Sampsell v. Imperial Paper & Color Corp.

delivered the opinion of the Court.

One Downey was adjudged a voluntary bankrupt in November, 1938. Prior to June, 1936, Downey had been engaged in business, unincorporated, and had incurred a debt to the predecessor of Standard Coated Products Corporation of approximately $104,000. In that month he formed a corporation, Downey Wallpaper & Paint Co., under the laws of California. Downey, his wife and his son were the sole stockholders, directors and officers.

Respondent, who was not a party to that proceeding, later filed its claim stating that as a creditor of the corporation it had a prior right to distribution of the funds in the hands of the trustee received from the liquidation of the assets of the corporation. It secured an order to show cause why the trustee should not so apply such funds. The trustee objected to the allowance of the claim as a prior claim and contended that it should be allowed only as a general unsecured claim. There was a hearing. The referee found that respondent, with knowledge of Downey’s indebtedness, was instrumental in getting him to form the corporation and had full knowledge of its fraudulent character. He disallowed respondent’s claim as a prior claim but allowed it as a general unsecured claim. That order was confirmed. On appeal, the Circuit Court of Appeals reversed, holding that respondent’s claim should be accorded priority against the funds realized from the liquidation of the corporation’s property. 114 F. 2d 49 . We granted the petition for cer-tiorari because of the importance in administration of the Bankruptcy Act of the questions raised.

1. The order entered in the summary proceedings against Downey, his wife, his son and his family corporation was a final order binding as between the parties. There can be no question but that the jurisdiction of the bankruptcy court was properly exercised by summary proceedings. The circumstances are many and varied where an affiliated corporation does not have, as against the trustee of the dominant stockholder, the status of a substantial adverse claimant within the rule of Taubel-Scott-Kitzmiller Co. v. Fox, 264 U. S. 426 . The legal existence of the affiliated corporation does not per se give it standing to insist on a plenary suit. In re Muncie Pulp Co., 139 F. 546 ; W. A. Litter Bldg. Co. v. Reynolds, 247 F. 90 ; In re Rieger, Kapner & Altmark, 157 F. 609 ; In re Eilers Music House, 270 F. 915 ; Central Republic Bank & Trust Co. v. Caldwell, 58 F. 2d 721 ; Commerce Trust Co. v. Woodbury, 77 F. 2d 478 ; Fish v. East, 114 F. 2d 177 . Mere legal paraphernalia will not suffice to transform into a substantial adverse claimant a corporation whose affairs are so closely assimilated to the affairs of the dominant stockholder that in substance it is little more than his corporate pocket. Whatever the full reach of that rule may be, it is clear that a family corporation’s adverse claim is merely colorable where, as in this case, the corporation is formed in order to continue the bankrupt’s business, where the bankrupt remains in control, and where the effect of the transfer is to hinder, delay or defraud his creditors. In re Schoenberg, 70 F. 2d 321 ; In re Berkowitz, 173 F. 1013 . And see Glenn, Liquidation, § § 30-32. Cf. Shapiro v. Wilgus, 287 U. S. 348 . Hence, Downey’s corporation was in no position to assert against Downey’s trustee that it was so separate and insulated from Downey’s other business affairs as to stand in an independent and adverse position. Furthermore, there was /no .appeal

2. That conclusion, of course, does not mean that the order consolidating the estates did, or in the absence of the respondent as a party could, determine what priority, if any, .it had to the corporate assets. In re Foley, 4 F. 2d 154 . All questions of fraudulent conveyance aside, creditors of the corporation normally would be entitled to satisfy their claims out of corporate assets prior to any participation by the creditors of the stockholder. In re Smith, 36 F. 2d 697 . Such priority, however, would be denied if the corporation’s creditors were parties to a fraudulent transfer of the stockholder’s assets to> the corporation. Furthermore, where the transfer was fraudulent or where the relationship between the stockholder and the corporation was such as to justify the use of summary proceedings to absorb the corporate assets into the bankruptcy estate of the stockholder, the corporation’s unsecured creditors would have the burden of showing that their equity was paramount in order to obtain priority as respects the corporate assets. Cf. New York Trust Co. v. Island Oil & Transport Corp., 56 F. 2d 580 . The power of the bankruptcy court to subordinate claims or to adjudicate equities arising out of the relationship between the several creditors is complete. Taylor v. Standard Gas & Electric Co., 306 U. S. 307 ; Pepper v. Litton, 308 U. S. 295 ; Bird & Sons Sales Corp. v. Tobin, 78 F. 2d 371 . But the théme of the Bankruptcy Act is equality of distribution. § 65-a; Moore v. Bay, 284 U. S. 4 . To bring himself outside of that rule an unsecured creditor carries a burden of showing by clear and convincing evidence that its application to his case so as to deny him priority would work an injustice. Such burden has been sustained by creditors of the affiliated corporation and their paramount equity

The judgment of the Circuit Court of Appeals is reversed and that of the District Court affirmed.

Reversed.