Debtor’s Transfers From Non-Debtor Limited Partnership Set Aside In Cole

Article 2020 Florida TBE REV ControlTest Art201229DebtorsTransfersNonDebtorLimitedPartnershipCole




In 2002, Florida real estate developer William W. Cole, Jr., and his wife, Terre Cole, created a new limited partnership domiciled in Nevada and called Cole of Orlando Limited Partnership. The owners of Cole of Orlando were William and Terre as 49.5% limited partners, each interest being held by the Coles in their revocable (living) trusts. The remaining 1% general partnership interest was held by a company called W&T Cole, LLC, also a Nevada company, and which were owned by William and Terre as tenants by the entireties (TBE). The limited partnership invested in stocks and bonds, which is remarkable since very few real estate developers own anything but — you guessed it — real estate.

Six years later the 2008 real estate crash hit, and in that year, William personally guaranteed $10.5 million or so in existing debt and another $11.5 million or so in new debt. But William didn't survive the crash, and on December 15, 2011, the lender (PRN Real Estate & Investments, Ltd.) called the guarantee on which, by that time, more than $12 million was still outstanding.

Two weeks after William's personal guarantee was called, Cole of Orlando transferred more than $2 million to an account owned by William and Terre as TBE (property held in TBE is typically not available to one's creditors). Within two weeks, Cole of Orlando transferred almost another $2 million into TBE account, giving the Coles close to $4 million in TBE property, and leaving little in the limited partnership.

About five months after these transfers, in June, 2012, the Coles entered into a settlement agreement with their creditor, PRN, by which PRN agreed to forbear collecting the debt against the Coles so long as William paid a percentage of his earnings to PRN to satisfy the totality of his indebtedness to PRN, which by that time had risen to in excess of $30 million. This deal lasted about two years before William defaulted on it as well, and PRN sued William in state court.

Cole jumped from the frying pan of the PRN's state court case into the fryer of bankruptcy in July, 2015, when he commenced a Chapter 7 bankruptcy case. Eventually, the Bankruptcy Trust appointed to the case filed a fraudulent transfer action against the Coles relating to the almost $4 million that Cole of Orlando limited partnership paid to William and Terre.

The Bankruptcy Trustee in her complaint set forth three alternative theories of recovering for the limited partnership's transfers to the Coles:

First, the transfers were intended to defeat PRN's collection rights;

Second, the transfers were made at a time that Cole was insolvent and the transfers lacked reasonable equivalent value (REV); and

Third, the transfers violated Florida law which prevents the fraudulent conversion of non-exempt assets into exempt assets.

William made a number of arguments in his defense. The first was that the limited partnership, Cole of Orlando, was not a debtor and therefore was incapable of making a fraudulent transfer. The problem here is that the bankruptcy court has the power to unwind transactions where the debtor may not have legal title to the assets, but does have control over those assets. To this, William argued that he didn't control the partnership, but instead it was controlled by W&T Cole, LLC — but of course he controlled that entity as well. Thus:

Applying the “control” test here, there is no question the transferred funds belonged to Cole. Recall Cole of Orlando was formed primarily to invest in stocks, bonds, securities, and other intangible assets on behalf of Cole and his wife. Cole held the family’s wealth in Cole of Orlando. When Cole decided to wind down Cole of Orlando, the partnership’s assets were not distributed to Cole’s and his wife’s revocable trusts; they were transferred directly to accounts directly owned by Cole and his wife as tenants by the entireties. Cole made all of these decisions. He was in control of both Cole of Orlando and W & T Cole. Stepping back and looking at all circumstances, I conclude Cole had control over the transferred funds and is deemed the legal transferor.

Cole next argued that he decided to empty out and close down Cole of Orlando when Florida repealed its intangibles tax such that there were not longer any benefits to maintaining the limited partnership. The Court didn't doubt that Cole's reason for shutting down the limited partnership, but noted that such did not explain why Cole of Orlando transferred its cash to William and Terra not individually, but as TBE property which was exempt from PRN collection efforts. Thus, based on this and other undisputed facts, the court ruled that William had caused Cole of Orlando to transfer the nearly $4 million to his and Terre's TBE account for the purpose of hindering, delaying or defrauding PRN.

The Court moved on to the issue of whether the transfers from Cole of Orlando into the TBE accounts was for reasonably equivalent value (REV), and noted that the purpose of the REV requirement is to make sure that the debtor gets back roughly equal value in a transaction such that the debtor's estate is not depleted.

On this point, William argued that since PRN as the creditor would have been limited to only a charging order against his and Terre's interests in Cole of Orlando, which is of dubious value to a creditor, in the end PRN was actually better off because the money ended up in the TBE accounts.

There were numerous problems with this argument, noted the Court, such as that PRN would have had a lien on the Coles' interests in the limited partnership such that when it was finally wound up then PRN would have received Cole of Orlando's assets via PRN's charging order. But most importantly, the value to PRN of the Coles' TBE accounts was precisely zero since those accounts were exempt from collection. Moreover, by causing Cole of Orlando to transfers the nearly $4 million out of its own accounts to the Coles' TBE accounts, the value of the Coles' interest in the limited partnership went to zero. Thus, PRN could not collect against the Coles' interests in Cole of Orlando since those interests were now worth zero, and PRN could not collect against the Coles' TBE accounts because they were exempt. Thus:

So creditors lost access to the value of Cole’s share of the assets in Cole of Orlando. They got nothing in exchange. And Cole put up a barrier to future creditor claims by parking the money in an exempt TBE account. He received no reasonable equivalent value in exchange for the transfer. This is a classic example of a constructive fraudulent transfer subject to avoidance because the creditor’s estate was depleted because of the transfers.

William also argued that there was no fraudulent conversion (which is different than a fraudulent transfer) under Florida's statute which prevents a debtor from converting a non-exempt assets into an exempt asset, such as TBE, for the reason that the Coles' interests in Cole of Orlando were "effectively exempt". William's theory here was that PRN's remedy against the Cole's limited partnership were restricted to a charging order, which is a pretty lousy remedy for a creditor, but when Cole of Orlando's property was transferred to the TBE accounts it became available to PRN because an exception to TBE protection is when a creditor hold a judgment against both spouses — assuming that PRN would ultimately be able to assert a claim against Terre as well as William.

The Court didn't buy this argument, either, and noted that "Cole has it backwards." Even if a charging order is a pretty lousy remedy for creditors, it is still a remedy and at the very least would give PRN a right to distributions from the limited partnership — a charging order may do or not do a lot of things, but it is not an exemption. Next, as to the TBE property, whatever might happen or not happen with a claim against Terre in the future, the bottom line was at the particular point in time when the transfers were made there was not joint claim against Terre and the assets became exempt as TBE property. Thus, the moneys went from being held in non-exempt limited partnership interests to being held in exempt TBE accounts, and that is a fraudulent conversion.

Based on these rulings, the Bankruptcy Trust won partial summary judgment against Cole on the fraudulent transfer and fraudulent conversion claims. But there was one more issue of interest before the Court: Apparently, in 2010, William transferred 3,000 shares of Google stock to Terre, and Terre moved for partial summary judgment on the grounds that the transfer was time-barred.

The Bankruptcy Trustee was pursuing her claims under the Florida Uniform Fraudulent Transfers Act, which provides for a four-year extinguishment period (often incorrectly referred-to, including by the Court here, as a limitations period but which is very similar), but also a one-year period from the date that the challenged transfer has been, or could reasonably be, discovered by the creditor. Terre claimed that PRN should have known in 2011 when Cole of Orlando was being wound down that the transfer of the Google stock would be made, or have known of the Google stock transfer from their financial reporting made at the time of the 2012 settlement agreement. But the Court found that there were material facts in dispute as to what PRN knew about the Google stock and when, and so denied Terre's motion for partial summary judgment, meaning that the issue will be tried along with other remaining issues.

ANALYSIS

This opinion illustrates the perils of a debtor's control of funds even if the debtor technically does not own them. Through the so-called control test, as explained in In re Chase & Sanborn Corp., 813 F.2d 1177 (11th Cir. 1987), a bankruptcy court has the power to avoid either a preferential transfer or fraudulent transfer of a third-party's funds if they are controlled by the debtor, at least to the extent that the transfer has the potential to diminish the value of the debtor's bankruptcy estate. That's what happened here: By transferring funds out of Cole of Orlando, William diminished the value of his limited partnership interest to zero, and thus the Court could avoid the transfer.

But what is the value of such avoidance? William would probably argue that even if the transfer from Cole of Orlando is avoided, the funds should go right back to Cole of Orlando and PRN would then be stuck with a charging order lien against William's interest, and would then have to wait until distributions to that interest were made (if ever) to receive anything.

The problem with this argument is that William already caused Cole of Orlando to be wound up, and so when the Court avoids the transfer, the moneys come out of the TBE accounts and land in William's individual and non-exempt name as a liquidating distribution such that they become part of his bankruptcy estate and the Bankruptcy Trustee will take possession of those moneys. But even if William had not wound up Cole of Orlando, the Bankruptcy Trustee could have obtained a money judgment against William's TBE accounts for the amount of the transfer under 41 Fla.Stat. § 726.109(2). So, either way the Bankruptcy Trustee will end up with the cash.

The irony here is that the $4 million in Cole of Orlando would very likely have been protected from PRN had William simply left them there. PRN would have been stuck with a charging order against William's interest, but nothing required PRN to make any distribution. Very likely, the Coles could have then settled with PRN on some basis where PRN got relatively little (but that's still better than nothing) and the Coles would then have been able to keep the rest peacefully.

One might observe that this is yet another case of a panicked debtor, meaning a debtor in deep financial distress who compounds his problems by making bad decisions that makes things worse. Here, William probably made three major errors:

(1) William caused the money which were safe in Cole of Orlando to be transferred the TBE accounts, which then created the potential for avoidance as ultimately happened;

(2) William wound up Cole of Orlando such that the transfers could not be reversed, voluntarily or involuntarily, back into that limited partnership where the funds were substantially protected; and

(3) William commenced a case in bankruptcy, which as we see in so many of these cases is the most singular factor in an asset protection vehicle failing because of the very strong statutory and equitable powers of the bankruptcy court to unwind transfers and look through entities.

This opinion does not state if William undertook these decisions on his own or if he did so on the advice of counsel; if the latter, William got some really terrible advice, particularly as to filing for bankruptcy. But this mistake is very common for failed real estate developers, who want to try to clear their debt so that they can go back to borrowing new money and developing new projects. Often with real estate developers, all a creditor needs to do is to place liens and then hold on for a while until the developer gets frustrated sitting on the sidelines when all his or her developer buddies are making money, and then makes a monumental mistake to try to get back into the real estate game — and usually that mistake is filing for bankruptcy.









AI Synopsis


♦ This is an analysis of a complex legal case involving fraudulent transfers and bankruptcy. Here's a breakdown of the key points and takeaways: (1) The Case: (a) Parties: William Cole (debtor), Terre Cole (wife), PRN Real Estate & Investments (creditor), Cole of Orlando Limited Partnership (partnership), W&T Cole, LLC (general partner). (b) Background: William Cole, a real estate developer, guaranteed debts for his partnership, Cole of Orlando. After the 2008 financial crisis, he defaulted on the guarantees. (c) Fraudulent Transfers: Cole of Orlando transferred nearly $4 million to a joint account held by William and Terre as tenants by the entirety (TBE), which is generally protected from creditors. (d) Bankruptcy: William filed for Chapter 7 bankruptcy. The Bankruptcy Trustee sued the Coles, alleging fraudulent transfers. (2) Key Legal Issues: (a) Control Test: The court found that William had control over Cole of Orlando, even though he didn't technically own it. This allowed the court to treat the partnership's transfers as if they were made by William himself. (b) Reasonable Equivalent Value (REV): The court determined that the transfer to the TBE account lacked REV because PRN received nothing in exchange and the Coles' interest in the partnership became worthless. (c) Fraudulent Conversion: The court ruled that the transfer of funds from the non-exempt partnership interest to the exempt TBE account constituted fraudulent conversion under Florida law. (d) Statute of Limitations: The court denied Terre's motion for summary judgment on the Google stock transfer, finding that there were disputed facts about PRN's knowledge of the transfer. (3) Takeaways: (a) Control Test in Bankruptcy: The control test allows bankruptcy courts to unwind transactions where the debtor has control over assets, even if they don't technically own them. (b) Fraudulent Transfers and REV: Transfers lacking REV can be avoided in bankruptcy, even if the creditor might have received a limited benefit (like a charging order). (c) Fraudulent Conversion: Converting non-exempt assets into exempt assets can be a fraudulent act. (d) Bankruptcy and Asset Protection: Filing for bankruptcy can often backfire, as it gives the bankruptcy court broad powers to unwind transactions and recover assets. (e) Panicked Debtors: Debtors in financial distress often make poor decisions that worsen their situation. (4) Analysis: The court's decision highlights the dangers of transferring assets to protect them from creditors, especially when the debtor has control over the assets. The control test and the fraudulent transfer and conversion laws provide powerful tools for bankruptcy courts to protect creditors' interests. (5) Lessons Learned: (a) Seek Professional Advice: Debtors facing financial difficulties should consult with experienced legal and financial professionals to avoid making costly mistakes. (b) Understand the Risks of Asset Protection: Asset protection strategies can be effective, but they must be carefully planned and executed to avoid legal challenges. (c) Be Aware of the Consequences of Bankruptcy: Filing for bankruptcy can have unintended consequences, including the potential for asset recovery by the bankruptcy trustee. ♦