Follett Higher Education Group, Inc. v. Berman (In re Berman)
- No. 1:09-cv-03377 (7th Cir. January 21, 2011).
- The issue before the Court of Appeals was whether the debtor, Jay Berman, had acted as a fiduciary to its creditor, Follett Higher Education Group, Inc., for purposes of 11 U.S.C. § 523(a)(4). Concluding that Follett had failed to satisfy the requirements of § 523(a)(4), the Court sided with those cases construing § 523(a)(4) narrowly and rejecting the notion that the mere existence of any fiduciary relationship is sufficient to meet the requirements of § 523(a)(4).
- Procedural context:
- Follett Higher Education Group, Inc. (“Follett”) commenced an adversary proceeding in the chapter 7 case of debtor-defendant Jay Berman (“Berman”) seeking to have its claims declared nondischargeable as claims for “defalcation while acting in a fiduciary capacity” pursuant to § 523(a)(4). At the conclusion of Follett’s presentation of evidence at trial, Berman moved for judgment on partial findings under Fed. R. Bankr. P. 7052. The bankruptcy judge granted the motion, holding that Follett had failed to prove Berman was a fiduciary of Follett for purposes of § 523(a)(4). The district court affirmed and Follett appealed.
- Plaintiff Follett Higher Education Group, Inc. (“Follett”) hired an advertising firm, Berman & Associates (“B&A”), to place advertisements on its behalf. Jay Berman (“Berman”), the debtor-defendant, was B&A’s president, director and sole shareholder. Under the arrangement, Follett would pay the gross cost of subscribed advertising (plus B&A’s commission) to B&A. B&A would then remit payment to the individual media outlets directly for the subscribed advertising and retain the balance of funds as its commission. After Follett discovered that B&A had failed to pay certain invoices for previously subscribed advertising, Berman filed a voluntary petition for relief under chapter 7.
Follett offered two arguments for the existence of a fiduciary relationship between Follett and Berman to satisfy the requirements of § 523(a)(4): (i) first, that Berman, as an officer of an insolvent company, owed a fiduciary duty to all creditors, including Follett; and (ii) second, that B&A owed such a duty to Follett under theories of express and implied trust, and that the court should then pierce the corporate veil to hold Berman liable for the resulting debt.
Follett first argued that Berman owed a fiduciary duty to B&A’s creditors because he was the officer and director of an insolvent company. After noting that argument necessarily failed because Follett had failed to make the necessary showing of insolvency at the trial court level, the Court of Appeals addressed the question directly as a matter of law. Courts are split on the nature of fiduciary duty that must exist for purposes of § 523(a)(4). The Seventh Circuit adopted the narrower view, noting that “not all persons treated as fiduciaries under state law are considered to ‘act in a fiduciary capacity’ for purposes of federal bankruptcy law” and citing to Davis v. Aetna Acceptance Co., in which the Supreme Court wrote that the debtor “must have been a trustee before the wrong and without reference thereto.” In the absence of fraud, the Seventh Circuit declined to extend § 523(a)(4) “so far as to make officers and directors of insolvent corporations personally liable, without the ability to secure discharge in bankruptcy, for a wide range of corporate debts.
Turning to Follett’s second argument, the Seventh Circuit found no evidence of an express trust or implied trust existing as between B&A and Follett, and affirmed the bankruptcy court’s conclusion that “an ordinary principal-agent or buyer-seller relationship, without more, is not a fiduciary relationship under § 523(a)(4).”
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