Opinion
Case No. 98-16622-SSM, Adversary Proceeding No. 98-1448
June 3, 1999
Elizabeth M. Boyle, Esquire, Washington, D.C., of Counsel for the plaintiff
David E. Jones, Esquire, Fairfax, VA, of Counsel for the defendants
George G. O'Neal, Vienna, VA, for Defendant pro se
Patricia N. O'Neal, Vienna, VA, for Defendant pro se
MEMORANDUM OPINION AND ORDER
A hearing was held in open court on June 1, 1999, on (1) the plaintiff's motion for default judgment and (2) the defendants' motion (included within their responsive pleading) to dismiss the complaint for failure to state a claim upon which relief can be granted. The plaintiff and the defendants were each present by counsel. After reviewing the file and hearing argument from the parties, the court ruled from the bench that the motion for default judgment and the motion to dismiss would both be denied. Upon further reflection, the court concludes that a portion of its bench ruling was in error, and that so much of the complaint as seeks a determination of nondischargeabiliry must be dismissed for failure to state a claim for relief, with leave to file an amended complaint.
At the conclusion of the hearing, the court granted the motion of the defendants' counsel to withdraw.
Background
George G. and Patricia N. O'Neal, who are husband and wife, filed a joint voluntary petition under chapter 7 of the Bankruptcy Code in this court on September 9, 1998, and have not yet been granted a discharge. On November 25, 1998, the complaint presently before the court was filed by one of their creditors, Sam Fukuda. Mr. Fukuda had obtained a judgment in the Circuit Court of Fairfax County determining that the debtors were personally liable for a $54,305.88 judgment he had previously obtained against an entity called Newport Development Corporation. Service of the summons and complaint was made upon the debtors on December 4, 1998. On December 28, 1998, a timely motion to quash service was filed by the debtors under F.R.Bankr.P. 7012. For reasons that are unexplained, the motion was not set for a hearing, and on April 6, 1999, the plaintiff filed a motion for default judgment. At a hearing held on April 27, 1999, the court denied both the motion to quash and the motion for default judgment and directed that the defendants file and serve an answer within ten days. On April 28, 1999, they filed what is styled a "response" that does not specifically admit or deny the factual averments of the complaint but simply asserts that the complaint fails to sets forth grounds either for a determination of nondischargeabiliry or for denial of discharge. The plaintiff, in response, filed a second motion for default judgment.
Discussion A.
The threshold issue is whether the defendants are in default. Under F.R.Bankr.P. 7012(a), a defendant in an adversary proceeding is required to file an answer within 30 days after the issuance of the summons. Certain defenses, however, may, at the option of the defendant, be raised by motion rather than in the answer, in which event an answer is not required until ten days after notice of the ruling denying the motion. Id. Among the defenses that may be raised by a pre-answer motion to dismiss are (1) lack of jurisdiction over the subject matter, (2) lack of jurisdiction over the person, (3) improper venue, (4) insufficiency of process, (5) insufficiency of service of process, (6) failure to state a claim upon which relief can be granted, and (7) failure to join a necessary party. Fed.R.Civ.P. 12(b), as incorporated by F.R.Bankr.P. 7012(b). If the defendant elects to raise any of the listed defenses by motion rather than in the answer, "the party shall not thereafter make a motion based on the defense so omitted," except for the defense of failure to state a claim upon which relief can be granted, failure to join an indispensable party, or lack of subject matter jurisdiction. Fed.R.Civ.P. 12(g) and (h), as incorporated by F.R.Bankr.P. 7012(b). Those defenses may be raised in the answer, by a motion for judgment on the pleadings or even "at the trial." Fed.R.Civ.P. 12(h).
This differs from a civil action in the U.S. District Court, where the time to respond is calculated from service of the summons and complaint, rather than from issuance of the summons. Compare F.R.Bankr.P. 7012(a) and Fed.R.Civ.P. 12(a). The summons in an adversary proceeding must be served within ten days of its issuance. F.R.Bankr.P. 7004(f). If it is not timely served, the plaintiff must obtain an alias summons. Id.
In the present case, the defendants filed a timely motion to quash. Once that was overruled, the defendants filed a "response." That pleading, as noted above, fails to expressly "admit or deny the averments upon which the adverse party relies," as required by Fed.R.Civ.P. 8(b), which is incorporated by F.R.Bankr.P. 7008(a). The result is that such averments are deemed admitted. Fed.R.Civ.P. 8(d), as incorporated by F.R.Bankr.P. 7008(a). Even though it leaves many of the factual underpinnings of the plaintiff's case admitted, the "response" nevertheless constitutes an answer for the purpose of F.R.Bankr.P. 7012. Accordingly, the defendants are not in default, and the motion for default judgment will be denied.
B.
As discussed, the defense of failure to state a claim upon which relief can be granted may be raised by a pre-answer motion to dismiss, by the answer, by a motion for judgment on the pleadings, "or at the trial on the merits." Fed.R.Civ.P. 12(b) and (h)(2). Thus the defense was not waived by failure to raise it in connection with the original pre-answer motion to dismiss. Incorporating the motion to dismiss in the answer is procedurally somewhat irregular, but since Fed.R.Civ.P. 12(c) expressly permits a post-answer motion for judgment on the pleadings, the combining of the motion into the responsive pleading does not prejudice the plaintiff.
Although not pleaded in separate counts, the complaint seeks both a denial of the debtors' discharge under § 727, Bankruptcy Code, and a determination that their liability to the plaintiff is excepted from discharge under § 523(a)(2), Bankruptcy Code. The complaint is not a model of clarity and includes a great deal of extraneous matter, but that is not the test. As the Supreme Court has explained, "[A] complaint should not be dismissed for failure to state a claim unless it appears beyond doubt that the plaintiff can prove no set of facts in support of his claim which would entitle him to relief." Conley v. Gibson, 355 U.S. 41, 45-46, 78 S.Ct. 99, 102, 2 L.Ed.2d 80 (1957). Additionally, "it is well established that, in passing on a motion to dismiss . . . for failure to state a cause of action, the allegations of the complaint should be construed favorably to the pleader." Scheuer v. Rhodes, 416 U.S. 232, 236, 94 S.Ct. 1683, 1686, 40 L.Ed.2d 90 (1974).
The defendants argue that the underlying debt from Newport Development to the plaintiff is a pure contract debt and is not shown by the complaint to be "a debt . . . for money, property, services, or an extension, renewal, or refinancing of credit, to the extent obtained by . . . false pretenses, a false representation, or actual fraud," as required before the debt can be determined nondischargeable under § 523(a)(2), Bankruptcy Code. The mere fact that the underlying judgment against Newport Development may have been obtained under a contract cause of action is immaterial. In Brown v. Felsen, 442 U.S. 127, 99 S.Ct. 2205, 60 L.Ed.2d 767 (1979), the Supreme Court held that if a creditor with both a contract and a fraud claim obtains judgment only on the contract claim in a pre-bankruptcy action, the creditor is not estopped from asserting, when the debtor later files for bankruptcy relief, that the debt is nondischargeable based on fraud. The Court reasoned that dischargeabiliry is simply not an issue in a pre-bankruptcy action to liquidate a debt, and that so long as the debtor is solvent, the creditor may prefer a simple contract suit to complex tort litigation. Id. at 137 n. 8, 99 S.Ct. at 212 n. 8. Accordingly, the Court held that a creditor is not required "to engage in hypothetical litigation in an inappropriate forum" to protect its right, in a later bankruptcy, to obtain a determination of nondischargeabiliry. Id. at 137-39, 99 S.Ct. at 2212-13.
On the other hand, the court is constrained to agree with the defendants that nothing in the present complaint fairly alleges that the underlying claim by the plaintiff against Newport Development involved money or property "obtained" as a result of "false representations, false pretenses or actual fraud" by the debtors. The fact that the debtors were personally tagged with the liability by virtue of a ruling piercing the corporate veil does not, without more, serve to bring the debt within the ambit of § 523(a)(2). Put another way, if the underlying claim would be dischargeable, it is not made nondischargeable simply because the debtors failed to observe corporate formalities. Although the state court decree piercing the corporate veil is attached to the complaint, its findings do not set forth any basis for concluding that the plaintiff's underlying claim was incurred through fraud, nor does it even set forth a basis for concluding that the debtors' transactions with Newport Development involved actual as opposed to constructive fraud. The state court simply found that Mr. O'Neal, who was the operating officer and sole shareholder of Newport Development, "commingled" Newport Development's assets with his own and with those of a related entity, Newport Realty, and that Mrs. O'Neal wrote $67,500 in checks to herself from Newport Development and Newport Realty in 1994 without actual consideration. The decree makes no finding, express or implied, that any such commingling or transfers were with actual intent to hinder or delay the plaintiff in the enforcement of his judgment against Newport. While the transfers, if not supported by "consideration deemed valuable in law" would be fraudulent under Virginia law as to existing creditors, Va. Code Ann. § 55-81, fraud sufficient to except a debt from discharge under § 523(a)(2) must be actual fraud, not constructive fraud. United States v. Bagel (In re Bagel), 1992 WL 477052 at *9 (Bankr. E.D. Pa. 1992) ("[A] corporate debt for which an individual is held liable — through piercing the veil — is not per se nondischargeable as fraudulently incurred."); Cambridge Tempositions, Inc. v. Cassis (In re Cassis), 220 B.R. 979, 985 (Bankr. N.D. Iowa 1998) (dismissing § 523(a)(2) count that alleged improper transfer of corporate property but did not that claims against individual debtors "arose from money or services . . . obtained by fraud").
It is true, of course, that a complaint need not allege all the details of a cause of action as long as the allegations are sufficient to place the defendants fairly on notice of the plaintiff's claim. At the same time, the Rules require that "[i]n all averments of fraud . . . the circumstances constituting fraud shall be stated with particularity." Fed.R.Civ.P. 9(b), as incorporated by F.R.Bankr.P. 7009. As noted above, the mere piercing of the corporate veil, as evidenced by the decree of the state court, does not suffice to make the debt nondischargeable; rather, there must be some averments showing that money or property was obtained from the plaintiff as a result of the debtors' false representations, false pretenses, or actual fraud. The complaint before the court is conspicuously lacking in any such allegations. It may well be that the circumstances surrounding the underlying claim would support a claim of fraud, but if so, Rule 9(b) requires that they be pleaded with particularity.
The complaint is not pleaded in distinct counts. However, paragraphs 2, 3 and 4 of the complaint are solely concerned with the dischargeability of the debt. Accordingly, those paragraphs will be dismissed without prejudice to the plaintiff's right, within 20 days, to file an amended complaint setting forth a cause of action under § 523(a)(2) based on the underlying indebtedness.
C.
The defendants next contend that paragraphs 5 though 11 of the complaint fail to state a claim for relief. Paragraphs 5, 6, 7, and 11 allege failure by the debtors to list certain assets and prepetition transfers of assets on their schedules. Such failure, if willful and material, would clearly constitute a basis for denial of discharge under §§ 727(a)(2) and (a)(4), Bankruptcy Code. The defendants in their motion state that all of the assets and transfers have now been disclosed on amended schedules filed in their case. The law is clear, however, that while the prompt filing of amended schedules listing previously omitted assets and transactions may be some evidence that the original omissions were inadvertent and not done with wrongful intent, mere amendment is not a defense to a charge of willfully filing false schedules. In re Dias, 95 B.R. 419, 425 (Bankr. N.D. Tex. 1988) ("The knowing and fraudulent false oath in the statement of financial affairs and schedule of assets cannot be subsequently remedied by amended schedules or testimony at a Bankruptcy Rule 2004 examination[.]"). As explained in Boroff v. Tulfy (In re Tully), 818 F.2d 106, 110 (1st Cir. 1987),
[T]he very purpose of . . . § 727(a)(4)(A), is to make certain that those who seek the shelter of the bankruptcy code do not play fast and loose with their assets or with the reality of their affairs. The statutes are designed to insure that complete, truthful, and reliable information is put forward at the outset of the proceedings, so that decisions can be made by the parties in interest based on fact rather than fiction. . . . Neither the trustee nor the creditors should be required to engage in a laborious tug-of-war to drag the simple truth into the glare of daylight.
(citations omitted). Accordingly, paragraphs 5, 6, 7 and 11 sufficiently state a claim for denial of discharge notwithstanding the fact that the debtors may have subsequently filed amended schedules disclosing the assets and transfers pleaded in the complaint.
The court does agree that paragraphs 8, 9, and 10 of the complaint are not germane either to a determination of dischargeabiliry or the right of the debtors to a discharge. They seek an order requiring the United States Trustee — who is not a party to the adversary proceeding — to seize various assets of the debtors. Putting aside the fact that a panel trustee, Robert G. Mayer, rather than the United States Trustee, is serving as trustee in the debtors' case, the plaintiff does not have standing to assert claims on behalf of either the panel trustee or the United States Trustee. Any assertion that the trustee is not properly performing the functions of his office should be raised by separate motion in the defendants' bankruptcy case. Accordingly, paragraphs 8, 9, and 10 will be dismissed for failure to state a claim for relief, but without prejudice to the right of the plaintiff to bring before the court by appropriate motion any failure of the chapter 7 trustee to administer available assets.
ORDER
For the foregoing reasons, it is
ORDERED:
1. The motion for default judgment is denied.
2. The motion to dismiss is granted in part and denied in part. Paragraphs 2, 3, and 4 of the complaint are dismissed with leave to file an amended complaint within 20 days of the entry of this order setting forth a cause of action for nondischargeability under § 523(a)(2), Bankruptcy Code. Paragraphs 8, 9, and 10 of the complaint are dismissed without prejudice to the right of the plaintiff to seek appropriate relief by motion in the defendants' bankruptcy case. Regardless of whether an amended complaint is filed, the cause of action objecting to the debtors' discharge under § 727(a)(2) and (a)(4) remains before the court.
3. The clerk will mail a copy of this order to counsel for the plaintiff, former counsel for the defendants, and to the defendants pro se.