Generally, there is a specific statute of limitations governing trustee avoidance actions in a bankruptcy case. Thus, it would have been fair for most defendants to believe that if a claim had not been asserted prior to the expiration of the statutory deadline, none would be forthcoming. However, in light of a recent decision by the U.S. Bankruptcy Court for the District of Delaware, that may no longer be the case. In Burtch v. Opus LLC (In re Opus East LLC), No. 11-52423, 2013 Bankr. LEXIS 3150 (Aug. 6, 2013), U.S. Bankruptcy Judge Mary F. Walrath found that a debtor's failure to list certain transfers in the statement of financial affairs filed with its bankruptcy petition constituted concealment, thereby equitably tolling the statute of limitations for their avoidance.
As a result, and even though there was no accusation or finding that the newly-added defendants themselves committed wrongdoing, the court permitted the Chapter 7 trustee to amend his complaint well after the statute of limitations expired to add new defendants and new transfers, totaling over $33 million. This decision highlights the unfortunate possibility that circumstances outside the control of a potential defendant could dramatically alter its potential exposure. Bankruptcy practitioners should take note of this decision and be sure to identify all prepetition transfers to their clients, whether pleaded before or after the statute of limitations has expired, to avoid risking a game-changing surprise well into the litigation.
The debtor, Opus East, filed a voluntary Chapter 7 bankruptcy petition July 1, 2009. The trustee, Jeoffrey L. Burtch, was appointed the next day. On June 30, 2011 (the eve of the expiration of the limitations period for avoidance claims under the Bankruptcy Code), Burtch filed a 47-count complaint against more than a dozen defendants asserting both common law and bankruptcy avoidance claims. Roughly 10 months later, Burtch sought and was granted leave to amend the complaint to add 13 more counts. Approximately six months after that, Burtch again amended the complaint when the court partially granted the defendants' motion to dismiss.
On March 6, 2013, nearly four years after the debtor filed its bankruptcy petition and nearly two years after the statute of limitations for bankruptcy avoidance actions appeared to have expired, Burtch moved for leave to amend the complaint again, seeking to add seven new counts for avoidance and recovery of two allegedly fraudulent and preferential transfers, totaling $33.5 million, against two new defendants. The newly-named defendants opposed Burtch's motion on two grounds: (1) the amendment was futile because it was added after the applicable statute of limitations had expired and did not relate back to the original complaint, and (2) the operative scheduling order prohibited the trustee from amending the complaint.
The court first analyzed the defendants' statute of limitations affirmative defense. Walrath acknowledged that the amendment was filed more than two years after the bankruptcy petition date and therefore after the statute of limitations had expired. The amendment was consequently futile unless the added claims related back to the original complaint or the statute of limitations could be equitably tolled.
With respect to whether the new claims related back to the original complaint, the new defendants argued that the allegations had no factual nexus to the original complaint because they relied upon an entirely new set of facts and transactions rather than restate a pleaded claim with greater particularity. The court agreed, concluding that the facts alleged were completely new and used to support claims different from those raised in the original complaint. The defendants also argued that the relation-back requirements under Rule 15 of the Federal Rules of Civil Procedure were not met because the original complaint lacked detail with respect to the transactions forming the basis for the amendment to provide sufficient notice that additional allegations may be pursued. Burtch argued in response that the general recovery language in the original complaint was sufficient to put the new defendants on notice that new allegations may be brought. Again the court agreed with the defendants, finding that the original complaint, which specifically identified by amount, transferor and transferee the transfers to be avoided, did not describe at all the new transfers sought to be avoided. The court therefore found that the new claims did not relate back to the claims articulated in the original complaint.
The court then turned to Burtch's argument that the statute of limitations was equitably tolled. The new defendants argued that equitable tolling was inapplicable because they did not affirmatively conceal any information from Burtch regarding the transfers. The defendants also argued that equitable tolling was not appropriate because Burtch failed to perform his statutory obligation to thoroughly investigate the financial affairs of the debtor. Specifically, Burtch did not satisfy the appropriate level of due diligence required because he was in possession of the debtor's books and records prior to the expiration of the statute of limitations and could have reasonably learned of the transfers at issue.
Burtch responded that the defendants' conduct was irrelevant to the equitable tolling analysis and that the debtor's negligent concealment of the transfers on its statement of financial affairs permitted equitable tolling. With respect to the defendants' argument that he failed to perform his statutory obligation to investigate, Burtch argued that he properly relied on the debtor's sworn statement of financial affairs, which did not include the transfers at issue, to meet his statutory obligation. Burtch argued that he could not have reasonably been expected to learn about the transfers prior to the expiration of the statute of limitations without some indication that they existed.
Walrath agreed with Burtch that equitable tolling applied. It was undisputed that the debtor failed to list the transfers on its statement of financial affairs. The court found this to be sufficient evidence of the debtor's concealment of the transfers. It was reasonable for Burtch to rely on the information Opus East provided because there was no indication the schedules were inaccurate.
The court also agreed that Burtch sufficiently carried out his duty of due diligence in seeking to learn the facts regarding the transfers. Walrath stated that Burtch "was not required to conduct an overwhelming search to specifically seek out transfers that were not listed on the debtor's sworn schedules. The trustee is entitled to rely on the information provided by the debtor in its statement of financial affairs and should not be expected to reconstruct the debtor's financial affairs on a hunch of possible concealment." The court found this was particularly so where Opus East listed more than 1,400 other transfers on its schedules and Burtch had no reason to believe Opus East had failed to list other transfers. Burtch could not be expected to search Opus East's books and records without any reason to believe all transfers were included in the sworn schedules. Consequently, the court concluded that Burtch could not reasonably have been expected to learn the facts regarding the transfers at issue until the discovery process began in the adversary proceeding, after the statute of limitations otherwise would have expired.
The court also disposed of the defendants' argument that the scheduling order in the adversary case precluded amending the complaint and no good cause existed to do so because Burtch's lack of diligence was the cause of his failure to amend earlier. The court found good cause did exist because Burtch was not aware of the transfers at issue until they were the subject of deposition testimony roughly a year after the deadline to amend the pleadings under the scheduling order.
The Opus decision applied the equitable tolling doctrine despite both the lack of any inequitable conduct by the defendants and the nearly three-year period the trustee had to review the debtor's books and records and identify avoidable transfers. This amount of time would seem to present a trustee or debtor with sufficient time to review the debtor's books and records and identify and plead all transfers sought to be avoided. The Opus decision, however, makes clear that equitable tolling may still be invoked to permit such missed transactions to be pleaded. Therefore, since it is not uncommon for a debtor's schedules to contain errors, this decision serves as an important lesson for practitioners representing potential defendants to identify the full scope of their client's potential liability, regardless of whether certain transfers had been pleaded prior to the expiration of the statute of limitations. Otherwise, a client may face the same unpleasant surprise as did those new Opus defendants, who found themselves exposed to dramatically increased liability well into the litigation.
Francis J. Lawall is a partner in the Philadelphia office of Pepper Hamilton and concentrates his practice in national bankruptcy and reorganization matters. He routinely lectures to various creditor groups concerning general bankruptcy issues, including preferences, reclamation, the role of creditors committees and related issues.
Michael J. Custer is an associate in the corporate restructuring and bankruptcy practice group in the firm's Wilmington, Del., office.