Castaldi v. Schwartzer (In re Welscorp, Inc.)

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In re: WELSCORP, INC., Debtor.

WILLIAM CASTALDI; KARIN CASTALDI, Appellants, v. LENARD SCHWARTZER, Chapter 7 Trustee, Appellee.

Adv. No. 21-01175-ABL

BAP No. NV-23-1031-BGC

Bk. No. 19-18056-ABL

United States Bankruptcy Appellate Panel of the Ninth Circuit

July 20, 2023

NOT FOR PUBLICATION

Appeal from the United States Bankruptcy Court for the District of Nevada August B. Landis, Chief Bankruptcy Judge, Presiding

Before: BRAND, GAN, and CORBIT, Bankruptcy Judges.

MEMORANDUM ^[*]

INTRODUCTION

Appellants William and Karin Castaldi appeal an order granting appellee chapter 7^[1] trustee Lenard E. Schwartzer ("Trustee"), summary judgment against them under §§ 544, 548, and 550, and NRS § 112.180(1)(a).

Trustee sought to avoid and recover the debtors'^[2] actual fraudulent transfers to the Castaldis in furtherance of an alleged Ponzi scheme. Because the Castaldis failed to establish that any genuine issue of material fact existed for trial, particularly whether the debtors were running a Ponzi scheme, the bankruptcy court did not err in granting Trustee summary judgment and entering a judgment against the Castaldis for $924,500. Accordingly, we AFFIRM.

FACTS

A. Events leading to the adversary complaint against the Castaldis

The relevant facts are essentially undisputed. From August 2014 until shortly before creditors filed their involuntary chapter 7 petitions on December 20, 2019, debtors Welscorp Inc. and its affiliates and principals (collectively, "Debtors") operated an investment scheme that offered investors 250% to 600% returns from a pooled investor fund used to bet on sporting events. Debtors' principals, John F. Thomas, III (aka Jonathan West, John Rodgers, John Frank, and John Marshall) and Thomas Becker, claimed to have created a proprietary sports betting algorithm that was highly accurate in predicting the outcome of sporting events.^[3] Thomas and Becker, through the Debtor entities and the services of their broker-agents, raised at least $29.5 million from 600 investors in more than 40 states with their "low-risk, high-yield" sports betting investment scheme. The individual investors deposited amounts ranging from less than $10,000 to over $500,000. Debtors did not do any vetting of their investors to determine if they were accredited and could survive a financial loss. Many investors were unsophisticated and placed a substantial percentage of their net worth (including savings and retirement accounts) with Debtors.

Debtors promised their investors "absolute security and instant liquidity," compounding returns that grow "a quadrillion times faster" than investments by Warren Buffet, or total growth of funds "a quintillion-fold." The investor agreements set forth how Debtors would grow the investor's initial investment to a target amount. Once the target was reached, the investor could cash out and get 50% of the target amount; Debtors would get the other 50%. An investor could also choose to roll over some or all the earnings into a new agreement.

Prospective investors were lured into investing through personalized access to a website that provided them with "demonstrations" of how their potential investment would grow over time. After committing money to Debtors, the investors' login credentials allowed them to monitor bets and track their individual "winnings" online.

The websites, however, contained incorrect, falsified, or mismanaged accounting information. For example, on February 11, 2017, investors were shown that their accounts increased by $5,344,262, but betting slips from that day showed they earned only $105,782.50. On May 12, 2018, investors were shown that betting generated $60.5 million in profits, but betting slips from that day showed only $119,536.40 in actual winnings. Many investors chose to reinvest their "winnings" because they were impressed with the rate of growth they saw in their personalized spreadsheets on the website. In reality, Debtors' sports betting activity generally lost money. Thomas and Becker never achieved the winning rates represented to investors.

When investors demanded payment, Thomas and Becker would say they had the funds but often claimed they could not pay for a host of reasons, such as the winnings were in cash and they could not deposit large amounts of cash into bank accounts for fear of being prosecuted for money laundering or other crimes. Most, if not all, investors were not paid out the full balance shown in their online accounts, and many were not paid back anything at all, even their initial investments, despite their accounts reflecting much higher amounts. If an investor was paid, it was frequently with money from other investors, not winnings from sports betting. There was evidence that some of these investors were paid because Debtors' brokers suggested that doing so could lead to a larger amount of new money coming in. The investor agreements did not disclose any use of investor funds other than for betting, and investors did not know their funds were being used to pay returns to other investors - i.e., Ponzi payments - or being used by Debtors' principals for personal expenses and for payment of broker commissions.

The Castaldis met Thomas in 2011 through a mutual friend. They were check cashers for Debtors. Between them, the Castaldis cashed at least 127 of what they characterized as "petty cash"^[4] checks for Debtors. In return, the Castaldis kept $50 from each check for "token gas money" compensation. Mr. Castaldi also received a check for $25,000, signed by Becker on December 25, 2017, which contained in the memo portion the words "Merry Christmas". Except for the $50 gas money allowance per check and the $25,000 payment, the Castaldis returned the funds from the cashed checks to Debtors.

In August 2019, the Securities and Exchange Commission ("SEC") filed a civil action against Debtors and some associated brokers in the District of Nevada, alleging multiple securities violations. The SEC alleged that Debtors conducted little sports betting and used only a small portion of investor funds for betting. Instead, investor funds were misappropriated to fund Thomas and Becker's personal lifestyles, pay commissions to brokers and agents, or make Ponzi payments. The SEC alleged that, in total, Thomas and Becker spent more than 85% of investor funds on something other than betting. In addition, none of Debtors' investment offerings were registered with the SEC, and none of Debtors' named salespersons were registered securities brokers.

The SEC also obtained an injunction to enjoin Debtors from any further investment activities and to freeze their monies and assets. In support, the SEC submitted a declaration from Deborah Russell, a long-time staff accountant in the SEC's Division of Enforcement. Based on her extensive review of Debtors' bank records and her reconstruction of Debtors' books and records, Russell opined that Debtors were running a Ponzi scheme. Russell concluded that, at most, $4,480,847.07 (or 15%) of the nearly $30 million Debtors raised from investors may have been used for betting activities on behalf of investors. Russell further concluded that at least $11,616,332.72 of the $13,222,296.55 paid to investors (88%) was in Ponzi payments. Thomas and Becker asserted their Fifth Amendment rights during questioning at their depositions, failing to answer even basic questions about their enterprise.

Ultimately, Debtors defaulted in the SEC civil action and final judgments of default were entered against them in April 2021. The default judgments enjoined Thomas and Becker from selling securities in the future and ordered them to disgorge over $8 million of illegal profits and pay a civil penalty of $4 million. The Ninth Circuit Court of Appeals affirmed the default judgments in June 2022.

The state of Oregon also prosecuted Becker and some of the Debtor entities for state securities violations involving two investors. In 2018, Becker signed a consent order admitting to the violations. He was fined $35,000.

In October 2020, a grand jury indicted Thomas and Becker for thirteen counts of wire fraud and conspiracy to commit wire fraud in connection with the sports betting investment scheme, which was described in the indictment as a "Ponzi scheme." Those criminal charges are still pending.

B. Adversary complaint against the Castaldis

Trustee filed an adversary complaint against the Castaldis, seeking to avoid and recover what he alleged were Debtors' actual fraudulent transfers of investor funds under §§ 544(b)(1), 548(a)(1)(A), 550 and NRS § 112.180(1)(a).

Trustee alleged that Debtors' sports betting investment scheme was a Ponzi scheme and that the Castaldis, as check cashers, were among the highest paid transferees in the fraud. Between December 11, 2017 and May 6, 2019, Mr. Castaldi received transfers totaling $897,500 and Mrs. Castaldi received transfers totaling $45,000 in exchange for their check cashing services which Trustee alleged perpetuated Debtors' Ponzi scheme.

The Castaldis admitted to receiving $50 per cashed check for gas money, but denied receiving any other funds from Debtors or that Debtors were running a Ponzi scheme. The Castaldis maintained that Trustee could not recover the gas money funds because they were made in exchange for value and the Castaldis received them in good faith.

Trustee then moved for summary judgment ("MSJ"). The MSJ was supported by a statement of undisputed facts, which in turn was supported by numerous documents, including evidence demonstrating (1) that Debtors' sports betting investment scheme was a Ponzi scheme, (2) the amount of checks cashed by the Castaldis, and (3) the Castaldis' admissions that they had no documents to corroborate any of their...