Glenstone Lodge appeals from the bankruptcy court’s order 1 avoiding its judicial lien on the debtors’ home and determining the underlying debt to be dischargeable. We affirm in part and reverse in part.
BACKGROUND
Carole and Larry Treadwell are married. Carole runs Memory Travel, a travel agency. Memory Travel is not incorporated. Larry and Carole consider themselves to be co-owners of the business because they are married and share equally in “everything.”
Carole is a member of the Red Hat Society, Inc., a social organization for women over the age of fifty. Members are known for their flamboyant red hats and refer to themselves as “redhatters.” In early 2005, Carole began organizing an event in Gatlinburg, Tennessee for redhat-ters. Although the event was not an official Red Hat Society event, Carole used the corporation’s logos on her advertisements and in her correspondence.
In April of 2005, Carole contacted the Gatlinburg Department of Tourism for assistance in selecting facilities for the event.
In a May 5, 2005 e-mail, Carole told Claudette that each redhatter would make her reservation through Carole, and that Carole would then pay Glenstone “via one check.” In June of 2005, Carole signed an initial contract with Claudette for 150 rooms for April 20-23, 2006. Carole paid the required $250 deposit. The contract provided that the first night’s room and tax would be paid in March 2006 when Carole submitted a list of room assignments. The balance was to be paid at check-in on April 20, 2006. Carole then advertised the Gatlinburg trip to the re-dhatters, who responded enthusiastically.
In October of 2005, Carole realized that she had undercharged the redhatters for the Gatlinburg event. She knew that she had made a serious mistake in her estimation of the costs of entertainment, decorations, transportation and other incidentals. Carole knew she would not be able to satisfy the Glenstone bill for the event, and all representations she made about the bill from that time on were knowingly false. She continued to receive some prepayments and deposits from the redhatters, but used the funds to pay for other trip-related expenses such as the entertainers.
In January of 2006, Carole took $10,000 from the redhatters’ deposits to pay for her mother’s funeral expenses. That same month, Carole and Larry visited Glenstone and made further arrangements for the event with Claudette and other staff members.
Carole did not make the required payment in March when she submitted her list of room assignments. The bankruptcy court found that Glenstone had, for some reason, waived the contractual requirement. On April 20, 2006, the Treadwells and the redhatters arrived. The contract required that the balance due be paid at cheek-in, but Carole obtained another waiver. By April 24, 2006, the last day of the event, Memory Travel had not paid anything to Glenstone except for the initial $250 deposit. However, Carole collected about $20,000 from the redhatters during the event and had hoped to collect additional deposits from the redhatters in anticipation of future events. The Tread-wells left on Monday, April 24, 2006 without checking out, paying the outstanding charges, or notifying Glenstone staff of their departure. The bill was over $60,000.
On Monday, April 24, Glenstone staff contacted Carole about her failure to pay the bill. Carole responded by email on April 26, stating that she had turned the bill over to her bookkeeper and that she would pay it after some minor adjustments were made. Carole did not have a bookkeeper. On April 26, Carole sent a $20,000 check from the Treadwell Family Revocable Living Trust’s bank account by overnight delivery as partial payment. On April 27, when Glenstone told her they had not received the check, she wired $15,000 to Glenstone and promised that she would immediately send a $5,000 check as well. She asked Glenstone not to deposit the $20,000 check. Glenstone did not receive the $5,000 check so it attempted to deposit the $20,000 check. However, Carole had
Glenstone sued the Treadwells and the Treadwell Family Revocable Living Trust in state court in Sevier County, Tennessee, asserting: (i) fraud pursuant to § 62-7-107(b) of the Tennessee Code; (ii) violations of the Tennessee Consumer Protection Act; (in) conversion; (iv) breach of agreement; (v) fraud, promissory fraud, mail and wire fraud; and (vi) violation of various provisions of the Tennessee Code based on the stop payment of the $20,000 check. Glenstone also named The Red Hat Society, Inc. as a defendant. The Red Hat Society, Inc. filed a cross-claim against the Treadwells and denied any involvement in the event. Glenstone dismissed The Red Hat Society, Inc. as a defendant. The Treadwells and the Treadwell Family Revocable Living Trust failed to answer, and the Chancery Court for Sevier County, Tennessee awarded treble damages and entered a default judgment against them in the amount of $153,611.44 plus costs. Glenstone registered the judgment against the Treadwells in Missouri, thereby creating a lien against the Treadwells’ residence.
On August 27, 2008, the Treadwells filed a chapter 7 bankruptcy petition. On September 18, 2008, the Treadwells initiated this adversary proceeding against Glen-stone, seeking to avoid Glenstone’s judicial lien on their home. Glenstone answered and counterclaimed against the Tread-wells, seeking a determination that the Treadwells’ debt to it was nondischargeable under 11 U.S.C. § 523(a)(2), (a)(4), and (a)(6).
The court held a trial on April 22 and 23, 2009. The Treadwells and Glenstone employees Urcella House and Rita Marshall testified. Claudette Gioffrion, who would have been the most knowledgeable about Glenstone’s communications with the Treadwells, did not testify. On June 16, 2009, the court issued a memorandum opinion and order directing judgment in favor of the Treadwells. The bankruptcy court found that the judicial lien was avoidable pursuant to 11 U.S.C. § 522(f)(1) and that the Treadwells’ debt to Glenstone was not excepted from discharge under 11 U.S.C. § 523(a)(2)(A), (a)(4), or (a)(6).
STANDARD OF REVIEW
We review the bankruptcy court’s findings of fact for clear error and its conclusions of law
de novo. Kaelin v. Bassett (In re Kaelin),
DISCUSSION
A. Dischargeability
A discharge under 11 U.S.C. § 727 does not discharge an individual debtor for any debt “for money, property, services, or an extension, renewal, or refinancing of credit, to the extent obtained by ... false pretenses, a false representation or actual fraud.” 11 U.S.C. § 523(a)(2)(A).
2
In or
1. Justifiable Reliance Is a Lower Standard than Reasonable Reliance; There Is No Duty to Investigate
The Supreme Court has held that the standard to be applied to exceptions to discharge for actual fraud under 11 U.S.C. § 523(a)(2)(A) is “justifiable reliance,” which is a lower standard that “reasonable reliance,” and entails no duty to investigate.
Field v. Mans,
According to the Restatement (Second) of Torts, “The recipient of a fraudulent misrepresentation of fact is justified in relying upon its truth, although he might have ascertained the falsity of the representation had he made an investigation.” Rest.2d Torts § 540. An example from the Restatement illustrates the principle:
... if one induces another to buy a horse by representing it to be sound, the purchaser cannot recover even though the horse has but one eye, if the horse is shown to the purchaser before he buys it and the slightest inspection would have disclosed the defect. On the other hand
... a defect that any experienced horseman would at once recognize at first glance may not be patent to a person who has had no experience with horses.
Field,
Here a contrast between a justifiable and reasonable reliance is clear: “Although the plaintiffs reliance on the misrepresentation must be justifiable ... this does not mean that his conduct must conform to the standard of the reasonable man. Justification is a matter of the qualities and characteristics of the particular plaintiff, and the circumstances of the particular case, rather than of the application of a community standard of conduct to all cases.”
The circumstances demonstrate justifiable reliance by Glenstone. The sales lead came from the Gatlinburg Department of Tourism, and identified the event as the “Tennessee Redhatters 2006 Spring Event,” which implied some sort of association with the national organization. For months prior to the event, Carole worked with Claudette Giofffion of Glenstone on every detail. They e-mailed frequently, discussing not only the event but also Carole’s other events, her mother’s cancer, and then her mother’s passing. As early as May of 2005, Carole had made clear to Glenstone that she intended to pay with one check and that she preferred all registrations to go through her. Claudette apparently found that acceptable. It was the hotel’s policy to accommodate every group as much as possible. In an e-mail on June 14, 2005, Carole apologized for not getting the deposit to Claudette on time, but said that she could not pay the deposit “until all things are settled and we are sure we are ready to go.” Again, Claudette accommodated her. At some point, Claudette came to view Carole as a friend, as demonstrated in one of her last e-mails to Carole, dated April 25, 2006: “I still think you are my friend, will you please contact us? ? ?” It was undisputed that when Glenstone staff asked Carole during the event about payment, she answered that she intended to pay with a single check after they had finalized the numbers. Glenstone did in fact make a number of changes to the bill during and immediately after the event. At all times, it appeared to the parties that the event was going to be very successful, with nearly all of the rooms booked months in advance. All of these facts indicate that Glenstone’s reliance was justifiable.
However, it is true that “The recipient of a fraudulent misrepresentation is not justified in relying upon its truth if he knows that it is false or its falsity is obvious to him.” Rest.2d Torts § 541. We noted that principle when we said:
Although [the plaintiff] was not required to conduct any investigation as to the truth of the Debtor’s representation by signing the consent decree that he intended to pay the money, the evidence indicates that there were “obvious warning signs” of its falsity, namely, that he told her he would not pay it.
Guske,
There is a “red flag” exception, as noted earlier, for extreme situations such as the one-eyed horse or where a debtor tells the creditor he will not be able to repay his debt. Glenstone made a bad business decision in allowing the redhatter event to proceed without prepayment. Glenstone apparently accepted Carole’s explanation that she wanted to pay with one check after all issues with the bill had been resolved. It was not obvious to the Glen-stone staff until after the event that Carole
The bankruptcy court observed that there was no evidence that Glenstone conducted a background or credit check on Memory Travel or the Treadwells. Although it held that Glenstone should have conducted an investigation, the bankruptcy court found no evidence that a background or credit check would have alerted Glen-stone to Memory Travel’s inability to pay. If Glenstone had investigated Carole and Memory Travel, it might not have uncovered anything alarming. During at least some of the time prior to the event, Carole appears to have had a positive cash flow. It was not until January of 2006 that Carole used event funds to pay for her mother’s funeral, and she continued to receive payments from the redhatters the weekend of the redhatter event. It was undisputed that Carole had previously arranged other travel events, and the court found no evidence that she had engaged in similarly fraudulent activity, in the past.
“The rationale for placing this relatively low burden on the victim of the misrepresentation is rooted in the common law rule that the victim’s contributory negligence is not a defense to an intentional tort.”
Sanford Institution for Savings v. Gallo,
2. Larry Treadwell’s Debt Is Dis-chargeable
We agree with the bankruptcy court’s determination that Larry’s debt to Glenstone is dischargeable, even though Glenstone proved justifiable reliance. “On appeal, [¶]... ] we may affirm the bankruptcy court’s decision on any basis supported by the record.”
Sells v. Porter (In re Porter),
It is highly unusual to hold a debt non-dischargeable under 11 U.S.C. § 523(a)(2) where the debtor is only vicariously liable and has not participated in the fraud. Glenstone argues that the Eighth Circuit has held that a partnership’s liability under § 523(a)(2)(A) may be imputed to its agent or partner even in the absence of evidence that the agent or partner knowingly participated in the fraud. The case cited by Glenstone is factually and legally inapposite.
See Owens v. Miller (In re Miller),
In the
Miller
case, the court decided the narrow issue of whether the bankruptcy court had incorrectly excepted the debt to the retirees from the debtor’s discharge under § 20(a) of the Securities Exchange Act of 1934, which “renders an innocent person’s debt nondischargeable when a person over whom the innocent person exercised control committed actual fraud.”
Miller
at 429. The court concluded that the bankruptcy court erred by imputing Bohl-ing’s fraud to Miller under § 20(a) of the Securities Exchange Act because the Bankruptcy Code does not contain a specific exception to discharge for securities law violations. The court discussed the Supreme Court’s
Strang
decision and concluded that under
Strang,
the common law of agency and partnership could be applied to “impute the fraud of an innocent debt- or’s business partner to that debtor and so render his debt nondischargeable.”
Id.
(discussing
Strang v. Bradner,
The appellants misread the Miller case, which is not relevant to the Treadwells except that it concludes that Strang is still good law. In Strang, the Supreme Court held that a general partner’s fraud may be imputed to all of the members of his firm under agency and partnership principles. The Court concluded:
Each partner was the agent and representative of the firm with reference to all business within the scope of the partnership. And if, in the conduct of partnership business, and with reference thereto, one partner makes false or fraudulent misrepresentations of fact to the injury of innocent persons who deal with him as representing the firm, and without notice of any limitations upon his general authority, his partners cannot escape pecuniary responsibility therefor upon the ground that such misrepresentations were made without their knowledge. This is especially so when, as in the case before us, the partners, who were not themselves guilty of wrong, received and appropriated the fruits of the fraudulent conduct of their associate in business.
Strang,
Memory Travel is not a limited liability partnership or corporate entity. Therefore, if it is a partnership at all, it would be a general partnership, subject to Missouri law on partnerships. However, there is no evidence of an actual partnership. Larry had no authority to control
There is no factual support for Glenstone’s argument that
Miller
and
Strang
provided a basis for the bankruptcy court to except Larry’s debt from his discharge under partnership or agency principles. In fact, Eighth Circuit case law indicates the opposite. In the
Walker
case, the Eighth Circuit analyzed the nondis-chargeability of an innocent spouse’s debt under § 523(a)(2)(A) and concluded that “more than the mere existence of an agent-principal relationship is required to charge the agent’s fraud to the principal. [¶]... ] If the principal either knew or should have known of the agent’s fraud, the agent’s fraud will be imputed to the debt- or-principal.”
Walker v. Citizens Bank of Maryville, Mo. (In re Walker),
Proof that a debtor’s agent obtains money by fraud does not justify the denial of a discharge to the debtor, unless it is accompanied by proof which demonstrates or justifies an inference that the debtor knew or should have known of the fraud. If the debtor was recklessly indifferent to the acts of his agent, then the fraud may also be attributable to the debtor-principal. [...] The debtor who abstains from all responsibility for his affairs cannot be held innocent for the fraud of his agent if, had he paid minimal attention, he would have been alerted to the fraud.
Id. (internal citations omitted). Under Walker, even if there had been evidence that Memory Travel was a partnership, it still would not be enough to support the nondischargeability of Larry’s debt. Glen-stone would have had to prove that Larry knew of Carole’s fraud, should have known of Carole’s fraud, or was recklessly indifferent to Carole’s fraud, and the record does not support that finding. The bankruptcy correctly concluded that there was no evidence that Larry knew of the fraud.
Finally, the appellants argue in their brief that Walkeds knowledge requirement was limited by
Miller:
“The
Miller
Court did not impose any type of knowledge requirement on the innocent debtor. The
Miller
court’s absence of any such discussion and a Fifth Circuit ease [...] support
In conclusion, there is no legal basis for imputing Carole’s fraud to Larry under either partnership or agency principles. Although Larry and Carole considered Larry to be an equal owner of Memory Travel, and although he accompanied Carole on both the initial site visit and the redhatter event, the evidence overwhelmingly supports the conclusion that he was oblivious to the operations of the business, merely tagged along with Carole at her request and helped out at her direction. The record would not support a finding that Larry and Carole had a partnership or agency relationship, or that Larry knowingly participated in the fraud or should have known of the fraud. We therefore affirm the bankruptcy court’s determination that Larry’s debt to Glenstone is dischargeable.
B. Lien Avoidance
Section 522(f)(1)(A) provides, “... the debtor may avoid the fixing of a lien on an interest of the debtor in property to the extent that such lien impairs an exemption to which the debtor would have been entitled ..., if such lien is — (A) a judicial lien.” Under § 522(f)(2)(A), a lien is considered to impair an exemption to the extent that “the sum of — (i) the lien; (ii) all other liens on the property; and (iii) the amount of the exemption that the debt- or could claim if there were no liens on the property; exceeds the value that the debt- or’s interest in the property would have in the absence of any liens.” The debtors have elected the Missouri state exemptions. Missouri law provides a $15,000 homestead exemption to be shared by spouses. Mo.Rev.Stat. § 513.475 (2008). Glenstone’s only argument on appeal is that the bankruptcy court erred “in finding that the judgment lien created by the imposition of a judgment as to a non-dis-chargeable debt would not become a lien on the debtors’ residence as a new post-petition lien and in avoiding the existing judgment lien of Glenstone Lodge beyond $15,000.” Glenstone’s argument regarding “a new post-petition lien” is simply incorrect. There is no “new post-petition lien.” There is one prepetition lien, which is either avoidable or it is not. Glenstone’s argument mischaracterizes the court’s findings on lien avoidance, which were limited to the following:
Although the parties disputed what effect, if any, a finding of nondischarge-ability would have on the lien avoidance issue, Glenstone Lodge has agreed that, due to the value of the Treadwells’ home and the amount of the secured debt, its judgment lien would be avoidable if the debt were found to be dischargeable. Consequently, since I have found that the debt is dischargeable, Glenstone Lodge’s judicial lien on the Treadwells’ home will be avoided pursuant to § 522(f)(1).
Treadwell,
CONCLUSION
For the reasons stated, we reverse the bankruptcy court’s determination that Carole Treadwell’s debt to Glenstone was dischargeable, affirm the bankruptcy court’s determination that Larry Tread-well’s debt to Glenstone was dischargeable, and affirm the bankruptcy court’s avoidance of Glenstone’s lien.
Notes
.
Treadwell v. Glenstone (In re Treadwell),
. Glenstone also sought a determination of nondischargeability under 11 U.S.C. § 523(a)(4), for fraud or defalcation while acting in a fiduciary capacity, embezzlement or larceny, and § 523(a)(6), for willful and malicious injury. The bankruptcy court found that § 523(a)(4) did not apply and that there was no basis to conclude that Carole had
. The parties do not challenge the bankruptcy court’s treatment of false pretenses as distinct from actual fraud under § 523(a)(2)(A), but rather dispute only the court’s findings of fact and application of law regarding whether Glenstone’s reliance was not justified.
. A marital relationship is insufficient to establish partnership or agency in order to hold a debtor liable for his spouse’s fraud for non-dischargeability purposes; rather, there must be an agency or partnership.
Accord Allison v. Roberts (In re Allison),