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Association of Insolvency & Restructuring Advisors
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Bankruptcy
Supreme Court Is a chapter 7 debtor’s attorney entitled to payment from estate funds? The Supreme Court has granted a petition for certiorari relating to the case of United States Trustee v. Equip Servs., Inc. (In re Equip. Servs., Inc.), 290 F.3d 739 (4th Cir.2002). The issue before the Court will be whether debtor’s counsel is entitled to be paid from estate funds for services performed in the chapter 7 case. A chapter 11 case was converted to a chapter 7 case and counsel for the debtor requested approval of fees for services rendered post-conversion. The case involves the interpretation of 11 U.S.C. § 330(a), as amended in 1994, which excludes debtor’s attorney from the listing of parties entitled to compensation. The courts are currently split on this issue. One group of courts has concluded that the language of the post- 1994 Act § 330 is clear and unambiguous on its face, and that compensation to debtors' attorneys from the property of the estate is therefore no longer permissible. See, e.g., United States Trustee v. Equip Servs., Inc. (In re Equip. Servs., Inc.), 290 F.3d 739, 745-46 (4th Cir.2002); Inglesby, Falligant, Horne, Courington & Nash, P.C. v. Moore (In re Am. Steel Prod., Inc.), 197 F.3d 1354, 1355-56 (11th Cir.1999); Andrews & Kurth L.L.P. v. Family Snacks, Inc. (In re Pro-Snax Distribs., Inc.), 157 F.3d 414, 424-26 (5th Cir.1998). The opposing group of courts have adjudged § 330 ambiguous and looked beyond the plain language of the statute to hold that the deletion of debtors' attorneys from § 330 was merely a "scrivener's error" that should not disqualify those attorneys from continued qualification for compensation under the statute. See, e.g., In re Top Grade Sausage, Inc., 227 F.3d 123, 130 (3d Cir.2000); United States Trustee v. Garvey, Schubert & Barer (In re Century Cleaning Servs., Inc.), 195 F.3d 1053, 1056-61 (9th Cir.1999); In re Ames Dep't Stores, Inc., 76 F.3d 66, 72 (2d Cir.1996); In re Hodes, 289 B.R. 5 (D.Kan. 2003). Third Circuit Can a creditor’ committee maintain derivative standing to pursue avoidance actions? The Third Circuit Court of appeals reversed the panel decision in Cybergenics. The Court held that a creditor’s committee can maintain derivative standing to pursue avoidance actions. The Official Committee of Unsecured Creditors of Cybergenics Corp. v. Chinery, — F.3d —, 2003 WL 212319913 (3d Cir. 2003). The District Court, which set aside an order of the Bankruptcy Court authorizing a creditors' committee (“Committee”) to sue on the estate's behalf to avoid a fraudulent transfer in a chapter 11 proceeding. Before seeking derivative standing, the Committee had unsuccessfully petitioned the debtor-in-possession to pursue the avoidance claim. In granting derivative standing, the Bankruptcy Court determined that such a suit would be in the estate's best interest. The question on appeal was whether the decision of the United States Supreme Court in Hartford Underwriters Ins. Co. v. Union Planters Bank, 530 U.S. 1, 120 S.Ct. 1942, 147 L.Ed.2d 1 (2000), a chapter 7 case which interpreted the text of 11 U.S.C. § 506(c) to foreclose anyone other than a trustee from seeking to recover administrative costs on its own behalf, operates to prevent the Bankruptcy Court from authorizing the suit described above.
The Court of Appeals concluded that it does not. While the question
in Hartford Underwriters was one of a nontrustee's right unilaterally
to circumvent the Code's remedial scheme, the issue before the Court
concerned a bankruptcy court's equitable power to craft a remedy when
the Code's envisioned scheme breaks down. The Court believed that Sections
1109(b), 1103(c)(5), and 503(b)(3)(B) of the Bankruptcy Code evince
Congress's approval of derivative avoidance actions by creditors' committees,
and that bankruptcy courts' equitable powers enable them to authorize
such suits as a remedy in cases where a debtor-in-possession unreasonably
refuses to pursue an avoidance claim. The Court’s conclusion is
consistent with the received wisdom that "[n]early all courts considering
the issue have permitted creditors' committees to bring actions in the
name of the debtor in possession if the committee is able to establish"
that a debtor is neglecting its fiduciary duty. (citing 7 Collier on
Bankruptcy 1103.05[6][a] (15th rev. ed.2002). Is the Sarbanes-Oxley Act retroactive to render a securities debt nondischargeable? The bankruptcy court of the Southern District of New York held that the recently enacted Sarbanes-Oxley Act nondischargeability provision for judgment or settlement debts that were based on securities law violations applied in a chapter 7 case that was filed before this provision was enacted. In re Gibbons, 289 B.R. 588 (Bankr. S.D.N.Y. 2003). Bankr. Code, 11 U.S.C.A. § 523(a)(19). Title VIII of the Sarbanes-Oxley Act of 2002 is entitled "The Corporate and Criminal Fraud Accountability Act of 2002" (the "Accountability Act"). “The purposes of the Act are to provide for criminal prosecution and enhanced penalties of persons who defraud investors in publicly traded securities or alter or destroy evidence in certain Federal investigations, to disallow debts incurred in violation of securities fraud laws from being discharged in bankruptcy, and for other purposes.” S.Rep. No. 107-146, at 2 (2002)(emphasis added). Section 803 amended the Bank-ruptcy Code to add 11 U.S.C. § 523(a)(19) to except from discharge certain securities laws violations. The relevant issue in this case was whether this provision should be applied retroactively to a debtor who had filed a chapter 7 case prior to enactment of the Act. Section 523(a)(19) has no express direction as to its temporal application to prior conduct. Subject to constitutional limits, it is beyond dispute that Congress has the power to enact laws with retroactive effect. See Landgraf v. USI Film Prod., 511 U.S. 244, 268, 114 S.Ct. 1483, 128 L.Ed.2d 229 (1994). Landgraf is the controlling case at present on the retroactive application of legislation. The Court articulated a two-part test to determine whether a law should apply to conduct occurring prior to the law's enactment. A court must, first, establish whether Congress "expressly prescribed the statute's proper reach," and if it did not, then determine whether application of the statute to prior conduct "would impair rights a party possessed when he acted, increase a party's liability for past conduct, or impose new duties with respect to transactions already completed." Landgraf, 511 U.S. at 280, 114 S.Ct. 1483. If the statute would impair rights or increase liability--in the Court's words, "have retroactive effect"--the "traditional presumption teaches that it does not govern absent clear congressional intent favoring such a result." Id. The bankruptcy
court applied the first prong of the test. The court noted other provisions
of the Act. When Congress wanted to preclude a new provision of the
Accountability Act from being applied to pending proceedings in court,
it said so expressly. Further, the court reviewed the legislative history
and noted a Congressional statement the amendment should apply “to
the maximum extent possible, to all existing bankruptcies”. The
Court reasoned that even assuming that Congress had not clearly indicated
its intent that provision was to be applied in pending cases, debtor
had no vested right to discharge under discharge-ability provisions
that were in effect on the petition date, and the application of this
provision would not upset any settled expectations of the debtor that
were entitled to protection. Can successor liability claims be extinguished upon sale of debtor airline’s assets under section 363 of bankruptcy code? The Third Circuit Court of Appeals held that the sale of the assets of TWA debtor airlines under 11 U.S.C. § 363 extinguished the purchaser’s successor liability for employment discrimination claims against the seller. In re Trans World Airlines, Inc., 322 F.3d 283 (3d Cir. 2003). In 2002, TWA filed a chapter 11 bankruptcy petition. In 2001, American contacted TWA with a proposal to purchase substantially all of TWA’s assets. The issue in the case was whether TWA airline workers' employment discrimination claims (EEOC claims), as well as flight attendants' rights under a travel voucher program that TWA debtor-airline had established in settlement of sex discrimination action, both qualified as "interests in property," under bankruptcy statute § 363(f). that provided for sale of assets of estate free and clear of interests in property. Section 363(f) of the Bankruptcy Code provides, in pertinent part:
The TWA
employees wanted the claims not to be extinguished in the sale of assets,
but rather to be assertable against American based on successor liability.
Are the TWA employee claims “interest in the property” which
can be extinguished? Some courts have narrowly interpreted interests in
property in § 363(f) to mean in rem interests in property, such as
liens. See, e.g., In re White Motor Credit Corp., 75 B.R. 944, 948 (Bankr.N.D.Ohio
1987) ("General unsecured claimants including tort claimants, have
no specific interest in a debtor's property. Therefore, section 363 is
inapplicable for sales free and clear of such claims."); In re New
England Fish Co., 19 B.R. 323, 326 (Bankr.W.D.Wash.1982) (same). However,
the Third Circuit in TWA noted the trend seems to be toward a more expansive
reading of "interests in property" which "encompasses other
obligations that may flow from ownership of the property." (Citing
3 Collier on Bankruptcy 363.06[1]. See, e.g., In re WBQ Partnership, 189
B.R. 97, 105 (Bankr.E.D.Va.1995) (Virginia's right to recover depreciation
overpayment upon sale of debtor's assets was an "interest" within
the meaning of section 363(f)); In re All American of Ashburn, Inc., 56
B.R. 186, 190 (Bankr.N.D.Ga.1986) (sale pursuant to § 363(f) precluded
mobile home owners from prosecuting product liability action against purchaser
of debtor's assets). The Court adopted the broader definition of “interests
in property” and stated that to equate interests in property with
only in rem interests such as liens would be inconsistent with section
363(f)(3), which contemplates that a lien is but one type of interest.
322 F.3d 283, at 290. Can sanctions in favor of trustee for violation of automatic stay include punitive damages? The Ninth Circuit Court of Appeals followed the Fifth and Eighth Circuits in holding that a bankruptcy court does not have the power under § 105(a) to award punitive damages. The First and Tenth Circuits have suggested that bankruptcy courts have such power. In re Dyer, 322 F.3d 1178, 1193 (9th Cir. 2003). Under § 362(h), an individual harmed by a willful automatic stay violation is entitled to collect compensatory damages (including attorneys' fees) and, where appropriate, punitive damages. However, the trustee is ineligible to receive damages under that private cause of action, because the trustee is not an "individual." Havelock v. Taxel (In re Pace), 67 F.3d 187, 192 (9th Cir.1995). Section 11 U.S.C. § 105(a) does provide the court with contempt powers. The issue is whether the § 105(a) contempt power encompasses the power to impose punitive damages. The Ninth Circuit in Dyer emphasized the contempt authority conferred on bankruptcy courts under § 105(a) is a civil contempt authority. As such, it authorizes only civil sanctions as available remedies. The Court explained the difference between civil sanctions and criminal sanctions: Civil penalties must either be compensatory or designed to coerce compliance. 322 F.3d 1178, 1192 (9th Cir. 2003). For other
circuits holding that a bankruptcy court does not have the power to
impose criminal (punitive) sanctions, see Placid Ref. Co. v. Terrebonne
Fuel & Lube, Inc. (In re Terrebonne Fuel & Lube ), 108 F.3d
609, 613 n. 3 (5th Cir.1997); Sosne v. Reinert Duree (In re Just Brakes
Corp. Sys.), 108 F.3d 881, 885 (8th Cir.1997); cf. Cox v. Zale Delaware,
Inc., 239 F.3d 910, 916-17 (7th Cir.2001). For circuits suggesting that
bankruptcy courts can impose punitive or criminal sanctions, see Bessette
v. Avco Fin. Servs., 230 F.3d 439, 445 (1st Cir.2000); Graham v. United
States (In re Graham), 981 F.2d 1135, 1142 (10th Cir.1992) Is state sovereign immunity in a bankruptcy case abrogated by 11 U.S.C. § 106(a)? The Sixth Circuit Court of Appeals failed to follow five courts of appeal in holding that 11 U.S.C. § 106(a) constitutes a valid exercise of Congress’s power to abrogate sovereign immunity in a bank-ruptcy case. In re Hood, 319 F.3d 755 (6th Cir. 2003). The debtor Hood received a discharge on her no-asset chapter 7 bankruptcy petition. Because 11 U.S.C. § 523(a)(8) prohibits discharge of student debts held by governmental bodies except upon showing of "an undue hardship," Hood filed an adversary proceeding for a hardship discharge of her student loans. The Tennessee Student Assistance Corporation, whom Hood had named as a defendant, moved to dismiss the complaint on the grounds of sovereign immunity. The Court of Appeals upheld the lower courts denial of the motion to dismiss, holding that Congress acted pursuant to a valid grant of constitu-tional authority when it abrogated the states' sovereign immunity in 11 U.S.C. § 106(a). The Eleventh Amendment to the Constitution provides for sovereign immunity:
The Supreme
Court decision of Seminole Tribe of Florida v. Florida, 517 U.S. 44,
116 S.Ct. 1114, 134 L.Ed.2d 252 (1996), could be interpreted as precluding
Congress from ever abrogating states' sovereign immunity under any of
its Article I powers. Five circuit courts have concluded that under
Seminole Tribe, Congress may not validly abrogate state sovereign immunity
relying on its Bankruptcy Clause powers. See Nelson v. La Crosse County
Dist. Attorney (In re Nelson ), 301 F.3d 820, 832 (7th Cir.2002); Mitchell
v. Franchise Tax Bd. (In re Mitchell ), 209 F.3d 1111, 1121 (9th Cir.2000);
Sacred Heart Hosp. of Norristown v. Pennsylvania (In re Sacred Heart
Hosp. of Norristown ), 133 F.3d 237, 243 (3d Cir.1998); Fernan-dez v.
PNL Asset Mgmt. Co. LLC (In re Fernandez ), 123 F.3d 241, 243 (5th Cir.),
amended by 130 F.3d 1138, 1139 (5th Cir.1997); Schlossberg v. Maryland
(In re Creative Goldsmiths of Washington, D.C.), 119 F.3d 1140, 1145-46
(4th Cir.1997), cert. denied, 523 U.S. 1075, 118 S.Ct. 1517, 140 L.Ed.2d
670 (1998). These circuits have relied primarily on Seminole Tribe's
broad language barring Congress from abrogating state sovereign immunity
pursuant to its Article I powers. The Sixth Circuit in Hood declined
to follow these cases and noted that neither Seminole Tribe nor any
of the Supreme Court's other recent sovereign immunity cases address
Con-gress's Bankruptcy Clause powers as understood in the plan of the
Convention. The Hood court engaged in the Seminole Tribe analysis, and
concluded that the text of the Constitution and other evidence of the
Framers' intent demonstrate that under the Bankruptcy Clause of Article
I, section 8, Congress has the power to abrogate state sovereign immunity. Can a bankruptcy court dismiss a claim against an accounting firm based on the in pari delicto defense? The Second Circuit Court of Appeals affirmed the dismissal of a claim against an accounting firm based in part on the in pari delicto defense. Official Committee of the Unsecured Creditors of Color Tile, Inc. v. Coopers & Lybrand, LLP, 322 F.3d 147 (2nd Cir. 2003). The common-law defense of in pari delicto derives from the Latin "in pari delicto potior est conditio defendantis"; in other words, "where the wrong of the one party equals that of the other, the defendant is in the stronger position," and a court will not "administer a remedy." 34 Tex. Jur.3d "Equity" § 31 (2002).
The unsecured creditor’s committee sued, inter alia, the accounting
firm that provided auditing and consulting services for the debtor and
its controlling shareholders, asserting claims for breach of fiduciary
duty and breach of contract. The Court found that allegations in the
complaint established that the chapter 11 debtor, through its board
of directors and controlling shareholders, was at least equally responsible
with the accounting firm for approval of the allegedly adverse merger
transaction. The board allegedly unanimously approved the transaction
despite express warning that the purchase price was grossly excessive,
that projections supporting the transaction were unrealistic and exaggerated,
and that the transaction would impose imprudent and unmanageable debt
structure on the debtor. The board allegedly already knew informa-tion
about which the accounting firm either deliberately or negligently failed
to advise it. The shareholders allegedly were responsible for every
detail of the transaction. These facts supported the accounting firm's
in pari delicto defense under Texas law against claims for
breach of fiduciary duty asserted by the unsecured creditor’s
committee. Should an arbitration panel or court decide whether dispute is arbitrable? The Second Circuit Court of Appeals held that a district court erred in concluding that an arbitration panel, rather than the court, should decide whether a dispute is arbitrable. Bensadoun v. Jobe-Rait, 316 F.3d 171 (2d Cir. 2003). This case concerns the issue of arbitrability in the context of the rules of the National Association of Securities Dealers ("NASD"). Plaintiff, a stockbroker registered with the NASD, appealed from the judgment of the District Court for the Southern District of New York dismissing his suit for declaratory and injunctive relief to prevent the defendants investors from requiring him to arbitrate their claims against him. The Court concluded that the suit was prematurely dismissed, and therefore vacated and remanded for further proceedings.
The District Court declined to give close scrutiny to the broker’s
contentions in the belief that the arbitrators would have an opportunity
to evaluate their own jurisdic-tion on a "fuller record." According
to the Court of Appeals, the case law is clear that " '[u]nless the
parties clearly and unmistakably provide otherwise, the question of whether
the parties agreed to arbitrate is to be decided by the court, not the
arbitrator.' " John Hancock Life Ins. Co. v. Wilson, 254 F.3d 48,
53 (2d Cir.2001) (quoting AT & T Techs. v. Communications Workers
of America, 475 U.S. 643, 649, 106 S.Ct. 1415, 89 L.Ed.2d 648 (1986));
see also Spear, Leeds & Kellogg v. Central Life Assurance Co., 85
F.3d 21, 25 (2d Cir.1996) ("Whether or not a matter is arbitrable
is a matter for judicial determination."). Is the awarding of $145 million in punitive damages, where compensatory damages are $1 million, a violation of the Due Process Clause? The Supreme Court held that the awarding of $145 million in punitive damages, where compensatory damages are $1 million, is a violation of the Due Process Clause of the Fourteenth Amendment. State Farm Mutual Automobile Insurance Co. v. Campbell, 123 S.Ct 1513 (2003). The Syllabus of the Reporter of Decisions is as follows:
Held: A punitive damages award of $145 million, where full compensatory damages are $1 million, is excessive and violates the Due Process Clause of the Fourteenth Amendment. 123 S.Ct. 1513, 1519-1526 (2003).
KENNEDY, J., delivered the opinion of the Court, in which REHNQUIST,
C. J., and STEVENS, O'CONNOR, SOUTER, and BREYER, JJ., joined. SCALIA,
J., THOMAS, J., and GINSBURG, J., filed dissenting opinions.
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