Defrauded Investors May Force Madoff Into Bankruptcy

Bernard Madoff’s investors won a ruling Friday that allows defrauded investors to force him into personal bankruptcy to ensure that all his assets are used to pay the investors. U.S. District Judge Louis Stanton, Southern District of New York, granting a request by victims of Madoff’s Ponzi scheme to allow them to file an involuntary chapter 7 bankruptcy petition against Madoff, over objections from the Securities and Exchange Commission and the Justice Department. Judge Stanton reversed his ruling on December 18, 2008 that prevented the investors from filing such a petition. As of today, no petition has been filed.

In a four-page opinion, Judge Stanton held: “The concern that appointment of a bankruptcy trustee will increase administrative costs or delay recovery by victims is speculative and outweighed by the benefits to Mr. Madoff’s victims.” Judge Stanton further reasoned that bankruptcy may enable creditors to reach Madoff’s assets that are not proceeds of his fraud, increasing the pool of assets beyond those which are forfeitable under criminal statutes and helping investors who unwittingly bought into Madoff’s Ponzi scheme through so-called feeder funds.

The SIPC investigation of the assets of Bernie Madoff’s New York-based firm, Bernard L. Madoff Investment Securities LLC, is ongoing, and investigators have uncovered approximately $1 billion in assets which will be used to compensate investors. Prosecutors have identified over $100 million in real estate, cash, bonds, art, automobiles, boats and other assets owned by Madoff and his wife, Ruth, which prosecutors intend to seize.

On March 12, 2009, Madoff pleaded to defrauding investors by perpetrating a $65 billion Ponzi scheme, and he faces as many as 150 years in prison at his sentencing in June.

By Reno F.R. Fernandez III

Actions Against Non-Debtor Spouse May Violate Discharge Injunction

In Lumb v. Cimenian, 2009 WL 427836 (1st Cir. BAP Feb. 23, 2009), the First Circuit Bankruptcy Appellate Panel (“BAP”) held that post-discharge actions against a non-debtor spouse of a chapter 7 debtor can violate the discharge injunction of Bankruptcy Code Section 524.

In this case, the debtor had entered into a business transaction with a creditor which did not substantially involve the debtor’s wife. The debtor later filed a voluntary chapter 7 petition. Thereafter, the creditor sent a letter to the debtor’s lawyer threatening to take legal action against the debtor’s wife. The creditor subsequently sued the debtor’s wife, who successfully defended the lawsuit. The creditor appealed, and the Supreme Court of Main affirmed, observing that the lawsuit was devoid of “even the slightest merit” and awarding $50,000 in attorney fees to the wife.

The debtor brought an adversary proceeding against the creditor in bankruptcy court, alleging that the creditor’s lawsuit against his wife amounted to a violation of the discharge injunction of Bankruptcy Code Section 524 in that the creditor’s actions were an effort to coerce him into paying the discharged debt. The bankruptcy court ruled in favor of the creditor, holding that the discharge offered no protection to the wife because she had not filed the bankruptcy.

The debtor/husband appealed, and the BAP reversed the bankruptcy court, ruling that: “Although we are not aware of any case in which a creditor was found to have violated the discharge injunction by virtue of actions taken against a third party, we note that the prohibition in section 524(a)(2) is not limited to actions by creditors against the debtor to collect on a discharged debt."