Kathy Bazoian Phelps
Senior Counsel in Ponzi Scheme Litigation
and Bankruptcy Matters

Kathy is a senior business trial attorney with more than 30 years experience prosecuting and defending claims for high net worth clients involved in Ponzi scheme matters and in bankruptcy proceedings. Kathy’s practice includes recovering assets for clients in complex fraud cases under standard fee and alternative fee arrangements. She also handles SEC and CFTC whistleblower claims. Kathy also serves as a mediator in bankruptcy matters, in complex business disputes, and in matters requiring detailed knowledge about fraud or Ponzi schemes.

Kathy’s Clients in Ponzi Scheme Cases and Bankruptcy Matters
Equity Receivers
Bankruptcy Trustees
High Net Worth Investors
Debtors in Bankruptcy
Secured and Unsecured Creditors

Monday, July 14, 2014

Can a Receiver and a Trustee, Who Are the Same Person, Settle with Himself?

Posted by Kathy Bazoian Phelps

    Thomas J. Petters’ $3.65 billion Ponzi scheme has raised all kinds of interesting legal issues, the most recent of which involves the interplay between Thomas Petters’ individual receivership estate and the bankruptcy of Petters’ companies. David Kelley was first appointed as the receiver for Thomas Petters, and then became the Chapter 11 trustee for the Petters’ companies after he filed a bankruptcy petition for those entities.

    Kelley settled fraudulent transfer claims against VICIS Capital MasterFund and then allocated the settlement proceeds between the bankruptcy estate and the receivership estate. The district court approved the settlement in the receivership case with no objections made. The bankruptcy court also approved the settlement, but over the objection of a few creditors in the bankruptcy case. The objecting creditors appealed the bankruptcy court ruling, which was recently affirmed on appeal. Ritchie Capital Management, LLC v. Kelley, 2014 U.S. Dist. LEXIS 79815 (D. Minn. June 12, 2014).

    On appeal, the court considered essentially 3 questions.

1. Was the settlement that provided for payment of 15% of the $7.5 million settlement amount to the receivership estate reasonable, or was it a windfall to the receivership estate?
    The objecting creditors in the bankruptcy case argued that any payment to the receivership estate was unreasonable and “gratuitous” because the settlement agreement itself provided that the payment was to go to the Trustee, not the Receiver. The appellate court disagreed, finding that the bankruptcy court had correctly found that an allocation was appropriate due to the fact, among other reasons, that the Receiver had released claims against the Defendant to recover a fraudulent transfer. The court noted:
This claim could not have been brought by the Trustee on behalf of the Bankruptcy Estates, because the property transferred did not belong to PCI, but to Petters. Thus, allocating a portion of the settlement payment to the Receiver based on the Receiver's release of claims that belonged solely to the Receivership does not effectuate a gratuitous transfer from the Bankruptcy Estate to the Receivership.

 2. Did Kelley have a conflict due to his dual roles as trustee and receiver?

    The court also upheld the bankruptcy court’s finding that there was no inherit conflict in allocating the proceeds arising from the dual roles as Trustee and Receiver.
[T]he process used to arrive at the allocation included multiple assurances of trustworthiness. First, the allocation resulted from a mediated settlement before retired United States District Court Judge James Rosenbaum. Additionally, the Creditors' Committee, which acts as a fiduciary for the PCI Bankruptcy Estate, participated fully in the mediation and supports the proposed allocation. Further, as discussed earlier, the division of the settlement proceeds is a purely mathematical calculation that is objectively fair. Finally, although the allocation was not formally documented in the Settlement Agreement, the Trustee's verified motion to approve the Settlement Agreement gave creditors and other interested parties full notice of and an opportunity to object to the intended disposition of the settlement proceeds.

 3. Did the allocation violate the coordination agreement with the government?

    The objecting creditors relied on language in the Coordination Agreement among the U.S., the Trustee and the Receiver, which stated:
If there is a recovery (by settlement or following litigation) based on parallel claims pursued by Kelley, as the Receiver and Trustee, the proceeds of the recovery will inure to the benefit of the bankruptcy estates; unless there is a judgment or recovery based solely on a claim made by the Receiver, in which case, the proceeds will be turned over to the United States for the benefit of victims through remission of assets after the bankruptcy estates have been reimbursed for all fees and expenses paid or incurred in conjunction with the action that resulted in the recovery.

    The court first questioned the creditors’ standing to object on this ground, noting that the creditors were not a party to the Coordination Agreement. The court then held as follows:
Even if Ritchie were to have standing under the Coordination Agreement, the proposed allocation does not violate the Agreement's provision stating that parallel claims by the Receiver and Trustee will inure to the benefit of the bankruptcy estates. As noted above, the proceeds to be allocated to the Receivership constitute recovery on a claim that only the Receiver could bring because the transfer challenged by the Receiver was of property belonging to Petters, rather than PCI. Further, the Coordination Agreement provides that proceeds which constitute a "recovery based solely on a claim made by the Receiver . . . will be turned over to the United States for the benefit of victims through remission.
    Not only does the proposed allocation not violate the Coordination Agreement, it advances the Agreement's express goals of maximizing recovery to victims and creditors and minimizing expenses through coordination of the Receiver and Trustee's respective efforts.

    Both the bankruptcy and the district court took a realistic view of the situation and seemed to keep their eye on the prize – to get money back to defrauded victims and creditors.

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