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Fraudulent Transfer Claims Within Post-Judgment Collection Proceedings

Lender (judgment-creditor) obtained a $1+MM judgment against guarantor (judgment-debtor).  Guarantor allegedly transferred millions of dollars to guarantor’s spouse.  Lender, in proceedings supplemental, filed a motion seeking to avoid the transfer and targeted the spouse (garnishee-defendant).  Was a separate cause of action (lawsuit) required?  Did the spouse have a right to a jury trial?  Did the spouse have to file a response to the lender’s motion?  In PNC Bank, 2011 U.S. Dist. LEXIS 99917 (S.D. Ind. 2011) (rt click/save target as for pdf), Magistrate Judge Baker addressed those questions in his report and recommendations, which District Court Judge Pratt subsequently adopted.

General parameters.  In response to the lender’s motion to set aside the alleged fraudulent transfers, the guarantor objected on three grounds.  PNC relied on the Indiana Supreme Court’s decision in Rose v. Mercantile National Bank, about which I wrote on June 29, 2007.  The PNC case noted several basic rules that applied:

 1. A motion to avoid a fraudulent conveyance can be invoked in proceedings supplemental because the claim’s “sole purpose [is] the removal of obstacles which prevent enforcement of a judgment.” 

 2. A garnishee-defendant (third party) can be named for the first time during proceedings supplemental. 

 3. To proceed, the garnishee-defendant must have “property of the judgment-debtor, regardless of whether the judgment-debtor himself could have pursued the garnishee-defendant or whether the garnishee-defendant was a party to the underlying lawsuit.” 

 4. A court need not make a preliminary determination that a garnishee-defendant violated the Fraudulent Transfer Act before requiring the garnishee-defendant to appear.

Objection 1 – new claim?  The first issue in PNC was whether the lender’s fraudulent transfer theory was a “new claim” that warranted the filing of a separate lawsuit. 

 1. Generally, when a judgment-creditor proceeds against a garnishee-defendant, the proceedings merely are a “continuation of the original cause of action, not a new and independent civil action.” 

 2. On the other hand, if a judgment-creditor introduces new claims “unrelated to the enforcement of a judgment,” or if the judgment-creditor “seeks damages greater than the original judgment,” then the judgment-creditor has moved the case outside of proceedings supplemental, and a new cause of action is required. 

3. Although proceedings supplemental can include a fraudulent conveyance claim, the recovery is not for the alleged wrong or for damages.  Rather, “proceedings supplemental seek to continue the original cause of action by enforcing a previously granted judgment.”  If the judgment-creditor is successful, the conveyance remains valid, and the only effect of the judgment is to subject the property to execution “as though it were still in the name of the grantor [judgment-debtor].”  I interpret this to mean that the result is an order subjecting the transferred funds to further judgment execution proceedings (collection).

In PNC, unlike Rose, the lender’s original judgment amount and the amount targeted in its motion were precisely the same.  Accordingly, Indiana law did not require a new cause of action (separate lawsuit). 

Objection 2 – jury trial?  The guarantor also asserted that the law required a new cause of action because the spouse had a right to a jury trial.  Since proceedings supplement derive from equity, they usually should be conducted by the judge.  Nevertheless, jury trials are not completely precluded.  If questions of fact arise as to the claim involving the garnishee-defendant, then the parties may demand a jury trial.  The Court in PNC recognized and preserved the spouse’s right to a jury trial.

Objection 3 – garnishee response required?  In PNC, the lender wanted the Court to compel the spouse to file a written response (an answer) to the lender’s motion.  Once a verified motion triggers proceedings supplemental, pursuant to Trial Rule 69(E) courts shall order garnishees to appear for a hearing or to answer interrogatories, but “no further pleadings shall be required.”  Responsive pleadings are not required unless a new claim arises.  Since there were no new issues of liability as to the spouse in PNC (see Objection 1), the Court did not require the spouse to file a response.   

The upshot of the ruling in PNC was that the Court temporarily denied the lender’s motion pending discovery into whether a factual basis existed for setting aside the disputed transfers.  The proceedings supplemental therefore continued, albeit without a new action against the spouse and without the spouse needing to respond to the motion.  The Court contemplated that the lender would file a renewed motion following limited discovery.  (The case has since been settled.)