Case Name: Garden City, Inc., et al. v. Swallow, et al.
Case No.: 16-CV-295297

This action initiated by plaintiffs Garden City, Inc. (“GCI”), Peter V. Lunardi III, and Jeanine Lunardi (collectively “Plaintiffs”) against defendants Eric Swallow (“Swallow”) and others arises from a dispute between business partners.

According to the third amended complaint (“TAC”), GCI operates a licensed card room in San Jose, California. (TAC, ¶ 1.) From 2007 to June 26, 2016, Swallow was a director and secretary of GCI. (Id. at ¶ 5.) In addition, until June 9, 2017, Swallow held 12,500 shares in GCI, equal to fifty percent of the outstanding shares. (Ibid.) At that time, Peter V. Lunardi III and Jeanine Lunardi (collectively “the Lunardis”), on behalf of the Lunardi Family Living Trust (the “Trust”), owned the remaining fifty percent of GCI shares and served as its directors. (Id. at ¶¶ 2-3.)
As a shareholder, officer, and director of a licensed card room, Swallow was required to hold two gaming licenses, one issued by the State of California and another issued by the City of San Jose. (TAC, ¶ 13.) On May 2, 2014, the Bureau of Gambling Control (“Bureau”), an arm of the Department of Justice, issued an “Accusation” against Swallow, GCI, and the Lunardis, alleging Swallow engaged in a variety of acts that are antithetical to the privilege of holding a gaming license. (Id. at ¶ 14.) Amongst other relief, the Accusation prayed for the revocation of Swallow’s license, which would prevent him from continuing to own GCI shares. (Ibid.)

GCI, the Lunardis, and Swallow all retained counsel in response to the Accusation. (TAC, ¶ 15.) While Swallow’s attorney’s fees were initially covered by GCI’s insurance or paid by GCI, he has many outstanding bills that he demands it now pay. (Ibid.)

GCI and the Lunardis settled with the Department of Justice, thereby resolving the Accusation. (TAC, ¶ 16.) On the other hand, Swallow did not settle with Department of Justice and the Accusation proceeded to trial against him. (Id. at ¶ 17.) The Administrative Law Judge subsequently rendered a proposed decision, finding Swallow received illegal kickbacks from multiple vendors. (Ibid.) The Lunardis then learned Swallow instructed GCI’s current and former employees to falsify company records to assist his defense of the Accusation. (Id. at ¶ 18.) For example, Swallow told an employee to allow a former vendor to access the computer network to alter digital records, intending to use them to mislead the Administrative Law Judge. (Ibid.)
Thereafter, the California Gambling Control Commission (the “Commission”) issued its “Decision and Order After Nonadoption” (the “Commission Order”), which constituted the final decision on the Accusation. (TAC, ¶ 21.) The Commission Order determined Swallow was not suitable to hold a gaming license, revoked his existing license, and imposed a financial penalty of over $13.6 million. (Ibid.)

During the pendency of the Accusation proceedings, GCI was subject to an “Amended Emergency Order” precluding payment of shareholder distributions to Swallow, except distributions for payment of taxes which were subject to preapproval. (TAC, ¶ 22.) During that time, GCI held $12,521,580.00 (the “Fund”) as distributions attributable to Swallow’s shares. (Id. at ¶ 25.) There is now a dispute as to Swallow’s entitlement to the Fund because an unlicensed individual cannot be compensated or rewarded any portion of revenue from a gambling establishment and an owner of a gambling establishment must be licensed. (Id. at ¶¶ 24-25.)

There is also a dispute over the sale of Swallow’s shares. The Lunardis and Swallow previously entered into an agreement governing the transfer of shares in GCI and providing a right of first refusal in the event a shareholder desired to sell their shares to a third party (“Buy-Sell Agreement”). (TAC, ¶ 26.) After the Accusation proceeding and in disregard of that agreement, Swallow entered into a stock purchase agreement with John Park (“Park Agreement”) to sell his shares and refused to sell them to the Lunardis. (Id. at ¶¶ 27-28.) The parties thereafter stipulated to expedited arbitration, which concluded with the arbitrator finding the Buy-Sell Agreement was fully enforceable and Swallow failed to comply with its terms in bad faith. (Id. at ¶¶ 29-30.) Following receipt of the arbitration award, Swallow amended the Park Agreement, increasing the selling price and requiring a substantial sum be paid in cash. (Id. ¶¶ 32-33.) Once again, the Lunardis gave written notice they intended to exercise their right of first refusal, to which Swallow objected. (Id. at ¶ 34.) The parties went to arbitration for a second time, where Swallow was again ordered to sell his shares to the Lunardis. (Id. at ¶ 35.)

Plaintiffs assert six causes of action for breach of fiduciary duty, indemnity and reimbursement, fraud, “tort of another,” declaratory relief, and breach of contract.
Swallow presently moves to strike portions of the TAC.

Requests for Judicial Notice

In support of his motion, Swallow requests judicial notice of a memorandum of points and authorities filed in support of an ex parte application he filed in Eric G. Swallow v. California Gambling Control Commission, Sacramento County Superior Court Case No. 34-2016-80002402. This document is a proper subject of judicial notice pursuant to Evidence Code section 452, subdivision (d), which authorizes a court to judicially notice court records. However, the document is not relevant to any material issue raised herein, which is a precondition for judicial notice. (See People ex rel. Lockyer v. Shamrock Foods Co. (2000) 24 Cal.4th 415, 422, fn. 2 [any matter to be judicially noticed must be relevant to a material issue].) The document is only referenced once in the motion to strike to exemplify that Swallow is reasserting an argument made in connection with another proceeding. Swallow does not rely on the document to support the substance of his argument. Accordingly, this request for judicial notice is DENIED.

In support of his reply, Swallow also seeks judicial notice of his attorney’s declaration filed in support of the above mentioned ex parte application. This document is also a proper subject of judicial notice pursuant to Evidence Code section 452, subdivision (d). However, the document is not relevant to any material issue raised herein, which is a precondition for judicial notice. (See People ex rel. Lockyer v. Shamrock Foods Co. (2000) 24 Cal.4th 415, 422, fn. 2 [any matter to be judicially noticed must be relevant to a material issue].) Accordingly, this request for judicial notice is DENIED.

Merits of the Motion

Swallow moves to strike paragraphs 22 through 25, 56, 57(b), and 57(c) of the TAC. Paragraphs 22 through 25 contain general allegations concerning the dispute over Swallow’s entitlement to the Fund. Paragraphs 56, 57(b), and 57(c) are within the fifth cause of action for declaratory relief and allege there is a current controversy regarding whether Swallow is entitled to any or all of the Fund.

On a motion to strike portions of a pleading under Code of Civil Procedure section 435, a court may strike out irrelevant, false, or improper matter. (Code Civ. Proc., § 436, subd. (a).) Additionally, a court may “[s]trike out all or any part of any pleading not drawn or filed in conformity with the laws of this state, a court rule, or an order of the court.” (Code Civ. Proc., § 436, subd. (b).) Swallow does not expressly state the ground for this motion. Presumably, he intends to move on the ground of irrelevance because he cites the statutory definition of irrelevant matter and does not discuss any other ground. Irrelevant matter includes an allegation that is not essential to a claim, an allegation that is neither pertinent to nor supported by an otherwise sufficient claim, or a request for relief that is unsupported by the allegations. (Code of Civ. Proc., § 431.10, subds. (b), (c).)

Swallow maintains the subject allegations should be stricken because a court may not properly consider a declaratory relief cause of action involving federal taxes. In support, he relies on the federal Declaratory Judgment Act (the “Act”), which provides in relevant part that parties may seek a declaration of their rights “except with respect to Federal taxes.” (28 U.S.C. § 2201.) For context, GCI is allegedly an S corporation. (See TAC, ¶ 25.) S corporations do not pay federal income taxes; instead, their shareholders are taxed on their share of the corporation’s income. (Heller v. Franchise Tax Bd. (1994) 21 Cal.App.4th 1730, 1734.) According to Swallow, he is required to pay taxes on his income derived from GCI shares and needs the distributions to be able to do so. On that basis, Swallow concludes any determination regarding his entitlement to the distributions relates to federal taxes.

As a preliminary matter, it is not apparent the Act applies here. Swallow insists that because federal courts are prohibited from deciding issues involving federal taxes under the Act, state courts should be as well. Swallow’s argument is problematic because California has a separate declaratory relief statute, particularly Code of Civil Procedure section 1060. Swallow cites no authority supporting his position that this Court should look to the Act to ascertain the permissible scope of a declaratory relief action in California as opposed to section 1060, and the Court is unaware of any. Swallow’s contention that the Act is implicated is therefore unsubstantiated.

Even if the Act applies, it does not preclude a determination of whether Swallow is entitled to Fund distributions. The Act only bars declaratory relief regarding “restraining the assessment or collection of any tax.” (Church of Scientology of Celebrity Centre, Los Angeles v. Egger (D.D.C. 1982) 539 F.Supp. 491, 494; see Mitchell v. Riddell (9th Cir. 1968) 402 F.2d 842, 844 [plaintiff prohibited from seeking declaratory relief as to whether plaintiff was owed a tax refund of $10.00]; Denison v. Barlow (E.D. Ark. 1983) 563 F.Supp. 263, 264 [plaintiffs precluded from seeking to enjoin government from assessing taxes against them].) In other words, it prevents a court from determining tax liability to protect the government’s ability to assess and collect taxes without pre-enforcement judicial interference and requires a plaintiff to resolve a dispute by filing an action for refund. (State of Cal. By and Through Deukmejian v. Regan (9th Cir. 1981) 641 F.2d 721, 722; Stern & Co. v. State Loan & Finance Corp. (D. Del. 1962) 205 F.Supp. 702, 706 (“Stern”).) The Act does not prevent a court from determining facts “which may have a direct, even immediate, bearing on what the tax liability will be.” (Stern, supra, 205 F.Supp. at p. 706.) It does not apply in instances where the plaintiff is not challenging tax liability or the amount of such liability. (See Hoye v. U.S. (S.D. Cal. 1953) 109 F.Supp. 685, 686.) For instance, where the underlying tax liability is undisputed and the parties disagree as to who owes the tax, the Act is not implicated. (Dominion Trust Co. of Tennessee v. U.S. (M.D. Tenn. 1991) 786 F.Supp. 1321, 1324.)

Here, the pleading does not concern federal taxes within the meaning of the Act. As stated above, the subject allegations relate to Swallow’s entitlement to Fund distributions. (TAC, ¶¶ 56-57.) Swallow’s purported need for distributions to pay his taxes does not concern the underlying assessment or collection of taxes. Thus, federal taxes are only tangentially related here. Consequently, the Act is not implicated and there is no basis for finding the subject allegations to be irrelevant.

Accordingly, the motion to strike is DENIED in its entirety.

The Court shall prepare the Order.