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Jecker v. Hidden Valley, Inc.

422 N.J. Super. 155, 27 A.3d 964 (App. Div. 2011)

FRAUD; FRAUDULENT TRANSFERS — When the officer of a company holds a valid security interest in the company’s property, it is not a fraudulent transfer under the Uniform Fraudulent Transfer Act for that officer to foreclose on the security interest.

Two former employees of a ski resort sued the resort company and its only shareholder. The shareholder was also its president. The employees alleged that the company and its president had breached their employment agreements, failed to pay sales commissions, and failed to repay loans they made to the company. The case was tried before a jury and the verdict was against the resort company. The company successfully moved for a new trial. The parties then agreed to arbitration.

Following this, the employees filed another suit alleging that while the underlying dispute was pending, the company’s president had transferred company assets to a buyer in violation of New Jersey’s Uniform Fraudulent Transfers Act (UFTA). The employees looked to set aside the transfer, have a receiver appointed, obtain an accounting, and impose a constructive trust.

The company, a corporation, had reorganized under Chapter 11 of the Bankruptcy Code in 1992. The lower court held that the reorganization plan was fully secured and that creditors would retain a security interest and liens in the company’s property. It also found evidence that the president had been trying to sell the property and business for quite some time, including while the employees were employed by the corporation. The lower court used a letter by the employee to show that the employees knew the corporation had long been in financial trouble. When analyzing the transaction at issue, the lower court found that the during negotiation of a purchase and sale agreement between the president and the buyer, the employees knew of a foreclosure action and did not attempt to intervene or seek for some other relief through the Court. The lower court looked at the totality of circumstance and found no fraud, concluding that the employees presented insufficient evidence to show fraudulent intent.

The employees appealed, arguing that the lower court’s conclusion, that they had failed to meet their burden of proof of the company’s fraudulent intent, was contrary to the evidence. They specifically contended that the court had misapplied the “badges of fraud” factors under Gilchinsky v. Nat’l Westminster Bank N.J., 159 N.J. 463, 476 (1999). When determining if a transfer is a fraudulent conveyance, a court must first see whether the debtor had put some asset beyond the reach of creditors which asset would have been available to them at some point in time, but for the conveyance. Secondly, a court must see whether the debtor transferred property with an intent to defraud, delay or hinder a creditor. In order to determine the existence of fraudulent intent, courts generally are to look to factors which are considered the “badges of fraud.” These factors should be balanced and a confluence of several of the factors in a transaction may generally provide conclusive evidence of an actual intent to defraud.

The employees argued that the foreclosure and the president’s transfer of the company’s assets to the buyer should be considered as one of the factors. However, the Appellate Division disagreed because a foreclosure action, standing alone, cannot be a fraudulent transfer under the terms of the UFTA. Under the Act, a transfer of fully encumbered property does not involve an asset of the debtor and it is not a transfer at all within the meaning of the UFTA. State courts have consistently held that a transfer of fully encumbered property may not be set aside under the UFTA.

The Court concluded that the transfer of the company’s assets to the president in the mortgage foreclosure was not subject to the UFTA. As the holder of valid liens recognized in the prior bankruptcy proceeding, the president was entitled to foreclose on his security interest in the company’s property. The value of the president’s secured interest, as a lender, exceeded the value of the property. Therefore, the property, by definition, was not an asset of the resort company. Further, the employees failed to establish how the president’s subsequent transfer to the buyer was fraudulent under the UFTA. First, the prior suit only resulted in a verdict against the company and not against the president. Second, the president’s sale to the buyers did not show any factors of the badges of fraud under N.J.S.A. 25:2-26. It was not a sale to an insider, the president did not retain control of the property, the transfer was disclosed, there was no proof that the president conveyed all of his assets or otherwise became insolvent or that he absconded, removed or concealed assets. There was no evidence that the president did not receive a reasonable value for the assets. Conclusively, the Court held that the employees failed to demonstrate a violation of the UFTA.

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