In 2010, creditors obtained a $3+ million judgment against Michael Antonello, who was the sole owner and officer of his Minnesota insurance agency, Michael J. Antonello Insurance Associates, Ltd. (the "corporation").
On January 2, 2013, the creditors sent out the friendly local sheriff to serve a levy upon the corporation for all of Michael's stock in the company, which was 10,000 shares.
The levy apparently caused Michael to have a Wile E. Coyote "I'll outsmart them!" moment, after which Michael signed a corporate resolution that authorized the issuance an additional, and also made those new 500,000 share the only voting class of stock. That was on January 22, 2013.
The next day, January 23, 2013, brought a flurry of activity. First, the corporation issued a stock certificate for the 10,000 shares sought by the levy, and gave that to the friendly sheriff.
Then, the corporation sold 90,000 of the new shares to Michael's wife, Jean Antonello for the sum of $1,000. Both Michael and Jean promptly executed a corporate resolution naming themselves as the directors and officers.
Two days after that, on January 25, 2013, the corporation sold another 400,000 shares to Jean for the whopping sum of $100.
The upshot of these hijinks was that Jean ended up buying 98% of the corporation for $1,100 and also thereby diluted Michael's previous 100% interest to 2%. ("Delusional" is the word that comes to my mind if the Antonellos really thought this charade would work.)
Eventually, the Sheriff got around to selling the 10,000 shares which had been levied upon, which was purchased by the creditors for $10,000. I'm guessing here that the creditors didn't actually pay $10,000 in greenbacks, but instead just "credit bid" $10,000 of their $3+ million judgment, as creditors are wont to do in judicial sales.
After the sale, the Antonellos finally told the creditors that they didn't own 100% of the corporation as they thought, but only 2% of it, whereupon the creditors promptly sued Michael, Jean and the corporation under Minnesota's Uniform Fraudulent Transfer Act ("MUFTA")
At her deposition in the fraudulent transfer lawsuit, Jean explained why all this went down the way it did:
At her deposition, Jean Antonello testified that Michael Antonello asked her to purchase 490,000 shares of stock in the corporation so that the corporation would not be "vulnerable" to the judgments that respondents obtained against Michael Antonello in 2010. She said that she purchased the shares and became vice president of the corporation as a "formality" at the direction of her husband because she trusted his advice. Jean Antonello explained that Michael Antonello told her that she needed to purchase the shares because it "would ensure that [she] would remain in control of the corporation." She stated that she did not know what duties she had as vice president of the corporation and that the corporation continued to be operated by Michael Antonello.
Note To File: If you're going to engage in a fraudulent transfer, you need to have a better story for doing what you did other than just to cheat creditors.
Eventually, the Minnesota trial court decided that this was all so blatantly a fraudulent transfer that there was no need for a trial, and simply entered summary judgment against the Antonellos and the corporation. Not content to let a bad thing die, they appealed.
First, the Antonellos argued that the corporation's sale of stock to Jean was just a thing between her and the corporation, and the creditors did not have standing to sue the corporation. The Court of Appeals shot this argument down quickly, simply by noting that the creditors had suffered an injury through the dilution of Michael's 10,000 shares.
Second, the Antonellos argued, presumably with a straight face, that what occurred was not a fraudulent transfer because Michael did not transfer anything to anybody -- a perfectly legal transaction had occurred between Jean and the corporation, and that was all.
That is in fact is a mighty and winning argument, for anybody who doesn't have the slightest inkling of what fraudulent transfer law is about. For those with even the most minimal knowledge of fraudulent transfer law, including the Minnesota Court of Appeals, it is an obvious loser.
The Court quoted from the definition section of the MUFTA to determine what constitutes a "transfer":
"Transfer" is defined broadly as "every mode, direct or indirect, absolute or conditional, voluntary or involuntary, of disposing of or parting with an asset or an interest in an asset, and includes payment of money, release, lease, and creation of a lien or other encumbrance."
Under this definition, it didn't take a Prof. Charles W. Kingsfield to figure out that a fraudulent transfer had taken place:
The undisputed facts next show that Michael Antonello acted fraudulently to manipulate the corporation to dilute the value of his levied 10,000 shares of stock from one-hundred-percent ownership to two-percent ownership before the sheriff's sale. Jean Antonello, who was inexperienced in corporate and financial matters, testified at a deposition that she purchased 490,000 shares of stock and became an officer and director in the corporation at Michael Antonello's request and that he told her that they needed to "remain in control of the corporation" "because of the judgment[s]." The dilution and transfer of shares by Michael Antonello through the corporation resulted in the original 10,000 shares owned by Michael Antonello losing ninety-eight percent of their value before they were sold at the sheriff's sale to satisfy part of the judgments that he owed to respondents. When respondents purchased Michael Antonello's 10,000 shares of stock at the sheriff's sale, they received only two-percent ownership in the corporation as opposed to Michael Antonello's one-hundred-percent ownership interest at the time of the sheriff's levy.
The Court really could have stopped there and called it a day, but instead chose to pile on.
Another factor proving that a fraudulent transfer had occurred was that the transfer was from the debtor (Michael) to his spouse (Jean). Pretty much anytime a financially-distressed debtor transfers assets to his spouse for only a few shekels, the Court can figure out pretty quickly that it was a fraudulent transfer.
Further, the transfer took place only days after the Sheriff came calling, a Badge of Fraud that goes back to Twyne's case in 1601 when the debtor Pierce got his buddy to say that Pierce's sheep were his, and not Pierce's, to run the Sheriff off.
Jean also didn't pay "reasonably equivalent value" for the stock issued to her, or anything close to it. The facts made it perfectly clear that the Antonellos had simply pulled some numbers out of the clear blue sky, and they just happened to add up to $1,100.
But the death blow was Jean's admission that the transfers were made with the intent to keep the creditors from taking Michael's business. This is basically a confession of actual intent to defeat creditors; rarely seen in fraudulent transfer law, but yea verily here is such a case.
ANALYSIS
At this point, it would probably be easy to simply mutter, "Well, that was pretty stupid" and move on. To do so would be to miss some important lessons about fraudulent transfer law.
The most important lesson is that of the amazing breadth of the definition of "transfer" in the UFTA. Pretty much any way of getting value from the debtor to the transferee can fall within this expansive definition. But it has to be that way, in consideration that desperate debtors will come up with all sorts of creative ploys to avoid their obligations.
This doesn't mean that a stock dilution will always be a fraudulent transfer. Consider the case where A and B form and capitalize a company, with each getting 5,000 shares of stock. Investor C later comes along and buys (at fair market value) warrants for an additional 10,000 shares from that same company. Later, debtor A gets into financial trouble and has his stock levied upon, and C shortly thereafter exercises his warrants -- which dilutes the value of A's shares by 50%.
That scenario might not be a fraudulent transfer, since an argument could be made that A's shares were already subject to the potential for dilution by C's warrants, and thus no true change in the value of A's shares actually occurred. So, these dilution cases have to be carefully evaluated under the facts and circumstances of each case (although less so in cases like the Antonellos where the dilution was shockingly blatant).
Another lesson is that interspousal transfers will always be highly suspect when one of the spouses is in deep financial doo doo. Hardly a week goes by that somebody doesn't call me, who just had a car wreck or a personal guarantee called or something, and want to know if they can transfer all their assets to their spouse. I have to tell them to the effect that "Well, the average judge has probably only seen that a hundred times before," and probably all that will be accomplished is to drag the spouse into a fraudulent transfer lawsuit -- not surprisingly, often leading to unhappy pillow talk, and in not just a few case, divorce.
Notably, some of the changes made in the 2014 revisions to the Uniform Fraudulent Transfer Act will make it easier for creditors to challenge corporate transactions such as these. Indeed, this was one of the reasons that the UFTA was renamed the Uniform Voidable Transactions Act to make even more clear that business transactions such as these are included as fraudulent transfers.
A final lesson here goes to the choice of business entity. Let's say that instead of Michael's insurance agency being organized as a corporation, it was organized as an LLC. Let's also say that instead of Michael owning 100% of the LLC's interest, he only owned 50% and Jean owned the other 50%.
In that case, the creditors would likely have been stuck with a Charging Order against Michael's 50% interest -- meaning that the creditors would only get whatever distributions were made to that interest -- and Michael would probably have had much better luck in working out a favorable settlement with them.
Of course, this presumes that Minnesota would license an LLC as an insurance agency. Many states still have archaic licensing rules that restrict the business entity to a corporation and nothing else (but this has been rapidly changing during the past decade).
Certified Public Accountants often make the mistake of telling their clients to organize their business as an S-Corporation, mainly so that they can then play the salary-vs-dividends game and save a few bucks in taxes. This is being "penny wise and pound foolish". What little is saved playing the salary-vs-dividends game usually does not begin to compensate for the risk that the business owner will have a personal creditor, and the creditor will (as in this case) simply levy on the owner's shares of stock and take the business whole for whatever minimal sum is bid for the business at the judicial sale.
LLCs offer much greater protection for the business against the owner's creditors, particularly if the LLC has (or can add) another substantial member before creditors come a'calling.
Indeed, an LLC can elect to be taxed as an S-Corporation, simply by checking the box to be taxed as a corporation, and then making the S-election. An S-Corporation can also be converted to an LLC taxed as an S-Corporation without triggering any taxes, and usually with little cost since most states have statutes and forms to facilitate a "statutory reorganization" of the business to an LLC.
Business owners with an S-Corporation should strongly consider that reorganization, if it can be done with their business. Just note that an LLC which elects to be taxed as an S-Corporation needs a special Operating Agreement to meet the IRS requirements -- don't even think about using a standard form picked up off the internet as that probably will not suffice.
Finally, the key to this type of planning is, as always with any kind of asset protection planning, to start before any creditor clouds appear on the far horizon.
Waiting for the Sheriff to show up with a levy is not just too late, it is insanity.
CITE AS:
Reilly v. Antonello, 852 N.W.2d 694 (Minn.App. 2014). Full Opinion at http://goo.gl/IyYfMA
This article at http://onforb.es/1CYpyA9 and http://goo.gl/VNkhI2
