In Re: Bernard L. Madoff Investment Securities LLC

Background

The action arose from Trustee Irving H. Picard’s adversary proceeding against Citibank, N.A., Citicorp North America, Inc., and Citigroup Global Markets Limited. Picard seeks to recover approximately $443,084,590 in BLMIS customer property that the defendants allegedly received as later transfers from feeder funds.

The Trustee alleges that Citibank and Citicorp received at least $343,084,590 from Rye Select Broad Market Prime Fund, L.P., including approximately $300 million transferred on March 26, 2008, one day after BLMIS transferred $475 million to the Prime Fund. The Trustee alleges that Citi Global received at least $130 million from Fairfield Sentry Limited and seeks to recover $100 million of that amount.

The Bankruptcy Court denied the defendants’ motion to dismiss the amended complaint on October 13, 2022. The defendants then asked this Court for permission to bring an immediate, or interlocutory, appeal from that ruling under 28 U.S.C. § 158(a)(3) and Federal Bankruptcy Rule 8004.

Issues Raised by the Defendants

The defendants identified two proposed appeal issues:

1. Whether the Bankruptcy Court improperly relied on the “Ponzi scheme presumption” in finding that the Trustee adequately pleaded that BLMIS made initial transfers with actual intent to defraud under 11 U.S.C. § 548(a)(1)(A). 2. Whether the Trustee could recover later transfers under 11 U.S.C. § 550(a) when the transfers allegedly were part of an integrated transaction that did not reduce the BLMIS bankruptcy estate.

Legal Standard

The Court explained that permission for an interlocutory appeal is discretionary. Courts generally apply the standard in 28 U.S.C. § 1292(b), which requires the moving party to show three things: a controlling question of law, substantial disagreement about that legal question, and that an immediate appeal could materially advance the end of the litigation. Such appeals are meant to be limited to exceptional circumstances.

Analysis of the Ponzi Scheme Presumption

The Bankruptcy Court had held that the Trustee adequately alleged actual fraudulent intent based both on the Ponzi scheme presumption and on detailed allegations of “badges of fraud,” meaning circumstances that can indicate fraudulent intent.

The defendants argued that the Ponzi scheme presumption was invalid or too broad. The Court held that an appeal on that issue would not materially advance the case because the Bankruptcy Court had separately found that the amended complaint adequately pleaded fraudulent intent through particularized allegations of badges of fraud. Even if the defendants succeeded on the presumption issue, the alternative ruling would remain.

The Court also noted that the Trustee had stated that he would seek to amend the complaint if necessary. Challenges to the sufficiency of pleadings generally were not appropriate for interlocutory review because a reversal could lead only to repleading and additional interim appeals. The Court therefore denied permission to appeal on the Ponzi scheme presumption issue.

Analysis of Estate Depletion

The defendants argued that the $300 million transferred from the Prime Fund to Citibank and Citicorp was funded by money from another lender, so the BLMIS estate was not depleted. They also argued that the Bankruptcy Court improperly applied the “Net Investment Method,” which the Second Circuit had approved for calculating customer claims and distributing customer property.

The Court held that much of this argument concerned applying legal principles to facts, rather than deciding a pure legal question suitable for an immediate appeal. Whether the transactions were interrelated required a fact-based analysis.

The Court further held that the proposed issue was not controlling because the amended complaint alleged that BLMIS transferred $475 million to the Prime Fund, thereby initially depleting the BLMIS estate. The pleadings did not show that another lender actually provided replacement funds, the amount or identity of any such funds, whether they were later transferred to BLMIS, or the timing and terms of those transactions. The Court therefore found no factual basis in the pleadings for the defendants’ estate-depletion defense.

The Court also concluded that the defendants had not shown a substantial disagreement about whether the Trustee had to plead that the money transferred to the defendants was not replaced by another lender. Under the authorities discussed by the Court, an affirmative defense can support dismissal at the pleading stage only when it appears on the face of the complaint. The Court agreed with the Bankruptcy Court that the alleged replacement of funds was a defense the defendants had to raise and prove, not an allegation the Trustee was required to plead.

Disposition

The Court held that the defendants had not satisfied the requirements for an interlocutory appeal on either proposed issue. The defendants’ motion for leave to appeal was denied, the appeal was dismissed, the motion was terminated, and the case was closed.