BILL PARKER
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 be 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 in the above-referenced adversary proceeding, the Court issues the following findings of fact and conclusions of law pursuant to Fed. R. Civ. P. 52, as incorporated into adversary proceedings in bankruptcy cases by Fed. R. Bankr. P. 7052.
AGREED FACTS
These agreed facts were set forth in the approved Joint Pre-Trial Order entered in this adversary proceeding on November 20, 2012.
1. Plaintiffs Dan Tomlin and Mark Scott are individuals residing within Georgia. 2. Plaintiff ETRG Investments, L.L.C. ("ETRG") is a Texas limited liability company formed in May 2005 for the purpose of owning and operating Zaxby's fast-food restaurants in central Arkansas. 3. Plaintiffs Dan Tomlin and Mark Scott invested in ETRG in exchange for an ownership interest. 4. Defendant invested no money into ETRG. Defendant held the title of Managing Member of ETRG from its inception until December 2008. 5. The salary that ETRG agreed to pay Defendant was $75,400 per year. 6. In September 2006, Irwin Franchise Capital Corporation provided an SBA loan to ETRG for $350,000. 7. Plaintiff Mark Scott initially invested $77,500 into ETRG. 8. Plaintiff Dan Tomlin initially invested $93,000 into ETRG. 9. Defendant sent a letter to the investors of ETRG on December 31, 2005, which was included in Plaintiffs' bates-stamped discovery documents as due to Defendant's filing for relief under Chapter 7 of the Bankruptcy Code. 25. On December 10, 2010, Dan Tomlin filed a lawsuit against Defendant in the Circuit Court of Pulaski County, Arkansas, Case No. CV 2010-7061, which was stayed due to Defendant's filing for relief under Chapter 7 of the Bankruptcy Code. 26. Defendant filed a voluntary petition under Chapter 7 of the United States Bankruptcy Code on March 17, 2011. 27. Defendant listed ETRG, Mr. Tomlin, Mr. Scott, and other former members of ETRG as creditors on his "Schedule F, Creditors Holding Unsecured Nonpriority Claims." 28. Defendant admitted the following in his Responses to Plaintiff's First Set of Requests for Admission:
(a) That ETRG's company regulations required him to obtain unanimous consent from ETRG's members prior to incurring any indebtedness of $100,000 on behalf of ETRG. (RFA No. 1)
(b) That as manager of ETRG he was responsible for paying, on behalf of ETRG, any payroll taxes owed to the state of Arkansas.
(c) That he wrote checks, itemized in the spreadsheets attached to Plaintiffs' First Set of Requests for Admission as Exhibit 1.
(d) That during the period of his employment with ETRG, his duties included ETRG's tax responsibilities.
(e) That he was involved in ETRG's "tax matters" from 2006 to 2008.
(f) That $77,500 was initially invested into ETRG by Mark Scott and that Dan Tomlin initially invested $93,000.(g) That he signed and sent the letter attached to Plaintiffs' First Set of Requests for Admission as Exhibit 2 (PLT 02798-02804).
(h) That the letter attached to Plaintiffs' First Set of Requests for Admission as Exhibit 3 (PLT 02805-02818) is a letter that he sent to potential investors of ETRG.
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ADDITIONAL FINDINGS OF FACT
29. The Plaintiffs timely filed a complaint for determination of dischargeability of a debt on June 14, 2011, seeking to except their respective claims from the scope of any discharge granted to the Defendant. 30. The Plaintiffs contend that the debts owed to them in their various capacities are each non-dischargeable as a debt obtained by actual fraud or by false representations pursuant to 11 U.S.C. §523(a)(2)(A), and as a debt arising from a defalcation by a fiduciary and/or embezzlement under §523(a)(4). 31. On June 20, 2012, the Court granted in part and denied in part the Plaintiffs' Motion for Partial Summary Judgment. In that order, and in the reasons expressed on the record issued in support of that decision, the Court determined that, on the basis of uncontested material facts established by the summary judgment evidence, a debt is owed by the Defendant to ETRG Investments, LLC, arising from the unauthorized diversion of corporate funds and that such debt is non-dischargeable pursuant to 11 U.S.C. §523(a)(4). 32. The Court, however, denied the summary judgment requested by ETRG as to the precise amount of the debt owed by the Defendant to ETRG, with such issue reserved for trial. 33. The Plaintiffs acknowledged at the beginning of the evidence that the sum properly due and owing to ETRG by the Defendant from their perspective did not exceed $274,278.08. 34. The Defendant contended that additional credits should be allowed to lower the debt owed to ETRG because certain withdrawals of funds by the Defendant were utilized for company business. 35. The Defendant breached his fiduciary duty to ETRG by entering into an unauthorized lending relationship with Irwin Franchise Capital Corporation. 36. The Defendant embezzled significant sums of money from ETRG in order to pay for his personal expenses, in order to obtain excessive expense reimbursements, and otherwise to receive compensation in excess of the amount that he was duly authorized to receive from ETRG. 37. From a preponderance of the submitted evidence, including consideration of the "disputed transactions" listed in Defendant's Ex. GG and the Defendant's testimony, and after allowance of credits for salary, documented business expenses, and deposits that the Defendant returned to ETRG's accounts, the Court finds that an additional credit of $20,946.69 should be granted to the Defendant. 38. Therefore, the Defendant owes a debt to the Plaintiff, ETRG Investments, LLC, arising from his embezzlement in the amount of $253,331.39.
The Plaintiffs' complaint also sought to except the debts allegedly owing to each plaintiff as a debt arising from a willful and malicious injury pursuant to §523(a)(6). Those allegations were not addressed by the Plaintiffs at trial and were legally abandoned by its exclusion from the pre-trial order. Kona Technology Corp. v. Southern Pacific Transp. Co., 225 F.3d 595, 604 (5th Cir. 2000) ["It is a well-settled rule that a joint pretrial order signed by both parties supersedes all pleadings and governs the issues and evidence to be presented at trial."]; see also Moser v. Mullican (In re Mullican), 2008 WL 5191196 at *12 (Bankr. E.D. Tex., Sept. 30, 2008) [noting that "a claim or defense not raised in the pretrial order may be deemed waived, even if it appeared in the complaint"], citing Elvis Presley Enterprises v. Capece, 141 F.3d 188, 206 (5th Cir. 1998). Thus, the issues actually presented to the Court pertained to §523(a)(2)(A) and (a)(4).
Ex. 1.
IRS Tax Liabilities
39. As for liabilities arising from the Defendant's failure to tender required tax payments to the United States Internal Revenue Service (IRS) on behalf of ETRG, the Defendant clearly breached the obligations imposed upon him by ¶ 6.03 of the LLC Regulations as to all Plaintiffs. 50. Each individual Plaintiff has failed to demonstrate by a preponderance of the evidence that a trust relationship existed between the Defendant and himself prior to the creation of the tax obligations in question. 51. Each individual Plaintiff has thus failed to demonstrate by a preponderance of the evidence that the Defendant acted in a fiduciary capacity as to him as an LLC member with regard to the non-payment of tax liabilities. 52. While the circumstances demonstrate a significant financial loss to each individual Plaintiff, thereby placing them in a sympathetic light, such sympathy cannot be permitted to stand in lieu of the required degree of proper proof pertaining to the Defendant's conduct and intentions under these circumstances, 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.
This reflects the decision of the Plaintiffs to forego recovery of amounts arising from failure of Defendant to tender LLC funds in satisfaction of Arkansas tax obligations.
The LLC Regulations constituted the "company agreement" for the purposes of TEX. BUS. ORGS. CODE ANN. §101.001(1) and §101.052 (Vernon 2012).
Ex. 48.
Ex. 23. ¶ 5.07 provided that the liability of the manager was "limited to the extent, if any, set forth in the Articles." The "Articles" refers to the Limited Liability Company Certificate of Formation. However, the "Articles" were not tendered to the Court for consideration.
Return of Investment Amounts
53. Each individual Plaintiff, Dan Tomlin and Mark Scott, seeks an additional determination that the amounts that each of them initially invested into ETRG Resources, LLC as a result of solicitations tendered to them by the Defendant should be declared non-dischargeable as a debt arising from a false representation, false pretenses or actual fraud. 54. Notwithstanding the contention of the individual Plaintiffs, the Defendant's plea of guilt to wire fraud under 18 U.S.C. § 1343, and the Factual Resume submitted in conjunction therewith, does not establish that the Defendant induced the original investment by each individual Plaintiff through actual fraud. 55. The best evidence, including the Factual Resume, indicates that the Defendant devised his embezzlement scheme subsequent to the original investment solicitation. 56. The Defendant undoubtedly breached the promises that he had earlier made to the individual Plaintiffs, but such conduct is insufficient to render the original investment amounts non-dischargeable. 57. Each individual Plaintiff, Dan Tomlin and Mark Scott, has failed to demonstrate by a preponderance of the evidence that the amount which each originally invested into ETRG Resources, LLLC was procured by the Defendant under circumstances constituting actual fraud. 58. Each individual Plaintiff, Dan Tomlin and Mark Scott, has failed to demonstrate by a preponderance of the evidence that the Defendant made representations to him at the time of the investment solicitation that the Defendant knew were false at the time that such representations were made. 59. Each individual Plaintiff, Dan Tomlin and Mark Scott, has failed to demonstrate by a preponderance of the evidence that the Defendant made false representations to him at the time of the investment solicitation with the intention and purpose of deceiving the Plaintiff. 60. Each individual Plaintiff, Dan Tomlin and Mark Scott, has failed to demonstrate by a preponderance of the evidence that he justifiably relied upon any false representations by the Defendant since no such false representations were made to each such Plaintiff at the time of the investment. 61. To the extent any of these findings of fact constitute conclusions of law, the Court expressly adopts them as such.
Ex. 27 at ¶ 6.
CONCLUSIONS OF LAW
1. The Court has jurisdiction to consider the adversary complaint in this proceeding pursuant to 28 U.S.C. §§1334 and §157. 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 an action to determine the dischargeability of a debt, the creditor has the burden of proof under a preponderance of the evidence standard. Grogan v. Garner, 498 U.S. 279, 286 (1991). 4. "Intertwined with this burden is the basic principle of bankruptcy that exceptions to discharge 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." FNFS, Ltd. v. Harwood (In re Harwood), 637 F.3d 615, 619 (5th Cir. 2011) (citing Hudson v. Raggio & Raggio, Inc. (In re Hudson)), 107 F.3d 355, 356 (5th Cir. 1997).
Failure to Assert Theory of Liability
5. The Defendant contends as an initial matter that judgment must be rendered in his favor (or that the complaint must be dismissed) because the Plaintiffs have pled only non-dischargeability grounds and have failed to plead the existence of a cause of action or a theory of liability necessary to establish a "debt" that could thereafter be rendered non-dischargeable. 6. Such a position elevates form over substance and ignores the liberal pleading rules recognized under federal practice. 7. In federal practice, "a pleading ... need not specify in exact detail every possible theory of recovery - it must only give the defendant fair notice of what the plaintiff's claim is and the grounds upon which it rests." Thrift v. Estate of Hubbard, 44 F.3d 348, 356 (5th Cir.1995) (quoting Conley v. Gibson, 355 U.S. 41, 47(1957)) (internal quotations omitted). 8. Thus, "[t]he notice pleading requirements of Federal Rule of Civil Procedure 8 and case law do not require an inordinate amount of detail or precision." Cooper Indus., LLC v. American Intern. Specialty Lines Ins. Co., 273 Fed. Appx. 297, 307 (5th Cir. 2008) (citing St. Paul Mercury Ins. Co. v. Williamson, 224 F.3d 425, 434 (5th Cir.2000)). 9. Here, the Complaint clearly asserts, and the Factual Resume from the Defendant's criminal proceeding clearly confirms, the existence of a debt even if there is no designated count that specifies a particular state law cause of action for its recovery. The Complaint gives the Defendant fair notice of the Plaintiffs' claims and sets forth facts upon which relief can be granted. 10. Accordingly, the Complaint is sufficient "even if it fails to categorize correctly the legal theory giving rise to the claim." Cooper Indus., 273 Fed. Appx. at 307, (quoting Dussouy v. Gulf Coast Inv. Corp., 660 F.2d 594, 604 (5th Cir.1981)). The Defendant's contentions based upon that rationale are overruled. 11. Defendant's plea of guilt to wire fraud under 18 U.S.C. § 1343 does not establish a minimum amount of damages suffered by ETRG.
Non-dischargeability under § 523(a)(4): Debt Arising From Fraud or Defalcation in a Fiduciary Capacity and Embezzlement.
12. 11 U.S.C. §523(a)(4) provides that "A discharge under 11 U.S.C.§ 727 does not discharge an individual from a debt for fraud or defalcation while acting in a fiduciary capacity, embezzlement or larceny." 13. The Fifth Circuit has noted "that this discharge exception was intended to reach those debts incurred through abuses of fiduciary positions and through active misconduct whereby a debtor has deprived others of their property by criminal acts; both classes of conduct involve debts arising from the debtor's acquisition or use of property that is not the debtor's." Miller v. J.D. Abrams Inc. (Matter of Miller), 156 F.3d 598, 602 (5th Cir.1998), cert. denied, 526 U.S. 1016 (1999) (internal quotations omitted). 14. Whether the actions of an individual were taken in a fiduciary capacity for the purposes of §523(a)(4) is determined by federal law. FNFS, Ltd. v. Harwood (In re Harwood), 637 F.3d 615, 620 (5th Cir. 2011). 15. However, "state law is important in determining whether or not a trust obligation exists." Gupta v. Eastern Idaho Tumor Institute, Inc. (In re Gupta), 394 F.3d 347, 350 (5th Cir. 2004). 16. The Fifth Circuit has discussed the concept of a fiduciary under §523(a)(4) in the following terms:
[T]he concept of fiduciary under §523(a)(4) is narrower than it is under general common law. Under §523(a)(4), "fiduciary" is limited to instances involving express or technical trusts. The purported trustee's duties must, therefore, arise independent of any contractual obligation. The trustee's obligations, moreover, must have been imposed prior to, rather than by virtue of, any claimed misappropriation or wrong. Constructive trusts or trusts
ex malificio thus also fall short of the requirements of
§523(a)(4).
. . . Statutory trusts, by contrast, can satisfy the dictates of §523(a)(4). It is not enough, however, that a statute purports to create a trust: A state cannot magically transform ordinaryagents, contractors, or sellers into fiduciaries by the simple incantation of the terms "trust" or "fiduciary." Rather, to meet the requirements of §523(a)(4), a statutory trust must (1) include a definable res and (2) impose "trust-like" duties.
Texas Lottery Comm'n v. Tran (In re Tran), 151 F.3d 339, 342-43 (5th Cir. 1998). 17. However, the trust relationship must exist prior to the creation of, and without reference to, the indebtedness in question.
Angelle v. Reed (In re Angelle), 610 F.2d 1335, 1338 (5th Cir. 1980). 18. The Fifth Circuit has recognized that the "technical" or "express" trust requirement is not limited to trusts that arise by virtue of a formal trust agreement, but includes relationships in which trust-type obligations are imposed pursuant to statute or common law.
FNFS, Ltd. v. Harwood (In re Harwood), 404 B.R. 366, 393 (Bankr. E.D. Tex. 2009) (citing
LSP Inv. Partnership v. Bennett (In re Bennett), 898 F.2d 779, 784-85 (5th Cir.),
cert. denied, 510 U.S. 1011,
114 S.Ct. 601,
126 L.Ed.2d 566 (1993)). 19. Federal courts in this context have "not hesitated to conclude that debts arising from misappropriation by persons serving in a traditional, pre-existing fiduciary capacity, as understood by state law principles, are non-dischargeable."
Gupta, 394 F.3d at 350. 20. Texas permits the formation of a limited liability company.
TEX. BUS. ORGS. CODE ANN. §101.001, et.seq. (Vernon 2012). 21. Generically, a limited liability company works like an incorporated partnership. The company provides protection from personal liability for business debts as in a corporation, while avoiding a second level of federal taxation on the company's earnings as enjoyed in a partnership.
Shook v. Walden, 368 S.W.3d 604, 613 (Tex. App.- Austin 2012, pet. denied). 22. It also provides a wide flexibility in management structure, allowing the participants to craft much of the management duties and obligations for themselves. It allows direct involvement and control by the members but also allows a corporate representative form of governance if the members choose to have the LLC governed by managers. NICHOLAS KARAMBELAS, LIMITED LIABILITY COMPANIES: LAW, PRACTICE AND FORMS §6.2 (2012)
23. Accordingly, as was true with its predecessor, the Texas Limited Liability Company Act, Chapter 101 of the Texas Business Organizations Code does not directly address the duties owed by LLC managers and members. As revised, it provides:
The company agreement of a limited liability company may expand or restrict any duties, including fiduciary duties, and related liabilities that a member, manager, officer, or other person has to the company or to a member or manager of the company.
TEX. BUS. ORGS. CODE ANN. §101.401 (Vernon 2012). 24. Thus, though the Texas statute governing limited liability companies implies that certain duties may be owed, it does not define any such duties, but rather allows the contracting parties to specify the breadth of those duties in the company agreement. 25. There are two general categories of fiduciary relationships recognized under Texas law. 26. One category is a formal fiduciary relationship that arises as a matter of law, and includes relationships between attorney and client, principal and agent, partners, and joint venturers.
Johnson v. Brewer & Pritchard, P.C., 73 S.W.3d 193, 199 (Tex. 2002). 27. The relationship between agent and principal is a fiduciary relationship.
SJW Property Commerce, Inc. v. SW Pinnacle Properties, Inc., 328 S.W.3d 121, 155 (Tex. App.- Corpus Christi 2010, pet. denied). 28. "An agent is one who is authorized by a person or entity to transact business or manage some affair for the person or entity."
Id. (citing Welch v. Coca-Cola Enters., Inc., 36 S.W.3d 532, 539 (Tex. App.- Tyler 2000, pet. withdrawn)). 29. When acting as an agent of ETRG, a manager or managing member owes a duty of care pursuant to basic agency principles. RESTATEMENT (THIRD) OF AGENCY § 8.08 (2006). 30. "The critical element of an agency relationship is the right to control, and the principal must have control of both the means and details of the process by which the agent is to accomplish his task in order for an agency relationship to exist."
obtains property, but then fraudulently appropriates it for his or her own use." Powers v. Caremark, Inc. (In re Powers), 261 Fed. Appx. 719, 723 (5th Cir. 2008). 58. "Given that a debtor has lawful control of the property, embezzlement then requires three elements: (1) appropriation of funds by the debtor; (2) for the debtor's use or benefit; and (3) with fraudulent intent." Rainey v. Davenport (In re Davenport), 353 B.R. 150, 200 (Bankr. S.D. Tex. 2006). 59. Fraudulent intent is "an intent to deceive another person and thereby induce such other person to transfer, alter or terminate a right with respect to property." Winn v. Holdaway (In re Holdaway), 388 B.R. 767, 778 (Bankr. S.D. Tex. 2008). 60. "Fraudulent intent may be inferred from the conduct of the Debtor and from circumstances of the situation." Int'l Beauty Products, LLC v. Beveridge (In re Beveridge), 2009 WL 2591143, at *10 (Bankr. N.D. Tex. Aug. 18, 2009) (citations omitted).
Among other topics, the limited liability company statutes in the Texas Business Organizations Code addresses indemnification of managers and members [§101.402] and interested transactions by managers and members [§101.255], in addition to specifying that duties and liabilities may be restricted or expanded by the company agreement [§101.401].
See, e.g., Engenium Solutions, Inc. v. Symphonic Tech., Inc., 2013 WL 596584 at *30 (S.D. Tex., Feb. 15, 2013) (citing Gearhart, 741 F.2d at 719).
See, e.g., R. Hamilton, E. Miller & R. Ragazzo, 20 TEX. PRAC. SERIES: Business Organizations § 20:37 n.11 (Supp.2012) [referencing a "steadily growing body of case law" from numerous state supreme courts across the country recognizing fiduciary duties in the LLC context].
As recently summarized by the United States Tax Court, those payment obligations imposed upon virtually every employer can be described as follows:
An employer is subject to federal taxes on wages paid to employees. An employer must pay a tax equal to 6.2% of wages for the Social-Security portion of the tax and 1.45% for the Medicare portion of the tax. Sec. 3111(a) and (b). Another tax, computed at the same rates [6.2% and 1.45%], falls on employees. Sec. 3101(a) [6.2% Social-Security tax on wages received by employees] and (b) [1 .45% Medicare tax on wages received by employees]. Both the tax on employers and the tax on employees are referred to as the FICA, "Federal Insurance Contributions Act", tax.
See McDonald v. S. Farm Bureau Life Ins. Co., 291 F.3d 718, 721 (11th Cir.2002). In addition, an employer must withhold the employee share of FICA from the wages paid and must pay the withheld amount to the IRS. Sec. 3102(a) [the employee share of FICA must be collected by the employer by deducting and withholding the amount of tax from wages as paid] and (b) [every employer required to deduct the employee share of FICA is liable for payment of the employee share of FICA]. Moreover, an employer is obligated to withhold from wages amounts for the income taxes owed by its employees and must pay the withheld amount to the IRS. Secs. 3402(a)(1) ["every employer making payment of wages shall deduct and withhold upon such wages a tax determined in accordance with tables or computational procedures prescribed by the Secretary [of the Treasury]"], 3403 [every employer that is required to deduct income tax is liable for payment of the deducted amount]. Once net wages are paid to the employee, the IRS credits the employee with the taxes withheld, even if the employer does not pay over the withheld amount to the IRS.
See Slodov v. United States, 436 U.S. 238, 243,
98 S.Ct. 1778,
56 L.Ed.2d 251 (1978). The term "employment taxes" refers to all three of the employer's obligations that we have just discussed: (1) employer share of FICA, (2) employee FICA withholding, and (3) income-tax withholding.
See supra part 2. The term "trust-fund taxes" refers to the last two obligations.
See Pollack v. Commissioner, 132 T.C. 21, 25 n. 10, 2009 WL 349743 (2009).
26 U.S.C. §§6221-34. TEFRA was enacted to provide consistency in the treatment of partnership items through a single unified proceeding. It is designed to make a single tax determination which are binding on all partners in a partnership and to prevent inconsistent and inequitable income tax treatment between various partners of the same partnership resulting from conflicting determinations as to each individual partner. It became necessary in light of the growth of partnership syndications across state lines which dramatically increased the risk of such inconsistent tax rulings arising from multiple determinations. See, e.g., Nevada Partners Fund, LLC ex rel. Sapphire II, Inc. v. U.S., 714 F.Supp.2d 598, 621 (S.D. Miss. 2010). A "tax matters partner" is the person or entity designated by the partnership to represent it in its dealings with the IRS and the person or entity with primary responsibility for assuring that partners and indirect partners are kept informed of IRS actions. 26 U.S.C. §6231(a)(7). Walthall v. U.S., 911 F. Supp. 1275, 1278 n.2 (D. Alaska 1995). The small partnership exception may very well exempt the members of this LLC from the application of TEFRA. 26 U.S.C. §6231(a)(1)(B).
"Both larceny and embezzlement involve the fraudulent appropriation of property; they differ only in timing. Larceny applies when a debtor unlawfully appropriates property at the outset, whereas embezzlement applies when a debtor unlawfully appropriates property after it has been entrusted to the Debtor's care." Rainey v. Davenport (In re Davenport), 353 B.R. 150, 199 (Bankr. S.D. Tex. 2006).
Nondischargeability Under 523(a)(2)(A): Debt Arising by False Representation, False Pretenses, or Actual Fraud.
61. The individual Plaintiffs, Dan Tomlin and Mark Scott, also seek a determination that the amounts that each of them invested into ETRG Resources, LLC as a result of the solicitations tendered to them by the Defendant should be declared non-dischargeable as a debt arising from a false representation, false pretenses or actual fraud. 62. 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.
63. 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). 64. 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].
65. Because any representation by the Defendant that might have induced either individual plaintiff to invest in ETRG must necessarily have pertained to a future event since ETRG had not yet been engaged in the restaurant business at the time of the solicitation, any statement made by the Defendant cannot be properly characterized as a false representation or a false pretense in this Circuit. 66. Thus, the validity of each individual Plaintiff's claim in this case rests upon sufficient proof that the debt was obtained by actual fraud. 67. 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.
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]. 68. However, as a general rule, a party's failure to perform the terms of a contract is a breach of contract, not a tort,
IKON Office Solutions, Inc. v. Eifert, 125 S.W.3d 113, 130 (Tex. App.- Houston [14th Dist.] 2003, pet. denied) and a debt arising from a breach of contract normally does not fall within the realm of nondischargeability under §523(a). 69. 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 v. Roberts (In re Allison), 960 F.2d 481, 483 (5th Cir. 1992)). 70. Thus, 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. 71. Similarly, "[t]he generally accepted rule in Texas jurisprudence is that future predictions and opinions, especially those regarding the future profitability of a business, cannot form a basis for fraud as a matter of law."
Zar v. Omni Indus., Inc., 813 F.2d 689, 693 (5th Cir. 1987);
Peacock v. Carpedia Int'l, Ltd., 2012 WL 1965675 at *7 (S.D. Tex., May 31, 2012). 72. Because the Court concludes that the individual Plaintiffs have each failed to prove his respective cause of action against the Defendant for actual fraud by a preponderance of the evidence, judgment must be rendered for the Debtor-Defendant on those claims. 73. On the basis of the partial summary judgment previously granted to Plaintiff, ETRG Investments, LLC, and pursuant to the analysis and authorities expressed on
the record by this Court on June 20, 2012 in support of its decision on that summary judgment motion, all of which is incorporated herein by reference as if fully set forth herein, the debt of $253,331.39 owed by the Defendant, James H. Hardee, to Plaintiff, ETRG Investments, L.L.C., is hereby excepted from discharge as a debt arising from a defalcation by a fiduciary and from embezzlement pursuant to
11 U.S.C. §523(a)(4). 74. For the reasons set forth herein, the indebtedness owed by the Defendant, James H. Hardee, to Plaintiff, ETRG Investments, L.L.C., arising from his failure to tender required tax payments to the United States Internal Revenue Service, whether in the amount of $248,027.12, or in such other subsequently revised amount as ETRG is required to tender to the IRS in order to satisfy its tax obligations owing for the period in which the Defendant acted as managing member of ETRG, is therefore excepted from discharge as a debt arising from a defalcation by a fiduciary pursuant to
11 U.S.C. §523(a)(4). 75. For the reasons set forth herein, all relief requested in the Complaint by the individual Plaintiffs, Dan Tomlin and Mark Scott, is denied. 76. To the extent any of these conclusions of law constitute findings of fact, the Court expressly adopts them as such. 77. An appropriate judgment shall be entered consistent with these findings and conclusions.
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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____________________________
THE HONORABLE BILL PARKER
UNITED STATES BANKRUPTCY JUDGE
Romano-Murphy v. Comm'r, T.C.M. 2012-330, 2012 WL 5992818, at *22 (Nov. 29, 2012).