In its opinion in Mano-Y&M, Ltd. V. Dane S. Field (In re The Mortgage Store, Inc.), 2014 WL 6844630 (9th Cir. 2014), theNinth Circuit adopted a strict “dominion” test for purposes of determining who is the initial transferee of an avoidable transfer, clearly stating that equitable concepts of “control” play no part in determining initial transferee status.  In doing so, the court stated that the Ninth Circuit BAP’s decision inMcCarty v. Richard James Enters., Inc. (In re Presidential Corp.), 180 B.R. 233 (9th Cir. BAP 1995) is no longer good law.

The facts of The Mortgage Store involved a sale of property, with the purchase price paid in part by a loan from The Mortgage Store to the purchaser.  The loan proceeds, along with the balance of the purchase funds, were deposited into a trust account held by the seller’s law firm, where they were held pursuant to an escrow agreement.  The attorney disbursed the funds pursuant to the purchase agreement.  It turned out that The Mortgage Store had been operating a Ponzi scheme, and the bankruptcy trustee brought an action against Mano-Y&M (“Mano”), as seller, to recover the loan proceeds it had been paid through the closing.  Mano contended the purchaser, for whose benefit the loan proceeds were transferred, was instead the initial transferee of the monies paid by The Mortgage Store in connection with the transaction.  The Ninth Circuit disagreed, held the seller was the initial transferee of the funds, and affirmed the judgment in favor of the bankruptcy trustee.

The court began its analysis with noting that § 550(a) does not define the term “initial transferee.”  The court referred to its prior adoption of the “dominion” test in Universal Serv. Admin. Co. v. Post-Confirmation Comm. Of Unsecured Creditors of Incomnet Commc’n Corp. (In re Incomnet), 463 F.3d 1064 (9th Cir. 2006) where it stated:  “Under the dominion test, a transferee is one who . . . has dominion over the money or other asset, the right to put the money to one’s own purposes.”  Id. at 1070. The court stated that a key factor in the dominion test is “whether the recipient of the funds has legal title to them” and whether the recipient has “the ability to use [the funds] as he sees fit.”  Id. at 1071.  The court cited to the Seventh Circuit’s opinion in Bonded Financial Services, Inc. v. European American Bank, 838 F.2d 890, 894 (7th Cir. 1988), where the Seventh Circuit held that a person will have dominion over a transfer if he is “free to invest the whole [amount] in lottery tickets or uranium stocks.” 

Following the Ninth Circuit’s decision in Incomnet, the Ninth Circuit BAP used a “dominion and control” test in In re Presidential, a test which arguably had been condoned by the Ninth Circuit.  See Schafer v. Las Vegas Hilton Corp. (In re Video Depot, Ltd.), 127 F.3d 1194 (9th Cir. 1997).  Elements of “control” for purposes of determining initial transferee status require courts to “step back and evaluate the transaction in its entirety to make sure that their conclusions are logical and equitable.”  The control test is a more flexible approach which empowers a court to utilize concepts of equity in determining who is an initial transferee. 

The Ninth Circuit in The Mortgage Store held that equitable concepts of “control” play no part in determining who is an initial transferee for purposes of § 550(a) and that the sole standard is one of “dominion.” 

Applying the strict dominion standard, the court affirmed the finding that the seller, whose legal title to the funds was unquestioned, and had the right to compel payment of the funds by the escrow agent to him following his execution of the documents conveying title to the property to the purchaser.  The purchaser had no ability to manipulate the funds on his own accord.  Mano had not argued that any other person, such as the attorney acting as the escrow agent, was the initial transferee.  Because the court found the purchaser was not the initial transferee, and because Mano had not argued that anyone else was, the court affirmed the judgment in favor of the bankruptcy trustee.

If Mano had argued that the attorney acting as escrow agent was the initial transferee, would the Ninth Circuit have agreed?  The opinion does not say, but the question is an open one.