In re Raejean S. Bonham dba World Plus
Bankruptcy No. F95-00897
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In a Memorandum decision entered August 18, 1998, Judge Ross ruled on some of the issues involved in the usury claims, and specifically whether Alaska law or another state's law controls in the case of a claim of usury by the Trustee. The decisions is set out here in full.

HERBERT A. ROSS
U.S. Bankruptcy Judge

In re RAEJEAN BONHAM, aka Jean Bonham, aka Jeannie Bonham, dba World Plus; WORLD PLUS, INC., an Alaska corporation; and, ATLANTIC PACIFIC FUNDING CORP., a Nevada corporation, Debtor(s)	Case No. F95-00897-HAR In Chapter 7
LARRY D. COMPTON, TRUSTEE, Plaintiff v. L. TODD VANDENBERG and PENNY L. VANDENBERG, Defendants.	ADV PROC NO F95-00897-579-HAR (BANCAP No. 97-4376)   MEMORANDUM DECISION REGARDING DENIAL OF DEFENDANTS’ MOTIONS TO DISMISS

1. KEY ISSUES AND RULINGS ON THEM

1.1. Does The Court Have Subject Matter Jurisdiction?

1.2. Can The Trustee Amend To Make A Preference Claim That Relates Back?

1.3. Is Iowa The Choice Of Law For The Trustee’s Usury Claims?

1.4. Is The Trustee Barred From Recovering On Actual Fraudulent Transfer Grounds To The Extent Defendants Only Recovered Their Investments?

2. ANALYSIS

2.1. The Bankruptcy Court Has Subject Matter Jurisdiction

2.2. The Trustee Can Amend To State A Preference Claim That Relates Back

2.3. Alaska Is The Choice Of Law For The Trustee’s Usury Claims

2.4. The Trustee Has Stated A Prima Facie Case For An Actual Fraudulent Transfer Even If Defendants Only Recovered Their Investments

3. CONCLUSION

1. KEY ISSUES AND RULINGS ON THEM- This memorandum decision covers four issues raised in defendants’ motions to dismiss.

1.1. Does The Court Have Subject Matter Jurisdiction?- Defendants argue that the bankruptcy court does not have subject matter jurisdiction over the fraudulent transfer or preference actions. It clearly does.

1.2. Can The Trustee Amend To Make A Preference Claim That Relates Back?- The complaint in this case alleged fraudulent conveyances under 11 USC § 544 and 548(a). Can the trustee amend after the two-year statute of limitations to include a claim based on preferences for the same transfers? Because the claims relate back to the date of the original complaint, he can.

1.3. Is Iowa The Choice Of Law For The Trustee’s Usury Claims?- The defendants: (a) live in Iowa, (b) sent investment checks from Iowa, and (c) received payment checks in Iowa. Debtors: (a) received the investment checks in Alaska, (b) deposited the money in Alaska banks, commingling it with funds of a number of other investors, (c) sent payment checks back to defendants from Alaska, and (d) offered an exorbitant interest rate for the investment in an amount allowable under Iowa usury law, but not Alaska usury law. Should Iowa’s law apply? No, because there are at least as many Alaskan contacts to the transactions as Iowan, and the high interest rate offends Alaska law.

1.4. Is The Trustee Barred From Recovering On Actual Fraudulent Transfer Grounds To The Extent Defendants Only Recovered Their Investments?- Defendants argue that, even in the case of actual fraudulent transfers (as opposed to constructively fraudulent ones), the trustee cannot recover if the defendants received no more than the amount they had invested, whether the payment was denominated as principal or interest. Is the trustee so limited? No, in the case of actual fraud by the debtors, the trustee can recover the payments made, even if the investor did not recover the original investment in full.

2. ANALYSIS-

2.1. The Bankruptcy Court Has Subject Matter Jurisdiction- A trustee’s action for fraudulent transfers or preferences arises out of a bankruptcy case and is within the jurisdiction of the district court. The district court in Alaska has referred bankruptcy matters to the bankruptcy court pursuant to 28 USC § 157(a). The fraudulent transfer and preference actions are core proceedings under 28 USC § 157(b)(2)(F), (H). They effect the bankruptcy estate directly, and the bankruptcy court, therefore, has subject matter jurisdiction to them.

2.2. The Trustee Can Amend To State A Preference Claim That Relates Back- In mass producing about 660 fraudulent transfer and preference complaints, the trustee tried to automate the drafting process by merging information from a database into the complaints, using a table in the complaint to identify the theory of recovery. The tables included in the categories for recovery were fraudulent transfers under 11 USC § 548(a), state fraudulent transfers under 11 USC § 544(b) in conjunction with the Alaska Fraudulent Conveyance Act, preferences under 11 USC § 547(b), and usury under state law.

In the drafting process, some mistakes were made. In the complaint in this adversary, the trustee described the transfers on which his relief was based and alleged fraudulent transfers. But, he mistakenly did not indicate in the tables that recovery was also based in part upon a claim of preference. All the form complaints contain a boilerplate preference claim paragraph, but required a reference to an amount in the table to actually trigger a preference claim against the defendant.

The trustee wants to amend to affirmatively assert a claim for recovery under § 547(b) for preference, going back for one year on the allegation that the defendants were "insiders." The defendants object. They seek to prevent this by their two motions to dismiss. They argue that a preference claim would be untimely under 11 USC § 546(a).

In the two related cases of the Vandenbergs and the Yaleys, the trustee alleges that Ms. Yaley is the sister of Steve Bonham, debtor’s husband, and Ms. Vandenberg is his niece. Thus, Ms. Vandenberg appears to be within the third degree of affinity and Ms. Yaley within the second degree.

Since the trustee only seeks as an alternative to recover as preferential the same payments on the same investment contracts he disclosed in the original fraudulent transfer complaint, adding the legal theory of preference will relate back to the date of the timely original complaint.

Had the trustee sought to interject claims of preference for different investment contracts, he might be too late under the limitation contained in 11 USC § 546(a). But, since he intends to allege the same essential facts for a preference claim as he did in the fraudulent transfer claim, the preference claim will relate back to the date of the original complaint, even though the legal theories behind a fraudulent transfer and a preference are different.

The basis for the relation back doctrine is FRBP 7015, which incorporates FRCP 15. First of all, amendments are to be freely given. In addition, FRCP 15(c) provides:

(c) Relation Back of Amendments. An amendment of a pleading relates back to the date of the original pleading when

(1) relation back is permitted by the law that provides the statute of limitations applicable to the action, or

(2) the claim or defense asserted in the amended pleading arose out of the conduct, transaction, or occurrence set forth or attempted to be set forth in the original pleading, · · · .

In applying this rule to situations similar to this adversary proceeding, the courts uniformly permit amendments that relate back to the date of the original complaint. In re Gerado Leasing, Inc. held "[t]he most important factor in determining whether to allow an amended complaint to relate back to the date of the original filing is whether the original complaint provided the defendant with sufficient notice of what must be defended against in the amended pleading." The views of the 9th Circuit and other jurisdictions are consistent. These views stem from the Supreme Court’s interpretation of FRCP 15(c) that "[t]he rationale of Rule 15(c) is that a party who has been notified of litigation concerning a particular occurrence has been given all the notice that statutes of limitations were intended to provide [citation omitted]."

There is no requirement that the legal theories for recovery in the original and amended complaints be the same. For example, in In re Molded Acoustical Products, Inc., the court held that an amendment to state a postpetition avoidance claim under 11 USC § 549 related back to the timely filed § 547 preference claim based on the same transactions.

In the present adversary, the trustee is seeking avoidance of the same transaction on different theories. The amendment based on a preference theory relates back to the date of the original, timely fraudulent transfer complaint.

2.3. Alaska Is The Choice Of Law For The Trustee’s Usury Claims- The defendants raise their choice of law argument only with respect to the trustee’s usury claims.

Defendants’ FRCP 12(b) motions to dismiss, incorporated by FRBP 7012, is supported by a terse affidavit of the defendants that they live in Iowa, sent their money from Iowa, and received their checks there. On the basis of this alone, they say that the Iowa usury statute, which they feel is more favorable than the Alaska statute, should prevail.

The trustee counters with an affidavit saying that the Vandenbergs and Yaleys are insiders, subjecting them to a preference recovery reaching back to transfers within one year from the petition date.

Since the parties have resorted to facts outside the complaint, the motions to dismiss have turned into a summary judgment matter to be determined under FRCP 56, incorporated by FRBP 7056.

The appropriate test for determining a choice of law question in bankruptcy is not clearly defined. The 9th Circuit said, in determining a question involving the Federal Aviation Act, which itself relied on state law, that the bankruptcy court is not bound by the usual rule in diversity cases that the conflict of law rule of the forum state governs, and approved a bankruptcy court looking to the Restatement of Conflict of Laws for authority.

Both Iowa and Alaska rely on § 188 of the Restatement, as persuasive authority. That section provides:

Section 188. LAW GOVERNING IN ABSENCE OF EFFECTIVE CHOICE BY THE PARTIES

TEXT

(1) The rights and duties of the parties with respect to an issue in contract are determined by the local law of the state which, with respect to that issue, has the most significant relationship to the transaction and the parties under the principles stated in § 6.

(2) In the absence of an effective choice of law by the parties (see § 187), the contacts to be taken into account in applying the principles of § 6 to determine the law applicable to an issue include:

(a) the place of contracting,

(b) the place of negotiation of the contract,

(c) the place of performance,

(d) the location of the subject matter of the contract, and

(e) the domicile, residence, nationality, place of incorporation and place of business of the parties.

These contacts are to be evaluated according to their relative importance with respect to the particular issue.

(3) If the place of negotiating the contract and the place of performance are in the same state, the local law of this state will usually be applied, except as otherwise provided in §§ 189-199 and 203.

The trustee argues that there are at least as many, if not more contacts to Alaska than Iowa. For each argument that defendants make, he says there is an equal and opposite argument regarding these contacts: (a) the defendants live in Iowa; the debtors are an Alaska-based individual and corporations that operated almost exclusively in Alaska, one of which was an Alaska corporation; (b) the defendants received mail in Iowa from debtors; the debtors received mail in Alaska from defendants; and, (c) the defendants sent money from Iowa and received checks from debtors in Iowa; the debtors received and deposited defendants’ checks in Alaskan banks and mailed the payment checks from Alaska. There are at least equally substantial contacts with Alaska as there are with Iowa, and this is grounds for choosing Alaska law. Considering that Bonham operated a Ponzi scheme from Alaska, and the bulk of all the investors’ money was commingled here, it seems more appropriate to choose Alaska law.

But, the Restatement has a special section, § 203, dealing specifically with usury. This section provides:

§ 203. USURY

TEXT

The validity of a contract will be sustained against the charge of usury if it provides for a rate of interest that is permissible in a state to which the contract has a substantial relationship and is not greatly in excess of the rate permitted by the general usury law of the state of the otherwise applicable law under the rule of § 188.

The purpose of § 203 is to honor the reasonable expectations of the parties to a contract. But, where the interest paid under the contract is extremely in excess of that allowable under the usury laws of the state which has the most substantial contacts under § 188, the court may revert to the general conflict of law principles of § 188 to resolve the conflict issues.

Applying § 203, the Supreme Court of Washington has held that a 25% rate of interest authorized by the laws of New York, would not prevail over the 12% rate of Washington, even though New York had a substantial relationship to the transaction.

The trustee points out in his opposition, and the supporting affidavit of the trustee, that the debtors’ Ponzi scheme promised, and sometimes paid, exorbitant interest &emdash; from 44% for a 6-month contract to 94% per year. As such, it falls within the exception to § 203. This is well in excess of the interest allowable on certain contracts in Alaska. Alaska law should apply.

2.4. The Trustee Has Stated A Prima Facie Case For An Actual Fraudulent Transfer Even If Defendants Only Recovered Their Investments- In another adversary proceeding, Compton v Duncan, F95-00897-414-HAR (Bancap 96-4537), I have decided that in a case of actual fraud under 11 USC § 548(a)(1) or its state law analog (such as transfers made in relation to a Ponzi scheme), the trustee may establish a prima facie case against the defendant even though she had not recovered all her principal payments. A decision will be issued shortly.

Thus, even if the court follows the Eby v Ashley holding that all payments to a Ponzi scheme investor, whether actually for principal or interest, should be applied first to principal, the trustee still states a prima facie case under § 548(a)(1), and the complaint cannot be dismissed.

The decision in Duncan leaves open the right of a defendant to protection under § 548(c).

3. CONCLUSION- I have concluded that Alaska law applies to the trustee’s usury claim and that the complaint should not be dismissed (or, summary judgment is not appropriate). A separate order will be entered adopting these rulings.

Dated: August 18, 1998

______________________________
HERBERT A. ROSS
U.S. Bankruptcy Judge

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