McTexLaw McPherson and Associates Real Estate Asset Protection Law Firm Attorney

Asset Protection: First Things First

Ah, the extent to which people will go to protect their assets:

McEntire sued Freeport Iron and Metal, Inc., FIMCO, Inc., and James Lyster. It won a judgment against Freeport and FIMCO for $1.2 million, and successfully proved that Lyster was the alter ego of Freeport and FIMCO. Lyster died during the pendency of the case. So, at this point, McEntire could attempt to collect this judgment from Freeport, FIMCO, and Lyster’s estate.

In post-judgment discovery, McEntire “discovered” (see how that term works?) that FIMCO and Freeport had transferred assets to Bay City Plastics, Inc., and Brazoria County Disposal Corporation (aptly named, I suppose, the corporation where the assets were eventually “dumped”). Having no luck getting ahold of assets to satisfy the judgment, McEntire went back to the trial court and asked the court to enter a “turnover order”, basically a court order directed to persons and/or entities ordering them to deliver assets to the judgment creditor. Interestingly, McEntire asked for such an order against FIMCO, Freeport, Lyster’s estate, Bay City Plastics, and Brazoria County Disposal. The trial court dutifully did so.

The parties against whom the turnover orders were issued, were livid, what will all that planning having just gone up in smoke. They were particularly upset that the trial court ordered Bay City Plastics and Brazoria County Disposal to turn over their assets, because neither of those corporations were even named as defendants in the lawsuit. McEntire believed he was entitled to a turnover order against them since, in his opinion, they were also mere alter egos of Lyster.

On appeal, some semblance of sanity was restored when the Court of Appeals reversed the trial court with respect to these two corporations. The turnover statute is only a procedure that can be invoked by a judgment creditor to seize assets of a judgment debtor. By definition, the assets ordered to be turned over must be owned by the judgment debtor. Here, neither Bay City Plastics nor Brazoria County Disposal were parties to the lawsuit, there was no judgment against them, so they could not be judgment debtors. Texas courts do not apply the turnover statute to non-judgment debtors.

The crux of the rule is this: A trial court cannot order a third party to turn over property because it is improper to use a procedural statute to adjudicate the substantive rights of a third party. If parties were allowed to use the turnover statute to obtain property of non-judgment debtors based on the alter ego, or any similar, theory, they would be allowed, in effect, to skip the trial on the merits in the case on the issue of alter ego, and basically declare itself the winner. The judgment creditor must pass “go” first–have a trial on the merits of whether a particular entity is the alter ego of a person, and only after successfully proving that, and piercing the corporate veil, can the judgment creditor collect its $200.

So what did the judgment creditor not get ahold of in this case by doing it wrong? About $364,000 of inventory and equipment, plus various buildings, real property, and other equipment. And even if the solution is to now go back and have another trial on alter ego, the judgment creditor would likely be throwing good money (to its lawyers) after bad. Not to mention any statute of limitations problems that may now bar the judgment creditor from even suing those two entities at all.

Moral for judgment creditors: when you sue someone or some entity, make any allegations of alter ego in the original case. Do the due diligence on the front end to investigate affiliated or related parties and add them to the case up front, so you only have to pass “go” once.

In a similar case, Jose Maiz and a host of people sued Ignacio Santos and several defendants relating to real estate investment losses. Maiz and Co. ended up with a $19 million verdict against Santos and Friends, except the court did not issue judgment against Sanig Investments, Limited nor against Tres Vidas Investments Limited. Sanig is a Bahamian corporation formed in 1981, while Tres Vidas is a British Virgin Island corporation formed in 1995. Having been both places, I’d volunteer to personally verify their corporate filings any time. Plus, both corporations’ stock was held and controlled by a trust. In other words, we’re not dealing with a marginally sophisticated asset protection plan here. This one was thought out and fairly expensive to set up.

Maiz and Co. eventually turned to the Texas Turnover Statute to help them collect their colossal judgment, and the district court obliged. By this time they realized that Sanig and Tres Vidas had significant assets, and so they also asked the Dallas Federal District Judge to issue a turnover order against Sanig and Tres Vidas as well Santos and Friends. He did. But the Fifth Circuit stepped in and corrected the error.

This court opinion is even stronger than the Bay City Plastics case above. In this case the Fifth Circuit held that even if Santos possessed and controlled the property owned by Sanig and Tres Vidas, that would not be enough to allow the judgment creditor to use the turnover order against Sanig and Tres Vidas. There must first be a “prior legal adjudication which pierced the two corporations’ corporate veils.”

What assets did the judgment creditor miss out on this time? (1) a condo in Dallas, (2) a condo in South Padre Island; (3) Citibank accounts in New York and the Bahamas; (4) interests in various partnerships outside Texas; (5) 50% ownership of 2 different developments; (6) 50% of the shares of Liberty Custom Homes; and (7) an interest in Highland Park Village, which owns and manages land development projects in the Atlanta, GA, area. Noted the court “The combined value of the assets held by Sanig and Tres Vidas is in the tens of millions of dollars.” Oh, yeah.

Same moral for the judgment creditor, different story. Keep your eye on collecting the judgment, along with getting the judgment in the first place.

And what about the moral for judgment debtors? Asset protection planning is a blend of art and science. Such plans should be implemented sooner rather than later, because once a claim arises it’s practically too late to transfer assets to protect them. There should be some legitimate business reason for movement of assets, not only asset protection. But it’s apparently a good idea to spread assets around amongst various different entities, because you never know what a judgment creditor will miss.