Mark E. Andrews and Aaron M. Kaufman 2012-12-26 02:04:37
In less than a year since the U.S. Supreme Court’s ruling in Stern v. Marshall,1 the tally of reported and unreported decisions from bankruptcy, district, and appellate courts approaches 1,000.2 Now that the dust has settled somewhat, views still vary on what matters may be finally adjudicated in bankruptcy court and whether parties may consent to bankruptcy courts’ final adjudication authority absent clear constitutional support. Only a handful of appeals have reached circuit courts as of the submission of this article,3 and the 5th Circuit has not yet issued an opinion addressing these issues directly — although the 5th Circuit did side-step the issue in Technical Automation,4 where it concluded that the Supreme Court’s ruling did not affect magistrates’ statutory authority to adjudicate certain matters because Stern did not directly and unequivocally overrule prior precedent concerning magistrates. In a recent decision from the 6th Circuit, the court of appeals held that a defendant was not barred from challenging the constitutionality of a bankruptcy court’s ruling, despite the defendant’s consent to adjudication by the bankruptcy court at trial.5 Despite the defendant’s waiver in Waldman, the 6th Circuit vacated the bankruptcy court’s judgment and remanded for the bankruptcy court to “recast its final judgment as to these claims as proposed findings of fact and conclusions of law,” which the district court could review de novo.6 It remains to be seen whether other circuits will adopt this ruling. In the meantime, it appears to have become the standard practice of bankruptcy courts, at least in Texas, to issue reports and recommendations to the district courts where there may be any question about the bankruptcy court’s constitutional authority to finally adjudicate a matter. This has kept both the district courts and bankruptcy attorneys busy with this additional administrative step to obtaining final judgments.7 The Supreme Court did issue two bankruptcy-related decisions this year, at least one of which may have a moderate impact on how bankruptcies are handled in Texas. In RadLAX Gateway Hotel, L.L.C., v. Amalgamated Bank,8 Justice Antonin Scalia applied the well-known “specific over general” rule of statutory construction to hold that sales conducted under Chapter 11 plans cannot deny credit bidding rights to secured lenders. In that case, a Chapter 11 debtor proposed a plan that would sell its assets to the highest bidder under auction procedures that did not permit an undersecured lender to credit bid at the auction. 9 Section 1129(b)(2)(A) of the Bankruptcy Code — the provision that allows plans to be confirmed over a secured lender’s objection — gives plan proponents three options to confirm a plan over secured creditors’ objections: (1) allow the creditor to maintain its lien on the collateral; (2) sell the collateral free and clear, but only after allowing the creditor to credit bid on its collateral; or (3) provide the lender with the “indubitable equivalence” of its claim.10 Before this ruling, the 5th Circuit held that the disjunctive nature of this Bankruptcy Code provision allowed flexibility to a plan proponent, and the 3rd Circuit adopted the 5th Circuit’s view in concluding that a debtor may auction a lender’s collateral without allowing credit bids if the sale occurred under a plan that proposed to pay the lender the sale proceeds in cash.11 While the issue has not reached the 3rd or 5th Circuit post-RadLAX, the Supreme Court’s ruling appears to have overruled the 5th and 3rd Circuit decisions because, according to Justice Scalia, such readings of the Bankruptcy Code are “hyperliteral and contrary to common sense.”12 Interestingly, only 15 days before the Supreme Court issued this unanimous ruling in RadLAX, the court was divided over the interpretation of a 2005 amendment to a provision of the Bankruptcy Code in certain Chapter 12 bankruptcy cases affecting the dischargeability of capital gains taxes that must be realized after a sale closes postpetition. 13 In his dissenting opinion of this 5-4 decision, Justice Stephen Breyer explained that multiple readings of the statute were supported by the plain language of the relevant statutes, but he ultimately concluded that the majority failed to take into account the most important factor: what elected officials actually intended by the amendment.14 In more regional news, the 5th Circuit continued to define what constitutes and what does not constitute a Ponzi scheme. Last year, the court of appeals defined a Ponzi scheme to be “a fraudulent investment scheme in which money contributed by later investors generates artificially high dividends or returns for the original investors, whose example attracts even larger investments.” As many of these schemes have been uncovered in recent years, the precise definition of a Ponzi scheme has proven to be significant for receivers and trustees. Once a receiver or trustee proves the existence of a Ponzi scheme, the receiver or trustee may appreciate a presumption that all transfers made from the entities involved in the scheme are recoverable under fraudulent transfer theories. In that scenario, the burden of proof would be shifted onto the defendant transferees to disprove fraud or return the money to the receiver.16 This year, in Cook v. American Cancer Society,17 the 5th Circuit refined its definition slightly, concluding that “[n]ot all securities frauds are Ponzi schemes.” In that case, the district court granted summary judgment in favor of the receiver, relying largely on the receiver’s affidavit attesting that the businesses operated “like” a Ponzi scheme because there was no significant business conducted by the principals, and the only sources of revenue were from investors. The 5th Circuit reversed, finding the receiver’s affidavit to be “highly conclusory” and lacking in evidence demonstrating how investor funds were used to issue “returns” to other investors — the “sine qua non of any Ponzi scheme.”18 While the scheme may have amounted to securities fraud, the 5th Circuit concluded that it was not necessarily a Ponzi scheme and, thus, the receiver was not entitled to the presumption that transfers were made with actual intent to hinder, delay, or defraud a creditor. The 5th Circuit also addressed how far a trustee can reach to recover funds transferred from bank accounts not titled in the debtors’ name. In IFS Financial, the court of appeals held that a trustee may recover funds fraudulently transferred from bank accounts not held in the debtor’s name, but which were under the debtor’s de facto control.19 In so ruling, the court of appeals explained that “control, while primary, may not always be decisive, and legal ownership is not irrelevant.” In that case, the debtors went to great lengths to obscure the legal ownership of the bank accounts. As a result, the court of appeals held that legal title was less indicative of actual ownership. The 5th Circuit addressed dischargeability of debts in a couple of decisions this year. First, in Bandi v. Becnel,20 the court of appeals interpreted section 523(a)(2)(A) of the Bankruptcy Code, a debt is non-dischargeable if obtained by fraud, false pretenses, or false representations, unless the representation is a statement concerning the debtor’s financial condition.21 In Bandi, the debtors conceded that they made false representations — specifically, they falsely represented that they owned certain properties so the lender would accept their personal guarantees to loan money to their company — but they argued that the representations concerned their financial conditions and, thus, were dischargeable. The 5th Circuit rejected this argument, concluding that the phrase “statements concerning the debtor’s. . .financial condition” means “those that purport to present a picture of the debtor’s overall financial health” such as balance sheets, income statements, or similar presentations demonstrating the overall financial health of a debtor.22 In this instance, unwritten misrepresentations of property ownership did not present the debtors’ overall financial picture and, thus, were merely false representations that could support the bankruptcy court’s ruling that the debts were not dischargeable. Second, in U.S. v. Coney,23 the 5th Circuit affirmed a ruling that a tax debt was not dischargeable because the debtors voluntarily and willfully evaded the assessment and collection of taxes by, among other things, structuring cash transactions to go undetected by their bank and the IRS and by instructing their employee to “feign ignorance” about the transactions when questioned by authorities. In a decision affecting professional compensation and disclosure requirements, the 5th Circuit held that a law firm’s failure to disclose the source of its pre-petition retainer did not automatically disqualify the firm from representing the debtor or being compensated for services to the debtor.24 Instead, the court of appeals considered the “totality of circumstances” and determined that the firm’s failure to disclose the source of its retainer was inadvertent, and in this case, the funding of a retainer by the debtor’s largest creditor was not egregious enough to warrant the complete denial of the firm’s fees, although it did warrant a reduction. Concerning fee enhancements, the court of appeals considered whether the Supreme Court’s 2010 Purdue decision,25 which curtailed a district court’s ability to award enhancements under certain federal fee-shifting statutes, applied in the bankruptcy context. In Pilgrim’s Pride,26 the 5th Circuit applied the “rule of orderliness” and concluded that there was no intervening change in the law affecting professional compensation under section 330 of the Bankruptcy Code. The 5th Circuit held that bankruptcy courts still have “considerable discretion” to make upward adjustments to the lodestar approach, and as applied to this case, the bankruptcy court’s $1 million fee enhancement for Pilgrim’s Pride trustee was not an abuse of discretion based on the court’s specific evidence and detailed findings. In the Chapter 13 context, the 5th Circuit held that a plan could be confirmed, even though substantially all of the payments to be made under the Chapter 13 plan would go to debtor’s counsel to pay his $2,800 in fees.27 The undisputed evidence was that the debtor could not afford to pay the up-front legal and filing costs to get a discharge under Chapter 7. The debtor also expressed con- cerns about the bankruptcy remaining on her credit report, which would be shorter if she proceeded under Chapter 13. The bankruptcy court found the debtor to be credible and her rationale for filing a Chapter 13 petition to be justified under the circumstances. The bankruptcy court thus confirmed her plan. On appeal, the Chapter 13 trustee argued that the plan was against the “spirit” of Chapter 13. But the 5th Circuit rejected that argument, holding an alleged abuse of the bankruptcy spirit was only one of several “totality of circumstances” factors to be considered. Because the bankruptcy court was in a better position to judge the debtor’s credibility, and because the bankruptcy court applied the proper standard based on the evidence presented, the 5th Circuit held that the bankruptcy court’s finding of good faith was not clearly erroneous, and the plan satisfied all other confirmation requirements.28 The court of appeals also held that the $2,800 awarded by the bankruptcy court — the maximum no-look fees allowed in the district — were reasonable under the circumstances, although the 5th Circuit reiterated that a bankruptcy court’s standing order did not shift the burden of proof required to demonstrate the reasonableness of compensation requested under section 330 of the Bankruptcy Code.29 Notes 1. --- U.S. ---, 131 S. Ct. 2594, 180 L. Ed. 2d 475 (2011). In Stern, Vickie Lynn Marshall (a/k/a Anna Nicole Smith) filed a Chapter 11 bankruptcy petition in California. Her late husband’s son, Pierce Marshall, filed a proof of claim in her bankruptcy case asserting damages under a state law defamation theory. In response, Vickie filed a lawsuit and asserted counterclaims for tortious interference with her would-be inheritance. The matter was tried in the bankruptcy court, which awarded Vickie a six-figure judgment. After years of appeal, the Supreme Court ruled last year that the bankruptcy court never had constitutional authority to enter a final judgment, despite a statute that labels counterclaims like Vickie’s as “core” bankruptcy proceedings that bankruptcy courts had historically adjudicated as part of the claims allowance process. 2. For perhaps the most comprehensive discussion of developments concerning Stern v. Marshall, see Omar J. Alaniz, A Survey of Cases Interpreting the Stern Decision, Part III (2012), available at http://apps.americanbar.org/ litigation/mo/premium-lt/articles/bankruptcy/summer2012-0812- survey-cases-interpreting-stern-decision-part-iii.html (last visited Nov. 1, 2012, membership required). 3. See, e.g., In re Quigley Co., 676 F.3d 45 (2d Cir. 2012); Onkyo Eur. Electronics GMBH v Global Technovations, Inc. (In re Global Technovations, Inc.), 694 F.3d 705 (6th Cir. 2012); Waldman v. Stone, F.3d ---, 2012 U.S. App. LEXIS 22230 (6th Cir. Oct. 26, 2012); In re USA Baby, Inc., 674 F.3d 882 (7th Cir. 2012); Ortiz v. Aurora Health Care, Inc. (In re Ortiz), 665 F.3d 906 (7th Cir. 2011); Matrix IV, Inc. v. Am. Nat’l Bank & Trust Co., 649 F.3d 539 (7th Cir. 2011); Lovald v. Falzerano (In re Falzerano), 686 F.3d 885 (8th Cir. 2012); Pearson Educ., Inc. v. Almgren, 685 F.3d 691 (8th Cir. 2012). 4. See Technical Automation Servs. Corp. v. Liberty Surplus Ins. Corp., 673 F.3d 399, 405 (5th Cir. 2012). 5. See Waldman v. Stone, F.3d ---, 2012 U.S. App. LEXIS 22230 at *25 (6th Cir. Oct. 26, 2012) (“It is true, of course, that both parties alleged in the bankruptcy court (albeit without explanation) that all of Stone’s claims are core; and that Waldman therefore waived his right to argue to this court that Stone’s affirmative claims are non-core. But the fortuity of Waldman’s waiver of his own rights does nothing to diminish the bankruptcy court’s authority under § 157(c)(1).”) (emphasis added). 6. Id. at *28. 7. See, e.g., Lain v. V3 Constr. Group, Ltd. (In re Erickson Ret. Cmtys., LLC), 475 B.R. 762, 764 (Bankr. N.D. Tex. 2012) (“Notwithstanding the holding in Stern v. Marshall, this bankruptcy court believes that it has Constitutional authority to issue a final order or judgment in this Adversary Proceeding, as the claims asserted arise under bankruptcy statutes. Moreover, the court believes that the parties have provided necessary consent for the bankruptcy court to enter a final order in this Adversary Proceeding.  However, in the event this bankruptcy court is found to lack Constitutional authority to enter this Memorandum Opinion and Order, this court submits this as a proposed ruling to the District Court.”) (citations omitted, emphasis in the original) 8. --- U.S. –-, 132 S. Ct. 2065, 2071-72, 182 L. Ed. 2d 967 (2012). 9. Id. at 2069. 10. See 11 U.S.C. § 1129(b)(2)(A)(i)-(iii). 11. See In re Pacific Lumber Co., 584 F.3d 229, 246-47 (5th Cir. 2009) (“Whatever uncertainties exist about indubitable equivalence, paying off secured creditors in cash can hardly be improper if the plan accurately reflected the value of the collateral.”); see also In re Philadelphia Newspapers, LLC, 599 F.3d 298 (3d Cir. 2010) (allowing a debtor to hold a pre-confirmation plan auction without permitting credit bidding rights for the secured parties). 12. RadLAX, 132 S. Ct. at 2070. 13. See Hall v. United States, --- U.S. ---, 132 S. Ct. 1882, 182 L. Ed. 2d 840 (2012). 14. “I believe that it is important that courts interpreting statutes make significant efforts to allow the provisions of congressional statutes to function in the ways that the elected branch of Government likely intended and for which it can be held democratically accountable.” Id. at 1895- 1903 (Breyer, J., dissent). 15. Janvey v. Alguire, 647 F.3d 585, 597 (5th Cir. 2011) (quoting BLACK’S LAW DICTIONARY 1198 (8th ed. 2004)). 16. See Warfield v. Byron, 436 F.3d 551, 558-59 (5th Cir. 2006). 17. 675 F.3d 524, 526 (5th Cir. 2012). 18. See id. at 528. 19. See Stettner v. Smith (In re IFS Financial Corp.), 669 F.3d 255 (5th Cir. 2012). 20. See Bandi v. Becnel (In re Bandi), 683 F.3d 671, 678-79 (5th Cir. 2012). 21. 11 U.S.C. § 523(a)(2)(A); but see id. § 523(a)(2)(B) (making such statements non-dischargeable if they are made in writing, materially false, reasonably relied upon and made with the intent to deceive). 22. See In re Bandi, 683 F.3d at 677 n.29 (quoting Dadwell v. Joelson (In re Joelson), 427 F.3d 700, 714 (10th Cir. 2005)) (emphasis added). 23. See United States v. Coney, 689 F.3d 365 (5th Cir. 2012). 24. Am. Int’l Petroleum Corp. v. Adams & Reese LLP (In re Am. Int’l Refinery, Inc.), 676 F.3d 455 (5th Cir. 2012). 25. See Perdue v. Kenny A. ex rel Winn, 130 S.Ct. 1662, 176 L. Ed. 2d. 494 (2010). 26. See generally In re Pilgrim’s Pride Corp., 690 F.3d 650, 663-64 (5th Cir. 2012). 27. See In re Crager, 691 F.3d 671 (5th Cir. 2012). 28. Id. at 674-75. 29. Id. at 677. MARK E. ANDREWS is a shareholder in the Dallas office of Cox Smith Matthews Inc., where he chairs the Creditors' Rights, Corporate Restructuring, and Bankruptcy Department. He has extensive knowledge in representing lenders, corporate debtors, and committees in a broad range of industries, including energy, retail, health care and real estate. Andrews was recently inducted as a Fellow in the prestigious American College of Bankruptcy. AARON M. KAUFMAN is an associate in the Dallas office of Cox Smith Matthews Inc., where he specializes in corporate restructuring, creditors’ rights and other bankruptcy matters. He has a wide range of experience in representing committees, secured and unsecured creditors, corporate debtors, prospective buyers and other interest holders in a wide range of industries, including energy, retail, real estate, technology, and supply chain services.
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