550 B.R. 338
Bankr. E.D. Tenn.2016Background
- Plaintiff Jared Smith loaned $100,000 (two cashier’s checks) to Deck Masters/Morse on Aug. 29, 2012 under a written note promising repayment from sale proceeds of a specific house (902 Geswein) or a $120,000 balloon after 1 year; note contained an attorney-fee provision and stated no security would be recorded.
- Morse deposited the funds into Deck Masters’ account, transferred $30,000 to his personal account, commingled funds, and the proceeds were largely spent by mid‑October 2012 on vendors, other projects, and personal distributions.
- Ten days after Smith’s loan, Morse obtained a $172,000 construction loan secured by 902 Geswein; construction slowed, the house was not completed, and the bank foreclosed.
- Smith sued seeking a declaratory judgment that the $100,000 debt is nondischargeable under 11 U.S.C. §§ 523(a)(2)(A), (a)(4), (a)(6) and denial of the Morses’ discharges under §§ 727(a)(3), (a)(4)(A), (a)(5); he also sought interest and attorneys’ fees.
- The court found Morse made material misrepresentations and concealed the construction loan, induced Smith’s $100,000 loan, and used the funds for other purposes; it concluded $100,000 (plus reasonable attorney’s fees) is nondischargeable as to Vincent Morse, but dischargeable as to Mary Morse; $20,000 contingent interest was denied.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Whether debt is nondischargeable under § 523(a)(2)(A) (fraud/false pretenses) | Smith: Morse falsely represented funds would be used to build 902 Geswein, would contribute half the cost, and repayment from sale was a "sure thing," inducing the $100,000 loan | Morse: Funds were an investment in Deck Masters generally; Smith knew or should have known there would be construction financing | Held: For Smith. Court found material misrepresentations, fraudulent intent, justifiable reliance and proximate causation; $100,000 nondischargeable as to Vincent Morse (attorney’s fees allowed; $20,000 contingent interest denied) |
| Whether debt arises from embezzlement or fiduciary defalcation under § 523(a)(4) | Smith: Loan proceeds were entrusted and then misappropriated for other uses | Morse: Funds were loaned/investment, not property entrusted to be held in specie | Held: For Morse. Court found funds were loan proceeds (creditor’s rights changed), so embezzlement/defalcation not established |
| Whether debt is nondischargeable under § 523(a)(6) (willful & malicious injury) | Smith: Morse’s diversion of funds was intentional and injured Smith’s legal rights | Morse: No intentional invasion of a legal right; funds were loaned and no specific legal restriction barred use | Held: For Morse. Court held no independent legal right (e.g., recorded security) was invaded; conduct did not meet § 523(a)(6) standard |
| Whether denial of discharge under § 727(a)(3), (a)(4)(A), (a)(5) is warranted | Smith: Debtors failed to keep/produce records accounting for the $100,000; made false oath(s); failed to explain loss of assets | Morse: Records (bank statements, ledger summaries) and testimony explain disposition; statements at 341 were not knowingly false | Held: Mixed. Court overruled § 727(a)(3) and (a)(5) objections (records and explanations sufficient). § 727(a)(4)(A) claim failed (no false oath shown). Overall, discharge not denied for either debtor |
Key Cases Cited
- Grogan v. Garner, 498 U.S. 279 (1991) (creditor bears preponderance burden to prove nondischargeability)
- Rembert v. AT & T Universal Card Servs., Inc. (In re Rembert), 141 F.3d 277 (6th Cir. 1998) (elements for § 523(a)(2)(A) fraud/false pretenses)
- Kawaauhau v. Geiger, 523 U.S. 57 (1998) ("willful" in § 523(a)(6) requires intent to cause injury)
- Markowitz v. Campbell (In re Markowitz), 190 F.3d 455 (6th Cir. 1999) (discussion of willful and malicious standard under § 523(a)(6))
- Brady v. McAllister (In re Brady), 101 F.3d 1165 (6th Cir. 1996) (definition of embezzlement under § 523(a)(4))
- Cohen v. de la Cruz, 523 U.S. 213 (1998) (attorney’s fees recoverable if authorized by underlying state law or contract and debt is nondischargeable)