Irving H. Picard v. Saul B. Katz et al

Filing 76

REPLY MEMORANDUM OF LAW re: 73 Memorandum of Law RESPONSE TO AMICUS BRIEF ON RESET TO ZERO METHODOLOGY. Document filed by Charles 15 Associates, Charles 15 LLC, Charles Sterling LLC, Charles Sterling Sub LLC, College Place Enterprises LLC, Coney Island Baseball Holding Company LLC, Estate of Leonard Schreier, FFB Aviation LLC, FS Company LLC, Fred Wilpon Family Trust, Arthur Friedman, Ruth Friedman, Iris J. Katz and Saul B. Katz Family Foundation, Inc., Judy and Fred Wilpon Family Foundation, Inc., Amy Beth Katz, David Katz, Dayle Katz, Gregory Katz, Howard Katz, Iris Katz, 157 J.E.S. LLC, Air Sterling LLC, BAS Aircraft LLC, Jason Bacher, Bernard L. Madoff Investment Securities LLC., Bon Mick Family Partners LP, Bon-Mick, Inc., Brooklyn Baseball Company LLC, C.D.S. Corp., Michael Katz, Saul B. Katz, Todd Katz, Katz 2002 Descendants' Trust, Heather Katz Knopf, Natalie Katz O'Brien, Mets II LLC, Mets Limited Partnership, Mets One LLC, Mets Partners, Inc., Minor 1 (REDACTED), Minor 2 (REDACTED), L. Thomas Osterman, Phyllis Rebell Osterman, Realty Associates Madoff II, Red Valley Partners, Robbinsville Park LLC, Ruskin Garden Apartments LLC, Saul B. Katz Family Trust, Michael Schreier, Deyva Schreier Arthur, See Holdco LLC, See Holdings I, See Holdings II, Sterling 10 LLC, Sterling 15C LLC, Sterling 20 LLC, Sterling Acquisitions LLC, Sterling American Advisors II LP, Sterling American Property III LP, Sterling American Property IV LP, Sterling American Property V LP, Sterling Brunswick Corporation, Sterling Brunswick Seven LLC, Sterling Dist Properties LLC, Sterling Equities, Sterling Equities Associates, Sterling Equities Investors, Sterling Heritage LLC, Sterling Internal V LLC, Sterling Jet II Ltd., Sterling Jet Ltd., Sterling Mets Associates, Sterling Mets Associates II, Sterling Mets LP, Sterling Pathogenesis Company, Sterling Third Associates, Sterling Thirty Venture LLC, Sterling Tracing LLC, Sterling Twenty Five LLC, Sterling VC IV LLC, Sterling VC V LLC, Edward M. Tepper, Elise C. Tepper, Jacqueline G. Tepper, Marvin B. Tepper, Valley Harbor Associates, Kimberly Wachtler, Philip Wachtler, Bruce N. Wilpon, Daniel Wilpon, Debra Wilpon, Fred Wilpon, Jeffrey Wilpon, Jessica Wilpon, Judith Wilpon, Richard Wilpon, Scott Wilpon, Valerie Wilpon, Wilpon 2002 Descendants' Trust, Robin Wilpon Wachtler. (Wagner, Karen)

UNITED STATES DISTRICT COURT
SOUTHERN DISTRICT OF NEW YORK
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:
IRVING H. PICARD,
:
:
Plaintiff,
:
:
11-CV-03605 (JSR)
- against :
:
SAUL B. KATZ, et al.,
:
:
Defendants.
:
:
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RESPONSE TO AMICUS BRIEF ON “RESET TO ZERO” METHODOLOGY

TABLE OF CONTENTS

PAGE

ARGUMENT...........................................................................................................1
CONCLUSION........................................................................................................4

i

TABLE OF AUTHORITIES

PAGE
CASES
In re Bernard L. Madoff Inv. Sec. LLC, No. 08-01789 (BRL)
(Bankr. S.D.N.Y. Nov. 15, 2011) ...........................................................................3
In re Bernard L. Madoff Inv. Sec. LLC, 10-2378-bk, 2011 U.S. App. LEXIS 16884
(2d Cir. Aug. 16, 2011) ...........................................................................................3
STATUTES
11 U.S.C. § 548(a)(1)(A)............................................................................................ 1, 3, 4
11 U.S.C. § 548(d)(2)(A).....................................................................................................1
NYUCC § 8-102(a)(14).......................................................................................................2
NYUCC § 8-105 .................................................................................................................2
NYUCC § 8-501 .................................................................................................................2
NYUCC § 8-503 .................................................................................................................2

ii

Defendants respectfully submit this response to the brief, filed on November 30,
2011, by certain amici who propose a “reset to zero” methodology to address the question
posed by this Court as to how to evaluate transactions within the two-year period of
Section 548(a)(1)(A) of the Bankruptcy Code.
ARGUMENT
Amici propose, in the event this Court does not accept Defendants’ position, an
alternative they call “reset to zero.” As Defendants understand this approach, if a
customer had withdrawn more than he deposited within the two-year period, any transfer
in excess of the amount deposited could be avoided unless “value” existed for some or all
of that excess. Value is determined by the customer’s balance prior to the two-year
period. If the customer had withdrawn less than he deposited before the two-year period,
the balance in the customer’s account at the start of the two-year period would constitute
“value.” If the customer had withdrawn more than he deposited before the start of the
two-year period, no such “value” would exist, but the customer’s opening position would
be “reset to zero” so that a customer’s liability for transfers within the two-year period
would not be increased by withdrawals occurring before the two-year period, which
cannot be avoided.
Defendants agree with amici that the Trustee’s approach, under which transfers
before the two-year period may increase the liability of the customer for transfers within
the period, violates the temporal limit of Section 548(a)(1)(A). Defendants further agree
that antecedent debt that exists at the beginning of the period constitutes “value” under
Section 548(d)(2)(A). Defendants contend, however, that such “value” may not be
limited to what the Trustee terms “principal.”

1

BLMIS was a registered broker and, thus, a “securities intermediary” under
Article 8 of the New York Uniform Commercial Code (“NYUCC”). NYUCC
§ 8-102(a)(14). That fact causes this case to be very different from other Ponzi scheme
cases, in which the wrongdoer either issued direct interests in a fraudulent scheme or sold
assets that were not financial assets, activities to which no particular statutory system
applied. Here, specific rules under Article 8 and the federal securities laws governed
transactions with BLMIS before the onset of its SIPA case. 1 The application of those
rules is especially important where fraud is perpetrated by a securities intermediary in the
indirect holding system, because a customer holding a securities entitlement has no
protection other than Article 8. There are no certificates, and there is no vault. There is
only the law.
Under Article 8, BLMIS’ statements established its legal obligation to customers.
NYUCC § 8-501. That obligation constituted antecedent debt—even if SIPC would not
have been responsible for the full amount and even if the full amount would not
constitute a priority “net equity” claim to the fund of customer property. For avoidance
purposes, the determinative question is whether a transfer discharged any valid obligation
of a debtor, and there is no dispute that BLMIS was liable for the full amount
1

The Trustee’s only argument against the application of Article 8 is that it is
overridden or preempted by SIPA. Nothing in SIPA purports to override the substantive
provisions of Article 8, which establish the legal entitlements of brokerage customers.
Article 8’s distribution provision is preempted after a SIPA case is filed. NYUCC
§ 8-503 cmt. 1 (“For example, the distributional rules for stockbroker liquidation
proceedings under the Bankruptcy Code and the Securities Investor Protection Act
(‘SIPA’) provide that all customer property is distributed pro rata among all customers in
proportion to the dollar value of their total positions, rather than dividing the property on
an issue by issue basis.”). But the distributional rules are not at issue here. At issue here
is the broker’s obligation to the customer before any SIPA case is commenced. That is
governed by NYUCC Section 8-105, which is not retroactively overridden or preempted
by any provision of SIPA.
2

acknowledged on a BLMIS statement. The Trustee has not even sought to avoid these
obligations. 2 On the contrary, he has repeatedly stated that, after the SIPA filing, “[a]ll
BLMIS customers who filed claims—whether their net equity customer claims were
allowed or denied—are general creditors of the BLMIS estate.” (Trustee’s Sixth Interim
Report for the Period Ending Sept. 30, 2011, In re Bernard L. Madoff Inv. Sec. LLC,
No. 08-01789 (BRL), doc. no. 4529, at ¶ 115 (Bankr. S.D.N.Y. Nov. 15, 2011).) The
Second Circuit has concurred that customers have claims for the securities BLMIS owed
them. 3 Customers had exactly the same claims in the years before the SIPA filing and,
whether based on Article 8, common law, or both, these obligations to customers created
antecedent debt.
Therefore, there is no dispute that “value” existed immediately prior to the
start of the two-year period based on what BLMIS owed its customers. The only
dispute concerns how to calculate that “value.” Defendants contend that Section
548(a)(1)(A) of the Bankruptcy Code requires that transactions before the start of
the two-year period be accorded recognition under Article 8, and under Article 8
what was owed is the amount reflected on a customer statement. Consequently,
2

Nor could the Trustee do so. The only person Madoff could have intended to
defraud when a deposit to BLMIS was made was the depositing customer. The Trustee
could avoid such an obligation only if he could prove that a particular customer was
willfully blind to Madoff’s fraud when the deposit was made.
3

The Trustee has argued repeatedly that the Second Circuit has squarely rejected
the contention that the statements created valid debt. That contention misrepresents the
holding in the Net Equity Decision, which is that customers have claims for securities
based on their statements, but that in this case SIPA permits the Trustee to determine that
“net equity” claims may be limited to the amount of a customer’s net investment. In re
Bernard L. Madoff Inv. Sec. LLC, 10-2378-bk, 2011 U.S. App. LEXIS 16884, at *19-20,
27 (2d Cir. Aug. 16, 2011). The “net equity” definition is not relevant to the avoidance
analysis.
3

Defendants respectfully disagree with the alternative proposed by amici as to
quantification, although not with amici’s conclusion that transfers before the start
of the two-year period may not be avoided and may not increase the liability of a
customer for transfers within the two-year period as set by Section 548(a)(1)(A).
CONCLUSION
Defendants respectfully submit that the temporal limitation of Section
548(a)(1)(A) does not permit the Trustee to disregard the parties’ legal rights, or
to avoid transfers, before its two-year period commences and that the customer’s
account statement balance at the start of the two-year period, plus any deposits
during the period, constitute “value.”
Dated: New York, New York
December 6, 2011
DAVIS POLK & WARDWELL LLP
By: /s/ Karen E. Wagner
Karen E. Wagner
Dana M. Seshens
450 Lexington Avenue
New York, New York 10017
Telephone:
[phone]
Facsimile:
[phone]

Of Counsel:
Robert B. Fiske, Jr.
Robert F. Wise, Jr.

Attorneys for Defendants

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