Kun Yu v. Lau (In re Lau)

BILL PARKER

NOT FOR PUBLICATION
Chapter 7

FINDINGS OF FACT AND CONCLUSIONS OF LAW

These findings of fact and conclusions of law are not designated for publication and shall not considered as precedent, except under the respective doctrines of claim preclusion, issue preclusion, the law of the case or as to other applicable evidentiary doctrines.

Upon trial of the complaint filed by the Plaintiffs, Kun Yu and Xiumin Mu (the "Plaintiffs") seeking a determination of whether an alleged debt owed to them by the Defendant-Debtors, John J. Lau ("Lau") and Deborah Y. Lau (collectively, the "Defendants"), is dischargeable, the Court issues the following findings of fact and conclusions of law. The Plaintiffs contends that the debt is non-dischargeable under the alternative grounds set forth in 11 U.S.C. §523(a)(2)(A) and §523(a)(6). After the trial, the Court took the matter under advisement. This decision disposes of all issues pending before the Court.

The Plaintiffs' claims under 11 U.S.C. §727 and §523(a)(4) were previously dismissed by the Court for the reasons expressed in that certain"Order Granting in Part and Denying in Part Defendants' Motion to Dismiss under Fed. R. Civ. P. 12(b)(6) and Denying Motion for More Definite Statement" entered in this cause on January 27, 2012.

FINDINGS OF FACT

1. Plaintiff, Kun Yu, was an engineer at Mactronix, Inc., a non-debtor entity that once manufactured equipment for the semi-conductor industry. Mactronix was a closely-held corporation owned and/or controlled by the Debtor-Defendant, John J. Lau, who served as its president. 2. By the mid-1990s, Lau had also become involved in the buying and selling of unimproved tracts of real property, primarily through the procurement of option contracts on unimproved tracts of real property. 3. Though Lau generally created a separate business entity to hold contractual rights for each particular real estate venture, as well as legal title to real property if eventually acquired, the financial ability of those particular entities to engage in such activities were facilitated by funds borrowed from various individuals by Lau and entities controlled by Lau. 41. The Plaintiffs have failed to establish by a preponderance of the evidence that Defendant John Lau appropriated any funds from the Plaintiffs with a fraudulent intent. 42. The Plaintiffs have failed to establish by a preponderance of the evidence that, at the time that the debts were created, Defendant John Lau acted with the specific subjective intent to cause injury to the Plaintiffs. 43. The Plaintiffs have failed to establish by a preponderance of the evidence that, at the time that the debts were created, the actions of Defendant John Lau created an objective substantial certainty of harm to the Plaintiffs. 44. Certainly the obligations under the consolidated promissory notes have been breached, thereby creating a debt for which each Debtor-Defendant is personally liable due to their managerial capacities with JNC. 45. The Plaintiffs have certainly suffered a substantial financial loss and, given the ages and retirement status of the Plaintiffs, and the palpable distress felt by Mr. Kun over the loss of a significant portion of his life savings, the circumstances surrounding these economic losses place the Plaintiffs in a most sympathetic light. 46. The degree of sympathy the Court may feel, however, cannot be substituted for the required degree of proper proof necessary to except this particular debt from the scope of the discharge granted to the Defendants, particularly in light of the Bankruptcy Code's directive that exceptions to discharge must be strictly construed against a creditor and liberally construed in favor of a debtor. 47. To the extent any of these findings of fact constitute conclusions of law, the Court expressly adopts them as such.

Ex. 48, consisting of notes to certain financial statements of the Debtor-Defendants, indicates that Mactronix was owned "98% by the JYL and NYL Children's Trusts, which is controlled by John Lau. The remaining 2% is owned by John & Debbie Lau."

Though not extensively explored in the evidence offered in this case, the Court is cognizant that, generally speaking, the JNC business plan was to compete against larger real estate acquisition companies by paying larger amounts in unrefundable earnest money deposits to potential sellers of large real estate tracts and by truncating the closing deadline to lure potential sellers to choose its offer. While a particular option contract was pending, the particular JNC entity would attempt to market particular parcels of the referenced tract in order to determine the overall financial viability of the project.

These funds supplemented any funding secured from lending institutions.

Ex. 50. Similar opportunities were subsequently offered. See, e.g., Ex. 45-46.

Though Kun Yu's wife, Xiumin Mu, joined as a plaintiff in this action, she did not sign any of the relevant documents nor did she otherwise actively participate in the actual transactions with JNC, though she is listed in certain notes as a payee and she likely had a community interest in the investment funds tendered to JNC by Mr. Kun.

Ex. 51. The "guarantee" language utilized in the agreement was superfluous since it was issued by the very entity to which the sums were tendered.

Ex. 52.

¶ 3(b) of the Stipulated Statements of Fact set forth in the approved Joint Pre-Trial Order entered in this adversary proceeding on March 13, 2013. See generally, Ex. 1-44 and 52.

See, e.g., Ex. 34-42.

See, e.g., Ex. 37, 41 and 42.

Ex. 43.

Ex. 44.

Schedule F filed by the Debtors on February 18, 2011 [dkt #17] in case no. 11-40284.

¶ 3(i) of the Stipulated Statements of Fact.

Any casual reference by the parties to a promissory note or an investment program agreement as a "CD" has no legal significance. The Texas Business & Commerce Code formally defines a "certificate of deposit" as "an instrument containing an acknowledgment by a bank that a sum of money has been received by the bank and a promise by the bank to repay the sum of money. A certificate of deposit is a note of the bank." 2 TEX. BUS. & COMM. CODE §3.104(j) (Vernon Supp. 2012) (emphasis added). The perceived reduction in risk is engendered by the perceived financial soundness of the borrower-bank, as undergirded by financially sound deposit insurance programs, not by the generic use of the terminology. In noting the "fundamental difference between a certificate of deposit and an unsecured loan," one court observed:

Certificates of deposit are generally F.D.I.C. insured - risk of nonpayment does not exist. While individuals technically loan money to a bank when a certificate of deposit is purchased, it is the safest 'unsecured' loan imaginable and therefore a lower rate of interest is paid. However, unsecured loans are typically made at a much higher rate of interest because risk of nonpayment is greater.

CONCLUSIONS OF LAW

1. This Court has subject matter jurisdiction under 28 U.S.C. §§1334 and 11 U.S.C. §523. This Court has personal jurisdiction over the parties to this adversary proceeding. 2. This Court has authority to enter a final judgment in this adversary proceeding since it statutorily constitutes a core proceeding as contemplated by 28 U.S.C. §157(b)(2)(I) and (O) and meets all constitutional standards for the proper exercise of full judicial power by this Court. 3. In seeking to except the debt owing to them from the scope of the discharge granted to each Debtor-Defendant, the Plaintiffs assume the burden of proof under a preponderance of the evidence standard. Grogan v. Garner, 498 U.S. 279, 286 (1991). 4. All exceptions to discharge under §523 "must be strictly construed against a creditor and liberally construed in favor of a debtor so that the debtor may be afforded a fresh start." In re Hudson, 107 F.3d 355, 356 (5th Cir. 1997). 5. However, the Fifth Circuit has noted that there are limits to the maxim that exceptions to dischargeability are to be construed narrowly in favor of the debtor, particularly in situations falling under an exception to dischargeability in a case in which a debtor has committed fraud. See generally Deodati v. M.M. Winkler & Associates (In the Matter of: M.M. Winkler & Associates), 239 F.3d 746, 751 (5th Cir. 2001).

However, a fresh start is not promised to all who file for bankruptcy relief, but only to "the honest but unfortunate debtor." Grogan, 498 U.S. at 286-87.

Nondischargeability Under 523(a)(2)(A): Debt Arising by Fraud, False Pretenses, or False Representation.

6. The Plaintiffs' Complaint seeks a determination that the debt owed to them should be excepted from discharge under §523(a)(2)(A) as a debt obtained by false pretenses, a false representation or actual fraud. 7. 11 U.S.C. §523(a)(2)(A) of the Bankruptcy Code provides that:

a discharge under §727 of this title does not discharge an individual debtor from any debt for money, property, or services, ... to the extent obtained by false pretenses, a false representation, or actual fraud, other than a statement respecting the debtor's or an insider's financial condition.

8. Section 523(a)(2)(A) encompasses similar but distinct causes of action. Though other circuits have applied a uniform standard to all § 523(a)(2)(A) actions, the Fifth Circuit has distinguished the elements of "actual fraud" and of "false pretenses and false representations." RecoverEdge L.P. v. Pentecost, 44 F.3d 1284, 1291 (5th Cir. 1995). 9. The distinction recognized by the Fifth Circuit appears to be a chronological one, resting upon whether a debtor's representation is made with reference to a future event, as opposed to a representation regarding a past or existing fact. Bank of La. v. Bercier (In re Bercier), 934 F.2d 689, 692 (5th Cir.1991) [A debtor's promise ... related to a future action which does not purport to depict current or past fact ... therefore cannot be defined as a false representation or a false pretense]. 10. Because any representation by Lau regarding JNC's future fulfillment of its obligations arising under a particular debt instrument, or the Plaintiffs' expectations arising therefrom, pertained to a future event, any such statement cannot be properly characterized as a false representation or a false pretense in this Circuit. 11. Thus, the validity of the Plaintiffs' claim under §523(a)(2)(A) in this case rests upon sufficient proof that the debt was obtained by actual fraud. 12. To have a debt excepted from discharge pursuant to the "actual fraud" provision in § 523(a)(2)(A), an objecting creditor must prove that:

(1) the debtor made representations;
(2) at the time they were made the debtor knew they were false;
(3) the debtor made the representations with the intention and purpose to deceive the creditor;
(4) the creditor justifiably relied on such representation; and
(5) the creditor sustained losses as a proximate result of the representations.

See, e.g., Britton v. Price (In re Britton),
950 F.2d 602, 604 (9th Cir. 1991); Caspers v. Van Horne (In re Van Horne), 823 F.2d 1285, 1287 (8th Cir. 1987). Though some bankruptcy courts outside of the Fifth Circuit have cited the decision of the United States Supreme Court in Field v. Mans, 516 U.S. 59, 116 S.Ct. 437, 133 L.Ed.2d 351(1995), in support of their proposition that all of the §523(a)(2)(A) actions are governed by the elements for actual fraud, see, e.g., AT&T Universal Card Services v. Ellingsworth (In re Ellingsworth), 212 B.R. 326 (Bankr. W.D. Mo. 1997); AT& T Universal Card Services v. Alvi (In re Alvi), 191 B.R. 724 (Bankr. N.D. Ill. 1996); the Supreme Court in that case was actually distinguishing the language used in §523(a)(2)(A) from that utilized in §523(a)(2)(B) in order to determine the degree of reliance necessary above mere reliance in fact in order to exempt a debt from discharge under (a)(2)(A). Since the Supreme Court specifically refused to even apply their direct holding regarding the degree of reliance in actual fraud cases to cases of false pretense or false representation, 116 S.Ct. at 443, n. 8, the statement that the Court erased all distinctions between the three (a)(2)(A) actions strains credibility.

While "false pretenses" and "false representation" both involve intentional conduct intended to create and foster a false impression, the distinction is that a false representation involves an express statement, while a claim of false pretenses may be premised on misleading conduct without an explicit statement. See Walker v. Davis (In re Davis), 377 B.R. 827, 834 (Bankr. E.D. Tex. 2007); and Haney v. Copeland (In re Copeland), 291 B.R. 740, 760 (Bankr. E.D. Tenn. 2003). In order for a debtor's representation to constitute a false pretense or a false representation, it "must have been: (1) [a] knowing and fraudulent falsehood, (2) describing past or current facts, (3) that [was] relied upon by the other party." In re Allison, 960 F.2d at 483; see also In re Bercier, 934 F.2d at 692 ["to be a false representation or false pretense under § 523(a)(2), the false representations and false pretenses must encompass statements that falsely purport to depict current or past facts"].
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Pentecost, 44 F.3d at 1293, as modified by the United States Supreme Court decision of Field v. Mans, 516 U.S. 59 (1995) [regarding the proper standard of reliance]. 13. As to Ms. Lau, though a debt may be determined to be non-dischargeable for fraud as to an innocent debtor based upon a spouse's fraudulent conduct when imputed under agency principles based upon a business relationship between the spouses, Tummel & Carroll v. Quinlivan (In re Quinlivan) 434 F.3d 314, 318 (5th Cir. 2005), Luce v. First Equip. Leasing Corp. (In re Luce), 960 F.2d 1277, 1282 (5th Cir. 1992), any fraud perpetrated by one spouse could not be imputed to the other spouse based solely upon the existence of a marital relationship. Tower Credit, Inc. v. Gauthier (In re Gauthier), 349 Fed. App'x. 943, (5th Cir. 2009). 14. It is widely recognized that "[a] promise to perform acts in the future is not a qualifying misrepresentation merely because the promise subsequently is breached." Woo, Inc. v. Donelson (In re Donelson), 410 B.R. 495, 503 (Bankr. S.D. Tex. 2009) (citing Allison, 960 F.2d at 484). A breach of contract "is not sufficient to make a debt non-dischargeable, even though there is no excuse for the subsequent breach." Turbo Aleae Inv., Inc. v. Borschow (In re Borschow), 454 B.R. 374, 395 (Bankr. W.D. Tex. 2011)(citing Bercier, 934 F.2d at 692). 15. Because the Court concludes that the Plaintiffs have failed to prove by a preponderance of the evidence that the amounts which they tendered to JNC were obtained by actual fraud, judgment must be rendered for each Debtor-Defendant on this §523(a)(2)(A) claim.

Nondischargeability Under §523(a)(6): Debt Arising from Willful and Malicious Injury

16. The Plaintiffs further contend that the debt owed to them should be excepted from discharge as a debt arising from a willful and malicious injury inflicted upon them by the Debtor-Defendants. 17. Section 523(a)(6) of the Bankruptcy Code provides that:

(a) A discharge under Section 727 . . . of this title does not discharge an individual debtor from any debt . . .

(6) for willful and malicious injury by the debtor to another entity or to the property of another entity.

18. In Kawaauhau v. Geiger, 523 U.S. 57 (1998), the United States Supreme Court significantly narrowed the scope of debts that could be deemed nondischargeable under §523(a)(6). 19. The Geiger decision clearly requires that an actor inflict a deliberate or intentional injury, not merely that an actor take a deliberate or intentional act that leads to injury. 20. As subsequently interpreted by the Fifth Circuit, a recovery under §523(a)(6) for a "willful and malicious injury" now requires proof that such injury arose from a deliberate and intentional act by a debtor that was inflicted under circumstances evidencing either: (1) an objective substantial certainty of harm; or (2) a subjective motive to cause harm. Miller v. J. D. Abrams, Inc. (In re Miller), 156 F.3d 598, 606 (5th Cir. 1998), cert. denied, Miller v. J.D. Abrams, Inc., 526 U.S. 1016 (1999); see also Caton v. Trudeau (In re Caton), 157 F.3d 1026, 1029 (5th Cir. 1998). 21. The "objective substantial certainty" prong "is a recognition of the evidentiary reality that defendants rarely admit malicious intent. A court is thus expected to analyze whether the defendant's's actions, which from a reasonable person's standpoint were substantially certain to cause harm, are such that the court ought to infer that the debtor's subjective intent was to inflict a willful and malicious injury on the plaintiff." Mann Bracken, LLP v. Powers (In re Powers), 421 B.R. 326, 334-35 (Bankr. W.D. Tex. 2009), citing In re Vollbracht, 276 Fed. Appx. 360 (5th Cir. 2007). 22. The Plaintiffs have failed to demonstrate by a preponderance of the evidence the existence of a deliberate or intentional injury inflicted upon them by either Defendant, and they have additionally failed to demonstrate by a preponderance of the evidence that the actions of either Defendant created an objective substantial certainty of harm to them. 23. Thus, the Plaintiffs have failed to sustain their burden of proof that any purported debt arose from a "willful and malicious injury" as contemplated by §523(a)(6). 24. Because the Court concludes that the Plaintiffs have failed to prove their cause of action under either of the relevant subsections of §523(a) by a preponderance of the evidence, judgment must be rendered for the Debtor-Defendants in this action. 25. To the extent any of these conclusions of law constitute findings of fact, the Court expressly adopts them as such. 26. An appropriate judgment shall be entered consistent with these findings and conclusions.

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THE HONORABLE BILL PARKER

UNITED STATES BANKRUPTCY JUDGE

In re Blondheim Real Estate, Inc.,
91 B.R. 639, 642 (Bankr. D.N.H. 1988).