Anthony J. Crasto
St. John’s University School of Law
American Bankruptcy Institute Law Review Staff
In In re Bernard L. Madoff Investment Securities LLC, a bankruptcy court in the Southern District of New York held that Irving Picard, Trustee for Bernard L. Madoff Investment Securities LLC (BLMIS) and Bernard L. Madoff (“Madoff”), can recover fictitious profits received by an investor in Madoff’s Ponzi scheme.[1] On November 1998, Stanley T. Miller opened a self-directed Individual Retirement Account (“IRA”) with Madoff and contributed a total of $4,010,270 over the course of five deposits.2 Between November 9, 1998, and December 11, 2008, Madoff made a total of 65 transfers to Miller’s IRA, which amounted to $4,680,063, where $669,793 represented fictitious profits cashed out by Miller within the two years before Madoff filed bankruptcy.3 Consequently, the Trustee sued Miller to recover such fictitious profits by filing a complaint to avoid the fraudulent transfers with the bankruptcy court.4 Miller responded by filing a motion for summary judgment, arguing that he was a subsequent transferee that took the transfers in good faith and thus the Trustee could not recover from him under 11 U.S.C. § 550(b).5 The court ultimately ruled in favor of Trustee and allowed the Trustee to recover the $669,793 of fictitious profits received by Miller.6
For a trustee to recover property transferred by a debtor under section 550 of the title 11 of the United States Code, the transfer must first be avoided.7 Here the bankruptcy court found that the Trustee could avoid the transfers by Madoff to Miller as a fraudulent transfer under 11 U.S.C. § 548(a)(1)(A): the transfers were (1) property of BLMIS (2) made within two years before BLMIS’s bankruptcy filing (3) with the intent to defraud because BLMIS operated in a Ponzi scheme. Under § 550(a)(1), to the extent a transfer is avoided under section 548, a trustee can recover the property transferred, or the value of such property from “the initial trustee of such transfers or the entity for whose benefit such transfer was made.”10 In addition, § 550(a)(2) permits the trustee to recover property from “any immediate or mediate transferee of such initial transferee.”11 However, § 550(b)(2) provides that a trustee cannot recover from “any immediate or mediate good faith transferee of such transferee.”12 According to Miller, he was a subsequent transferee and not an initial transferee under 11 U.S.C. § 550(a)(2) and thus, has the benefit of a good faith defense.13
Because the Bankruptcy Code does not define the term “initial transferee,” courts have generally followed the dominion and control test established by the United States Court of Appeals for the Seventh Circuit in Bonded Financial Services, Inc. v. European American Bank, to determine whether a transferee is an initial transferee.14 “[T]he minimum requirement of status as a ‘transferee’ is dominion over the money or other asset, the right to put the money to one’s own purposes.”15 However, nearly a decade later in In re Finley, the Court of Appeals for the Second Circuit, ruled that “one who merely facilitates the transfer of funds from the debtor to a third party does not exercise sufficient dominion and control and is not an ‘initial transferee.’”16 Thus, the “mere conduit” test was created.17 Miller argued that FiServ, the custodian of Miller’s IRA account, was the initial transferee because FiServ acted more than a mere conduit.18 Miller’s argument failed because he relied on the Gredd decision, whose facts were distinguishable to the Bonded Financial and Finley decisions.19 While the Bonded and Finley decisions relied on the presence of three parties: “the transferor, the conduit, and a third party who receives the transferred funds from the conduit,” the Gredd decision did not involve a third party who received funds.20 Thus, the Court held that FiServ, unlike Bear Sterns in Gredd who lacked a recipient to the funds, was a mere conduit because they were required to transfer the funds to Miller, a third party.21 Thus, because Miller is the recipient of the transfers sent by Madoff, Miller is an initial transferee under § 550(a)(1) and is unable to claim § 550(b) as a defense.22
Under § 550, a trustee, like Picard, can recover fraudulent transfers from an initial or subsequent transferee after first avoiding them under § 548.23 Case law defines an initial transferee as a party who has dominion and control over money or other assets.24 To differentiate from an initial transferee, case law described a mere conduit as a party who “merely facilitates the transfer of funds from the debtor to a third party does not exercise sufficient dominion and control and is not an ‘initial transferee.’”25 Thus, because Miller was an initial transferee, Picard was able to recover the fictitious profits Miller received.26
[1] See In re Bernard L. Madoff Investment Securities LLC, No. 10-04921 (CGM), 2021 WL 2787604, at *1 (Bankr. S.D.N.Y. July 2, 2021).
2 See id.
3 See id. at 2.
4 See id. at 3.
5 See id. at 3.
6 See id. at 11.
7 See id. at 4 (citing 11 U.S.C. § 448(a)(1)(A)).
8 See id.
9 See id. at 8 (citing 11 U.S.C. § 550).
10 Id. (citing 11 U.S.C. § 550(a)(1)).
11 Id. (citing 11 U.S.C. § 550(a)(2)).
12 Id. (citing 11 U.S.C. § 550(b)(2)).
13 See id. at 9.
14 See id. at 8 (citing Bonded Financial Services, Inc. v. European American Bank, 838 F.2d 890, 893 (7th Cir. 1988)).
15 Id.
16 Id. at 9 (citing In re Finley, 130 F.3d 52, 58 (2d Cir. 1997)).
17 See id.
18 See id. at 9.
19 See id. at 9 (citing Bear Stearns Secs., v. Gredd (In re Manhattan Inv. Fund Ltd.), 397 B.R. 1, 15 (S.D.N.Y. 2007)).
20 Id. at 8.
21 See id. at 9.
22 See id. at 10.
23 See id. at 8 (citing 11 U.S.C. § 550).
24 See id. at 8 (citing Bonded Financial Services, Inc. v. European American Bank, 838 F.2d 890, 893 (7th Cir. 1988)).
25 Id. at 9 (citing In re Finley, 130 F.3d 52, 58 (2d Cir. 1997)).
26 See id. at 10.