Field v. Hinahara et al
Filing
20
ORDER (1) RULING ON QUESTION OF LAW REGARDING THE "FRAUD ON THE PARTNERSHIP" EXCEPTION, AND (2) REQUESTING COMMENT ON FORM OF QUESTION TO BE CERTIFIED TO THE HAWAII SUPREME COURT. Signed by JUDGE J. MICHAEL SEABRIGHT on 2/20/2015. (af c) re: 1 CERTIFICATE OF SERVICEParticipants registered to receive electronic notifications received this document electronically at the e-mail address listed on the Notice of Electronic Filing (NEF). Participants not registered to receive electronic notifications were served by first class mail on the date of this docket entry
IN THE UNITED STATES DISTRICT COURT
FOR THE DISTRICT OF HAWAII
In re MAUI INDUSTRIAL LOAN & )
FINANCE CO., INC.,
)
)
Debtor.
)
______________________________ )
DANE S. FIELD,
)
)
Plaintiff,
)
)
vs.
)
)
DENNIS I. HINAHARA; MYRA S. )
HINAHARA,
)
)
Defendants.
)
_____________________________ )
CIV. NO. 14-00457 JMS-KSC
ORDER (1) RULING ON QUESTION
OF LAW REGARDING THE “FRAUD
ON THE PARTNERSHIP”
EXCEPTION, AND (2) REQUESTING
COMMENT ON FORM OF QUESTION
TO BE CERTIFIED TO THE HAWAII
SUPREME COURT
ORDER (1) RULING ON QUESTION OF LAW REGARDING THE
“FRAUD ON THE PARTNERSHIP” EXCEPTION, AND (2) REQUESTING
COMMENT ON FORM OF QUESTION TO BE CERTIFIED TO THE
HAWAII SUPREME COURT
I. INTRODUCTION
This Order rules on a threshold issue of law in this adversary
bankruptcy proceeding arising out of a Ponzi scheme perpetrated by Lloyd Kimura
(“Kimura”).1 Plaintiff bankruptcy trustee Dane S. Field (“Trustee”), seeks to avoid
1
Donell v. Kowell, 533 F.3d 762, 767 n.2 (9th Cir. 2007), explains that:
A Ponzi scheme is a financial fraud that induces investment by
promising extremely high, risk-free returns, usually in a short time
(continued...)
nearly a million dollars of fraudulent transfers made to Defendants Dennis and
Myra Hinahara (the “Hinaharas”) by Debtor Maui Industrial Loan and Finance
Company, Inc., which sometimes did business as Maui Finance Company
(“MFC”) in connection with Kimura’s Ponzi scheme. Currently before the court
are Objections under 28 U.S.C. § 157(c)(1) to a July 11, 2014 Proposed Findings
of Fact and Conclusions of Law (“PFOF/PCOL”) of the United States Bankruptcy
Court for the District of Hawaii that, among other matters, found that the
Hinaharas took most of the transfers in good faith.2
At issue in this Order is specific language -- emphasized below -- in
the Uniform Partnership Act (“UPA”) § 12 (previously adopted in Hawaii Revised
Statutes (“HRS”) § 425-112 (1972)), and the Revised Uniform Partnership Act
1
(...continued)
period, from an allegedly legitimate business venture. “The fraud
consists of funnelling proceeds received from new investors to
previous investors in the guise of profits from the alleged business
venture, thereby cultivating an illusion that a legitimate
profit-making business opportunity exists and inducing further
investment.” In re United Energy Corp., 944 F.2d 589, 590 n.1
(9th Cir. 1991). See generally Cunningham v. Brown, 265 U.S. 1,
7-9 (1924) (detailing the remarkable criminal financial career of
Charles Ponzi).
2
To be clear, this Order rules only on the threshold question of law. Although this Order
recites certain undisputed facts and sets forth certain legal principles, the Objections to the
PFOF/PCOL remain pending -- the parties should not construe statements in this Order as
definitively adopting (or rejecting) any of the specific findings or conclusions in the
PFOF/PCOL.
2
(“RUPA”) § 102(f) (adopted in HRS § 425-102(f) (2000)). Specifically, UPA
§ 12 provides:
Notice to any partner of any matter relating to
partnership affairs, and the knowledge of the partner
acting in the particular matter, acquired while a partner
or then present to his mind, and the knowledge of any
other partner who reasonably could and should have
communicated it to the acting partner, operate as notice
to or knowledge of the partnership, except in the case of
a fraud on the partnership committed by or with the
consent of that partner.
(Emphasis added.) Likewise, RUPA § 102(f) provides:
A partner’s knowledge, notice, or receipt of a
notification of a fact relating to the partnership is
effective immediately as knowledge by, notice to, or
receipt of a notification by the partnership, except in the
case of a fraud on the partnership committed by or with
the consent of that partner.
(Emphasis added.) The court received supplemental briefing from the parties on
the meaning and potential applicability of the emphasized “fraud on the
partnership” exception to imputation of a partner’s knowledge in both UPA § 12
and RUPA § 102(f).3 See Doc. Nos. 13, 16 & 17. Based on the following, the
court concludes that the “fraud on the partnership” exception does not apply.
3
Because Kimura’s Ponzi scheme ran from the late 1980’s, both UPA § 12 and RUPA
§ 102(f) are potentially at issue. The “fraud on the partnership” exception, however, is identical
under either model Act.
3
Given that conclusion, the court squarely faces the question whether
Kimura’s knowledge of his Ponzi scheme is imputed by law to the Hinaharas, who
were partners with Kimura in certain real estate transactions. The answer turns on
a question of Hawaii law which the court intends to certify to the Hawaii Supreme
Court under Hawaii Rule of Appellate Procedure (“HRAP”) 13(a). Accordingly,
the court requests comment from both parties as to the form of the question, as
explained to follow.
II. BACKGROUND
A.
Kimura’s Ponzi Scheme4
Kimura was a certified public accountant on Maui who, beginning in
1985, was the principal owner and the person in control of MFC. PFOF/PCOL at
3, ¶ 3. MFC was licensed under Hawaii law as a “nondepository financial services
loan company,” engaged in the business of making loans. Id. ¶ 2. Although
Hawaii law forbids nondepository financial services loan companies from
accepting deposits from the public, MFC ignored this prohibition and accepted
millions of dollars of deposits from dozens of depositors. Id.
4
The court describes the background of Kimura’s Ponzi scheme only as necessary to
explain the context for this ruling. Many more details are set forth in the PFOF/PCOL. Doc. No.
1-2. See also generally Field v. DeCoite (In re Maui Indus. Loan & Fin. Co.), 2013 WL
2897792 (D. Haw. June 12, 2013) (describing the scheme in a related adversary action).
Likewise, this Order focuses on only one of several issues raised in the Objections to the
PFOF/PCOL.
4
Beginning in the late 1980s, Kimura began to operate a Ponzi
scheme. Id. ¶ 7. He induced individuals (many of them his accounting clients) to
invest money with him or MFC, often representing that MFC was a bank or
savings and loan business that made loans at high interest rates secured by
collateral and that investors would receive interest at rates usually ranging from
eight to twelve percent. Id. Contrary to his promises, he usually did not use the
investors’ funds to make loans, but instead used them to finance his personal
businesses and investments, to maintain his personal lifestyle, and (in order to
maintain the perceived legitimacy of his business) to pay earlier investors their
promised principal and interest. Id. He also generated false monthly statements
and tax returns to convince investors that he was using their funds as promised.
Id. In order to generate some of the cash needed to keep the Ponzi scheme afloat,
he fraudulently obtained bank loans and looted his accounting firm’s retirement
plan accounts. Id.
The Hinaharas are husband and wife and residents of Maui. Id. ¶ 4.
They met Kimura in the early 1980s. Id. ¶ 5. Over the course of their relationship,
the Hinaharas engaged in a number of business ventures with Kimura. For
example, the Hinaharas made a number of monetary transfers to MFC from 1990
through June 2007, which Mr. Hinahara thought of as “deposits” in a savings
5
account, and on which MFC regularly paid the interest due (although on some
occasions the payments were a few days late). Id. ¶¶ 9, 12.
Beginning in 1988, Kimura and his wife and the Hinaharas also
jointly purchased interests in numerous parcels of real estate. Id. ¶ 14. Some of
the properties were acquired by Kimura and Mr. Hinahara; some investments
included one or both of their wives; and some included other unrelated people. Id.
Each of these joint investments in real estate was a partnership, an association of
two or more persons to carry on as co-owners a business for profit. Id. ¶ 15.5
Most of the joint investments and companies created by the Hinaharas
and the Kimuras were successful and profitable. Id. ¶ 17. With the agreement of
the other investors and/or partners, Kimura managed the day-to-day affairs of
these ventures and companies, which included keeping the books, collecting rents
and other income, paying expenses, and arranging for routine upkeep of the
properties. Kimura also deposited income from these ventures directly into the
Hinaharas’ accounts. Bankr. Dkt. 147 at 45, 49; id., Bankr. Dkt. 148 at 84.
On October 19, 2009, the Hawaii Commissioner of Financial
Institutions made a preliminary finding that MFC was unlawfully soliciting,
5
The Hinaharas and the Kimuras also formed, owned, and served as the officers,
directors, or managers of several corporations and limited liability companies. PFOF/PCOL at 8,
¶ 16. This Order, however, concerns only the Kimura/Hinahara partnerships.
6
accepting, or holding deposit accounts, and issued a temporary cease and desist
order. Id. ¶ 25. MFC failed to respond to the temporary order, and the
Commissioner made it permanent on November 3, 2009. Id. On January 28,
2010, MFC filed a chapter 7 bankruptcy petition.
Kimura was charged in federal court with mail fraud, bank fraud,
theft from an employee benefit plan, and other crimes arising out of MFC. He was
convicted after entering into a January 5, 2011 plea agreement in which he
admitted to operating a Ponzi scheme. Id. ¶ 27. In the plea agreement, Kimura
admitted among other facts that:
Once individual investors provided funds to [Kimura]
the funds were usually not loaned to individual
borrowers or businesses as represented, but were instead
deposited into [MFC’s] bank account . . . . The funds
were then expended on [Kimura’s] personal and business
endeavors to include the purchase of land and buildings
as well as other business ventures of [Kimura].
....
Instead of using investor funds for the purposes
represented . . . [Kimura] used investor funds to maintain
the liquidity of his businesses [and] to purchase real
estate[.]
Doc. No. 89-1 at 198-99, Pl.’s Ex. 20 at 5, 6 ¶¶ 8e & 8h. Likewise, in a related
case, the Bankruptcy Court explained that
[t]he plea agreement establishes that Mr. Kimura’s Ponzi
structure was not isolated to one specific entity, but
7
rather encompassed a web of transactions all
orchestrated by Mr. Kimura himself. . . . The plea
agreement, therefore, establishes Mr. Kimura’s and
MFC’s fraudulent intent as to all of the transactions
conducted during the Ponzi scheme.
Field v. Marumoto (In re Maui Indus. Loan & Fin. Co.), 2013 WL 1909536, at *1
(Bankr. D. Haw. May 8, 2013).
B.
The Adversary Complaint and the PFOF/PCOL
As part of MFC’s bankruptcy proceeding, Trustee filed an adversary
complaint against the Hinaharas seeking to avoid nearly a million dollars of
fraudulent transfers made to the Hinaharas by MFC in connection with Kimura’s
Ponzi scheme. The Hinaharas asserted an affirmative good faith defense under
HRS § 651C-8(a). Trustee did not dispute that the Hinaharas had no actual
knowledge that Kimura and/or MFC was insolvent, operating a Ponzi scheme, or
making transfers with the intent to hinder, delay, or defraud creditors until
sometime after MFC filed its bankruptcy petition in 2010. PFOF/PCOL at 26,
¶ 12. Rather, Trustee argued that the Hinaharas did not take any transfers in good
faith because the Hinaharas had inquiry notice of the fraud, and/or because
knowledge of Kimura’s fraud is imputed to the Hinaharas as a matter of law given
the partnerships they formed with Kimura.
The Bankruptcy Court issued its PFOF/PCOL after a seven-day trial
8
which was limited to the Hinaharas’ good faith defense (the Bankruptcy Court had
previously determined as a matter of law at the summary judgment stage that the
transfers at issue were “fraudulent” as having been made “with actual intent to
hinder, delay, or defraud” creditors under HRS § 651C-4(a)(1)).6 It determined
that the Hinaharas took the transfers in good faith such that Trustee could recover
only the difference between MFC’s transfers to the Hinaharas and the Hinaharas’
deposits to MFC -- $52,729.75 -- plus pre-judgment interest. This amount is
substantially less than the $988,879.75 originally sought by Trustee. Trustee
objects under 11 U.S.C. § 157(c)(1).7
C.
The Threshold Legal Issue
Because Kimura and the Hinaharas were partners or joint venturers in
certain real estate transactions related to Kimura’s Ponzi scheme, Trustee seeks to
impute Kimura’s knowledge of the Ponzi scheme to the Hinaharas. And, of
course, imputing such knowledge would negate the Hinaharas’ defense of good
faith. Trustee seeks to apply general principles of partnership law from UPA § 12
and RUPA § 102(f) -- now codified in HRS § 425-102(f) -- that knowledge of a
6
It also granted partial summary judgment in favor of the Hinaharas, ruling under 11
U.S.C. § 548 that Trustee may not recover transfers made more than two years before the
bankruptcy filing. PFOF/PCOL at 1-2.
7
The Hinaharas also filed a limited Objection, which is not pertinent to this Order.
9
partner relating to partnership affairs is imputed to the partnership. Trustee
contends that knowledge imputed to the partnership is also then necessarily
imputed to the individual partners -- imputation to all partners follows from the
nature and definition of a partnership, which HRS § 425-101 defines as “an
association of two or more persons to carry on as co-owners a business from
profit.”
The Bankruptcy Court disagreed, concluding that the plain language
of § 425-102(f) (and its predecessor, HRS § 425-112 (1972))8 only imputes
knowledge of a partner to the partnership, and not to other partners. This
conclusion was based in part on the theory that modern partnership law considers
a partnership to be a distinct entity (in contrast to a perhaps outdated concept that
a partnership is no more than an association of persons). See HRS § 425-108(a)
(“A partnership is an entity distinct from its partners.”). The Bankruptcy Court
reasoned that “[t]he concept of imputation of notice among partners is an
anachronism,” PFOF/PCOL at 30, ¶ 19a, concluding that “[i]n short, the doctrine
that notice to one partner is imputed to all other partners was correct at common
8
Hawaii enacted HRS § 425-102(f) as part of its adoption of RUPA as a whole, effective
in 2000. See Act 284, 1999 Haw. Sess. L. 886. Prior to that, Hawaii followed UPA § 12 as
codified in 1972 in the prior HRS § 425-112 (1972). See Act 17, 1972 Haw. Sess. L. 174
(adopting the UPA).
10
law, but is no longer correct under UPA and RUPA.” Id. at 31, ¶ 19d.
Among other grounds, Trustee objects to the Bankruptcy Court’s
reading of Hawaii partnership law, arguing that the “anachronism” of imputation
of notice among partners is nevertheless valid and is embedded in caselaw. See,
e.g., Friend v. H.A. Friend & Co., 416 F.2d 526, 533 (9th Cir. 1969) (“Well
established concepts of partnership doctrine impute the knowledge and actions of
one partner to all others.”) (citations omitted); BMS P’ship v. Winter Park Devil’s
Thumb Inv. Co., 910 P.2d 61, 63 (Colo. App. 1995) (“Under the law of general
partnerships, notice to and knowledge of the general partner of the enterprise
operates as notice and knowledge to the partnership. Likewise, in a general
partnership, notice to the general partner also operates as notice to each partner.”)
(citations omitted); Affiliated FM Ins. Co. v. Kushner Cos., 627 A.2d 710, 716
(N.J. Super. 1993) (“Knowledge by one partner with respect to any matter relating
to a transaction within the ordinary scope of the partnership business is knowledge
to all partners. Knowledge with respect to partnership property is imputable to the
remaining partners regardless of the nature of the partnership.”) (citations
omitted).
Hawaii courts have not specifically addressed, after adoption of the
UPA and RUPA, whether a partner’s knowledge is necessarily imputed to other
11
individual partners (as opposed to imputed to the partnership). The Bankruptcy
Court recognized that the question is not answered by general statements of
Hawaii partnership law indicating that an “innocent” partner remains liable for
actions of other partners committed within the scope of the partnership’s business.
See PFOF/PCOL at 32-33, ¶¶ 20b & 20c (distinguishing Fujimoto v. Au, 95 Haw.
116, 160, 19 P.3d 699, 743 (2001) (“[L]ack of actual knowledge of wrongdoing
and innocence of fraud, in themselves, do not absolve one joint venturer of
liability for the fraud of another joint venturer acting within the scope and
authority of the joint venture.”) (citing E. Iron & Metal Co. v. Patterson, 39 Haw.
346, 356-58 (1952)). “In the absence of Hawaii case law directly on point . . . [the
Bankruptcy Court] predict[ed] that Hawaii’s state courts would follow the plain
language of RUPA and UPA and hold that notice to a partner is imputed to the
partnership but not to the other partners.” PFOF/PCOL at 29, ¶ 18.
And so, the legal question raised by Trustee is whether, under Hawaii
law, a partner’s knowledge of a fact relating to the partnership is imputed to other
partners or only to the partnership itself. As discussed at the January 23, 2015
hearing, the court will certify this important question of Hawaii law to the Hawaii
Supreme Court if the requirements under HRAP 13(a) are met. Rule 13(a)
provides that a federal district court may certify a question to the Hawaii Supreme
12
Court when the question (1) concerns Hawaii law; (2) is “determinative of the
cause;” and (3) there is no clear controlling precedent in Hawaii judicial decisions.
And this leads to the threshold issue -- if the “fraud on the
partnership” exception to imputation of a partner’s knowledge in § 425-102(f)
applies, then the primary legal question is moot. That is, even if knowledge of a
partner is generally imputed to other partners, it would not matter here if the
“fraud on the partnership” exception applies -- Kimura’s knowledge of his Ponzi
scheme would not otherwise be imputed to the partnerships (nor, in turn, to the
Hinaharas). The legal question as to imputation of knowledge among partners
would not be “determinative of the cause” under HRAP 13(a), and certification
would be improper. Accordingly, before certifying the question to the Hawaii
Supreme Court, the court must first determine whether the “fraud on the
partnership” exception applies to the facts of this case.
IV. DISCUSSION
A.
The Issue Is Properly Before the Court
Trustee contends that this court lacks jurisdiction under 11 U.S.C.
§ 157(c)(1) to consider whether the “fraud on the partnership” exception applies,
arguing that the Hinaharas failed to “timely and specifically object” to the
Bankruptcy Court’s determination that they “offered no evidence that Kimura
13
perpetrated or consented to a fraud on any of their partnerships.” PFOF/PCOL at
28 n.83.9 The court disagrees.
Initially, it is unclear whether § 157(c)(1)’s requirement for a “timely
and specific” objection is jurisdictional, or whether it is merely a requirement
triggering de novo review (with findings otherwise being subject to review for
clear error). See, e.g., In re Preston, 516 B.R. 606, 609 (C.D. Cal. 2014)
(concluding that parties waived their right to de novo review of proposed findings
and conclusions by failing to timely object under § 157(c) and Federal Rule of
Bankruptcy Procedure 9033, and thus the district court reviewed the bankruptcy
court’s factual findings for clear error). The court, however, need not resolve this
question because the issue is otherwise properly before the court.
Although the Hinaharas did not initially raise the “fraud on the
partnership” exception, the Hinaharas discussed the issue (at least tangentially) in
9
Section 157(c)(1) provides
A bankruptcy judge may hear a proceeding that is not a core
proceeding but that is otherwise related to a case under title 11. In
such proceeding, the bankruptcy judge shall submit proposed
findings of fact and conclusions of law to the district court, and any
final order or judgment shall be entered by the district judge after
considering the bankruptcy judge’s proposed findings and
conclusions and after reviewing de novo those matters to which
any party has timely and specifically objected.
(Emphasis added.)
14
their Response to Trustee’s Objections. See Doc. No. 5-1, Defs.’ Response at 1415 n.10.10 The court considers that reference sufficient to preserve the threshold
issue, especially where the Hinaharas prevailed before the Bankruptcy Court on
the legal issue -- the Bankruptcy Court concluded that Kimura’s knowledge is not
imputed to the Hinaharas under its interpretation of Hawaii law. Logically, the
Hinaharas would not be expected to object to that conclusion, and would not need
to raise any exception to imputation in the first instance. And, in any event, the
meaning and applicability of § 425-102(f) is squarely before the court based, at
minimum, on the Trustee’s Objection arguing that the Bankruptcy Court erred as a
matter of law in not imputing Kimura’s knowledge to the Hinaharas. The court
thus proceeds to examine the threshold issue.
B.
The “Fraud on the Partnership” Exception Does Not Apply
In addressing this issue, it is important to understand exactly what
knowledge Trustee seeks to impute. Trustee argues that “Kimura’s knowledge of
the Ponzi scheme is imputed to Defendants as a matter of law.” Doc. No. 6, Pl.’s
Obj. at 4 (emphasis added); see also PFOF/PCOL at 27, ¶ 13 (“The trustee argues
10
The Hinaharas mentioned in a footnote that “even assuming one partner’s knowledge
may be imputed to another partner individually, the plain language of the UPA limits imputation
of knowledge to ‘a fact relating to the partnership’ and provides an exception for acts of fraud on
the partnership. HRS § 425-102(f)[.]” Doc. No. 5-1, Defs.’ Response at 14-15 n.10 (emphasis
added).
15
that the Hinaharas and Kimura were partners in various business ventures and that
therefore Kimura’s knowledge of his Ponzi scheme is imputed to the Hinaharas as
a matter of law.”).11 In particular, Trustee points to (among other “business
endeavors”) “twenty Kimura/Hinahara partnerships.” Doc. No. 12, Pl.’s Suppl.
Mem. at 1. Among other assertions, Trustee’s theory, as clarified in supplemental
briefing, is that:
•
“All of the Kimura/Hinahara partnerships were part of Kimura’s
Ponzi scheme, beginning with the first one, formed in November
1988;”
•
“Every transfer Kimura and MFC made to the Kimura/Hinahara
partnerships was made with fraudulently-obtained proceeds of
Kimura’s Ponzi scheme and with the actual intent to defraud;”
and
•
“All of the transfers that the Hinaharas took from MFC were
fraudulently obtained proceeds of Kimura’s Ponzi scheme.”
Id. at 1-2.
Further, Trustee bases his theory beyond Kimura only using proceeds
of his Ponzi scheme to invest in Kimura/Hinahara real estate ventures -- he also
11
Trustee separately argues that the Hinaharas were involved with partnerships with
MFC itself -- a claim that the Bankruptcy Court rejected. See PFOF/PCOL at 11, ¶ 23 (“These
loans were not associations of two or more persons to carry on as co-owners of a business for
profit. The Hinaharas did not co-own anything with MFC.”); id. at 27, ¶ 14 (“The coordinated
loans made by the Hinaharas and MFC . . . were not partnerships.”). This Order does not address
this argument -- the Order is limited to discussing whether Kimura’s knowledge is imputed to the
Hinaharas based on their real estate partnerships, and not on a theory that the Hinaharas
themselves participated in the Ponzi scheme or were partners with MFC.
16
asserts that those ventures were actually “part of the Ponzi scheme.” Doc. No. 14,
Tr. Jan. 23, 2015 Hearing at 6-7. Not only were proceeds of the Ponzi scheme
used to fund real estate partnerships, but the partnerships were used “to build up
equity to further the Ponzi scheme.” Id. at 9. Trustee argues that “proceeds from
the real estate sales went into [MFC],” and “[e]verything that went into [MFC]
then came out.” Id. at 11.
Among the Kimura/Hinahara partnerships, Trustee specifically
identifies (1) a June 1999 “2030 Vineyard Street” partnership where money was
transferred from the partnership to MFC, Doc. No. 15, Pl.’s Suppl. Statement at 45; and (2) transactions involving a “14 Wailana Place” partnership, a “2022
Kahekili Highway” partnership, and a “181 Baldwin Avenue” partnership that
were used by Kimura to move proceeds in and out of Kimura’s accounts. Id. at 56.12 The court thus accepts, for purposes of this Order, that at least some
Kimura/Hinahara partnerships were involved in Kimura’s Ponzi scheme -- both as
recipients of proceeds as well as providing funds to Kimura’s scheme (although,
again, Trustee does not dispute that, as found by the Bankruptcy Court, the
Hinaharas had no actual knowledge that Kimura was operating a Ponzi scheme
12
The court overrules the Hinaharas’ objection to the scope of Trustee’s supplemental
filing. See Doc. No. 19, Defs.’ Suppl. Response at 2-3 (objecting to length and scope of
Trustee’s Memorandum).
17
until sometime after MFC filed its bankruptcy petition in 2010).
Given these facts, the “fraud on the partnership” exception does not
apply. Although the court has found no published Hawaii appellate case
specifically holding as such under § 425-102(f), several cases interpreting RUPA
§ 102(f) and UPA § 12 explain that the exception does not apply where the
partnership “benefits” from the fraud.13
Grassmueck v. American Shorthorn Assocation, 365 F. Supp. 2d
1042, 1049-50 (D. Neb.), aff’d, 402 F.3d 833 (8th Cir. 2005), summarizes the
applicable standard:
The fraud exception described in UPA § 102(f) does not
apply 1) when the fraud is committed for the benefit of
the partnership, 2) with respect to the rights of third
parties acting without knowledge of the fraud, or
3) when the partner perpetrating the fraud acts as the sole
representative or “alter-ego” of the partnership.
See also, e.g., F.D.I.C. v. Braemoor Assocs., 686 F.2d 550, 556 (7th Cir. 1982)
(“The exception in section 12 of the Uniform Partnership Act for frauds on the
partnership is not applicable to this case, because [the partner] was committing
fraud on behalf of rather than against the partnership.”) (citations omitted); cf.
13
Hawaii statutes are generally interpreted consistently with uniform laws. See HRS § 124 (“All provisions of uniform acts adopted by the State shall be so interpreted and construed as
to effectuate their general purpose to make uniform the laws of the states and territories which
enact them.”)).
18
F.D.I.C. v. Jeff Miller Stables, 573 F.3d 289, 302 (6th Cir. 2009) (Gilman J.,
concurring) (“[T]he fraud-on-the-partnership exception does not apply . . . when
the fraud is committed for the benefit of the partnership[.]”) (quoting Grassmueck,
365 F. Supp. 2d at 1049-50); cf. Impulsora Del Territorio Sur, S.A. v. Cecchini
(In re Cecchini), 780 F.2d 1440, 1444 (9th Cir. 1986) (“It is also undisputed that
Cecchini was acting on behalf of the partnership and in the ordinary course of the
business of the partnership when he converted the funds. Robustelli, at a
minimum, participated in the benefits of the conversion, as evidenced by his
entering into the stipulated judgment in favor of plaintiff. Therefore, applying
basic partnership law, Cecchini’s knowledge and intent are imputed to
Robustelli.”) (emphasis added) (citations omitted).14
More generally, the “fraud on the partnership” exception is simply an
application of an “adverse interest” exception in basic agency law:
[U]nder the UPA, the normal rule imputing knowledge
from one partner to the partnership does not apply when
the partner in question is acting fraudulently. This is
known as the “adverse interest exception” to the
imputation rules. The refusal to impute knowledge to the
principal of an agent who is acting adversely to the
14
Cecchini was overruled on other grounds. See, e.g., Tsurukawa v. Nikon Precision,
Inc. (In re Tsurukawa), 287 B.R. 515, 525 n.11 (9th Cir. B.A.P. 2002) (“Cecchini was overruled
only as to the legal standard for determining the nondischargeability of a ‘willful and malicious’
injury for purposes of § 523(a)(6). However, the portion of Cecchini that addressed vicarious
liability for acts of an agent has not been overruled.”).
19
principal is an acknowledgment that the usual legal
fiction of complete agent-principal communication is
unjustified where the agent is acting adversely. Section
102(f) of the UPA . . . expresses this adverse interest
exception[.]
Grassmueck v. Am. Shorthorn Ass’n, 402 F.3d 833, 837 (8th Cir. 2005) (internal
citation omitted). And most jurisdictions follow the rule that “for the adverse
interest exception to apply, the agent ‘must have totally abandoned his principal’s
interests and be acting entirely for his own or another’s purposes[.]” Kirschner v.
KPMG LLP, 938 N.E.2d 941, 953 (N.Y. 2010) (quoting Center v. Hampton
Affiliates, 488 N.E.2d 828, 830 (N.Y. 1985) (emphasis in Kirschner)). See also,
e.g., In re Amerco Derivative Litig., 252 P.3d 681, 695 (Nev. 2011) (holding that
“the agent’s actions must be completely and totally adverse to the corporation to
invoke the exception”); Martin Marietta Corp. v. Gould, Inc., 70 F.3d 768, 773
(4th Cir. 1995) (“Complete adversity is required because when the agent is acting
both for his own benefit and that of his principal, the agent is acting within the
scope of the agency relationship[.]”). Indeed, this court applied the same rule in a
related bankruptcy matter arising out of Kimura’s Ponzi scheme. See DeCoite,
2013 WL 2897792, at *8 (“For [the adverse interest] exception to apply, ‘the agent
must have totally abandoned the principal’s interest and be acting for his own
purposes or those of another. In other words, the interests of the agent must be
20
completely adverse to those of his principal.’”) (quoting Great Divide Ins. Co. v.
AOAO Maluna Kai Estates, 2006 WL 2830885, at *7 (D. Haw. Sept. 28, 2006)).
“This rule avoids ambiguity where there is a benefit to both the
insider and the corporation, and reserves this most narrow of exceptions for those
cases -- outright theft or looting or embezzlement -- where the insider’s
misconduct benefits only himself or a third party; i.e., where the fraud is
committed against a corporation rather than on its behalf.” Kirschner, 938 N.E.2d
at 952. This is because “[a] fraud that by its nature will benefit the corporation is
not ‘adverse’ to the corporation’s interests, even if it was actually motivated by the
agent’s desire for personal gain.” Id. (citation omitted).
In discussing whether wrongdoing by an agent “benefits” a principal,
Kirschner reasoned that “[s]o long as the corporate wrongdoer’s [i.e., the agent’s]
fraudulent conduct enables the business [i.e., the principal] to survive -- to attract
investors and customers and raise funds for corporate purposes -- this [adverse
interest] test is not met.” Id. at 953 (citing Baena v. KPMG LLP, 453 F.3d 1, 7
(1st Cir. 2006) (“A fraud by top management to overstate earnings, and so
facilitate stock sales or acquisitions, is not in the long-term interest of the
company; but, like price-fixing, it profits the company in the first instance[.]”)).
“Consistent with these principles, any harm from the discovery of the
21
fraud -- rather than from the fraud itself -- does not bear on whether the adverse
interest exception applies. The disclosure of corporate fraud nearly always injures
the corporation.” Id. See also, e.g., Indus. Enters. of Am., Inc. v. Mazzuto (In re
Pitt Penn Holding Co.), 484 B.R. 25, 39-40 (Bankr. D. Del. 2012) (“Only the
‘short term benefit or detriment’ is relevant, and ‘not any detriment . . . resulting
from the unmasking of the fraud.’”) (quoting Kirschner); id. at 40 n.31
(“[A]llegations that an agent’s fraud drove the corporation to bankruptcy do not
compel a finding of adversity.”). “Generally, a fraud will suit the interests of both
a company and its insiders for as long as it remains a secret,” Kirschner, 938
N.E.2d at 953, and thus “[i]f the [principal] benefits while the fraud remains a
secret, the adverse interest exception will not apply.” Picard v. Merkin (In re
Bernard L. Madoff Inv. Sec. LLC), 515 B.R. 117, 147 (Bankr. S.D.N.Y 2014).
Applied here, the parties do not dispute that the Kimura/Hinahara
partnerships benefitted (at least in the short term) by obtaining proceeds from
Kimura’s Ponzi scheme. As the Bankruptcy Court found, “[m]ost of the joint
investments and companies of the Hinaharas and the Kimuras were successful and
profitable.” PFOF/PCOL at 8, ¶ 17. Moreover, the Hinaharas themselves both
testified that they benefitted from the profits of the partnerships. See Doc. No. 17,
Pl.’s Suppl. Response at 8 (citing testimony).
22
The Hinaharas argue that they (and the partnerships) were ultimately
harmed by the Ponzi scheme. They point out that they did not actually know of
the Ponzi scheme, and did not authorize any diversion of partnership funds to the
scheme. They argue that Kimura breached fiduciary duties owed to the
partnerships by intentionally misrepresenting or failing to disclose material facts.
Even accepting these arguments, however, the Hinaharas (and the
Kimura/Hinahara partnerships) also benefitted for several years by Kimura’s
actions. The fraud enabled the partnership business to survive and make money
(both for the partnerships and for the Hinaharas). Kirschner, 938 N.E.2d at 953.
Much of the harm to the partnerships and to the Hinaharas was from “the
discovery of the fraud -- rather than from the fraud itself.” Id. That is, even if the
Hinaharas and the Kimura/Hinahara partnerships were ultimately harmed by
Kimura’s Ponzi scheme, they nevertheless benefitted as well.
In short, the Hinaharas have not demonstrated that Kimura “totally
abandoned the principal’s interest [and that] the interests of [Kimura were]
completely adverse” to the partnerships. DeCoite, 2013 WL 2897792, at *8
(emphases added). The “fraud on the partnership” exception does not apply.15
15
Trustee also emphasizes that “the [fraud on the partnership] exception is not intended
to prevent third parties [such as a Trustee pursuing claims on behalf of creditors] from pursuing
(continued...)
23
C.
Certification to the Hawaii Supreme Court
Given that the “fraud on the partnership” exception does not apply,
the court unequivocally is presented with determining whether a partner’s
knowledge of a fact relating to the partnership is necessarily imputed to individual
partners or only the partnership under HRS § 425-102(f).16 All conditions of
HRAP 13(a) are satisfied. The issue is an important question of Hawaii law. The
answer is not found in any Hawaii appellate court decision. And the answer is
“determinative of the cause” now before this court in the Objections to the
Bankruptcy Court’s PFOF/PCOL. Accordingly, the court proposes to certify the
following question of Hawaii partnership law to the Hawaii Supreme Court:
15
(...continued)
claims against the entire partnership.” Doc. No. 17, Suppl. Response at 12. Trustee incorrectly
proffers this statement as Sixth Circuit law from Jeff Miller Stables, 573 F.3d at 302. Id. This
misrepresents Sixth Circuit law -- the citation is to the concurrence in Jeff Miller Stables which
by definition is not binding. See, e.g., Maryland v. Wilson, 519 U.S. 408, 413 (1997) (reasoning
that a statement in a concurrence does not constitute binding precedent).
In any event, because the “fraud on the partnership” exception does not apply where the
Hinaharas and the Kimura/Hinahara partnerships received substantial benefits from Kimura’s
Ponzi scheme, the court need not reach whether the exception would also not apply for other
reasons. See Grassmueck, 365 F. Supp. 2d at 1049-50 (giving two other instances where the
fraud exception in UPA § 102(f) does not apply: “with respect to the rights of third parties acting
without knowledge of the fraud,” and “when the partner perpetrating the fraud acts as the sole
representative or ‘alter-ego’ of the partnership”).
16
This court agrees with the Bankruptcy Court’s observation that facts related to
Kimura’s knowledge of the Ponzi scheme are “facts related to the partnership,” even if he was
not acting at all times in the best interests of the Kimura/Hinahara partnerships. See
PFOF/PCOL at 34-35, ¶ 24.
24
Is a partner’s knowledge of a fact relating to the
partnership necessarily imputed to the individual
partners, or is such knowledge only imputed to the
partnership itself, or is it imputed to both?
The parties may, however, propose an alternative version of the
question, or otherwise comment on the form of the question. Any such comment
is limited to five pages and is due by February 27, 2015.
To be clear, the court will not consider argument on whether to
certify the question. Rather, the court is seeking input on the form of the question.
After considering any input from the parties, the court will issue an Order
presenting the certified question. After the Order presenting the certified question
is filed, and if the question is accepted, the court intends to issue a separate Order
staying and administratively closing this action.
V. CONCLUSION
The “fraud on the partnership” exception to imputation in UPA § 12
and RUPA § 102(f) does not apply. Accordingly, by February 27, 2015, the
parties may file comments to the form of the question of Hawaii law that the court
///
///
///
25
intends to certify to the Hawaii Supreme Court.
IT IS SO ORDERED.
DATED: Honolulu, Hawaii, February 20, 2015.
/s/ J. Michael Seabright
J. Michael Seabright
United States District Judge
Field v. Hinahara, Civ. No. 14-00457 JMS-KSC, Order (1) Ruling on Question of Law
Regarding the “Fraud on the Partnership” Exception, and (2) Requesting Comment on Form of
Question to Be Certified to the Hawaii Supreme Court
26
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