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In re Fliss

United States District Court, N.D. Illinois, Eastern Division

March 30, 2018

In Re John W. Fliss, Debtor.
v.
John W. Fliss Appellee. Generation Capital I, LLC, Appellant,

          MEMORANDUM OPINION AND ORDER

          HONORABLE THOMAS M. DURKIN, UNITED STATES DISTRICT JUDGE

         Appellant Generation Capital I, LLC (“Generation Capital”)[1] has appealed the bankruptcy court's order (1) disallowing its claim in its entirety as a discovery sanction, and (2) the subsequent confirmation of debtor John W. Fliss's Chapter 13 Plan. This Court has jurisdiction pursuant to 28 U.S.C § 158 because the case involves the appeal of a final judgment entered in the bankruptcy court. For the following reasons, the Court vacates the bankruptcy court's judgment and remands the case for further proceedings.

         Background[2]

         These consolidated appeals stem from Generation Capital's bankruptcy claim based on a state court judgment (the “Claim”) against Fliss's bankruptcy estate. During the bankruptcy proceedings, the bankruptcy court disallowed the Claim because Generation Capital failed to comply with discovery orders. As a result, the bankruptcy court held there were no objections to Fliss's Chapter 13 Plan (the “Plan”) and confirmed the Plan without hearing Generation Capital's Claim on its merits. Generation Capital now argues that the bankruptcy court committed an error of law or abused its discretion in disallowing the Claim in its entirety as a discovery sanction, and that the bankruptcy court committed an error of law or abused its discretion when it confirmed the Plan.

         A. The State Court Judgment

         On or about April 2009, a promissory note was executed by Duraguard Services, LLC and Polymeric Solutions, LLC in favor of Barrington Bank and Trust Company, N.A. to borrow $200, 000 (the “loan”). The note was personally guaranteed by Fliss, Mark E. Barr, Lawrence E. Wojciak, and The Sherry R. Wojciak Revocable Trust dated February 16, 1999 (the “Trust”). In September 2011, Barrington Bank filed a complaint and confession of judgment against the borrowers Duraguard and Polymeric and against all of the individual guarantors (the “litigation”). A judgment of confession was entered against all of the defendants in that case-against Fliss, Barr, Wojciak, and the Trust for $204, 797.70, against Duraguard for $208, 733.08, and against Polymeric for $205, 950.55. In February 2012, Barrington Bank and Generation Capital entered into a note sale and assignment agreement (the “note agreement”). The note agreement transferred all of Barrington's rights under the loan and the litigation to Generation Capital in exchange for payment of $240, 000. Evidence of a wire transfer in that amount from Generation Capital II, LLC (“Generation II”) on behalf of Duraguard was introduced in the state court proceedings. R. 20-1 at A-22.

         Also in February 2012, Barrington Bank, Wojciak, and the Trust entered into a settlement agreement (the “settlement agreement”). The settlement agreement provided that in exchange for payment of $240, 000 by Wojciak and/or the Trust to Barrington Bank, Barrington Bank would transfer all of its rights under the loan and the litigation to Generation Capital, and Barrington Bank, Wojciak, and the Trust would release each other from liability on any claims. Id. at A-23. There was no evidence in the state court record that Wojciak or the Trust ever made this payment to Barrington Bank. Id. at A-24.

         In May 2012, pursuant to the note agreement, the state court substituted Generation Capital for Barrington Bank. Generation Capital subsequently filed a motion to turnover assets against Fliss and Barr in the litigation. In November 2014, Fliss and Barr filed a motion to determine the amount owed pursuant to the judgment. In that motion, Fliss and Barr argued that the judgment in the litigation had been extinguished by the payment of $240, 000 from Generation Capital pursuant to the settlement agreement. But because no evidence had been presented that the payment from Wojciak and/or the Trust had been made to Barrington Bank, the state court held that the settlement agreement was not satisfied, the litigation was not settled, and the release of liability between Barrington Bank, the Trust, and Wojciak was void. Id. (opinion entered May 12, 2015). As a result, the state court held that Barrington Bank could sell the rights pursuant to the note agreement to Generation Capital, and Generation Capital had a live cause of action against Fliss, Barr, Wojciak, and the Trust for the outstanding judgment amount of $204, 797.70. Id. at A-25.

         B. The Bankruptcy Proceedings

         On August 28, 2015, Fliss filed a voluntary Chapter 13 bankruptcy petition. The Chapter 13 Plan stated that Generation Capital had a claim against Fliss's estate secured by the “memorandum of judgment recorded against real property, ” but that the collateral “either has no value or [ ] is fully encumbered by liens with higher priority, ” causing the Claim to be treated as unsecured. A-19 at 3. On November 1, 2015, Generation Capital objected to the Plan on the grounds that: (1) the Plan did not adequately provide for Generation Capital's secured claim pursuant to 11 U.S.C § 1325(a)(5), et seq.; and (2) pursuant to 11 U.S.C § 1322(b)(2). Generation Capital filed a timely proof of claim on December 31, 2015.

         On July 24, 2016, Fliss filed an objection to the Claim and made the same arguments he made in the state court motion for determination. Specifically, he argued that Generation Capital's Claim had been released by the payment of the settlement amount to Barrington Bank. A-25. He also argued that Generation Capital did not own the Claim, and that the Claim was overstated. Id. Like in the state court motion, Fliss argued that the settlement agreement payoff was made on behalf of Duraguard and Polymeric and thus extinguished any claims Barrington Bank had against them, as well as against their guarantors (i.e., Fliss, Barr, Wojciak, and the Trust).

         Fliss further argued that Generation Capital is an alter ego of Wojciak and the Trust. He noted that although the note agreement provided for the assignment of the loan and litigation to Generation Capital, the note agreement was executed by Wojciak, and the only evidence of payment was from an account in the name of Generation II. Fliss thus questioned who actually owned the Claim-Generation II, Wojciak, or Generation Capital. Again, as in the state court motion, Fliss argued that because the payment was made, the payment released the obligation of all of the guarantors as well. In response, Generation Capital argued that the objection should be denied because the state court judgment was not subject to challenge based on res judicata, the Rooker-Feldman Doctrine, [3] and full faith and credit.

         On October 25, 2016, the parties appeared for a hearing on Fliss's objection to the Claim. The bankruptcy court indicated there was a question as to whether the Claim had been paid and that it intended to conduct an evidentiary hearing. A-136 at 10. The bankruptcy court ordered the parties to exchange witness lists, exhibit lists, and exhibits on or before November 21, 2016. Id. at 11. The bankruptcy court also set a status for November 22, 2016 to determine whether discovery was needed. Id.

         On November 21, 2016 and November 22, 2016, Fliss issued discovery requests to Generation Capital and indicated to the bankruptcy court that there was a question as to whether the Claim had been paid and that he thought the Generation Capital entities were alter egos of Wojciak and the Trust. A-149 at 3. Fliss's attorney represented that Generation Capital and the related entities had not produced any operating agreements, bank statements, or tax returns. Id. at 4. The bankruptcy court told Generation Capital's attorney that “if you don't produce [the documents], [the court would] sustain the objection.” Id. The bankruptcy court ordered Generation Capital to produce the documents by December 9, 2016, over Generation Capital's representation to the bankruptcy court that it had received the requests the day before, that there were 16 requests, and that it had consistently been Generation Capital's position that Fliss's objection was barred by the state court judgment under either res judicata or the Rooker-Feldman principle. Id. at 5, 7.

         Generation Capital failed to produce the documents on December 9, 2016, allegedly because its counsel were in a trial that ended up taking several days longer than anticipated. A-158 at 4. Fliss did not contact Generation Capital or file a motion to compel. Instead, on December 12, 2016, Fliss filed a motion to disallow the Claim as a sanction for Generation Capital's failure to produce documents. A- 109. Generation Capital responded to the requests by December 14, 2016. A-158 at 4. During argument on the motion to disallow on December 19, 2016, Generation Capital argued that the document requests asked for documents that did not belong to Generation Capital, and that Generation Capital produced hundreds of pages of documents in response to the requests. Id. at 5-6.

         The bankruptcy court ordered Generation Capital to produce information regarding the ownership of the Generation Capital entities by December 21, 2016. Id. The bankruptcy court also reminded Generation Capital's counsel, Mr. Sheldon, that the information had to be disclosed. Mr. Sheldon responded that the information the bankruptcy court and Fliss were looking for had already been produced:

THE COURT: I just remembered, this isn't the first time I've made it clear that this information has to be disclosed. I remember being incredulous, and nobody knows where what is this, $300, 000 payment?
MR. SCHECHTER: 240, 000.
THE COURT: 240, and nobody knows --
MR. SHELDON: Which we provided proof of.
THE COURT: -- who made it, and where it is.
MR. SHELDON: Which we provided proof of, Your Honor.
THE COURT: But you got to convince me you're making sense.
MR. SHELDON: Judge, you haven't seen the documents, respectfully.
THE COURT: He hasn't seen them because you won't give them to him.
MR. SHELDON: No, you haven't seen them. Mr. Schechter has documents. Respectfully, Your Honor, everything Mr. Schechter argues seems to be taken as the gospel.
THE COURT: It doesn't, we just want the information. We don't know what -
MR. SHELDON: He has information, Your Honor. He has hundreds of ...

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