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Prison for Bankruptcy Fraud Where Creditors Paid 100%

January 11, 2018

On November 7, 2017, a panel of the Third Circuit, in an unreported decision, upheld the District Court’s determination that intended loss equaled the amount of concealed assets in a bankruptcy fraud case in which creditors were paid in full.  U.S. v. Free, 2017 WL 5664671 (3d Cir. – Nov. 7, 2017).  Significantly, Free filed for reorganization under Chapter 13 of the Bankruptcy Code, but he disclosed assets that exceeded his debts by several hundred thousand dollars.  In connection with ongoing litigation between Free and his lender, the Bankruptcy Court converted Free’s proceeding to a Chapter 7 proceeding.  Upon conversion, the United States Trustee—a Division of the Department of Justice—appointed a Chapter 7 Trustee to administer the assets of Free’s bankruptcy estate, which included all of Free’s property, including firearms later determined to be concealed from the bankruptcy proceeding.  Indeed, Free sold firearms outside the bankruptcy proceeding despite warnings from the Bankruptcy Court and Trustee, and he concealed over $400,000 in assets.  A jury convicted Free of bankruptcy fraud.

At sentencing, Free argued that because his assets exceeded his liabilities and all creditors were paid in full, the amount of loss should have been zero under Section 2B1.1 of the U.S. Sentencing Guidelines.  The Government argued, and the District Court agreed, that the amount of loss was the value of the concealed firearms.  On appeal, the Third Circuit reversed and remanded the case back to the District Court to determine what, if any, loss to creditors Free intended, or what gain he sought by concealing the assets.  U.S. v. Free, 839 F.3d 308 (3d Cir. 2016).  On remand, the District Court again determined Free’s intended loss as the value of the concealed firearms, and sentenced Free to 24 months of incarceration and 3 years of supervised release.

On appeal for a second time, the Third Circuit reviewed the District Court’s determination of intended loss for clear error.  Initially, the Third Circuit held that the District Court rightfully inferred that Free intended to inflict pecuniary harm on his creditors due to the magnitude of the value of concealed assets, the lengths of deceit Free employed, and the risk that the disclosed assets might not cover the expenses of administering the bankruptcy.

The Third Circuit also rejected Free’s argument that he could not have intended a loss because his assets exceeded his debts, holding a district court can sentence a defendant based on intended loss even if no actual loss was possible.  The Third Circuit noted that Free sought to avoid distribution of the value of the firearms to creditors by concealing those assets.  Accordingly, the Third Circuit upheld the finding that Free’s intended loss equaled the value of the concealed assets.

The decision in Free is interesting for two reasons.  First, the Third Circuit previously rejected the Government’s urging for the adoption of a bright line rule that intended loss includes the value of assets concealed from creditors in bankruptcy.  U.S. v. Feldman, 338 F.3d 212, 221-24 (3d Cir. 2003) (requiring a careful examination of what the defendant intended to happen when concealing assets and what the defendant sought to gain therefrom).  Second, the Third Circuit’s decision in Free appears to be at odds with the Eighth Circuit’s pragmatic approach in U.S. v. Wheeldon, 313 F.3d 1070 (8th Cir. 2002).  In Wheeldon, the Eighth Circuit reversed the finding that intended loss equaled the $139,528.71 of debt that the defendant sought to discharge after he failed to disclose assets of $8,500.  The Eighth Circuit noted that it “belies reality to argue that Mr. Wheeldon, or a debtor similarly situated, intended to defraud his creditors of everything he owed them solely because he failed to disclose all of his (rather modest) assets.”

The Third Circuit’s decision in Free is a cautionary tale for debtors who are alleged to have concealed assets in bankruptcy.  While the Third Circuit previously eschewed a bright line rule that the amount of concealed assets equals the amount of intended loss, the Third Circuit upheld this determination in Free, despite the fact that creditors were paid 100% of what they were owed.   

Clark Hill’s White Collar Criminal Defense / Internal Investigations Group defends businesses, executives, public officials, and other individuals in a wide range of investigations and prosecutions covering virtually every business sector.  The Group consists of former federal and state prosecutors and other experts who know how to effectively and efficiently defend clients at all stages of investigations and prosecutions.  The Group also performs internal investigations and counsels clients to avoid the dangers of prosecution through compliance programs.

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