FT - Prudential Insurance Co. v. Science Park LP (10/5/1995)

[Riser Adkisson LLP]

Prudential Insurance Co. of America v. Science Park Limited Partnership
1995.OH.0042551 (Ohio App. Dist.8 10/05/1995)

COURT OF APPEALS OF OHIO, EIGHTH DISTRICT COUNTY OF CUYAHOGA

No. 68192

1995.OH.0042551

October 5, 1995

PRUDENTIAL INSURANCE CO. OF AMERICA PLAINTIFF-APPELLANT

v.

SCIENCE PARK LIMITED PARTNERSHIP ET AL. DEFENDANTS-APPELLEES

CHARACTER OF PROCEEDING: Civil appeal from Common Pleas Court Case No. 253331

Appearances: For Plaintiff-appellant: Stephen L. Black, Esq. John L. Evans, Esq. Deborah S. Poley,
Esq. Graydon, Head & Ritchey 1900 Fifth Third Center 511 Walnut Street Cincinnati, Ohio 45201 For
Society National Bank: Richard G. Zeiger, Esq. 127 Public Square, 2nd Fl. Cleveland, Ohio
44114-1306 For Defendants-appellees: Marvin L. Karp, Esq. Martin W. Elson, Esq. Stuart A. Laven,
Esq. Ulmer & Berne 900 Bond Court Building 1300 East Ninth Street Cleveland, Ohio 44114-1583 For
Society National Bank: Alan R. Lepene, Esq. Thompson, Hine & Flory 1100 National City Bank Bldg.
629 Euclid Avenue Cleveland, Ohio 44114-3070

The opinion of the court was delivered by: Patricia Ann Blackmon, J.

JOURNAL ENTRY and OPINION

JUDGMENT: Affirmed in part, Reversed in part.

Plaintiff-appellant Prudential Insurance Company of America appeals the trial court's granting
summary judgment in favor of the defendants-appellees Science Park Limited Partnership, WWM
Science Park Limited Partnership, William Weber, Gerald Medinger, and Society National Bank.
Prudential assigns the following three errors for our review:

I. THE TRIAL COURT ERRED IN GRANTING THE MOTION FOR SUMMARY JUDGMENT OF
APPELLEES SCIENCE PARK LIMITED PARTNERSHIP, WWM SCIENCE PARK LIMITED
PARTNERSHIP, WILLIAM M. WEBER, AND GERALD B. MEDINGER IN THAT THE FACTS
SHOW WEBER AND MEDINGER ARE LIABLE FOR DIRECTING THE PARTNERSHIP TO MAKE
PAYMENTS TO OR FOR THE BENEFIT OF THE INDIVIDUAL PARTNERS, AFTER DEFAULT
ON THE MORTGAGE LOAN OF PRUDENTIAL, WHICH WERE MADE IN BREACH OF THE
TERMS OF THE PRUDENTIAL LOAN DOCUMENTS AND IN BREACH OF THE EXPRESS TRUST
CREATED BY THE TERMS OF AN ASSIGNMENT OF LEASES AND RENTS (THE "ASSIGNMENT")
WHEN THE PARTNERSHIP WAS INSOLVENT AT THE TIME THE PAYMENTS WERE MADE AND
THOSE PAYMENTS VIOLATED OHIO REV. CODE 1336.05(B) AND 1313.56.

II. THE TRIAL COURT ERRED IN GRANTING THE MOTION FOR SUMMARY JUDGMENT OF
APPELLEE SOCIETY NATIONAL BANK IN THAT THE FACTS SHOW CERTAIN PAYMENTS
WERE MADE TO AMERITRUST COMPANY, N.A., SOCIETY'S PREDECESSOR, AT A TIME
THE PARTNERSHIP WAS INSOLVENT AND THOSE PAYMENTS VIOLATE OHIO REV. CODE
1336.05(B) AND 1313.56 AND SOCIETY WAS THE DIRECT RECIPIENT OF FUNDS
TRANSFERRED IN A FRAUDULENT MANNER.

III. THE TRIAL COURT ERRED IN DENYING THE MOTION FOR SUMMARY JUDGMENT
OF APPELLANT PRUDENTIAL INSURANCE COMPANY OF AMERICA AND DISMISSING ITS
SECOND AMENDED COMPLAINT IN THAT THE FACTS SHOW THAT APPELLEES WEBER
AND MEDINGER ARE PERSONALLY LIABLE TO PRUDENTIAL FOR THE POST-DEFAULT
PAYMENTS MADE BY THE PARTNERSHIP TO AMERITRUST AND MESSRS. WEBER,
WOOD, MEDINGER, AND SOCIETY ARE LIABLE FOR THE PAYMENTS RECEIVED AS
FRAUDULENT TRANSFEREES.

After reviewing the record and the arguments of the parties, we affirm in part and reverse in part
the trial court's decision. The apposite facts follow.

William Weber, Gerald Medinger, and Alan Wood*fn1 were general partners of WWM Science Park
limited partnership (WWM Science Park). WWM Science Park was the general partner of Science Park
Limited Partnership (Science Park). Science Park on October 26, 1988 borrowed $9,500,000 from the
Prudential Insurance Company of America (Prudential) for the construction of an office building.
The office building rents were to be used to repay the loan to Prudential. Consequently,
Prudential and Science Park executed a Promissory Note, an Open-End Mortgage and Security
Agreement, and an Assignment of Leases and Rents.

Section 8.01(a) of the Mortgage Agreement provided that neither Science Park nor its general
partner, WWM Science Park, or the partners of WWM Science Park "shall be liable for any deficiency
judgment with respect to any Obligation secured by this Instrument." Section 8.01(b) provided that
Section 8.01(a) would not relieve Science Park, WWM Science Park or its partners of personal
liability or responsibility "for any rents or other income from the Premises received by or for
[Prudential] after a default hereunder or under any other Loan Document and not applied to the
fixed and operating expenses of the Premises."

Science Park began experiencing financial difficulties in 1989. Weber, Medinger, and Wood, as
individuals, each borrowed $235,000 from Ameritrust Bank now Society National Bank (Society). The
loan money, totaling $705,000, was subsequently loaned to Science Park by the three individuals.
In February 1990, Science Park began repaying Society in monthly installments of $9720.00. Science
Park's financial difficulties continued, and it defaulted on its note to Prudential in March 1992.
Nevertheless, it continued to pay the loan to Society. At times, it accelerated its payments to
Society and paid the loans earlier than the payment schedule required. Several of the payments
were made directly to Society and several of them were made to Weber, Wood, and Medinger.

In October 1992, Prudential filed a foreclosure action against Science Park. Prudential also filed
suit on June 8, 1993 against Science Park, WWM Science Park, Weber, Medinger, Wood and Society.
Prudential's complaint alleged the payments made on the Partner Loans after May 1992 were
fraudulent transfers in violation of R.C. 1336.04, 1336.05, and 1331.56. Prudential also sought
restitution from Society alleging that Society was unjustly enriched by accepting the payments.

On October 12, 1993, Prudential amended its complaint to include allegations that the defendants
conspired to divert rent payments from the promissory note and pay down their obligation to
Society with rent funds earmarked for Prudential. Prudential also alleged that all defendants
except Society were insolvent and may be "insiders" as defined by R.C. 1336.01(G).

In its second amended complaint filed May 5, 1994, Prudential alleged the post-default payments
were fraudulent and preferential transfers. Prudential also alleged Science Park's post-default
payments (totaling $623,136.94) constituted a breach of trust and breach of the terms of the loan
agreements, and Society is liable for the payments because Society had actual or constructive
knowledge of such breach.

On May 19, 1994, after a hearing, the trial court found that the post-default payments on the
Partner Loans were not "fixed and operating expenses" as the term is used in the mortgage
agreement. Thereafter, each party filed for summary judgment. On October 31, 1994, the court
dismissed the second amended complaint, granted summary judgment in favor of the defendants and
denied Prudential's motion for summary judgment. The court made the following findings:

The Court finds that the subject payments were made in payment of legitimate Partnership
obligations in the ordinary course, and as a necessary part of the Partnership's business, and
that plaintiff has failed to establish that there is a genuine issue of fact as to the Partnership
being insolvent within the meaning of Ohio R.C. 1336.02 and 1313.56. The Court further finds that
the plaintiff's loan documents did not prohibit the Partnership from making such payments, either
before or after default, even though they were for other than fixed and operating expenses; that
the exceptions to the limited recourse provisions contained in the plaintiff's loan documents are
not applicable to such payments; and that such payments did not constitute a breach of the loan
documents or a breach of trust.

The first issue for our review is whether the language of the loan documents imposed personal
liability upon Weber and Medinger for the post-default payments made to Society. Section 8.01(a)
provides that the parties are exculpated from liability except as in (b), which says the
exculpated parties are personally liable and responsible for any rents or other income from the
premises received by Science Park after a default when said rents or other income from the
Premises are not applied to the fixed and operating expenses of the Premises. Under this section,
rents or other monies collected after default must be paid to Prudential unless they are used for
fixed and operating expenses. The trial court found and we agree that the payments of Society were
not fixed and operating expenses of the premises. Consequently, the question for us is whether
Prudential as the non-movant has sufficiently produced evidence to show that the payments to
Society were rents and other income from the premises. If so, a question of fact exists as to
liability.

Prudential argues such liability arose when Science Park breached the Assignment of Leases and
Rents signed by the parties. According to the language of the Assignment, Prudential had the right
to the rents collected from the office building. The Assignment provided Science Park had a
license to collect the rents, income, and profits from the building's leases "so long as there is
no default or breach" by [Science Park] under any of the Obligations, the Promissory Note, the
Open-End Mortgage and Security Agreement, the Assignment of Leases and Rents, or any other loan
document. Science Park agreed to "hold any and all such Rents in trust" and to "apply the same in
payment of the Obligations." The Assignment also provided "if [Science Park] defaults on the
Obligations, the Security Instrument or this Assignment, and until such default shall have been
fully cured, the License of Assignor to collect rents, income and profits shall cease and terminate.

We find these agreements, taken together and as applied to the undisputed facts of this case,
raise a genuine issue of fact about whether the partners were individually liable on the mortgage
instrument. Under the Assignment, Prudential had a right to all rental and other income generated
by the office building. Science Park's license to collect the rents terminated when Science Park
defaulted on the mortgage. Once Science Park's license to collect rents terminated, Science Park
had no right to collect the rents and, under the Assignment, all right, title, and interest in the
rents belonged to Prudential, and Science Park became liable to Prudential for the rents.

If the rents were used to pay debts other than "fixed or operating expenses," the Partners were
not protected from personal liability as provided in Section 8.01(b). Because the mortgage
agreement specified that the non-recourse clause did not apply to "rents or other income from the
premises received by or for Debtor after a default," we find that a genuine issue of fact exists
for trial as to whether Science Park's payments to Society constituted a breach of the Assignment
and subjected the Partners to personal liability.

The next issue raised by this appeal is whether the post-default payments to Society constituted
fraudulent transfers under R.C. 1336.05(B). R.C. 1336.05(B) provides:

A transfer made or an obligation incurred by a debtor is fraudulent as to a creditor whose claim
arose before the transfer was made or the obligation was incurred if the transfer was made to or
the obligation was incurred with respect to an insider for an antecedent debt, the debtor was
insolvent at that time, and the insider had reasonable cause to believe that the debtor was insolvent.

Because the challenged conveyances in this case were payments of money, they were "transfers" as
defined in R.C. 1336.01(L). In order to prevail on its fraudulent transfer claim, Prudential had
to show that it has a claim against Science Park at the time the payments were made. Science
Park's default on the mortgage, which arguably gave rise to Prudential's claim, occurred in 1992.
The payments alleged to be fraudulent were all made after the date of the default. Consequently,
Prudential's claim arose before the transfers were made.

However, the parties argued different interpretations of the following language in R.C.
1336.05(B): "if the transfer was made to or the obligation was incurred with respect to an
insider." Prudential alleges the post-default payments on the Partner Loans were transfers made
with respect to insiders. According to Prudential, Weber and Medinger, as general partners of
WWM Science Park, are insiders of Science Park. Science Park argues R.C. 1336.05(B) refers
only to transfers made to insiders.

We interpret R.C. 1336.05(B) to mean transfers made to insiders and obligations incurred with
respect to insiders. Some of the challenged payments were made directly to Society. Society is not
an insider of Science Park. Consequently, R.C. 1336.05(B) does not apply to the payments made to
Society. The trial court correctly granted summary judgment on Prudential's fraudulent transfer
claims as they pertain to post-default payments made directly to Society.

With respect to the post-default payments made by Science Park to Weber, Wood, and Medinger, we
find that these payments were made to "insiders" because Weber, Wood and Medinger were "persons in
control of" Science Park Ltd. See R.C. 1336.01(G)(3)(e). However, in order to sustain its
fraudulent conveyance claims with respect to these payments, Prudential had to produce evidence
that Science Park Ltd. was insolvent at the time the payments were made. Under R.C. 1336.02(B), a
partnership is insolvent "if the sum of the debts of the partnership is greater than the
aggregate, at a fair valuation, of all of the assets of the partnership and the sum of the excess
of the value of the nonpartnership assets of each general partner over the non-partnership debts
of the general partner."

The United States Bankruptcy Code contains a similar definition of "insolvent".

11 U.S.C.S. 101(32)(B) provides:

"[I]nsolvent" means with reference to a partnership, financial condition such that the sum of such
partnership's debts is greater than the aggregate of, at a fair valuation (i) all of such
partnership's property, exclusive of property [transferred, concealed, or removed with intent to
hinder, delay, or defraud such entity's creditors] and (ii) the sum of the excess of the value of
each general partner's nonpartnership property, exclusive of [transferred, concealed, or removed
with intent to hinder, delay, or defraud such entity's creditors], over such partner's
nonpartnership debts.

Cases interpreting the Bankruptcy Code have applied the "balance sheet" approach to determine
insolvency. Under the balance sheet approach, a debtor is insolvent if its liabilities exceed its
assets, excluding the value of preferences, fraudulent conveyances, and exemptions. In re Taubman
(Bankr.Ct.Ohio 1993), 160 B.R. 964,979. See also In re Newtowne, Inc. (Bankr.Ct.Ohio 1993), 157
B.R. 374,380 (balance sheet analysis used to determine whether corporation was insolvent at time
of allegedly fraudulent transfer.)

Prudential's deposition exhibits included Science Park's 1992 balance sheet. The balance sheet
contains some evidence that Science Park's liabilities exceeded its assets. Applying the balance
sheet test to this case, we conclude Prudential produced evidence of a genuine issue of material
fact with respect to whether Science Park was insolvent. Accordingly, we reverse the trial court's
decision with respect to the fraudulent transfer claims against Science Park for post-default
payments made to Weber, Wood, and Medinger.

Finally, we must determine whether the trial court properly granted summary judgment on
Prudential's claim that the payments constituted "preferential transfers" under R.C. 1313.56. R.C.
1313.56 defines fraudulent transfers as those made with intent to hinder, delay or defraud
creditors and provides that such transfers are voidable by the creditor. However, under R.C.
1313.57, the creditor must show that the transferee knew of the transferor's fraudulent intent.
See Gould v. Cooper (1919), 15 Ohio App. 223.

To avoid summary judgment on its preferential transfer claim against Society, Prudential had to
produce evidence that Society knew of Science Park's intent to defraud Prudential. Prudential
presented evidence that Society knew Science Park was having financial problems in January 1992.
However, no evidence was presented to show that Society knew about Science Park's default on the
mortgage with Prudential or that Society knew Science Park made payments to Society with the
intent to defraud Prudential. Under the circumstances, we conclude Prudential did not establish a
triable issue of fact with respect to its claim of preferential transfers. Consequently, the trial
court was correct in granting Society's motion for summary judgment on that claim.

On the other hand, we find that Prudential established a genuine issue of material fact concerning
whether the post-default payments made to Weber, Wood, and Medinger were preferential transfers.
The checks representing the payments were all signed by Medinger. In addition, Prudential went
forward with evidence that Wood, Weber, and Medinger made the decision to pay Society instead of
Prudential after realizing that they could not meet all of their obligations. Therefore, we
reverse the trial court's grant of summary judgment on Prudential's claim that the post-default
payments to Weber, Wood, and Medinger were preferential transfers.

We affirm the trial court's entry of summary judgment on all of Prudential's claims against
Society. However, the trial court's decision is reversed with respect to the fraudulent transfer
and preferential transfer claims for post-default payments made to Weber, Wood, and Medinger as
well as the claims for breach of contract and breach of express trust.

Judgment affirmed in part and reversed in part.

Affirmed in part and reversed in part.

It is ordered that Appellant and Appellee share the costs herein taxed.

The Court finds there were reasonable grounds for this appeal.

It is ordered that a special mandate issue out of this Court directing the Common Pleas Court to
carry this judgment into execution.

A certified copy of this entry shall constitute the mandate pursuant to Rule 27 of the Rules of
Appellate Procedure.

Exceptions.

SPELLACY, P.J., and KARPINSKI, J., CONCUR.

PATRICIA ANN BLACKMON JUDGE

Opinion Footnotes

*fn1 Science Park's claims against Wood were later dropped after he filed bankruptcy.