Presented by Ron J. Anfuso, CPA, ABV, CFF, CDFA, FABFA
In our previous issue of Forensic Accounting Today, I presented a case that was not a family law matter. This was the first time I had done so. Sometimes we do get involved with other legal cases, such as civil litigation, trust, and probate disputes. Most of the non-family law case accounting issues we have dealt with have been similar to divorce matters, including this case.
In this issue, I present part two of this arbitration. I focus on the key evidence we uncovered through tracing, as well as the arbitrator’s decision.
This matter involved well over a million dollars of perquisites that were not approved, let alone known about, by the other business partners. Respondent First Street Properties, LLC (FSP), operated a strip mall called Atlantic Plaza. Claimant and counter-respondent Sherry Trainor was the managing member of FSP. Respondent Stacy Holden succeeded Trainor as the managing member. The LLC operated under a Revised Operating Agreement (ROA), a contract, and an agreement between the members.
In the second lawsuit, FSP filed an action against Channel Management, Inc., and Charlene Luah. Channel was the property management company for Atlantic Plaza pursuant to a management agreement with FSP. Luah, Trainor’s sister, served as the designated property manager.
To read the overview, proceedings, case background, and claims, please review Forensic Accounting Today, Issue 73. Go to this link to receive a copy: https://anfusocpa.com/forensic-accounting-newsletters. Scroll down to Issue 73 to download the PDF.
Because this case was adjudicated in arbitration and not trial, I changed the names of the parties involved, as well as the names of the entities and the amount of money associated with the case.
Arbitration of Sherry Trainor vs. First Street Properties, LLC and Stacy Holden (Part 2)
Presented by Ron J. Anfuso, CPA, ABV, CFF, CDFA, FABFA
This is part two of a civil case appeal that involved partners in a strip mall called Atlantic Plaza, which was owned by First Street Properties (FSP.) but was in the process of being sold. Part one provided an overview and background of the case. In this second and final part, I cover the allegations and rulings against Sherry Trainor during her tenure as managing member.
Claims of First Street Properties
Compensation: Sherry Trainor received compensation of $1,315,728 during her six and a half year tenure as the managing member. According to my analysis, the reported wages on IRS Form W-2 were $189,112 and $154,022 on Form 1099. In addition, there were HSA contributions of $12,300 and $42,000 for leasing commissions, which was part of her job. Thus, we calculated that the weight of the evidence for Trainor’s reasonable fees was $397,434 based on the fact that she did not even work full time. Thus, she was overpaid by $918,294. The arbitrator agreed.
Payments to Family Members: During her tenure as managing member, Sherry Trainor caused FSP to pay $232,200 in wages to Luah, Trainor’s sister, and $81,250 to her daughter, who was living in Hong Kong and had no apparent connection to FSP. Trainor’s testimony on these payments was vague and inconsistent. Trainor’s expert expressed that these payments should be reclassified as 1099 income to Trainor. However, I pointed out that this was after the fact and that it would not be proper to add them to Trainor’s account. Under the Revised Operating Agreement (ROA), in which the LLC operated, payments made to “affiliates” required approval in advance by a majority membership vote. This never occurred. Such was a breach of the ROA and violated Trainor’s required duty. The arbitrator agreed.
Bank Checks and Credit Card Charges: Throughout the period Sherry Trainor served as the managing member, she charged approximately 2,100 American Express credit card purchases. Our investigation revealed that most of these purchases were personal rather than for the business. Furthermore, the FSP general ledger had no description or invoices, and Trainor’s description was inconsistent with what was provided by her expert. Trainor’s expert also stated that these purchases should have appeared on her 1099, but I clarified that this would have been after the fact.
In addition to credit card purchases, Trainor caused FSP to issue bank checks for numerous personal purchases in the amount of $239,000. This included the purchase of a car, food, clothing, beauty supplies, and other items. The arbitrator agreed that Trainor’s testimony concerning the bank checks and credit card charges was not credible.
Travel Expenses: It is reasonable that any business would reimburse an out-of-country manager’s expenses for air travel. However, we contended that the IRS would regard this as commuting from her home in Hong Kong to her job in California, and such commuting does not constitute a business expense. The arbitrator agreed.
CB Chase: Over the course of Trainor’s tenure, FSP paid rent to an entity called CB Chase. Rent was for a small office on Trainor’s family property located in Anaheim. No lease for this rental was placed into evidence. Channel Management and First Street Properties received their mail at this address. Trainor, her sister, and her sister’s husband owned CB Chase. The rent per year ranged between $12,000 and $16,500. FSP paid CB Chase an additional $25,000 for a storage unit and $32,000 for tenant improvements. The amount paid by FSP over the years was $181,000. I opined that Trainor was paying herself and was self-dealing to the detriment of the other members of FSP. The arbitrator agreed that this was in breach of Trainor’s duties as they were payments to an affiliate without the necessary majority votes of the other FSP members.
Record Keeping: The ROA stated, The books and records of the company shall be kept, and the financial position and results of its operations are to be in accordance with the accounting methods followed for federal income tax purposes. Our investigations showed that Trainor made numerous cash and ATM withdrawals from the FSP bank account that were not recorded. Some of the entries were classified on the general ledger as postage, repairs, maintenance, janitorial, and security, with no payee shown. Trainor also accepted rental payments from some tenants in cash without documentation. A contractor witness testified that he used the cash payments to pay employees but did not report the payments to the IRS. I critiqued this as tax fraud.
Attorney Fees: The arbitrator ruled that all reasonable legal costs and expenses for First Street Properties would be reimbursed by Sherry Trainor.
Summary
The weight of evidence shows that Trainor bilked FSP of large sums of money by causing FSP to pay her excessive and unreasonable compensation, to pay large sums to affiliates without the consent of the other members, and to pay for a multitude of personal expenses. Such is a breach of the ROA and of her fiduciary duties under the Limited Liability Company Act (see Forensic Accounting Today, Issue 73).
The arbitrator adopted my findings, as modified after consultation with me, as proper accounting. Trainor wrongfully paid $1,887,104 to herself and others from FSP funds. Thus, Trainor was not to receive her share from the sale of Atlantic Plaza ($1,554,227). Additionally, she was required to distribute an additional $332,887 to the other partners plus all of the other partners’ attorney and accounting costs.
