- Case no. 14-1060 (6th Cir. 2014)
- Trustee's action to recover funds misappropriated by debtor's principals not barred by in pari delecto.
- Procedural context:
- Debtor, a corporation filed for bankruptcy under Chapter 7. Trustee brought suit against former principals to recover funds transferred by corporation to principals. Bankruptcy Court denied the Trustee's request to amend the complaint, concluding that the amendment presented a cause of action barred by in pari delecto. On appeal, the District Court affirmed. On further appeal, the Sixth Circuit reversed and remanded for further proceedings.
- Corporate principals caused corporation to sell all of its assets to third party and diverted all of the sales proceeds to principals' personal bank accounts rather than corporate accounts. Trustee sought to amend the complaint to add counts for conversion based on principals' alleged use of the funds for personal expenses and to purchase a house in Hawaii. The Bankruptcy Court held that the proposed amendment stated a cause of action for embezzlement that would be barred by in pari delecto as the principals of the corporation and the corporation were equally at fault in allowing the initial transfer. The Sixth Circuit held that the proposed amendment stated a cause of action for conversion as the principals sought to improperly and unlawfully exercise dominion and control over corporate assets. Conversion does not require wrongful intent and does not require any knowledge of the defendant that its actions are wrongful. As such, in pari delecto, which focuses on the intent of the parties to the transaction, does not apply to conversion. In pari delecto also does not apply where at least one decision maker was innocent and lacked knowledge of the fraud, Trustee's proposed amendment alleged that one of the corporate principals lacked knowledge of the fraud, and constituted an innocent party to the transaction. In pari delecto applies only where all of the parties to the transaction are equally culpable. Because the role of the allegedly innocent principal had not been determined, the proposed amendment stated a cause of action and should not have been rejected by the Bankruptcy Court.
- Daughtrey, McKeague and White
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