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In re Townson

October 5, 1960


Author: Mclaughlin

Before BIGGS, Chief Judge, and GOODRICH, McLAUGHLIN, KALODNER, STALEY, HASTIE, and FORMAN, Circuit Judges.

McLAUGHLIN, Circuit Judge.

On March 20, 1957, the Bankrupt filed a Chapter XI petition and Messrs. Klein and East were appointed receivers to carry on the business pending confirmation of the arrangement. On March 28, 1957, they opened a general account with appellee. They opened a second account called "A. M. Townson & Co., Inc. Tax Account, Morton Q. Klein and William East, Receivers", on the same day. On May 13, 1957 they opened a third account "Morton Q. Klein and William East, Receivers, Special Machinery Account." The funds in the latter account were derived from the sale by the Receivers of machinery and equipment which had been distrained by the Bankrupt's landlord; whatever amount of valid liens as existed against the machinery and equipment was confined to those funds. In June and early July 1957, the bankrupt business, operated by the Receivers was losing money. The District Court issued an order to pay twenty-five per cent of employees' vacation money. The Receivers did not have sufficient funds for this purpose. Mr. Schneider, described by Mr. Klein, as "the guiding spirit of the bankrupt concern" according to Mr. Klein's testimony "advanced some $17,000 for the purpose of paying the vacation money and the salaries that were due at that time." This was in the form of checks which were deposited by Mr. Klein in appellee bank and "two or three days later" drawn on by the Receiver for the needed vacation and pay money and paid by the bank. All of the checks given by Mr. Schneider were returned in due course for insufficient funds. On July 8, 1957, the bank transferred the sum of $17,281.38 from the "Special Machinery Account" to the general account to cover the payments of said checks.

Later, liquidation of the Bankrupt was ordered. The Trustee in Bankruptcy applied to the Referee for an order requiring the bank to replace the $17,281.38. After a hearing the application was denied. Neither the Trustee or landlord sought review of the decision. The present appellant, representing the Bankrupt's employees, did so. The District Court affirmed the Referee. This appeal followed.*fn1

Factually the issue here is one of credibility between the Receiver Klein and the bank. Klein said that he opened all of the receivership accounts with a Mr. Smedley, an officer of the bank. As to the machinery account, Klein stated that he "* * * told him it was a special machinery account; it will be an inactive account; it will not be used for the simple reason that the Court will not permit us to use that money on account of the distraint for rent at the Adams and Leiper property. * * * I think he (Smedley) said, 'Why can't you use it?' or something like that. I said, 'Because we have a Court Order. We can't use the money. It is a Special Machinery Account, untouchable.'"

Actually, Smedley was not even in the bank's bookkeeping department which latter had the final responsibility for paying checks. Klein, a lawyer and the District Court's specially appointed representative in the receivership involved, does not pretend that he gave the bank any kind of written notice concerning the Special Machinery Account or that he ever said anything to the bookkeeping department concerning it. Smedley, plainly not one to overstate, did not recall that he was ever notified by Klein or anyone else that the account could not be used to take care of overdrafts from the Receiver's general account. He said that the bank often relied on an account marked "special" where it was in the same name and there might be a shortage in the general account. And that in the entire present situation he relied on the Special Machinery Account to take care of overdrafts in the general account. Cottingham, head of the bank's bookkeeping department, testified that if there was a restriction on an account it had to come to him "We have to know about it. If we pay a check unauthorized, it is our responsibility." He said he had no information that would indicate that the machinery account could not be used to cover overdrafts "* * * there was not a thing on this account to indicate that we could not pay a check signed by Mr. Klein." (Emphasis supplied.)

The objection to Smedley's evidence is that he did not categorically deny Klein's story in much the same fashion that Klein proffered it. To the Referee apparently Smedley's testimony, coupled with the over all picture, had the ring of truth. Clearly nothing had occurred in the whole episode which gave Smedley any recollection of Klein, a lawyer and the court appointed receiver, having taken the fantastic course of merely speaking to him (not in the proper department at all) in order to protect one of his accounts against his own withdrawals which eventually totalled over seventeen thousand dollars. Appellant urges that Klein's story should be accepted at its face value because all other evidence regarding the transaction is "non-negating." We think that the Receiver's story of how he alleges he went about protecting his machinery deposit, under the circumstances, was its own strongest negating force in producing its rejection by the Referee and the District Court.

In the face of the above the Referee had every right to discount the Receiver's testimony. But it is suggested Klein's evidence must be accepted because the Referee disbelieved it for the wrong reason. And the statement is made that it would have been to the Receiver's advantage not to have testified he had advised the bank of the restrictions on his machinery account. It is of course true that if the bank was not charged with Klein's overdrafts, as it was not, it would have no claim against him. It is also true, and most important regarding the Receiver's credibility, that he, by not notifying the bank of the nature of the account, would be responsible for any deficiency arising out of his negligence and subject to surcharge.

The Referee rightly held this conflict in the testimony to be a "basic factual dispute." He said:

"Having examined the witnesses and seen them on the witness stand, and observed their demeanor, the Referee is of the opinion that the restriction on this Special Machinery Account was not brought to the Bank's attention, that the Bank was without knowledge of the fact that third persons had an interest in the funds of the depositor, the Bank relied upon the apparent right to offset overdrafts in the general account through the deposit made in the Special Machinery Account."

The Referee found as facts that the bank "had no knowledge that the Receivers could not use the account designated 'Special Machinery Account' for general purposes" and that the bank "had no knowledge that any person other than the Receivers had an interest in or lien against said account." He concluded that the bank "was legally entitled to set off an amount in the receivers' account designated 'Special Machinery Account' against said indebtedness."

The District Court, sustaining the Referee's findings of fact and conclusions of law, dismissed the petition for review.

We have no right to interfere with the findings of fact as affirmed by the District Court. The testimony above quoted shows the conflict between the Receiver and the bank and the abundant justification for the resolving of that conflict in favor of the bank and for the finding of no notice to the bank to restrict the Receiver's machinery account.

What remains is that the particular account carried the designation of "Special Machinery Account." Was this sufficient to so restrict its balance as to prevent it from being used to cover the overdraft in the general account of the same depositor? We think this is a matter of federal law, with an interested eye toward the Pennsylvania decisions. While there are no federal reported cases exactly in point, those found unmistakably hold that where a bank has neither actual notice nor notice of facts sufficient to put it on inquiry regarding the true character of the deposit it may apply the deposit to the overdrafts in the depositor's general account. In re Greater Pythian Temple Ass'n of New York, D.C.S.D.N.Y.1937, 19 F.Supp. 762, 764 concerned a debtor's "special account" prior to his bankruptcy but Judge Patterson's statement of the legal situation is most helpful. He said:

"The proof taken before the referee shows that the bank's adverse claim was substantial. The fact that the account was a 'special account' did not of itself signify that the money in it was the property of some one other than the depositor. The words on the back of the check, 'for security on lease,' would have sufficed to put the bank on notice that another party had an interest in the money; but there is an issue of fact whether those words appeared on the check at the time when it was deposited. It is one man's recollection against another's. Finally, the testimony on what was said when the account was opened is in conflict. On this record 'the weight of evidence' is probably with the debtor, as the referee reported; but it is quite another thing to say that the proof offered in the bank's behalf is not substantial enough to raise an issue of fact.

"On the facts developed there is no jurisdiction to issue a summary order for the payment of the money. The debtor's petition will accordingly be dismissed. The expenses of the hearings before the referee will be borne by the debtor."

And see Commercial Nat. Bank of Independence, Kan. v. Stockyards Loan Co., 8 Cir., 1926, 16 F.2d 911, 916; In re Goll, et al., D.C.S.D.N.Y.1925, 8 F.2d 101. Attempt is made to distinguish these opinions from the situation before us on the ground that in this instance there is a receivership. But in this receivership the proofs and proper inferences therefrom furnish at least adequate support for the findings of the Referee, confirmed by the District Court, that the bank had no notice from the Receiver that a check signed by him as receiver should not be honored against his receivership machinery account where his general receivership deposit was overdrawn.*fn2 Pennsylvania law is much the same. Perhaps the leading case is Franklin Savings & Trust Co. of Pittsburgh v. Clark, 1925, 283 Pa. 212, 129 A. 56, which presents a situation much like the one before us. There the account was in the name of "John W. Garland, Special". The Supreme Court held that unless the deposit in that account was specifically appropriated by the depositor (maker of the note in suit) to a particular purpose, the bank was bound to apply it to the discharge of the note. The Court held at pages 218 and 219 of 283 Pa., at page 58 of 129 A.:

"Our conclusion is not altered by the fact that the account to which the checks were placed was in the name of 'John W. Garland, Special.' The account, to have the effect contended for by appellant, must come within what is generally understood by the words 'special' account, as distinguished from a general one. A 'special' deposit or account is one where the identical money or thing deposited is to be kept safe and returned as deposited. The relation of debtor and creditor is not created, but that of bailor and bailee is, title remaining in the bailor. Whether a deposit is general or special depends on the facts and circumstances attending its making; but it is certain that the mere use of the word 'special,' placed after the depositor's name, will not cause the deposit to come within the definition above mentioned, nor will it effect an appropriation of the moneys for any particular purpose, so that it may be said they were set aside for a limited purpose with the bank's knowledge.

"Money may be deposited specially which has no relation whatever to bailment, trust fund, or specific appropriation. It is a common practice to place money in banks in separate accounts to quickly, safely, and accurately report to the government income for the past year. Special accounts are created for income, while capital remains in the individual account. The word 'special' has no particular significance, as trustee, administrator, and the like."

In Sherts v. Fulton National Bank, 1941, 342 Pa. 337, 21 A.2d 18, the Pennsylvania Supreme Court held that an account marked "Farm Account" was not sufficient to put the bank on notice that the fund belonged to third parties. We note the "Farm Account" in that case was specifically so designated and not simply "Special" as suggested and that it does bear a close similarity to the marking of the account before us.

It is argued that Ryan Brothers, Inc. v. Curwensville State Bank, 1955, 382 Pa. 248, 114 A.2d 178 is to the contrary. That is a misstatement. Indeed the court there reiterated the general rule above stated which was not applied because the bank had actual notice that the account was not a regular checking account. There the bank alone drew on the account in question.

There is no substance to appellant's general charge that if the bank's position is upheld an unlawful and inequitable preference is allowed it over other creditors.*fn3 The true status of the money in the Special Machinery Account, as contended for by appellee, would seem to be that it is really part of the general funds of the Bankrupt's estate. It has been admitted by appellant that the balance remaining in that estate is not enough for the expenses of the receivership. If the amount disputed in this litigation should be added to the estate it will be set off by the bank's claim in that same figure. The landlord's lien does not enter into this calculation as it is postponed to the administration expenses. Though much justification exists for the position outlined, because the District Court order based on the Referee's findings and conclusions so strongly calls for affirmance there is no need of our going that far. We do think, however, as determinedly urged by the bank, that the proposition put forth by appellant for the employees, would probably result, if not in an out and out preference, in something of a windfall to the employees. They were paid their salaries to date and twenty-five per cent of vacation allowances by the overdrafts instead of being forced to share proportionally with the other creditors in the receivership assets which latter were insufficient to pay in full the claims against the estate. In addition, under appellant's theory they would share in the Special Machinery Account money, if the bank were forced to replace the sum to the Receivers.

The order of the District Court will be affirmed.

KALODNER, Circuit Judge (dissenting).

I would reverse the Order of the District Court.

I would do so for these reasons:

First, the deposit "set-off doctrine" is not applicable to bank accounts of receivers in bankruptcy since they are in custodia legis.

Second, assuming arguendo, that the doctrine is applicable to bankruptcy receivers' accounts, there was error in its application in the instant case for these reasons:

(a) The designation "Special Machinery Account" was sufficient to put the bank on inquiry that the funds in it were at the minimum the subject of a claim of ownership by someone other than the bankruptcy receiver since at the time the account was opened there were already in existence a Receivers "General Account" and a Receivers "Tax Account";

(b) Assuming further, that the designation "Special Machinery Account" was not of such a nature as to put the bank on inquiry, under the general "equitable rule" prevailing in deposit set-off situations, even though a bank is without knowledge, or notice of facts putting it on inquiry, that another than the depositor has an interest in the funds deposited in his name, where such an interest exists the bank cannot appropriate them.

Third, the record establishes as "clearly erroneous" the Referee's fact-findings, affirmed by the District Court, that the bank "had no knowledge that the Receivers could not use the account designated 'Special Machinery Account' for general purposes", and that "Girard had no knowledge that any ...

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