Texas Bankruptcy Court Rejects Presumption of Ponzi Scheme Use in ‘Ponzi-Style’ Fraud Case | King and Spalding

On June 3, 2022, the U.S. Bankruptcy Court for the Northern District of Texas declined to extend the “ponzi scheme presumption” in a fraudulent conveyance claim of actual intent because there was no no actual ponzi scheme, just the assertion of a “ponzi scheme”. -like “fraud”. Prior to the petition, the Ford Motor Credit Company provided off-plan financing to a group of debtors who were car dealerships. The debtors and certain insiders committed numerous fraudulent acts, and an FBI investigation eventually led to multiple federal fraud charges against various employees of the debtor, all of whom pleaded guilty. The individuals stipulated that they had knowingly, and with the intent to defraud, obtained financing from Ford Credit through false representations or pretences. The debtors, succeeded by a “trustee of creditors”, brought adversarial proceedings against Ford Credit, alleging, among other things, fraudulent transfer requests and seeking to recover hundreds of millions of dollars. In the context of the claim for fraudulent transfer of real intention under section 548 (a) (1) of the Bankruptcy Code, the trustee sought to rely on the “presumption of the Ponzi scheme” to establish the real intention of the more than three thousand transfers involved. If successful, the trustee would have been exempted from proving that each transfer had the requisite fraudulent intent.

The bankruptcy court first considered the definition of a Ponzi scheme, which in the Fifth Circuit is defined as a “fraudulent investment scheme in which money contributed by subsequent investors generates dividends or returns artificially high for the original investors, whose example attracts even more investment.” The bankruptcy court then reviewed the Fifth Circuit cases applying the Ponzi scheme presumption, finding that in each of them the court had found a “classic Ponzi scheme” in allowing the presumption. Applying its review to the case before it, the bankruptcy court concluded that the debtors were car dealerships and that it was common in this industry to finance inventory through large loans. The debtors made large sales and had large income. As such, the bankruptcy court concluded that the debtors had never operated a Ponzi scheme which, at its core, is an “investment scam”. Ponzi schemes are never legitimate business and investment arrangements are different from debtor-creditor transactions. Thus, the bankruptcy court concluded that the trustee could not rely on the Ponzi presumption in order to be relieved of the burden of proving fraudulent intent with respect to each alleged fraudulent transfer.

The case is Faulkner v Ford Motor Credit Co. (In re Reagor-Dykes Motors, LP), No. 20-ap-5005 (Bankr. ND Tex. 3 June 2022). Ford Credit is represented by Baker Botts LLP and Phillips Lytle. The trustee is represented by Bracewell LLP and Stricklin Law Firm, PC Opinion of memorandum is available here.

Janet E. Fishburn