Memorandum of Decision Re: Ponzi Scheme

IN THE UNITED STATES BANKRUPTCY COURT FOR THE NORTHERN DISTRICT OF CALIFORNIA
In re IRA IDELL,                                                                 No. 1-84-00015      Debtor. ______________________/ DONALD MANDELL,      Plaintiff,    v.                                                                              A.P. No. 1-84-0052 IRA IDELL,      Defendant. ________________________/ WILLIAM and FARIDA BRINER,      Plaintiffs,    v.                                                                              A.P. No. 1-84-0059 IRA IDELL,      Defendant. __________________________/ CRISTOPHER PLASTIRAS, et al.,      Plaintiffs,    v.                                                                              A.P. No. 1-84-0108 IRA IDELL,      Defendant. ___________________________/
Memorandum of Decision
     Debtor and defendant Ira Idell invented a Ponzi scheme with cars. The above actions have been brought by some of the victims to have their claims declared nondischargeable due to Idell's fraud.      Idell moved to the Lake Tahoe area in 1978. After he had lived there for a few years, a friend of his mentioned that he needed a new car. One of Idell's college friends owned a new car dealership, and Idell was able to arrange for his friend to purchase the car from the dealership for near cost. From this incident Idell, who had little business experience, learned that he could "broker" new cars by taking orders from customersand then finding established dealers with excess inventory who would either sell him the car from stock or order it for him from the factory. Idell opened a small office in a service station and began selling new cars at bargain prices.      Word of Idell's great prices on new cars spread throughout the community, and business boomed. Unfortunately, Idell was selling the cars so low that he was making no profit, and in fact was suffering heavy losses. However, with the increasing flood of new customers there was no lack of available cash.      Idell used only one bank account for all his business activities. He deposited all customer purchase money into the account, and used the account for both the purchase of cars and for general operating expenses, including payroll. Idell paid himself a nice salary from the business (now incorporated) even though the money to pay this and his other expenses came from car purchase money. This was not an immediate problem, however, as new customer money was being used to pay for cars ordered by previous customers. In essence, Idell was "kiting" cars; he had created a Ponzi scheme. See In re Freudmann (2nd Cir.1974) 495 F.2d 817.      Inevitably, the time lapse between the time a customer ordered a car and the time Idell could deliver it grew longer and longer. Finally the business collapsed, as all Ponzis must. Plaintiffs in these cases are all customers who dealt with Idell in the last few months. Their money went to purchase cars for earlier customers, and plaintiffs were left without cars or money when Idell filed his bankruptcy petition.      Idell never explained to his customers that all of their money was going into one general operating account. They all understood that Idell purchased cars from other dealers, and they thought that Idell was using their money to buy their cars from the dealers. Sometimes, the customers would be reluctant to part with the full purchase price before the car was delivered. To these people, Idell would make a deliberate, if caculatedly vague, misrepresentation in order to get them to part with their money, which Idell desperately needed to buy cars for previous customers. For instance, Idell told Joseph Lanza that the car was in (it wasn't) and that he needed the full price in order to get it from the dealer. Idell told the Kliens that he needed the full price in advance in order to place the order for the car with the dealer (he didn't). He also expressly told Judith Fasani that he needed the full purchase price in order to pay for her car. These were deliberate misrepresentations, intended to induce these customers to pay for the entire car before it arrived, and the Court has no trouble finding the debts thereby created nondischargeable pursuant to section 523(a)(2)(A) of the Bankruptcy Code. It is no defense that Idell intended, eventually, to supply these persons with the car they ordered. Idell had the intent to trick these people into giving him their money, and this intent is sufficient to render the debts nondischargeable.      A more troublesome situation is presented when Idell did not have to say anything in order to get a customer to pay in full. These customers, such as the Briners, can prevail only if under the circumstances Idell's failure to disclose how their money would be used itself constituted fraud.      Under appropriate circumstances, failure to disclose an important fact with intent to defraud can render a debt nondischargeable. In re Faulk (Bkrtcy.N.D.Ind.1986) 69 B.R. 743, 750. Here Idell knew that he was losing money, being hounded by previous customers, and that he intended to use the Briners' money to buy someone else's car. Further, the reasonable and natural assumption someone like the Briners would have when purchasing a car through a broker is that the full purchase price is for the purchase of the car, and not merely a good faith deposit. Given the inherently fraudulent nature of a Ponzi scheme (see In re Freudmann, supra), the failure to disclose the use of the funds must be considered just as much fraud as the express misrepresentations.      Plaintiff Mandell did not appear at the trial or offer any evidence himself, aside from the fact that he got stuck without a car. He can therefore prevail only if the Court finds that all persons victimized by a Ponzi-like scheme have de facto been defrauded. There is certainly authority for this position in Freudmann, supra. However, the evidence is clear that Idell created his Ponzi through ignorance and inexperience rather than design, and perpetuated it out of desperation and a foolish but honestly held belief that it was possible to "save" the business. Under these circumstances, the Court does not believe that the debt can be found nondischargeable based on involvement alone; the Court must find some fraudulent misrepresentation or nondisclosure directed at the individual plaintiff. Without evidence of such fraud, the Court must resolve the Mandell claim in favor of Idell.      This memorandum constitutes the Court's findings and conclusions pursuant to FRCP 52(a) and Bankruptcy Rule 7052. It is to be supplemented by the formal findings and conclusions and the oral findings stated on the record at the conclusion of the trial.
Dated: February 18, 1988                                                                          ______________________                                                                                                                      Alan Jaroslovsky                                                                                                                      U.S. Bankruptcy