable lien.'" 14 district court then went on to dismiss the possibility of 15 imposing an equitable lien because it concluded that "an 16 equitable lien, even if enforceable, would not relate back" to 17 before the preference period. 18 Mangan, 316 B.R. at 22. The Id. at 23. We generally will not consider arguments raised for the 19 first time on appeal. Universal Church v. Geltzer, 463 F.3d 218, 20 228 (2d Cir. 2006). 21 consider an argument not presented to the trial court in order to 22 prevent a manifest injustice or where the argument presents a 23 question of law and additional factfinding is unnecessary. 24 Because the district court considered the equitable lien issue 25 and because the imposition of an equitable lien on the facts of We do, however, retain discretion to 19 Id. 1 this case raises only a question of law, we briefly consider the 2 matter. 3 Connecticut law recognizes the equitable lien remedy. See, 4 e.g., Hansel v. Hartford-Conn. Trust Co., 49 A.2d 666, 673 (Conn. 5 1946); Bassett v. City Bank & Trust Co. (In re Judd), 165 A. 557, 6 561-62 (Conn. 1933). 7 the Connecticut Supreme Court in Hansel 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 The equitable remedy was aptly described by An equitable lien creates merely a charge upon the property and when the person entitled to it is not in possession of that property, he has no right to obtain possession from another unless by virtue of some authority to do so expressly granted to him; his remedy to enforce the lien is by a proceeding in equity to bring about its sale and the application of the proceeds to the satisfaction of the obligation secured, or, in some other manner, by order of the court, to make the property available for the discharge of that debt. Hansel, 49 A.2d at 673. 23 Equitable liens arise in a variety of circumstances. For 24 example, an equitable lien may arise by express or implied-in- 25 fact agreement of the parties. 26 561; see also Dan B. Dobbs, 1 Law of Remedies § 4.3(3), at 601 27 (2d ed. 1993). 28 to prevent unjust enrichment. 29 Inc., 525 U.S. 255, 262-63 (1999). 30 liens and constructive trusts share the same substantive basis; 31 both are remedies in equity to redress unjust enrichment. 32 Dobbs, supra, § 4.3(3), at 601 ("The [equitable] lien is imposed See, e.g., Bassett, 165 A. at Most often, however, equitable liens are imposed See Dep't of the Army v. Blue Fox, 20 In this sense, equitable See 1 for reasons that, in principle, are the same as those that 2 warrant the constructive trust . . . ."). 3 The traditional distinction between a constructive trust and 4 an equitable lien is that the beneficiary of a constructive trust 5 receives complete title to the asset whereas the holder of an 6 equitable lien receives only a lien on the asset through which it 7 may satisfy a money claim. 8 Inc. (In re Markair, Inc.), 172 B.R. 638, 643 (B.A.P. 9th Cir. 9 1994); Dobbs, supra, § 4.3(3), at 601. See Airwork Corp. v. Markair Express, Yet, in some states -- 10 including Connecticut -- there is little practical difference 11 between the two remedies because courts have held that a 12 constructive trust beneficiary does not necessarily obtain a 13 right to possess the trust property, but may only receive a lien 14 on the property equal to the amount of the plaintiff's claim. 15 See Wendell 680 A.2d at 1320 ("To say that the . . . property is 16 subject to a constructive trust in Wendell's favor is not to say 17 that Wendell owns the property. 18 only that Wendell may seek satisfaction of its debt, and no more, 19 out of that property . . . ."). 20 to recover under a constructive trust is limited in a similar way 21 as it would be under an equitable lien theory. 22 On the contrary, it is to say Thus, in Connecticut, the right The Cadle Creditor's contention that they should receive an 23 equitable lien on the stock fails for the same reason as their 24 constructive trust argument. 25 constructive trust remedies are equitable devices to prevent 26 unjust enrichment. Both the equitable lien and But, as discussed above, appellants have 21 1 failed to demonstrate how Flanagan's bankrupt estate would be 2 unjustly enriched by its continued ownership interest in the 3 Thompson & Peck stock. 4 circumstances, we need not review the district court's conclusion 5 that, even if an equitable lien did arise, it would not relate 6 back to a time before the preference period. 7 V 8 9 Because no equitable lien arises in these Earmarking Doctrine In order for a transfer to be avoidable by a trustee in bankruptcy, it must be of "an interest of the debtor in 10 property." 11 transfer be of an interest of the debtor in property is not 12 defined in the Bankruptcy Code and has therefore been left to the 13 courts to interpret. 14 that has come to be known as the earmarking doctrine. 15 11 U.S.C. § 547(b). The requirement that the In so doing, courts have crafted a doctrine The earmarking doctrine applies "where a third party lends 16 money to the debtor for the specific purpose of paying a selected 17 creditor." 18 F.3d 22, 28 (2d Cir. 1996). 19 are said to be "earmarked" and the payment is held not to 20 constitute a voidable preference. 21 Waterloo (In re Bohlen Enters.), 859 F.2d 561, 565 (8th Cir. 22 1988). Glinka v. Bank of Vt. (In re Kelton Motors, Inc.), 97 In such situations, the loan funds McCuskey v. Nat'l Bank of 23 Early applications of the earmarking doctrine concerned 24 situations in which the debtor's obligation was secured by a 25 guarantor. 26 behalf of a debtor, the courts rejected the proposition that the See id. Where the guarantor paid the creditor on 22 1 payment could be avoided by the trustee. Id. The rationale for 2 such an outcome was that the property transferred belonged to the 3 guarantor and thus the transfer of that property in no way 4 diminished the debtor's estate. 5 v. Nat'l Herkimer County Bank, 225 U.S. 178, 185 (1912) ("Neither 6 directly nor indirectly was this payment to the bank made by the 7 [debtor], and the property of [the debtor] was not thereby 8 depleted."). 9 opposite result would have the inequitable effect of forcing the See Nat'l Bank of Newport, N.Y. It is likely that courts were also mindful that the 10 guarantor to pay the same obligation twice. 11 F.2d at 565. 12 See McCuskey, 859 Today, the earmarking doctrine has been extended beyond the 13 guarantor context and several courts have held that it applies 14 whenever a third party provides funds to the debtor for the 15 express purpose of enabling the debtor to pay a specified 16 creditor, that is substituting a new creditor for an old 17 creditor. 18 Superior Stamp & Coin Co.), 223 F.3d 1004, 1008 (9th Cir. 2000); 19 Buckley v. Jeld-Wen, Inc. (In re Interior Wood Prods. Co.), 986 20 F.2d 228, 231 (8th Cir. 1993); In re Smith, 966 F.2d 1527, 1533 21 (7th Cir. 1992); Mandross v. Peoples Banking Co. (In re Hartley), 22 825 F.2d 1067, 1070 (6th Cir. 1987); Coral Petrol., Inc. v. 23 Banque Paribas-London, 797 F.2d 1351, 1356 (5th Cir. 1986). 24 see Manchester v. First Bank & Trust Co. (In re Moses), 256 B.R. 25 641, 646-49 (B.A.P. 10th Cir. 2000) (stating that the earmarking 26 doctrine should not be extended beyond guarantor situations); See Glinka, 97 F.3d at 28; Adams v. Anderson (In re 23 But 1 McCuskey, 859 F.2d at 566 (expressing doubt as to whether 2 earmarking doctrine should be extended beyond guarantor 3 situations but ultimately adopting test that allows for 4 application of earmarking doctrine outside that limited context). 5 Several formulations have been developed to determine 6 whether the earmarking doctrine applies in a particular case. 7 See Manchester, 256 B.R. at 649-50 (discussing various approaches 8 to application of earmarking doctrine). 9 that adopted by the Eighth Circuit in McCuskey. An oft cited approach is McCuskey held 10 that in order for a transaction to qualify under the earmarking 11 doctrine, three requirements must be satisfied: 12 existence of an agreement between the new lender and the debtor 13 that the new funds will be used to pay a specified antecedent 14 debt, (2) performance of that agreement according to its terms, 15 and (3) the transaction viewed as a whole (including the transfer 16 in of the new funds and the transfer out to the old creditor) 17 does not result in any diminution of the estate." 18 566; see also Kaler v. Cmty. First Nat'l Bank (In re Heitkamp), 19 137 F.3d 1087, 1088-89 (8th Cir. 1998) (applying McCuskey 20 formulation). 21 debtor lacked control over the funds supplied by the new 22 creditor. 23 Pac. Fisheries, Inc.), 16 F.3d 313, 316 (9th Cir. 1994); Coral, 24 797 F.2d at 1358. 25 26 "(1) the 859 F.2d at Other courts have focused primarily on whether the See, e.g., Hansen v. MacDonald Meat Co. (In re Kemp We have long recognized the earmarking doctrine, though our early cases did not refer to it by that name. 24 See, e.g., Smyth 1 v. Kaufman (In re J.B. Koplik & Co.), 114 F.2d 40, 42-43 (2d Cir. 2 1940); Grubb v. Gen. Contract Purchase Corp., 94 F.2d 70, 72-73 3 (2d Cir. 1938) (L. Hand, J.). 4 receives funds subject to a clear obligation to use that money to 5 pay off a preexisting debt, and the funds are in fact used for 6 that purpose, those funds do not become part of the estate and 7 the transfer cannot be avoided in bankruptcy. 8 at 73. 9 creditor provides funds to the debtor with no specific We have held that where a debtor See Grubb, 94 F.2d However, we have been equally clear that where a new 10 requirement as to their use, the funds do become part of the 11 estate and any transfer of the funds out of the estate is 12 potentially subject to trustee's avoidance powers. 13 114 F.2d at 42 (finding that transfer could be avoided where 14 "nothing indicat[ed] that [the new creditor] loaned this $500 on 15 condition that it should be applied to this particular 16 creditor."). 17 creditor knows, but does not require, that the new loan funds 18 will be used to pay off a preexisting debt. 19 See Smyth, This result does not change even where the new See id. In this case, the bankruptcy court found that Flanagan's 20 father provided the family loan for the specific purpose of 21 paying the federal judgment. 22 debtor's father made such funds available "for the sole purpose 23 of purging Flanagan's contempt before Judge Covello through 24 satisfaction of the underlying Judgment." 25 is not clearly erroneous and we accept it on this appeal. There was no doubt that the 25 This factual finding 1 The trustee does not seriously dispute that the family loan 2 was made for the purpose of allowing Flanagan to pay the federal 3 judgment. 4 not apply because Flanagan obtained possession of the funds 5 temporarily. 6 of the family loan funds does not necessarily demonstrate that 7 Flanagan had control of them. 8 earmarking doctrine depends not on whether the debtor temporarily 9 obtains possession of new loan funds, but instead on whether the 10 debtor is obligated to use those funds to pay an antecedent debt. 11 See 5 Collier on Bankruptcy ¶ 547.03[2], at 547-24 ("The 12 [earmarking] rule is the same regardless of whether the proceeds 13 of the loan are transferred directly by the lender to the 14 creditor or are paid to the debtor with the understanding that 15 they will be paid to the creditor in satisfaction of his claim 16 . . . ."); see also Superior Stamp, 223 F.3d at 1009. 17 Grubb, 94 F.2d at 73 with Smyth, 114 F.2d at 42. 18 receipt of the family loan funds was specifically conditioned 19 upon his use of those funds to pay the federal judgment, and he 20 never obtained control of the funds in the sense of being able to 21 control how they were ultimately distributed. 22 doctrine therefore potentially applies to protect the Payment 23 from avoidance. 24 She insists, however, that the earmarking defense does The fact that Flanagan temporarily had possession The proper application of the Compare Flanagan's The earmarking There is, nonetheless, an important limitation on the 25 earmarking doctrine. The doctrine will only protect a transfer 26 from avoidance to the extent it did not diminish the debtor's 26 1 estate. Glinka, 97 F.3d at 28. Where a debtor replaces an 2 unsecured obligation with a secured obligation, the payment is 3 voidable to the extent of the collateral transferred by the 4 debtor. 5 property as collateral for the [loan], the debtor transferred an 6 interest in its property and therefore the earmarking defense is 7 not available."); see also Mandross, 825 F.2d at 1071. 8 case at hand, Flanagan satisfied the unsecured obligation of the 9 federal judgment by taking on the secured obligation of the Id. ("[T]o the extent that the debtor offered its own In the 10 family loan. 11 lien obtained by the debtor's father in the Thompson & Peck stock 12 supplanted Babacas's lien in the stock. 13 bankruptcy court concluded the net diminution of the estate was 14 equal to the difference between the Babacas loan ($85,000) and 15 the Payment ($99,542.87), or the extent to which John Flanagan 16 encumbered previously unencumbered property of the debtor estate 17 to enable the Payment. 18 However, the bankruptcy court also found that the As a consequence, the The trustee disputes the bankruptcy court's finding that the 19 family loan lien supplanted, rather than merely subordinated, 20 Babacas's lien. 21 the Babacas lien was supplanted by the family loan lien finds 22 support in the record and is not clearly erroneous. 23 Consequently, we conclude that the Payment can be avoided by the 24 trustee, but only in the amount of $14,542.87. We believe the bankruptcy court's finding that 27 1 2 CONCLUSION Accordingly, for the foregoing reasons, the judgment of the 3 district court is affirmed and appellees' motion to dismiss for 4 lack of subject matter jurisdiction is denied. 28

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