Crumpton v. McGarrity (In re Northlake Foods, Inc.)

Summarized by Lynn Hinson , Dean Mead Egerton Bloodworth Capouano & Bozarth PA
12 years 10 months ago

Citation:

11th Circuit Court of Appeals Case Number 12-15604 (will not be published)

Tag(s):

Ruling:

Dividends paid to a shareholder prior to bankruptcy in accordance with a provision of a shareholders agreement were not constructively fraudulent transfers. The shareholders agreement provided that if the debtor corporation's income became taxable to the shareholders, the corporation would pay a dividend at least annually in an amount sufficient to pay the taxes for the prior year. The 11th Circuit Court of Appeals held that the debtor corporation received reasonably equivalent value for the dividend transfers. The agreement to reimburse the shareholder for taxes enabled the corporation to become a S-corporation whenever it determined that it was advantageous to do so. Thus, the agreement provided the debtor corporation with two valuable benefits: (1) flexibility and (2) time to elect treatment as a S-corporation. The two benefits received by the corporation were reasonably equivalent value for the dividends paid to the shareholder. Accordingly, the dividend transfers were not constructively fraudulent. The 11th Circuit did not address the issue of whether the transfers satisfied an antecedent debt that was created by the shareholders agreement. The Court held that it was not necessary to do so because it can affirm a decision of the District Court on any ground supported by the record.

Procedural context:

Northlake Foods, Inc., which owned numerous Waffle House restaurants in Georgia, Florida and Virginia, filed Chapter 11 in the Middle District of Florida on September 15, 2008. The Bankruptcy Trustee sued a shareholder to recover dividends paid in accordance with a shareholders agreement and for equitable subordination of the shareholder's claims. The Bankruptcy Judge ruled that the debtor received reasonably equivalent value for the dividends, and granted the shareholder's motion for judgment on the pleadings based on the shareholders agreement, which was attached as an exhibit to the complaint. The Bankruptcy Judge's order was appealed to the United States District Court for the Middle District of Florida. The District Court affirmed, holding that the dividend transfers satisfied an antecedent debt created by the shareholders agreement. The Bankruptcy Trustee appealed the District Court's judgment to the 11th Circuit Court of Appeals. The 11th Circuit reviewed de novo the legal rulings of the Bankruptcy Court and the District Court

Facts:

In 1991, a shareholder in Northlake Foods, Inc. executed a shareholders agreement. The agreement provided that if the corporation's income ever became taxable to the shareholders, rather than to the corporation, the corporation would pay a dividend at least annually in an amount and at a time sufficient for each shareholder to pay all income tax, both state and federal, included in the shareholder's income in the year preceding the year of payment of the dividend. In 2005, Northlake Foods designated itself an S corporation, thereby requiring the shareholders to pay the corporate tax. Accordingly, the shareholder that was sued in Northlake Food's bankruptcy was required to pa the his portion of the taxes owed on the income of Northlake Foods. In 2005, the amount of the shareholder's income tax attributable to his share of the corporation's taxable income was $94,429.00. In 2006, the board of directors authorized a dividend in accordance with the shareholders agreement, and made a cash payment to the shareholder for $94,429.00. Northlake Foods filed Chapter 11 on September 15, 2008. The Trustee sued the shareholder to recover the dividend that was paid to the shareholder on the theory that it was a constructively fraudulent transfer. In addition, the Trustee sought to have the shareholder's claims disallowed and equitably subordinated.

Judge(s):

11th Circuit Court Judges Tjoflat, Marcus and Wilson

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