Daily Development for Thursday, March 25, 2004
by: Patrick A. Randolph, Jr.
Elmer F. Pierson Professor of Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper Martin Kansas City, Missouri dirt@umkc.edu

FRAUDULENT CONVEYANCES; COMMON LAW RESULTING TRUST: Despite adoption of Uniform Fraudulent Conveyances Act, state common law still will set aside fraudulent conveyances using resulting trust theory and other equitable theories even in cases where the Uniform Act would not apply.

Valente v. Fleet Nat’l Bank, 2004 WL 383367, (1st Cir. 3/2/04).

Bank foreclosed on certain property owned by Valente and secured a deficiency judgment for about $10,000. An execution order on this judgment levied all real and personal property of the debtor located in the town of Middleton, and was recorded there.

During the course of the foreclosure proceeding, Valente had owned other property in Middleton that was subject to a mortgage lien with another lender in an amount in excess of its value. There were also a state tax lien and an IRS lien on the property. One year prior to the judgment in the foreclosure action and the recordation of the execution levy described above, Valente had transferred the property to his son, pursuant to an agreement by which Valente continued to live on the property. Although Valente offered an “estate planning” explanation for this, his own son stated that the motive for the transfer was that his father “was trying to scam somebody or beat somebody, I don’t know, it wasn’t out of the generosity of his heart. The trial court and appellate court together concurred that the intent was fraudulent.

Soon after the filing of the execution levy, Valente filed for bankruptcy, not listing the property in question, where he lived, as part of the bankruptcy estate. In the course of the bankruptcy both government liens were cancelled. Bank did not list the debt as a claim in the bankruptcy proceeding. The court commented that this had no impact on the validity of its claim under the levy, however. In 1994, Valente obtained a discharge.

Over the next few years, Valente operated a business on the Middleton property, and eventually leased it out in his own name, and collected and kept the lease revenues. Thereafter, he induced his son to transfer title back to him so he could sell the property. The son complied, and Valente indeed did sell the property, netting a profit over the mortgage lien, as the property had risen in value over the years. But at closing, a title search disclosed the levy of Bank, and in order to close, the parties stipulated that $18,000 would be held out to cover the current balance on the lien.

Even after the $18,000 was held out, Valente recovered $24,000 after paying the costs of closing and clearing the mortgage. Guess what? The son didn’t get a penny.

Then Valente reopened his bankruptcy to try to recover the $18,000 that was still being held in escrow. He claimed that the lien of the collection levy did not apply to this property, as he did not own the Middleton property when it was filed. He then claimed that any other rights of Bank had been discharged as part of his general discharge, and sought to have Bank held in contempt for attempting to collect a discharged debt. Despite the brazenness of Valente’s conduct, the trial court regretfully concluded that Valente had a point. Reviewing Rhode Island’s Uniform Fraudulent Conveyance Act, the court concluded that it only permitted the setting aside of fraudulent transfers of property in which the debtor had some equity. At the time Valente transferred the Middleton property to his son, the property was well under water. The property did not qualify as an “asset” under the Act, and thus was not subject to the operation of the fraudulent conveyance remedies the Act provide

The Court of Appeals agreed with the interpretation of the Uniform Act, but reversed anyway, concluding that the cat could be skinned another way. It stated that the adoption of the Uniform Act did not preclude application of the common law concept of fraudulent conveyances that had applied in Rhode Island before the adoption of the Act. It noted that the Rhode Island courts had used the device of resulting trust to find an interest in a debtor who had arranged for property to be transferred to related parties in order to disguise it from creditors. Such tactics fell “below the radar” of the state fraudulent conveyance statute existing at the time, since there was no “transfer” by the debtor. But the courts granted common law relief to the creditors nonetheless. The court also cited cases in the First Circuit, involving other state’s laws, where the court had found constructive trusts in order to protect creditor’s claims from fraudulent devices. In these cases, the state’s fraudulent conveyance statute did not apply.

The court cited a 1927 Rhode Island case that recognized an equitable interest in the form of a resulting trust arising where a husband arranged for property to be transferred to his wife. It concluded that this case provided authority for recognizing a resulting trust in a case like this one as well:
the [precedent case] effectively imposed a resulting trust by holding that an attachable interest is created "when a conveyance for the purpose of defrauding creditors is made of the legal title to real estate without any intention of passing the beneficial interest therein."

As Valente clearly retained all the benefits of ownership in the instant case, he also was viewed as being the beneficiary of an equitable resulting trust. The Bank’s levy attached to this interest at the time that it was filed, and remained a valid levy through the bankruptcy.

The court noted that normally the concept of resulting trust is used to effectuate the plan of a party in transferring property, rather than to undermine a fraudulent scheme. But it said that the use of the device in a case like this one is a well established exception to the ordinary use of the constructive trust.

Although there was no value in the property at the time that the levy has filed, this didn’t prevent the Bank from enjoying the benefit of a lien on Valente’s equitable beneficial interest. Ultimately, of course, the trust asset increased in value and provided a basis for the Bank’s claim. Although this occurred only after a significant passage of time, the court held that the applicable statute of limitations for the Bank’s claim was the ten year statute of limitations for fraud, and not the shorter limitations period under the Uniform Act, since the Act had no application here.

Comment 1: As all parties agreed, this seems to have been a fitting end to a blatantly fraudulent scheme. Lessons for practitioners (other than “never surrender”)? The Bank probably dodged a bullet by not making a claim in the bankruptcy proceeding, which might have been construed as discharging its lien entirely, thus clearing it from the record when Valente regained title to the property.

A second lesson might be that an equitable remedy can normally be found for most instances of blatant fraud. Digging may be necessary, but there’s gold in there somewhere.

Comment 2: But the notion of a “common law fraudulent conveyance” rule should give pause to anyone interested in clear title to real estate. The whole idea of statutes implementing these concepts is that we have some clear standards that permit people to make rationale decisions about whether the information that they have concerning the property’s prior owner should give them pause in investing. The interests of the marketplace demand that this question should have a clear yes or no answer. Now all we have is mud, with the consequence that properties in fact not really subject to the fraudulent conveyance problem are held off the market on the off chance that they might be. Not a good idea. If the court doesn’t like the way the statute operates, if it complains loud enough, the legislature will fix the problem. It’s not up to the court to go riding off on a white horse looking for theories to invent to make up for statutory deficiencies.

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