Hopkins v. Waters, Jr

MEMORANDUM OF DECISION - 1
IN THE UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF IDAHO
________________________________________________________
DEBY JOE SARGENT aka 	Bankruptcy Case
DEBORAH JOE SARGENT, 	No. 04-41308
Debtor.
_________________________________________________________
R. SAM HOPKINS, TRUSTEE,
Plaintiff, 	Adv. Proceeding No. 04-6249
vs.
JAY S. WATERS, JR.,
Defendant.
________________________________________________________
MEMORANDUM OF DECISION
________________________________________________________
Appearances:
James A. Spinner, SERVICE, SPINNER & GRAY, Pocatello, Idaho,
Attorney for Plaintiff.
Jay Waters, Albion, Idaho, Pro Se, Defendant.
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 1 of 12

1 The Court discussed most of the relevant facts, which were undisputed, in its
disposition of Plaintiff’s motion for summary judgment. Docket No. 15. Those facts
need not be repeated here. Instead, only the facts relied upon to resolve the issue of
Debtor’s solvency and Defendant’s defenses are set forth below.
2 In some instances, the evidence and testimony presented was conflicting. In
resolving the factual disputes and making its findings of fact, the Court has relied in part
upon its opportunity to observe the witnesses testify and to assess their demeanor and
credibility. The Court has assigned appropriate weight to that testimony in this decision.
MEMORANDUM OF DECISION - 2
Chapter 7 Trustee R. Sam Hopkins (“Plaintiff”) seeks to recover a
$5,000 payment made by Debtor Deby Sargent to Defendant Jay Waters as a
preference. Before trial, the Court granted Plaintiff’s motion for summary
judgment in part, concluding that Plaintiff had established as a matter of
undisputed fact and law that the payment at issue satisfied the elements of a
preference in 11 U.S.C. § 547(b)(1), (2), (4), and (5) of the Bankruptcy Code.
Docket Nos. 14, 15. However, the Court directed that a trial be held concerning
the issue of whether Debtor was insolvent at the time of the payment, see 11
U.S.C. § 547(b)(3), and regarding any defenses asserted by Defendant. That trial
was conducted on May 20, 2005, and this Memorandum of Decision represents
the Court’s findings of fact and conclusions of law. Fed. R. Bankr. P. 7052. 1
FACTS2
In May 2003, Defendant loaned Debtor, his sister, $6,800. Ex. A.
Defendant had borrowed this money from Key Bank, his employer at the time. In
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 2 of 12

MEMORANDUM OF DECISION - 3
February 2004, Debtor repaid $5,000 to Defendant by depositing the money into
one of Defendant’s bank accounts. He then made a similar payment to Key Bank
to repay a portion of his loan.
Debtor filed for Chapter 7 bankruptcy relief on June 17, 2004. In
Debtor’s schedules of her liabilities, as amended, she disclosed that she had
incurred $8,207 in unsecured debt prior to February 2004. Exs. 1, 2.
Additionally, Debtor testified at trial that she owed, but did not list on her
schedules, approximately $4,000 to Defendant and $8,030 to the J.R. Simplot Co.
based on a default judgment, Ex. 7. Both of these debts were also incurred prior to
February 2004, when she made the allegedly preferential transfer to Defendant.
Debtor also testified that when the state court entered her divorce
decree on June 1, 2004, Ex. 11, she owed several thousand dollars in legal fees to
her divorce attorney. She did not specify what portion of this debt she had
incurred prior to February 2004.
Debtor owned a house encumbered by a deed of trust. Debtor
testified, without contradiction, that she owed between $67,000 and $68,000 on
this mortgage as of February 2004. The trustee’s deed from a subsequent
foreclosure sale, Ex. 9, tends to support Debtor’s testimony on this point. In
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 3 of 12

3 In her Schedule A, Debtor listed the value of her house at $90,000 and the
amount of the claim secured by the house at $90,000.
MEMORANDUM OF DECISION - 4
addition to the principal owed, Debtor was four months is arrears on her $780
monthly payment obligation at that time. Ex. 8.
As for assets, in February 2004, Debtor owned the house just
mentioned. Plaintiff and Defendant offered conflicting evidence of the house’s
value. Plaintiff’s evidence places the value at approximately $79,000. See Ex. 9
(foreclosure trustee’s deed indicating a sale price of $77,800 on April 8, 2004);
Ex. 10 (Bonneville County tax assessment for $79,500, dated May 9, 2005).
Defendant’s evidence indicates a $90,000 value. Considering all the evidence, the
Court is persuaded by Plaintiff’s evidence and finds the value of the house was,
more probably than not, $79,000 as of February 2004.
Debtor’s Schedule B, as amended, shows that she owned a modest
amount of personal property with an aggregate value of $8,863. Ex. 3. She
claimed as exempt all of this property, with the exception of $1,275 from her
expected 2004 tax refunds. Ex. 4. Debtor claimed no exemption in her house.3
Id.
DISCUSSION
A. Was Debtor insolvent at the time of the transfer?
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 4 of 12

4 Plaintiff bears the burden of proof on all the elements of § 547(b). Murphy v.
McNelis (In re Tytan Motors, Inc.), 02.4 I.B.C.R. 171, 173 (Bankr. D. Idaho 2002). As
mentioned in the introductory paragraph, Plaintiff established the other statutory
elements of a preference through his motion for summary judgment.
MEMORANDUM OF DECISION - 5
For a Chapter 7 trustee to recover a preferential transfer by a debtor
to a creditor under 11 U.S.C. § 547(b), the debtor must have been insolvent at the
time of the transfer.4 Under the Bankruptcy Code, for an individual debtor,
“insolvent” is defined as a
financial condition such that the sum of such entity’s
debts is greater than all of such entity’s property, at a
fair valuation, exclusive of—
(i) property transferred, concealed, or removed with intent to
hinder, delay, or defraud such entity’s creditors; and
(ii) property that may be exempted from property of the estate
under section 522 of this title[.]
11 U.S.C. § 101(32)(A). The calculation required by this section excludes any
property that may be exempted by the debtor under § 522. This provision allows
the states to opt out of the federal exemptions and limit debtors to state
exemptions. 11 U.S.C. § 522(b). Idaho has opted out of the federal exemptions,
Idaho Code § 11-609; Magic Valley Collections & Recovery, Inc. v. Salinas (In re
Salinas), 04.3 I.B.C.R. 110, 111 (Bankr. D. Idaho 2004), and under Idaho law,
debtors may claim a homestead exemption of up to $50,000, Idaho Code § 55-
1001–1011; Salinas, 04.3 I.B.C.R. at 111.
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 5 of 12

5 This calculation is likely too generous, since it assumes Debtor had a right to
the full tax refund in February, long before the conclusion of the tax year.
MEMORANDUM OF DECISION - 6
The record establishes that, at the time of Debtor’s $5,000 transfer to
Defendant, Debtor had liabilities of at least $20,237 ($8,207 listed on her Schedule
F and Am. Schedule F + $4,000 owed to Defendant and not scheduled + $8,030
owed under the default judgment = $20,237).
Debtor’s nonexempt assets are somewhat more difficult to quantify.
Regarding her personal property, from her amended Schedule B and amended
Schedule C, Ex. 3, Debtor had only $1,275 in nonexempt personal property (a
portion of her tax refund) on the date of filing. The responses contained in
Debtor’s statement of financial affairs, Ex. 5, which Debtor signed under penalty
of perjury and which may be considered as an evidentiary admission, see, e.g., In
re Webb, 03.1 I.B.C.R. 25, 26 (Bankr. D. Idaho 2002), indicate she did not transfer
any of her assets during the one year preceding her bankruptcy filing. Thus, the
Court can infer Debtor had no other assets, except for those listed in her schedules,
that would affect the § 101(32)(A) insolvency calculation. Assuming Debtor
owned all the personal property listed in her schedules in February 2004, the value
of her nonexempt personal property at the time she made the payment to
Defendant would not exceed $6,275 ($1,275 listed in her schedules5 + $5,000
transferred to Defendant). See 5 Collier on Bankruptcy ¶ 547.03[5] (Alan N.
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 6 of 12

6 Even if the Court accepted Defendant’s assertion that Debtor’s house was worth
$90,000 in February 2004, all of the equity would still be exempt. Idaho Code § 55-1003
(permitting an exemption in up to $50,000 in equity). Therefore, the Court’s analysis
would not be any different.
MEMORANDUM OF DECISION - 7
Resnick & Henry J. Sommer eds., 15th ed. rev. 2002) (explaining the amount of
the preferential transfer is considered an asset for calculating insolvency).
Regarding her real property, Debtor had precious little equity in her
house in February 2004. As noted, the house was worth $79,000, and Plaintiff
proved that Debtor owed at least $70,120 on the mortgage at that time ($67,000 +
four delinquent monthly payments of $780 = $70,120). In truth, Debtor likely
owed more than this amount, considering likely penalties and accrued interest,
which could explain why neither party showed that there were any excess
foreclosure sale proceeds returned to Debtor. At any rate, the record shows that
Debtor could not have had more than approximately $9,000 in equity, all of which
would be exempt under Idaho law. 6 Idaho Code § 55-1003.
In summary, then, in February 2004, when Debtor paid Defendant
$5,000, Debtor’s liabilities were at least $20,237 and her nonexempt assets did not
exceed $6,275. Debtor was therefore insolvent for purposes of § 547(b)(3) of the
Bankruptcy Code.
B. Did Defendant establish any defenses?
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 7 of 12

MEMORANDUM OF DECISION - 8
The defenses asserted by Defendant have been liberally construed by
the Court. At bottom, though, Defendant contends that Plaintiff should not be able
to recover the $5,000 Debtor paid him because he used the money to partially
repay his loan to Key Bank, his source of the funds loaned to Debtor.
Unfortunately, this argument does not satisfy the requirements of any of the
statutory defenses to preference recovery found in § 547(c). Moreover, it does not
fit within the earmarking defense or the conduit defense mentioned in the Court’s
disposition of Plaintiff’s prior motion for summary judgment. Mem. of Decision
at 12–13, Docket No. 15.
“[The] earmarking doctrine applies when a third party lends money
to a debtor for the specific purpose of paying a selected creditor.” Adams v.
Anderson (In re Superior Stamp & Coin, Co.), 223 F.3d 1004, 1008 (9 th Cir.
2000). The justification for this defense to a preference action is that the
substance of the transaction has no effect on the assets available to creditors; one
creditor is simply replaced with another. Id. But the transaction in this case
between Defendant and Debtor is clearly different. Defendant admitted that
Debtor was not liable on his Key Bank loan; therefore, there was no substitution of
creditors. Moreover, Debtor’s payment of $5,000 to Defendant did diminish the
assets she had available to pay other creditors.
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 8 of 12

7 Section 550 of the Bankruptcy Code states in relevant part:
[T]o the extent that a transfer is avoided under section . . .
547 . . . of this title, the trustee may recover, for the benefit
of the estate, the property transferred, or, if the court so
orders, the value of such property, from—
(1) the initial transferee of such transfer or the entity for
whose benefit such transfer was made; or
(2) any immediate or mediate transferee of such initial
transferee.
11 U.S.C. § 550(a).
MEMORANDUM OF DECISION - 9
The conduit defense to liability under 11 U.S.C. § 550 for receipt of
a preference is also inapplicable.7 In Post-Confirmation Comm. of Unsecured
Creditors of Incomnet Communication Corp. v. Universal Serv. Admin. Co. (In re
Incomnet, Inc.), 299 B.R. 574, 578–80 (B.A.P. 9 th Cir. 2003), the Panel explained
that the equitable “conduit” defense to liability under § 550 is only applicable to
two-step transactions: “where A transfers property to B as an agent for C.” Under
such circumstances, the intermediary is a mere conduit that delivers property from
the debtor to the initial transferee. Under those limited facts, the intermediary,
often times a financial institution, is not responsible for returning the preferential
transfer.
But in this matter, Defendant was the initial transferee. Debtor owed
Defendant money and she deposited a $5,000 payment to him in his bank account.
Defendant was free to use those funds as he wished. That he used the funds to
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 9 of 12

8 The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, Pub.
L. No. 109-8, § 1213, 119 Stat. 23, 194–95 (2005). While the bulk of this Act is not
effective until 180 days after its enactment, id. at § 1501, 119 Stat. at 216, which
occurred on April 20, 2005, the language in § 547(i) is applicable to all cases pending or
filed after the enactment date. Id. at § 1213, 119 Stat. 194–195. Therefore, this new
Code provision is applicable to this adversary proceeding because the proceeding and
Debtor’s bankruptcy case were pending on April 20.
MEMORANDUM OF DECISION - 10
repay his loan at Key Bank may have been prudent, but it does not change the
preference analysis. The conduit defense does not protect Defendant.
Defendant’s argument also falls short of a limitation on a trustee’s
ability to recover preferential transfers that Congress recently added to the
Bankruptcy Code. Under new 11 U.S.C. § 547(i):
If the trustee avoids under subsection (b) a transfer
made between 90 days and 1 year before the date of
the filing of the petition, by the debtor to an entity that
is not an insider for the benefit of a creditor that is an
insider, such transfer shall be considered to be avoided
under this section only with respect to the creditor that
is an insider.[8]
This new provision appears to be directed at terminating the
application of the so-called Deprizio rule, first expressed in Levit v. Ingersoll Rand
Fin. Corp., 874 F.2d 1186 (7 th Cir. 1989). In Levit, the Seventh Circuit held that a
trustee could recover a preferential payment made to a creditor that was not an
insider even if the payment was made between one year and ninety days prior to
the debtor’s filing, if the payment created a benefit for an insider, such as when the
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 10 of 12

MEMORANDUM OF DECISION - 11
insider guaranteed the obligation owed to the creditor receiving the payment. Id.
at 1194–1201. Regardless of the congressional motive for enacting new § 547(i),
this provision simply does not protect Defendant. Defendant received the $5,000
directly; it was not sent to another of Debtor’s creditors. Defendant admitted in
his testimony that only he, and not Debtor, was liable for the Key Bank loan. As a
result, § 547(i) does Defendant no good.
Defendant has not established any defense to Plaintiff’s action.
CONCLUSION
Both Debtor and Defendant have expressed their belief that, in this
case, they did nothing “wrong.” Even so, § 547(b) applies, and Debtor’s payment
to Defendant was an avoidable preference. Some debtors facing bankruptcy are
motivated to favor particular creditors to the collective detriment of others. And
some creditors might perceive the debtor’s financial decline as a reason to rush to
collect to the prejudice of others. To ensure creditors are treated fairly, Congress
designed § 547(b) to allow the trustee to recapture all payments to creditors that
satisfy the statutory elements (with a few exceptions), even when a debtor’s
motivations in making a preferential transfer are not improper, and even if the
recipient of the preferential transfer has not overreached or exerted any
inappropriate influence over the debtor. While application of this policy to
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 11 of 12

9 Fed. R. Bankr. P. 3002(c)(3) allows the recipient of an avoided transfer thirty
days from the date of judgment to file a proof of claim in the bankruptcy case so as to
participate in distributions from the bankruptcy case.
MEMORANDUM OF DECISION - 12
particular facts may yield harsh results, it is the law of the land unless and until
modified by Congress.
Under the Bankruptcy Code, Defendant must share and share alike
with Debtor’s other creditors. 9 Judgment will be entered in favor of Plaintiff and
against Defendant in the amount of $5,000.
Dated: June 30, 2005
Honorable Jim D. Pappas
United States Bankruptcy Judge
Case 04-06249-JDP Doc 20 Filed 06/30/05 Entered 06/30/05 13:50:24 Desc Main
Document Page 12 of 12