Free Brief - District Court of Colorado - Colorado

Case 1:03-cv-00569-JLK-EEB

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IN THE UNITED STATES DISTRICT COURT FOR THE DISTRICT OF COLORADO Judge John L. Kane Civil Action No. 03-K-569 In re UNIVERSAL COMMUNICATION NETWORKS, INC., Debtor.

JEFFERY L. HILL, Chapter 7 Trustee, Plaintiff, v. MICHAEL PAYNE and LAURA PAYNE-WRIGHT, Defendants.

DEFENDANTS' SUPPLEMENTAL BRIEF CONCERNING DEFENDANTS' DISPUTED JURY INSTRUCTIONS 3.5, 3.6, AND 3.9 AND VERDICT FORM Defendants Michael Payne and Laura Payne-Wright submit this Supplemental Brief Concerning Disputed Jury Instructions 3.5, 3.6, and 3.9 and Verdict Form and state as follows: Introduction The predicate for all of Plaintiff's claims is that the transfers made to Mr. Payne and Mrs. Payne-Wright that Plaintiff seeks to avoid were for capital contributions, not loans. (See Pretrial Order at 2). Absent a finding that the promissory notes for which repayment is challenged here (the "Notes") were in fact "equity" rather than debt, Plaintiff's claims are not viable. Plaintiff's brazen attempt to have this Court, rather than a jury, determine whether Defendants' loans should be "recharacterized" as capital contributions is a direct attack upon

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Defendants' right to a jury trial and underscores fatal flaws in Plaintiff's claims. The attempt must fail. Plaintiff's Claims Are Not Equitable Plaintiff seeks monetary recovery on claims ­ fraudulent transfer and breach of fiduciary duty ­ on which there can be no doubt Defendants are entitled to a jury trial. Granfinanciera, S.A. v. Nordberg, 492 U.S. 33, 56 (1989) (fraudulent transfer); Petrino v. Eley, 146 B.R. 267, 268 (D. Colo. 1992) (breach of fiduciary duty). Indeed, Plaintiff did not object to Defendants' Motion to Withdraw Reference, which was premised in large part on Defendants' right to a jury. See Langenkamp v. Culp, 498 U.S. 42, 45 (1990). Plaintiff has all but conceded that his claims are doomed to fail unless the Notes are somehow recharacterized as equity instead of debt, since, inter alia, repayment of an antecedent debt is "reasonably equivalent value" for fraudulent transfer purposes as a matter of law. See, e.g., Official Comm. of Unsecured Creditors of Toy King Distribs., Inc. v. Liberty Sav. Bank (In re Toy King Distribs., Inc.), 256 B.R. 1, 134 (Bankr. M.D. Fla. 2000). Accordingly, Defendants submitted their proposed jury instructions 3.5 ("Reasonably Equivalent Value"), 3.6 ("Value"), and 3.9 ("Recharacterization of Debt as Equity"), and a question to the jury in their proposed verdict form asking whether some or all of the Notes should be recharacterized as capital contributions instead of debt, (see Defendants' Proposed Jury Verdict Form at 1-2). Plaintiff attempts to circumvent Defendants' constitutional rights recognized in case law by pleading an additional claim entitled Equitable Recharacterization and argues, in response to Defendants' proposed instructions, that a judge, rather than a jury, must make this determination. This argument is unsupported by any precedent ­ as was the legal argument for sending the fraudulent transfer and breach of fiduciary duty claims dependent upon some sort of

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"recharacterization" to trial in the first place. Plaintiff's argument, moreover, flies in the face of Supreme Court jurisprudence ensuring that only a jury may decide factual disputes under the Seventh Amendment: The aim of the Amendment, as this Court has held, is to preserve the substance of the common-law right of trial by jury, as distinguished from mere matters of form or procedure, and particularly to retain the common-law distinction between the province of the court and that of the jury, whereby, in the absence of express or implied consent to the contrary, issues of law are to be resolved by the court and issues of fact are to be determined by the jury under appropriate instructions by the court. Baltimore & Carolina Line, Inc. v. Redman, 295 U.S. 654, 657 (1935). "In actions at law, issues that are proper for the jury must be submitted to it to preserve the right to a jury's resolution of the ultimate dispute." City of Monterrey v. Del Monte Dunes at Monterrey, Ltd., 526 U.S. 687, 718 (1999). "The right of trial by jury as declared by the Seventh Amendment to the Constitution . . . shall be preserved to the parties inviolate." Fed. R. Civ. Pro. 38(a). Defendants cannot be denied their jury trial rights by virtue of Plaintiff's pleading tactics. True equitable recharacterization, as distinct from Plaintiff's claims here, is an equitable function performed by a court concerning priority of distribution to creditors or treatment for income tax purposes. See, e.g., Sender v. The Bronze Group, Ltd. (In re Hedged-Invs. Assocs., Inc.), 380 F.3d 1292, 1298 (10th Cir. 2004) ("Hedged-Investments"); Edwards v. Commissioner of Internal Rev., 415 F.2d 578, 582-83 (10th Cir. 1969). In bankruptcy, such a determination is based entirely on a court's equitable powers to determine priorities of competing rights of distribution from the bankruptcy estate. See, e.g., Bayer Corp. v. Mascotech, Inc. (In re Autostyle Plastics, Inc.), 269 F.3d 726, 748 (6th Cir. 2001). In this instance, there is no basis for the Court to exercise equitable jurisdiction concerning Defendants' "claims" because there is no claim to recharacterize: Defendants have made no claims against Universal Communication Network, Inc.'s ("UCN") bankruptcy estate. 3

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Defendants have not filed proofs of claim. They seek no distribution to prioritize. They have not submitted to the equitable jurisdiction of any court. The issues of reasonably equivalent value and recharacterization of the Notes do not arise out of the equitable process of allowance or disallowance of claims or of Defendants' pro rata share of UCN's bankruptcy estate, but from the legal claims of fraudulent transfer and breach of fiduciary duty. See Granfinanciera, 492 U.S. at 56-58. The fact that Plaintiff's legal claims are based upon factual allegations analogous to an equitable claim for recharacterization does not change the legal character of the claims, which seeks money damages. Such claims must be decided by a jury. In A Fraudulent Transfer or Breach of Fiduciary Duty Case, Recharacterization, if The Theory Is Viable At All, Must Be Predicated Upon A Jury Finding That The Notes Were A Sham Or Subterfuge On summary judgment, Defendants challenged the viability of a recharacterization attempt in the context of fraudulent transfer and fiduciary duty claims seeking affirmative monetary recovery against Defendants, but Judge Brown, without citing specific precedent supporting recharacterization as a basis for such claims, ruled that the claims must go to trial. Judge Brown cited Hedged-Investments as setting forth a standard by which the promissory notes in question might be recharacterized as equity with respect to a claim for recharacterization, but did not cite to that case with respect to Plaintiff's legal claims. Judge Brown relied on her finding that a material question of fact existed as to equitable recharacterization to find that a question of fact existed as to "reasonably equivalent value" with respect to Plaintiff's fraudulent transfer claims. (Order dated September 24, 2004, at 7). But, even if some sort of recharacterization inquiry were permitted in respect of a fraudulent transfer or breach of fiduciary duty claim, Hedged-Investments cannot provide the

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correct standard. The Hedged-Investments court noted that equitable recharacterization "is a mixed question of fact and law." Hedged-Investments, 380 F.2d at 1297. As a result, a trial court's application of the test described by the court is a question of law reviewed de novo. Id. No such review of a jury verdict or findings for legal claims is permitted. Nor does HedgedInvestments pretend to be based upon Colorado or Delaware law or Bankruptcy Code § 548, which ultimately must govern the status of the obligations. Further, it does not list elements of a recharacterization claim; nor does it supply a checklist for a jury. Instead it lists factors that a Court, practiced in such cases, should look to in exercising discretion. Hedged-Investments simply does not provide an appropriate source for jury instructions. Accordingly, Defendants have proposed an instruction, (see Defendants' Jury Instruction No. 3.9), requiring a finding that the Notes were a sham or a subterfuge. See Edwards, 415 F.2d at 583. The Court's "Gatekeeper" Function Is Of Particular Importance to Recharacterization To the extent Plaintiff complains that the recharacterization issues are too complex for a jury determination, that complaint highlights the weakness of his case and the tenuousness of his claims as a legal matter. At the summary judgment stage of this case, neither party was able to cite to the Bankruptcy Court one case in which the claims Plaintiff seeks here were taken to a jury. This is evidence not that Plaintiff's claims should be determined by the Court, but that Plaintiff has no basis for his claims. Ironically, the Bankruptcy Court's lack of conceptual clarity in this regard is a primary reason, in Defendants' view, why the claims survived summary judgment in the first place. Nowhere in the briefs or in Judge Brown's order was there any explanation how, under any applicable standard, the evidence on the record would support a finding of recharacterization.

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Judge Brown's order underscores the evidentiary deficiencies of Plaintiff's case. Plaintiff seeks to convince a jury of his claims despite uncontroverted testimony and documentary evidence that a) the Notes were for loans, b) the proceeds of the loans were made at the time of the Notes, c) interest was charged, d) the loans were always described as such in UCN's financial statements, or e) UCN was unable to find other financing with similar terms. Moreover, Plaintiff cannot point to a single party misled by the Notes. While the facts are not necessarily fatal under a Hedged-Investments analysis, neither Judge Brown's order nor applicable law provides any road map for Plaintiff to succeed on his claims even under the minimal standards required to defeat summary judgment. See Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 252 (1986) (mere "scintilla" of evidence not enough to defeat summary judgment). With all of these undisputed facts arrayed against Plaintiff, it is inconceivable that a claim based upon recharacterization would stand at all, and certainly not without evidence of undercapitalization. See United States v. Colorado Invesco, Inc., 902 F.Supp. 1339, 1342 (D. Colo. 1995). In any event, even under the standard of Hedged-Investments, Plaintiff cannot rely solely on undercapitalization as a reason to recharacterize. Hedged-Investments, 380 F.2d at 1298 n.1. Thus, the Court's function with respect to recharacterization is not to use its equitable powers, but to utilize its gatekeeper function at trial to ensure that any claims that have no basis should be dismissed before they ever get to the jury. Here, on the record developed in this case, Plaintiff has failed to put forth evidence that would allow him to submit his claims to a jury. Conclusion For the reasons described above, Defendants request that this Court enter an order allowing Defendants' proposed jury instructions 3.5, 3.6, and 3.9 and their proposed jury verdict form and for such other relief as the Court deems just and proper.

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Respectfully submitted this 21st day of June, 2005. BROWNSTEIN HYATT & FARBER, P.C.

By:

/s/ Daniel J. Garfield Michael J. Pankow, #21212 Daniel J. Garfield, #26054 Janet Stansberry Drake, #27697 410 Seventeenth Street, 22nd Floor Denver, CO 80202 Ph: 303.223.1100 Fax: 303.223.1111 Email: [email protected] [email protected] [email protected] ATTORNEYS FOR DEFENDANTS

CERTIFICATE OF SERVICE I hereby certify that on this 21st day of June, 2005, a true and correct copy of the foregoing DEFENDANTS' SUPPLEMENTAL BRIEF CONCERNING DEFENDANTS' DISPUTED JURY INSTRUCTIONS 3.5, 3.6, AND 3.9 AND VERDICT FORM was served via U.S. mail, upon the following: Patrick D. Frye John C. Smiley Lindquist & Vennum, P.L.L.P. 600 17th St., Suite 1800-S Denver, CO 80202 /s/ Kris Rees

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