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A New York Bankruptcy Court Narrows Madoff Trustee’s $905 Million Lawsuit Against an Accounting Firm

In re Bernard L. Madoff Inv. Secs. LLC, Nos. 08-01789 (SMB), 10-05421 (SMB), 2016 Bankr. LEXIS 2686 (U.S. Bankr. S.D.N.Y. July 21, 2016)

The lawsuit arose from the massive Ponzi scheme masterminded by Debtor Bernard L. Madoff and executed through Bernard L. Madoff Investment Securities LLC (BLMIS). Defendants Frank J. Avellino and Michael Bienes were certified public accountants and partners in an accountant firm Avellino & Bienes. Irving H. Picard, the Trustee for the liquidation of the estate of BLMIS and the estate of Bernard L. Madoff, brought a lawsuit against the Defendants to avoid and recover fraudulent transfers worth $900 million, made within two and six years of the petition date pursuant to Sec. 548 of the Bankruptcy Code. The Trustee accused the Defendants of helping conceal Madoff’s Ponzi scheme by working hand in hand with Madoff to pool money from the innocent investors, create fake account statements and drive the Ponzi scheme to fill their pockets with millions of dollars.

The Defendants moved to dismiss the complaint, making several arguments relating to the Trustee’s standing and the Court’s jurisdiction. The Defendants contended that the complaint failed to adequately allege the Defendants’ willful blindness and therefore, the transfers made within two years prior to the petition date were protected by the “good faith” defense under 11 U.S.C. § 548(c). The Defendants next contended that any transfers made prior to 2001 were not within the power of the Trustee to avoid, nor within the jurisdiction of the court to adjudicate. The Defendants reasoned that since Madoff operated his business as a sole proprietorship and BLMIS, a limited liability company, began operations only on January 1, 2001, the Trustee cannot recover transfers made by the sole proprietorship before January 1, 2001. In response, the Trustee argued that BLMIS’ change in form from a sole proprietorship to a limited liability company was irrelevant to the issue of standing as the substantive consolidation of the Madoff and BLMIS estates authorized the Trustee to avoid and recover transfers by the sole proprietorship as well as the BLMIS.

On the Defendants’ first argument, the Court stated that in order to meet his pleading burden, the Trustee must plead that the Defendants had actual knowledge that BLMIS was not engaged in the trading of securities or that the Defendants willfully blinded itself to the fact that BLMIS was not engaged in the actual trading of securities. The Court found that in the case at bar – although the Defendants initially disputed the allegations of willful blindness, the attorney of the Defendants conceded at oral argument that the Trustee had adequately alleged the Defendants’ willful blindness under the standard applied by the Court. Accordingly, the Court ruled that as the statements made by an attorney during oral argument constitute binding judicial admissions, the Trustee’s complaint adequately plead facts implying that the Sec. 548(c) defense was not available to the Defendants even if they did give value.

On the Defendants’ second argument the Court ruled that the distinction of sole proprietorship and company was an important one. The customer property invested with BLMIS never became property of Madoff or BLMIS under applicable non-bankruptcy law, and an ordinary bankruptcy trustee cannot recover it. Though, the Trustee can recover the transfers of customer property by BLMIS, he cannot recover the transfers of customer property made by Madoff individually. Further, the substantive consolidation of the BLMIS and Madoff estates did not empower Madoff’s Chapter 7 Trustee to exercise the powers of a BLMIS trustee. Thus, the Trustee in the case at bar lacked power to recover transfers made before Jan. 1, 2001.


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