A prior post (June 9, 2008) dealt with fraudulent conveyances and their ability to expand potential remedies available to creditors beyond those present under the asset protection arrangement being used by a debtor. When determining whether a transfer is a fraudulent conveyance one of two tests, an intent test or an insolvency test, may be used for the relevant analysis. This post will be dedicated to exploring the intricacies of the intent test.
A debtor has committed a fraudulent conveyance under the intent test when he has transferred property with the intent to hinder, delay, or defraud his creditors. If the intent test is satisfied then the transfer constitutes actual fraud. Intent can be difficult to prove; therefore, courts permit circumstantial evidence, also referred to as "badges of fraud", to assist the creditor in his showing (see prior post for examples of "badges of fraud"). While numerous "badges of fraud" exist to support a creditor’s claim, a transfer from a debtor to an "insider" is highly probative that a fraudulent conveyance has occurred. The term "insider" is defined under both the Bankruptcy Code, Section 101(31), and the UFTA, Section 1(7), and includes relatives of the debtor, partnerships in which the debtor is a general partner, general partners of the debtor (as long as the debtor is also a general partner under the UFTA), and a corporation where the debtor is a director, officer, or person who is in control. When an adequate number of "badges of fraud" are present, then a presumption of actual fraud may be inferred. While the debtor may rebut the creditor’s assertions, the burden always remains with the creditor to prove intent.
A recent Bankruptcy Court case reiterated the judiciary’s willingness to deem a transfer a fraudulent conveyance when an adequate number of "badges of fraud" are present. In re Phillips, 379 B.R. 765 (Bankr. N.D. Ill. 2007). In this instance, the debtor made several transfers to various trusts naming his wife and daughter as beneficiaries. For our purposes, we will focus on one particular conveyance in which the debtor and his wife executed a deed in trust transferring legal ownership of X property to a bank as the trustee under the conditions of a trust agreement. The sole beneficiary of the land trust was the debtor’s wife. The debtor filed for bankruptcy shortly after the transfer.
When determining whether there was a fraudulent conveyance under the intent test it is necessary to analyze the presence of any "badges of fraud." Firstly, the transfer was made to an "insider", the debtor’s wife. While the transfer was not made directly to her, as long as the "insider" benefits from the transfer then there is support for a presumption of actual intent. Additionally, the debtor retained possession of the property after the transfer; judgment was entered against the debtor less than a year prior to the transfer; the debtor did not furnish any consideration from the transfer; and the debtor was insolvent or had become insolvent not long after the transfer. After assessing the numerous "badges of fraud" present, the court determined that this showing was sufficient to prove that the debtor had the actual intent to hinder, delay, or defraud his creditors. While the actual intent test was satisfied in this instance, a case by case analysis is necessary in order to determine whether the presence or absence of certain "badges of fraud" surrounding a particular conveyance make it fraudulent. See In re Knippen, 355 B.R. 710 (Bankr. N.D. Ill. 2006)(holding that actual intent was not found even though the debtor was insolvent at the time of the transfer or was rendered so shortly thereafter, adequate consideration was not furnished by the debtor from the transfer, and an "insider" relationship existed between the debtor and the transferee).
While the existence of "badges of fraud" often allow the creditor to strengthen his argument that a fraudulent conveyance has occurred, case law varies on the number needed to overcome the creditor’s burden under the intent test. While "badges of fraud" are often the means by which the intent test is satisfied, recent case law has suggested that actual intent may also be found in the presence of a certain factual situation known as a Ponzi scheme.
The term "Ponzi scheme" has been used to describe inherently fraudulent arrangements in which the debtor uses after-acquired investment funds in order to pay prior investors. The debtors behind the scheme often deceive investors by fabricating profits and formulating non-existent account balances. Bankruptcy courts across the country recognize that the existence of a Ponzi scheme is sufficient to satisfy a presumption of actual intent. Though this is less applicable to people making transfers in their individual capacity, it still warrants notice in that the intent test is so easily satisfied when faced with a fact pattern resembling the typical Ponzi scheme.