December 2004/ January 2005

First Circuit
Must a plaintiff obtain Bankruptcy Court approval before commencing an action against trustee based on negligence or malfeasance in administering estate?

In Muratore v. Darr, 375 F.3d 140, 2004 WL 1606977 (1st Cir.(R.I. 2004), the issue on appeal was whether the Barton doctrine, Barton v. Barbour, 104 U.S. 126, 127, 26 L.Ed. 672 (1881) bars the bringing of an action in federal district court against a bankruptcy trustee without the prior permission of the Bankruptcy Court. The District Court dismissed for lack of subject-matter jurisdiction the plaintiff’s complaint that alleged negligence and malfeasance in administering the bankruptcy estate. The First Circuit affirmed.

Plaintiff Muratore, owned and controlled Mortgage Company (the “debtor”). The debtor filed a voluntary petition for reorgan-ization under chapter 11. Darr was appointed as trustee. In 1996, the bankruptcy court entered an order confirming the Plan of Reorganization. Approximately four years later, the bankruptcy court entered orders granting Darr’s application for final decree and approving his application for final compensation. Muratore filed objections to these applications, which the bankruptcy court considered and denied. Muratore did not appeal. The bankruptcy court closed the case on November 9, 2000. In September of 2002, Muratore brought the instant lawsuit against Darr, in Darr’s capacity as trustee, in the United States District Court.

Muratore alleged that Darr did not faithfully perform the duties of his office and committed acts of misfeasance. For example: (1) he did not pay taxes and, as a result, lost six properties at tax sale; (2) he defectively sold at a foreclosure rental properties, generating additional law suits; (3) he defectively sold at a foreclosure income properties, generating additional law suits; and (4) he failed to file corporate returns, resulting in forfeiture of charter and causing real estate to revert to stockholders. In Count II, Muratore alleged that Darr committed abuse of process by committing waste so egregious that his advisors and/or employees used chapter 11 protection procedures to put Muratore out of business.

In Barton v. Barbour, the Supreme Court ruled that the common law barred suits against receivers in courts other than the court charged with the administration of the estate. 104 U.S. 126, 127, 26 L.Ed. 672 (1881). The Supreme Court ruled that before suit is brought against a receiver, leave of the court by which the trustee was appointed must be obtained. The Court stated:

So, in cases of bankruptcy, many incidental questions arise in the course of administering the bankrupt estate, which would ordinarily be pure cases at law, and in respect of their facts triable by jury, but, as belonging to the bankruptcy proceedings, they become cases over which the bankruptcy court, which acts as a court of equity, exercises exclusive control. Id. at 134.

Barton involved a receiver in state court, but the circuit courts have extended the Barton doctrine to lawsuits against a bankruptcy trustee. Carter v. Rodgers, 220 F.3d 1249, 1252 (11th Cir.2000).

A limited exception to the rule announced in Barton was codified in 28 U.S.C. § 959(a). See, e.g., Allard v. Weitzman (In re DeLorean Motor Co.), 991 F.2d 1236, 1240-41 (6th Cir.1993) (describing 959(a) exception as “limited”). Section 959(a) states:

[t]rustees, receivers or managers of any property, including debtors in possession, may be sued, without leave of the court appointing them, with respect to any of their acts or transactions in carrying on business connected with such property. Such actions shall be subject to the general equity power of such court so far as the same may be necessary to the ends of justice, but this shall not deprive a litigant of his right to trial by jury. (emphasis added).

Courts have interpreted “acts or transactions in carrying on business connected with” the bankruptcy estate to mean acts or transactions in conducting the debtor’s business in the ordinary sense of the words or in pursuing that business as an operating enterprise. See, e.g., Melvin v. Klein, 49 Misc.2d 24, 266 N.Y.S.2d 533, 536-37 (N.Y. Spec. Term 1965). In interpreting section 959(a)’s predecessor, 28 U.S.C. § 125, Learned Hand, writing for the Second Circuit, concluded that “[m]erely to hold matters in statu quo; to mark time, as it were; to do only what is necessary to hold the assets intact; such activities” did not constitute carrying on business. Vass v. Conron Bros. Co., 59 F.2d 969, 971 (2d Cir.1932). Rather, section 959(a) “is intended to ‘permit actions redressing torts committed in furtherance of the debtor’s business, such as the common situation of a negligence claim in a slip and fall case where a bankruptcy trustee, for example, conducted a retail store.’ “Carter, 220 F.3d at 1254 (quoting Lebovits v. Scheffel (In re Lehal Realty Assocs.), 101 F.3d 272, 276 (2d Cir.1996)). For example, section 959(a) applied where a trustee continued the business of a debtor in operating a railroad, and the trustee had been sued in his representative capacity for damages for use of another’s tracks, Thompson v. Texas Mexican Ry. Co., 328 U.S. 134, 138, 66 S.Ct. 937, 90 L.Ed. 1132 (1946) (applying predecessor to section 959(a)), and in a case for wrongful death and injury resulting to a member of the public in a grade crossing accident, Valdes v. Feliciano, 267 F.2d 91, 94-95 (1st Cir.1959). Also, the exception has been held to apply to an employee’s claims arising from injuries caused by overwork at a railroad company operated by the trustee and the trustee’s withholding of an employee’s pension. Haberern v. Lehigh and New England Ry., Co., 554 F.2d 581, 585 (3d Cir.1981).

On the other hand, courts have concluded that merely holding and collecting the assets intact, collecting and liquidating the assets of the debtor, Austrian v. Williams, 216 F.2d 278, 285 (2d Cir.1954), and taking steps for the care and preservation of the property, U. & I., Inc. v. Fitzgerald, (In the Matter of Campbell), 13 B.R. 974, 976 (Bankr.D.Idaho 1981), In re Kalb & Berger Mfg. Co., 165 F. 895, 896-97 (2d Cir.1908), do not constitute “carrying on business.” Likewise, actions taken in the mere continuous administration of property under order of the court do not constitute an “act” or “transaction” in carrying on business connected with the estate. Field v. Kansas City Refining Co., 9 F.2d 213, 216 (8th Cir.1925). See also In re DeLorean Motor Co., 991 F.2d at 1241 (action against trustee and representatives alleging abuse of process and malicious prosecution in relation to prosecution of fraudulent conveyance action is a suit for actions of trustee wholly unrelated to carrying on debtor’s business because trustee merely collected, took steps to preserve, and/or held assets, as well as performed other aspects of administering and liquidating estate); Carter, 220 F.3d at 1254.

The First Circuit held that section 959(a) does not apply to the case. In his brief, Muratore represented that he was in the business of “leasing to commercial and residential tenants, and all required acts associated with maintaining such leases.” His complaint, however, does not specify the nature of the businesses at issue. Darr contended that Muratore’s business was actually “the making of mortgage loans.” The allegations in the complaint focus upon Darr’s actions in the fulfillment or non-fulfillment of his fiduciary res-ponsibilities as trustee, as opposed to acts or transactions in the furtherance of Muratore’s business whatever it was.

Eight Circuit
Can trustee pursue avoidance action even where all unsecured creditors have been paid, and recovery will go to pay administrative expenses?

This case arises from bankruptcy proceedings in which a trustee exercised the rights of an unsecured creditor under 11 U.S.C. § 544(b) to recover fraudulently transferred assets. The bankruptcy court found that the debtor-appellant, DLC, Ltd. (“DLC”), transferred assets with the intent to hinder, delay or defraud creditors and that the trustee-appellee and his attorneys properly pursued avoidance of the transfer for the benefit of the estate. In addition, the court awarded trustee’s and attorneys’ fees and expenses as administrative claims under 11 U.S.C. § 330, even though the unsecured creditors settled all claims against the estate on the eve of trial. DLC appealed the judgment of the Eighth Circuit Bankruptcy Appellate Panel that affirmed the order of the bankruptcy court. The Eighth Circuit found that the trustee properly pursued avoidance of the transfer and that the bankruptcy court properly awarded trustee’s and attorneys’ fees and expenses. Stalnaker v. DLC, Ltd., 376 F.3d 819, 2004 WL 1630956 (8th Cir. 2004).

The facts of the present case make clear that the bankruptcy “estate” is not synonymous with the concept of a pool of assets to be gathered for the sole benefit of unsecured creditors. Here, administrative claims that relate to over four years of attorneys’ fees and expenses and trustee’s fees and expenses also exist and are recoverable under 11 U.S.C. § 330(a). The fact that unsecured creditors settle on the eve of trial does not extinguish the bankruptcy estate as a legal entity, nor does it extinguish other claims on the assets of the estate, such as the administrative claims. Further, the Court had no doubt that the trustee’s efforts to litigate the matter created DLC’s incentive to settle the unsecured claims. The Court found no authority for the proposition that a debtor may settle with unsecured creditors on the eve of trial, thereby thwarting professionals in their attempt to collect fees for at least four years of work to administer the bankruptcy estate. The trustee and his attorneys reasonably pursued the avoidance, it was for the benefit of the estate, and the Court found they are entitled to administrative expenses.

Eighth Circuit
What is the “domicile” of a foreign proceeding?

Cayman Islands proceeding, brought for purpose of winding up and liquidating business incorporated in the Cayman Islands was in nature of liquidation proceeding commenced “in a foreign country in which the debtor’s domicile...w[as] located,” and qualified as “foreign proceeding” under bankruptcy statute permitting injunctive relief in cases ancillary to such foreign proceedings; word “domicile,” as used in definitional statute, referred to corporate debtor’s place of incorporation. Bankr.Code, 11 U.S.C.A. §§ 101(23), 304. In re National Warranty Ins. Risk. Retention Group, --- F.3d ----, 2004 WL 2118829 (8th Cir. Sep 24, 2004).

The Bankruptcy Code defines the term “foreign proceeding” as:
a proceeding, whether judicial or administrative and whether or not under bankruptcy law, in a foreign country in which the debtor’s domicile, residence, principal place of business, or principal assets were located at the commencement of such proceeding, for the purpose of liquidating an estate, adjusting debts by composition, extension, or discharge, or effecting a reorganization.
11 U.S.C. § 101(23).

Third Circuit
Is a petition filed by a financially healthy debtor filed in good faith?

In re Integrated Telecom Express, Inc., --- F.3d ----, 2004 WL 2086058 (3rd Cir.(Del.) Sep 20, 2004) (NO. 04-2411).

Landlord moved to dismiss chapter 11 petition filed by its commercial tenant, in admitted attempt to cap landlord’s damages claim under long-term lease, for debtor’s lack of “good faith” in filing it. The issue on appeal was whether, on the facts of this case, a chapter 11 petition filed by a financially healthy debtor, with no intention of reorganizing or liquidating as a going concern, with no reasonable expectation that chapter 11 proceedings will maximize the value of the debtor’s estate for creditors, and solely to take advantage of a provision in the Bankruptcy Code that limits claims on long-term leases, complies with the requirements of the Bankruptcy Code. The Court concluded that such a petition was not filed in good faith and therefore reversed.

The Landlord contended that the Debtor, Integrated Telecom Express, Inc. was never in financial distress and that the petition in this case was instead filed to frustrate the Landlord’s claims and to increase the distribution of the Debtor’s estate to Integrated’s shareholders at the Landlord’s expense. These contentions were corroborated by the record. According to schedules filed with the Bankruptcy Court, Integrated had $105.4 million in cash and $1.5 million in other assets at the time that it filed for bankruptcy, and yet the Landlord’s proof of claim lists the present discounted value of Integrated’s lease obligations at approximately $26 million.

Chapter 11 bankruptcy petitions are subject to dismissal under 11 U.S.C. § 1112(b) unless filed in good faith, and the burden is on the bankruptcy petitioner to establish that its petition has been filed in good faith. In re SGL Carbon Corp., 200 F.3d 154, 159-62 (3d Cir.1999); accord Solow v. PPI Enters. (U.S.), Inc. (In re PPI Enters. (U.S.), Inc.), 324 F.3d 197, 211 (3d Cir.2001) (“The debtor bears the burden of establishing good faith.”). Whether the good faith requirement has been satisfied is a “fact intensive inquiry” in which the court must examine “the totality of facts and circumstances” and determine where a “petition falls along the spectrum ranging from the clearly acceptable to the patently abusive.” Id. at 162.

Sixth Circuit
What is required for a defendant to “conceal” estate assets within meaning of the criminal statute?

Addressing an issue of apparent first impression for the court, the court held that defendant “concealed” estate assets within meaning of the criminal statute by changing the locks on the doors of three unoccupied houses so as to obstruct chapter 7 trustee’s access to the property. U.S. v. Wagner, 382 F.3d 598, 2004 Fed.App. 0311P (6th Cir.(Ohio) Sep 13, 2004) (NO. 03-4313). The evidence was sufficient to uphold defendant’s conviction for bankruptcy fraud.

Title 18 U.S.C. § 152(1)provides:

A person who--(1) knowingly and fraudulently conceals from a custodian, trustee, marshal, or other officer of the court charged with the control or custody of property, or, in connection with a case under title 11, from creditors or the United States Trustee, any property belonging to the estate of a debtor ... shall be fined under this title, imprisoned not more than 5 years, or both. 18 U.S.C. § 152(1).

To prove the defendants guilt under 18 U.S.C. § 152(1), the government must show that: 1) the defendant knowing and fraudulently; 2) concealed property; 3) from the trustee; 4) that belonged to his estate. See United States v. Christner, 66 F.3d 922, 925-26 (8th Cir.1995). The issue was whether the defendant concealed property. This is not a sufficiency-of-the-evidence inquiry, as the evidence was clear that defendant changed the locks, but rather a question of statutory interpretation. The court reasoned that without access to the inside of the home, no prospective buyer could accurately assess the worth of the house and place a bid, which in turn prevented the trustee from learning the value of the house and accordingly disposing of the estate.

Several circuits have recognized that § 152 is “a congressional attempt to cover all of the possible methods by which a debtor or any other person may attempt to defeat the intent and effect of the bankruptcy law through any type of effort to keep assets from being equitably distributed among creditors.” United States v. Goodstein, 883 F.2d 1362, 1369 (7th Cir.1989) (internal quotations omitted) (emphasis added); United States v. Thayer, 201 F.3d 214, 226 (3d Cir.1999) (quoting Goodstein ); United States v. Shapiro, 101 F.2d 375, 379 (7th Cir.1939) (“The object of Congress in passing [§ 152] was to punish those debtors who, although wanting relief from their debts, did not want to surrender what property there was to the creditors.”). Section 152 serves a broad purpose; it exists to prevent a wide array of behavior designed to stymie the bankruptcy system, and consequently it targets many different kinds of conduct.

Ninth Circuit
Is issue of whether benefit received by creditor is relevant to determining whether administrative expense is allowed?

The issue in this case was whether the Bankruptcy Court erred by granting an administrative claim filed pursuant to 11 U.S.C.A. § 503(b). The Ninth Circuit affirmed an award of administrative expense claim to creditor that proposed confirmed chapter 11 plan and avoided the issue of whether benefit received by creditor is relevant to determining whether administrative expense status is allowed. In re Cellular 101, Inc., 377 F.3d 1092, 43 Bankr.Ct.Dec. 90, Bankr. L. Rep. P 80,134, 4 Cal. Daily Op. Serv. 6783, 2004 Daily Journal D.A.R. 9229 (9th Cir.(Cal.) 2004) (NO. 02-56772).

Creditors formulated and presented the only reorganization plan that was put forth to the Bankruptcy Court. This plan resulted in the payment to creditors of 100% of the creditors’ allowed claims with funds remaining for the equity security holders. Creditors also agreed to waive their prepetition claims against the debtor. The debtor argued that the creditors may not recover on their § 503(b) claim, because they acted in their own self-interest in proposing a reorganization plan. Section 503(b) provides in pertinent part:

After notice and a hearing, there shall be allowed, administrative expenses, other than claims allowed under section 502(f) of this title, including--
...
(3) the actual, necessary expenses, other than compensation and reimbursement specified in paragraph (4) of this subsection, incurred by--
...
(D) a creditor ... in making a substantial contribution in a case under Chapter 9 or 11 of this title;
...
(4) reasonable compensation for pro-fessional services rendered by an attorney ... of an entity whose expense is allowed under paragraph (3) of this subsection, based on the time, the nature, the extent, and the value of such services, and the cost of comparable services other than in a case under this title, and reimbursement for actual, necessary expenses incurred by such attorney...

11 U.S.C. § 503(b) (2003).

There appears to be a conflict among the circuits as to whether a creditor’s self-interest is important to the § 503(b) analysis. Compar, Speights & Runyan v. Celotex Corp. (In re Celotex Corp.), 227 F.3d 1336, 1338 (11th Cir.2000) (“Examining a creditor’s intent unnecessarily complicates the analysis of whether a contribution of considerable value or worth has been made.”); and Hall Fin. Group v. DP Partners, Ltd. P’ship (In re DP Partners Ltd. P’ship), 106 F.3d 667, 673 (5th Cir.1997) (holding that “a creditor’s motive in taking actions that benefit the estate has little relevance in the determination whether the creditor has incurred actual and necessary expenses in making a substantial contribution to a case.”), cert. denied, 522 U.S. 815, 118 S.Ct. 63, 139 L.Ed.2d 26 (1997); with Lebron v. Mechem Fin. Inc., 27 F.3d 937, 944 (3d Cir.1994) (holding that “ ‘substantial contribution’ should be applied in a manner that excludes reimbursement in connection with activities of creditors...which are designed primarily to serve their own interests.”); and Haskins v. United States (In re Lister), 846 F.2d 55, 57 (10th Cir.1988) (“Efforts undertaken by a creditor solely to further his own self-interest...will not be compensable, notwithstanding any incidental benefit accruing to the bankruptcy estate”). The Ninth Circuit Court declined to choose between these competing approaches, because the Court need not decide whether a creditor’s motivation may ever be relevant or dispositive in order to resolve the case. The Court stated that any concern about evidence that the creditors benefitted from their own efforts is outweighed by the extent of the benefit those efforts conferred on the estate. The Court found that the facts presented demonstrate that both creditors substantially contributed to the reorganization. The creditors formulated and presented the only reorganization plan that was put forth to the Bankruptcy Court.

In concurring, Judge Brunetti wrote:
Nothing in § 503(b) indicates that a creditor’s motivation has any relevance in whether the creditor can recover fees and expenses under § 503(b). Hall Fin. Group v. DP Partners Ltd. P’ship (In re DP Partners Ltd. P’ship), 106 F.3d 667, 673 (5th Cir.1997) (noting that “nothing in the Bankruptcy Code requires a self-deprecating, altruistic intent as a prerequisite to recovery of fees and expenses under section 503”).

Eleventh Circuit
Can a proof of claim be faxed when the notice of claims bar date requires mailing of claims to post office box?

In re Outboard Marine Corp., --- F.3d ----, 2004 WL 2332131 (7th Cir.(Ill.) Oct 18, 2004) (NO. 04-1009).

Appellant-Creditor Travis Boats & Motors, Incorporated (“Travis Boats”), appealed from a bankruptcy court order that disallowed its claim in the Outboard Marine Corporation (“OMC”) chapter 7 bankruptcy proceeding for failure to timely file a proof of claim. The Notice of Claims Bar Date required creditors to mail their proofs of claim to a designated post office box, so as to be received by the OMC claims agent by November 15, 2002. Travis Boats faxed its proof of claim to counsel for the OMC bankruptcy trustee on November 15, 2002. The trustee objected to the claim as untimely, and the bankruptcy court sustained the objection, disallowing Travis Boats’ claim. The district court affirmed. The Seventh Circuit affirmed the bankruptcy court’s conclusion about the timeliness of Travis Boats’ claim. Even though, because of the inadequate assets to cover timely filed claims, and though it may make no practical difference in the end, the Court reversed the bankruptcy court’s decision to disallow the claim, and held that Travis Boats’ untimely claim is subordinated to the timely-filed claims in accordance with 11 U.S.C. § 726(a)(3). In re Outboard Marine Corp., --- F.3d ----, 2004 WL 2332131 (7th Cir.(Ill.) Oct 18, 2004) (NO. 04-1009).

The Court commented that rather than following the simple instructions contained in the Notice, Travis Boats faxed its proof of claim to counsel for the trustee on the Bar Date. Counsel for the trustee then forwarded the fax to the designated post office box, where it was received by the claims agent on November 21, 2002, six days after the Bar Date. Travis Boats could not claim that it did not understand the terms of the Notice, because it also mailed a duplicate copy of its proof of claim to the designated post office box, though the claim was mailed on the Bar Date and received after the Bar Date.

Bankruptcy Court
Is a Trustee entitled to sanctions against landlord who refused to allow trustee to inspect debtor-tenant’s premises?

The Bankruptcy Court granted the trustee an award of attorneys’ fees in the amount of $6,987 and expenses in the amount of $166.79 based on refusal of the landlord to allow the trustee to inspect debtor-tenant’s premises. In re Ambotiene, --- B.R. ----, 2004 WL 2291315 (Bankr.E.D.N.Y. Sep 17, 2004) (NO. 03-27303-ESS).

The Debtor filed for relief under chapter 7. The Debtor’s Petition listed restaurant equipment with an estimated value of $7,000, as her personal property. It was located at the premises where the Debtor operated a restaurant. The trustee argued that he had a duty to inspect the equipment to determine whether it had any value to the Debtor’s bankruptcy estate. The trustee sought, among other relief, an award of costs against the Landlord and Landlord’s Counsel, pursuant to the Court’s equitable powers under Section 105 of the Bankruptcy Code. The Landlord refused to grant the trustee access to the premises, claiming that it will seek to sell the equipment and apply the proceeds towards rent arrears. The trustee was not seeking turnover of the equipment. In effect, the landlord and landlord’s counsel determined that there were no circumstances under which the trustee would be entitled to claim the value of the equipment for the Debtor’s bankruptcy estate, and attempted to impose that result upon the trustee by denying him access to the premises to inspect the equipment to determine whether he should proceed to litigate those issues.

The Court noted there is no clear line between attorneys’ fees as damages and attorneys’ fees as sanctions. The purposes of Section 105 include assuring that the administrative processes established by the Bankruptcy Code are able to provide for the prompt and fair administration of bankruptcy cases. As with the fee-shifting provisions which the Court described, the purposes of Section 105 may be effectuated by an award of attorneys’ fees where the award is appropriate to carry out the provisions of the Bankruptcy Code. Section 105(a) of the Bankruptcy Code states that “[t]he court may issue any order, process, or judgment that is necessary or appropriate to carry out the provisions of this title.” 11 U.S.C. § 105(a). Section 105 recognizes the Court’s inherent power to maintain order in the courts, to punish inappropriate behavior, and to discipline attorneys when necessary. See Chambers v. NASCO, Inc ., 501 U.S. 32, 50 (1995) (“if in the informed discretion of the court, neither the statutes nor the Rules are up to the task, the court may safely rely on its inherent power.”)

While it is apparent that Section 105 provides authority for a bankruptcy court to make an award of attorneys’ fees and costs in appropriate circumstances, the question remained under what circumstances such an award should be allowed. The Court found that it is appropriate to consider four factors to determine whether an award of attorneys’ fees and costs to a chapter 7 trustee is “appropriate to carry out the provisions of [the Bankruptcy Code].” These are first, whether the chapter 7 trustee acted in good faith to pursue his statutory duties and obligations under the Bankruptcy Code; second, whether the response by the objecting party was made in objective good faith; third, whether the objecting party had an opportunity to correct its course and failed to do so; and fourth, whether the chapter 7 trustee or the debtor’s estate was damaged by incurring unnecessary costs as a result of the objecting party’s actions. The Bankruptcy Court applied these factors and granted the trustee an award of attorneys’ fees in the amount of $6,987 and expenses in the amount of $166.79.

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