JAMES K. COACHYS, United States Bankruptcy Judge.
This matter comes before the Court on Sav-a-Step Food Marts, Inc.'s ("Sav-a-Step") Complaint to Determine Dischargeability of Debt against Debtors/Defendants Ricke L. Buckel and Eva M. Buckel (the "Buckels"). The Court conducted a trial on April 15, 2002, after which it took the matter under advisement. After reviewing the evidence presented by the parties, the Court enters the following Memorandum Opinion and finds that the subject debt is dischargeable in part and nondischargeable in part.
The Buckels are the sole shareholders and officers of REVA, Inc. ("REVA"). In 2000, REVA entered into a franchise agreement with Sav-a-Step to operate a convenience store in Louisville, Kentucky ("Store #34"). As part of the business, REVA sold money orders to its customers with a machine licensed through Sav-a-Step. Although not specifically set forth in the franchise agreement, it appears that REVA was instructed to make, if not daily, then at least regular deposits into the Sav-a-Step corporate account to cover these money orders. First Merchants Bank would then "sweep" the corporate account twice a week to recover the appropriate funds.
The evidence as to this point is a bit unclear. Sav-a-Step's representatives testified that the Buckels were required to make daily deposits, while the parties' purchase agreement, according to the testimony, indicates that such deposits were to be made within a reasonable time. Sav-a-Step did not indicate exactly how or when the Buckels were told to made daily deposits.
Sometime in February of 2001, Sav-a-Step experienced a "cash shortfall," i.e., the funds swept out of the corporate account were insufficient to cover the money orders. It soon became apparent to Sav-a-Step that REVA had either made untimely deposits or failed to make a deposit at all for the money orders sold by Store #34 in February. At the end of February, representatives of Sav-a-Step, including its President and Chief Financial Officer, met with the Buckels to discuss the situation. During the meeting, the Buckels explained that they were experiencing a cash flow problem that was due, at least in part, to Sav-a-Step's failure to reimburse REVA for certain "cigarette rebates." To increase its cash flow, REVA apparently issued money orders to help finance the store's operations or to pay for the Buckels' personal obligations. Mr. Buckel testified that while he "paid" REVA for these money orders, he either failed to deposit the funds for the money orders into the Sav-a-Step corporate account or made the required deposits long after they became due.
Specifically, several of the money orders that were written in February of 2001, were issued directly to Store #34. Others were written to vendors who demanded cash on delivery, e.g., Anheuser-Busch. Still others were issued to individuals or entities to whom the Buckels owed money to personally, e.g., their landlord and car insurance company.
The evidence shows that deposits for money orders sold February 1 through February 9 were made between February 21 through the 27th. Deposits made for money orders sold between February 10th and the 28th were never made.
The parties apparently reached some agreement following their meeting in February. It was the Buckels' understanding that Sav-a-Step would actively attempt to determine how much money it owed REVA for the cigarette rebates. In turn, the Buckels assured Sav-a-Step that they would make daily money order deposits.
The evidence shows that the deposits for money orders sale from March 1 to April 25 were made anywhere from one to five days from the date of their respective sale. However, REVA again began experiencing cash flow problems in late April. Sav-a-Step had still not reimbursed REVA for approximately $28,000 in cigarette rebates. Plus, several others competing stores had recently opened in the neighborhood, which itself was experiencing increasing difficult economic times. In short, sales were down, and REVA no longer had the resources available to operate the store at a profit. Beginning on April 26, the Buckels stopped making the money order deposits altogether. Rather, it again appears that money orders were issued to the store itself, to vendors who demanded cash on delivery and to pay the Buckels' personal expenses. On or about May 1, 2001, Sav-a-Step "confiscated" the machine used by Store #34 to issue money orders. No money orders were issued at the store after that date. The store continued to operate until May 10, 2001, when it closed permanently.
In total, REVA failed to make deposits of $55,059.36 for money orders issued at Store #34. As such, Sav-a-Step was forced to pay such amounts to First Merchants Bank. Sav-a-Step now argues that this amount should be deemed nondischargeable under either 11 U.S.C. § 523(a)(2)(A) or (a)(4) of the United States Bankruptcy Code, 11 U.S.C. § 101, et seq. (the "Code").
REVA failed to deposit $40,627.04 for the month of February. The April 18, 2001 deposit was made, but was short $7.11. From April 26-30, 2001, REVA failed to make $14,423.21 in deposits.
The Court has jurisdiction over this matter pursuant to 28 U.S.C. § 1334. This is a core proceeding pursuant to 28 U.S.C. § 157(b)(2)(I).
Discussion and Decision
The Bankruptcy Code was drafted to provide a discharge procedure that enables insolvent debtors to reorder their affairs and enjoy "a new opportunity in life with a clear field for future effort, unhampered by the pressure and discouragement of preexisting debt." Grogan v. Garner, 498 U.S. 279, 286, 111 S.Ct. 654, 659, 112 L.Ed.2d 755 (1991) (quoting Local Loan Co. v. Hunt, 292 U.S. 234, 244, 54 S.Ct. 695, 699, 78 L.Ed. 1230 (1934)). However, Congress elected to exclude certain obligations from the general policy of discharge where the public policy at issue outweighs the debtor's need for a fresh start. See In re Merchant, 958 F.2d 738, 740 (6th Cir. 1992). These exceptions are to be narrowly construed against the creditor and in favor of the debtor, and the plaintiff generally must prove, by a preponderance of the evidence, that the exception applies. In re Crosswhite, 148 F.3d 879, 881 (7th Cir. 1998).
Section 523(a)(2)(A): False Pretenses
Here, Sav-a-Step first argues that the Debtors' alleged debt is nondischargeable under § 523(a)(2)(A). That section exempts from discharge those debts which are obtained by "false pretenses, a false representation, or actual fraud. . . ." At trial, Sav-a-Step focused on the "false pretenses" language of § 523(a)(2)(A). In order to prevail on a claim for "false pretense," Sav-a-Step must prove, by a preponderance of the evidence, that: (1) the debt arose out of representations which the debtor either knew to be false or which were made with such reckless disregard for the truth as to constitute willful misrepresentation; (2) the debtor made these representations with the intent to deceive; and (3) the creditor justifiably relied on the debtor's false representation. See Field v. Mans, 516 U.S. 59, 116 S.Ct. 437, 133 L.Ed.2d 351 (1995); In re Mayer, 51 F.3d 670, 673 (7th Cir. 1995).
To the extent that Sav-a-Step's claim is based on the deposits that were not made by the Buckels in February of 2001, the Court cannot conclude that Sav-a-Step has met its burden under § 523(a)(2)(A). Presumably, this part of Sav-a-Step's claim rests on the Buckels' promise, as represented by both the purchase agreement and the parties' oral understanding, that they would deposit the funds attributable to money orders sold at Store #34 into Sav-a-Step's corporate account. There is no evidence to suggest that the Buckels falsely represented to Sav-a-Step that it would make the deposits or that it intended to deceive Sav-a-Step when they entered into this agreement. Rather, the weight of the evidence suggests that intervening factors adversely and unexpectedly affected the Buckels' actions. Specifically, Sav-a-Step's apparent failure to reimburse them for the cigarette rebates and the ensuing cash flow problem interfered with the Buckels' ability to perform its obligations to Sav-a-Step. See Goldberg Securities v. Scarlata (In re Scarlata), 979 F.2d 521, 525 (7th Cir. 1992) (statement of future intention found not to constitute false pretense where intervening circumstances caused debtor's actions to deviate from stated prior intentions).
The Court also cannot conclude that Sav-a-Step has met its burden under § 523(a)(2)(A), to the extent its claim is based on the deposits that were not made by the Buckels in April of 2001. There is evidence to suggest that the Buckels affirmatively represented, during the parties' February meeting, that they would make daily money order deposits. However, it was or should have been clear to Sav-a-Step at the meeting that, without reimbursement for the cigarette rebates, the Buckels would continue to suffer from cash flow problems and might again use the money order funds to make up for the shortfall. Sav-a-Step took no further steps to guarantee that the deposits would be made, but instead left it entirely up to the Buckels to make good on their promise. Given their failure to abide by the parties' previous agreement, the Court cannot conclude that Sav-a-Step's reliance on the Buckels' representation was justifiable.
Furthermore, there is evidence to suggest that Sav-a-Step did not necessarily rely on the Buckels' statement in the first instance. During the first meeting of creditors in this case, it became apparent that Sav-a-Step mistakenly believed it had a valid and perfected security interest in REVA's equipment and inventory. The Court could reasonably assume that Sav-a-Step relied primarily on this belief in allowing the Buckels continued use of the money order machine at Store #34, rather than on the Buckels' representations.
Based on the foregoing, the Court denies Sav-a-Step's claim against the Buckels under Section 523(a)(2)(A) of the Code and deems that the subject debt of $55,059.36 is not nondischargeable under this provision.
Section 523(a)(4): Embezzlement
Sav-a-Step also argues that the subject debt is nondischargeable pursuant to Code § 523(a)(4), which states in relevant part that debts obtained through "embezzlement" are excepted from discharge. The Seventh Circuit has defined embezzlement as the "fraudulent appropriation of property by a person to whom such property was entrusted or into whose hands it has lawfully come." In re Weber, 892 F.2d 534, 538 (7th Cir. 1989). To prove embezzlement, the creditor must show that the debtor (1) appropriated the subject funds for his own benefit and (2) did so with fraudulent intent or deceit. In re Sarama, 192 B.R. 922, 927-31 (N.D.Ill. 1996); In re Conder, 196 B.R. 104, 110 (W.D.Wis. 1995).
Again, with respect to the deposits attributable to the money orders sold by Store #34 in February, Sav-a-Step has failed to carry its burden of proof. Admittedly, there is no question that the Buckels, either directly or indirectly, benefitted from these funds, which were either used to pay their own personal obligations or inured to the benefit of REVA, in which the Debtors were the sole shareholders. However, Sav-a-Step has presented insufficient evidence to prove that the Buckels used the funds from the February money order sales with "fraudulent intent or deceit." Rather, the Buckels assumed, albeit incorrectly, that the amounts due and owing for February would be repaid once their cash flow problems were resolved, i.e., when Sav-a-Step reimbursed them for the cigarette rebates. The evidence clearly indicates that the Buckels were frustrated with Sav-a-Step regarding its failure to remit the rebate money. However, frustration does not necessarily establish that the Buckels acted with fraudulent intent or intended to deceive Sav-a-Step.
The Court does conclude that Sav-a-Step has sufficiently established that the Buckels embezzled the amounts attributable to the money orders sold, in the amount of $14,423.21, by Store #34 from April 26 to April 30, 2001. The evidence shows that the Buckels knew by that time that the store could not continue to operate and that any money order deposits not made into the Sav-a-Step account could not and would not be repaid. Nevertheless, the Buckels issued money orders to both the store, to vendors, and to pay for their personal expenses.
The evidence presented regarding the final days of Store #34's operations further supports the Court's conclusion that the Buckels embezzled the subject funds. Bank records indicate that a relatively small amount was deposited into REVA's account during May. Mr. Buckel explained that sales were low, despite it being "Derby" weekend. However, it is impossible to verify this claim given that one of the store's registers, due to an alleged malfunction, was disposed of by the Buckels along with the sales data contained in it. Mr. Buckel further explained that many of the store's expenses, including payroll, the Buckels' salary and other personal and business expenses were paid with cash from the gross receipts during May. The Buckels' unsubstantiated use of cash in this manner again makes it difficult, if not impossible, for either Sav-a-Step or the Court to verify any of the Buckels' claims. All of this taken together, leads the Court to believe that the Buckels were attempting to hide something, or at least trying to make it difficult to reconstruct their activities as the store's financial situation worsened.
Based on the foregoing, the Court concludes that Sav-a-Step has met its burden of proof with respect to its claim for embezzlement, but only to the extent the claim relates to money orders issued by Store #34, in the amount of $14,423.21, from April 26 through April 30, 2001. That amount is deemed nondischargeable pursuant to Code § 523(a)(4).
The Court will issue a Judgment Order consistent with this Memorandum Opinion.
As a final matter, the Court notes that the Buckels did not challenge Sav-a-Step's complaint to the extent it seeks to impose individual liability for what is arguably a corporate obligation and, thus, have waived that argument. In any event, the Court finds that Sav-a-Step is entitled to "pierce the corporate veil" in this case, at least to the extent the Court finds that part of the subject debt was embezzled by the Buckels. See Aronson v. Price, 644 N.E.2d 864, 867 (Ind. 1994) (in deciding whether plaintiff has met burden of proof in order to pierce corporate veil, Indiana courts consider whether plaintiff has presented evidence showing: (1) undercapitalization; (2) absence of corporate records; (3) fraudulent representation by corporation shareholders or directors; (4) use of corporation to promote fraud, injustice or illegal activities; (5) payment by corporation of individual obligations; (6) commingling of assets and affairs; (7) failure to observe required corporate formalities; or (8) other shareholder acts or conduct ignoring, controlling, or manipulating corporate form.).