Paul L. Caron

Tuesday, January 27, 2009

Germain: Will Former Lehman CEO's Sale of Mansion to Wife for $10 Protect It From His Creditors?

Gregory Germain (Syracuse) follows up on yesterday's post on Richard S. Fuld, Jr., the former chairman and CEO of Lehman Brothers, who recently sold his Florida mansion to his wife for $10 in an apparent attempt to shield the home from his potential creditors:

The case of Richard Fuld (former Lehman CEO) selling his half interest in a $14 million Florida mansion to his wife for nominal consideration raises interesting questions under Florida state law and bankruptcy. Florida’s unlimited homestead exemption has for many years been a refuge for those seeking to shelter assets from creditors.

The new 2005 bankruptcy amendments may be an impediment to the Fulds’ strategy. In the first place, Ms. Fuld might not be able to use Florida’s homestead exemptions in bankruptcy. Under the 2005 amendments to the Bankruptcy Code, a debtor can only use a particular state’s exemptions if the debtor has been continuously domiciled in the state for the 730 days immediately preceding bankruptcy. If the debtor was not domiciled in any one state continuously during the 730 day period, then the debtor would be eligible to use the exemptions from the one state in which the debtor was longest domiciled for the 180 day period preceding the 730 day period. 11 U.S.C. § 522(b)(3)(A). The upshot is that Ms. Fuld might not be able to use the Florida exemptions at all if she has been domiciled in New York rather than Florida during the relevant time periods.

In addition, even if Ms. Fuld was sufficiently domiciled in Florida to be eligible to use the Florida exemptions in bankruptcy, Section 522(p) of the Bankruptcy Code limits any increase in the value of an exemption acquired during the 1215 day period preceding bankruptcy to $136,875. If Ms. Fuld’s bankruptcy is filed within 1215 days of the transfer, it appears her homestead would be limited to $7,136,875, allowing the trustee to sell the homestead to realize the additional $6,863,125 in value for creditors (assuming the mansion is really worth $14 million).

So it would seem that Ms. Fuld would have to live in Florida for the 730 days preceding bankruptcy and would have to avoid bankruptcy for more than 1215 days after the transfer, in order to get the full benefit of the Florida homestead exemption in bankruptcy.

However, this all assumes that Ms. Fuld ends up in bankruptcy. The Fulds may be trying to shield Ms. Fuld’s new interest outside of bankruptcy under Florida law. The Fulds may be expecting judgments against Mr. Fuld and not Ms. Fuld. To get at Ms. Fuld's property if she is not personally liable on any judgment, they would have to bring a fraudulent transfer action to avoid Mr. Fuld’s gift transfer of the half interest in the mansion. There is an interesting question whether this gift transfer could be avoided under Florida law.

The Florida Supreme Court ruled in Havoco of America, Ltd. v. Hill, 790 So. 2d 1018 (Fla. Sup. Ct. 2001), that the Florida homestead law prevented a creditor from setting aside the conversion of non-exempt assets into an exempt Florida homestead, even where the conversion was made with actual intent to hinder, delay or defraud creditors. The Florida Supreme Court ruled that the homestead law, set forth in the Florida Constitution, has primacy over laws enacted by the legislature, such as the Florida Uniform Fraudulent Transfers Act and a Florida law prohibiting fraudulent conversions. However, the Florida Supreme Court in Havoco recognized an exception to the homestead law where the homeowner used the proceeds of fraud to acquire or improve the property. It would be an interesting question whether Richard Fuld’s fraudulent conveyance of his half interest in his homestead to his wife could be made to fit within the “acquire or improve” exception under Florida law.

If the Florida homestead exemption stands, the battle would likely turn to forcing Ms. Fuld into involuntary bankruptcy in a timely fashion, so that the 2005 Bankruptcy Code limitations can be made to apply. In order to file an involuntary petition, three creditors of Ms. Fuld’s, holding non-contingent, liquidated claims exceeding $13,475 would have to join together in a petition. 11 U.S.C. 303(b)(1). That’s the easy part. If Ms. Fuld objected to the petition, as she surely would, the bankruptcy court could grant the bankruptcy petition only if Ms. Fuld was “generally not paying [her] debts as they come due.” 11 U.S.C. § 303(h)(1). This standard might be difficult to meet when the only unpaid creditors are those who recovered judgment on fraudulent conveyance claims. This would certainly be an interesting case.

Of course, this analysis assumes that Mr. Fuld is ultimately found to be liable for large claims. Whether Mr. Fuld will be held personally liable for the events surrounding Lehman Brothers’ collapse is far from certain. At this point, it’s nothing more than an interesting law school hypothetical.

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Shag: I'm not sure I understand the difference in interpretation that you are suggesting. If Ms. Fuld owned her 1/2 interest for many years and acquired Mr. Fuld's interest in a fraudulent conveyance/transfer w/i 1215 days, the provision as I read it would not limit her exemption on her old half interest, but would limit her exemption on the new half interest to $136,875. It says can't "exempt any amount of interest that was acquired during the 1215 day period . . . that exceeds $136,875 in value." Are you suggesting she would get NO exemption on her new half interest if the value exceeds $136,875, or that she would get no exemption on the old half interest if the new exceeds $136,875? The former seems plausable to me, although not very sensible (you get $136K exemption if worth less, but nothing if worth more).

Posted by: Gregory Germain | Jan 29, 2009 9:35:54 AM

So he can delay the cases against him for the next 3.5 years, not a hard task today if you have the money to pay lawyers,.

Posted by: Troy | Jan 28, 2009 4:47:05 PM

Thanks for the post. There has been a lot of commentary about Fuld's ethically questionable transfer of the homestead to his spouse, but I have seen few persons note that the transfer might not shield the homestead in the event of a later bankruptcy case. In addition to the limitations of section 522(p) and regardless of the timing of the bankruptcy filing, the very next subsection (522(q)) would serve as an absolute limit on the homestead exemption in Richard Fuld's hands if he is found to have violated state or federal securities laws or violated certain fiduciary duties. This additional limitation might explain the motivation to transfer the homestead to the spouse.

I did have one question which was why you read section 522(p) to serve as a limit only in the increase in the value of the homestead? I read it to serve as a limit on the overall homestead exemption and would limit the exemption to $136,875 in a bankruptcy case filed within 1215 days of the transfer. Collier on Bankruptcy seems to offer the same interpretation. Am I missing something?

Posted by: Bob Lawless | Jan 28, 2009 8:11:29 AM

Ah, the joys of federalism, especially in the warm, comfortable climate of Florida rather than facing the heat in Hell that justice may call for.

Posted by: Shag from Brookline | Jan 28, 2009 3:47:38 AM