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Thursday, December 6, 2012


STERN v. MARSHALL, 131 S.Ct. 2594 (2011):

Kevin C. McGee, Partner
Seder & Chandler, LLP
339 Main Street, 3rd Floor
Worcester, MA 01608
©Kevin C. McGee

  • The Stern v. Marshall Facts:

    • Former Playmate of the Year Anna Nicole Smith (real name: Vickie Lynn Marshall) (“Smith”) marries J. Howard Marshall II (“Howard”), who is very old and very rich.

      • One year later – Howard dies & leaves Smith out of his will. Before his death, Smith files suit in Texas and accuses Howard’s son – E. Pierce Marshall (“Pierce”) – of shenanigans to keep her out of the will.

      • Smith files bankruptcy after Howard’s death, with her claims against Howard’s estate –separate litigation (up and down the federal court system and the Texas court system) ensues.

      • In the Smith bankruptcy, Pierce files a non-dischargeability complaint and a proof of claim based upon his allegations that Smith defamed him through having her lawyers publicize (through the press) that Pierce defrauded Smith to gain control of Howard’s assets and estate (the “Pierce Proof of Claim”).

      • Smith objects to the Pierce Proof of Claim and asserts a counterclaim against Pierce on the theory of his tortious interference with the gift she expected to get from Howard.

      • Determinations in the California bankruptcy court on both claims – Pierce expresses no issue or problem with the bankruptcy court hearing issues on the Pierce Proof of Claim, but objects to the hearing on the Smith counterclaim. Smith gets summary judgment (in 1999)  on the Smith Proof of Claim, and judgment (after a 2000 bench trial) in her favor on her counterclaim -- $400 million in compensatory damages & $25 million in punitive damages.

      • Post-trial – Pierce argues that Smith’s counterclaim was not a “core proceeding” & that the bankruptcy court had no authority to issue final findings of fact and rulings of law (“Final Rulings”) on the counterclaim. Smith argues that the counterclaim was “core” under 28 U.S.C. §157(b)(2)(C)[1] (as the bankruptcy court had determined in issuing its final judgment).

      • The California US District Court agreed with Pierce that the counterclaim was not “core”, notwithstanding §157(b)(2)(C), because (in essence) it was not a “mandatory” counterclaim to the Pierce Proof of Claim (i.e., arose from different facts and occurrences), & treated the bankruptcy court findings and judgment as “proposed”[2]. The District Court then confirmed the bankruptcy court rulings and issued its own judgment in favor of Smith, in the amount of $44,292,767.33 (combining compensatory & punitive damages).  

      • A procedural mess followed, with the case going up to the 9th Circuit, then up to the SCOTUS (on the issue of a bankruptcy court’s power to decide probate matters), then back to the 9th Circuit. In the end, the 9th Circuit concluded that the District Court should have given the Texas jury verdict preclusive effect, and ruled in favor of Pierce. Another writ of certiorari followed and the SCOTUS granted it.

      • By the time the SCOTUS decided the case in 2011, both Smith and Pierce were dead, and their respective estates were carrying on the fight.

  • The Stern v. Marshall Majority Rulings (Roberts, CJ, with Scalia, Kennedy, Thomas & Alioto, JJ joining):

    • “Core” or “Noncore” under 28 U.S.C. §157(b)?

      • Under the terms of §157(b)(2)(C), the bankruptcy court had statutory authority to enter Final Rulings on the Smith counterclaim to the Pierce Proof of Claim.

      • The bankruptcy court could also enter Final Rulings on the Pierce Proof of Claim because: (i) although Pierce claimed that the Pierce Proof of Claim involved a “personal injury tort” which the bankruptcy court lacked jurisdiction to hear under 28 U.S.C. §157(b)(5), that statute is not jurisdictional; and (ii) Pierce’s expressions of consent to the bankruptcy court determination of the Pierce Proof of Claim waived his objection to such determination based on §157(b)(5). Justice Roberts noted that Pierce did consent to the determination of the Pierce Proof of Claim by filing the proof of claim and then affirmatively stating on other occasions that he had no problem with the bankruptcy court's determination of the Pierce Proof of Claim. 131 S.Ct. at 2607-08.

      • On the latter point, Justice Roberts wrote: “If Pierce believed that the Bankruptcy Court lacked the authority to decide his claim for defamation, then he should have said so -- and said so promptly. See United States v. Olano, 507 U.S. 725, 731 (1993)(‘”no procedural principle is more familiar to this Court than that a constitutional right,” or a right of any other sort, “may be forfeited ... by the failure to make timely assertion of the right before a tribunal having jurisdiction to determine it.”’)[.]” 131 S.Ct. at 2608.

    • Does the Bankruptcy Court have Authority to Determine Smith’s State Law Counterclaim?

      • Despite its conclusion that the Smith counterclaim was a “core” proceeding as defined by the statute, the majority opinion went on to examine the bankruptcy court’s authority to issue Final Rulings under Article III of the U.S. Constitution.

      • The majority then goes on to examine whether the core/non-core distinction in 28 U.S.C. §157, with the bankruptcy courts operating as “adjuncts” of the district courts, fits within the “public rights” exception to Article III jurisdiction permitting legislatively-created adjudicators to necessarily determine state law claims.

      • In teasing out the “public rights” exception, Justice Roberts notes that the following situations qualify for the exception: (1) actions in which the U.S. Government is a party to the litigation; and (2) actions in which the rights involved are “integrally related to particular federal government action” or a federal regulatory scheme. 131 S.Ct. at 2611-13.

      • Justice Roberts and the majority cite the circumstances in Commodity Futures Trading Commission v. Schor, 478 U.S. 833, 106 S.Ct. 3245 (1986) as a situation in which a state law claim could be determined under the “public rights” exception to Article III jurisdiction: specifically, when a mandatory state law counterclaim, arising from the same facts and occurrences, is asserted in response to a claim that falls within the determination authority of an agency acting within a “specific and limited regulatory scheme.” 131 S.Ct. at 2613-14.

      • The majority contrasts the Schor circumstances with a trustee’s pursuit of fraudulent transfer claims in Granfinanceria S.A. v. Nordberg, 492 U.S. 33, 109 S.Ct. 2782 (1989), in which the SCOTUS held such claims, asserted against a noncreditor, were “private rights” as opposed to “public rights,” even if a statute granted the right to pursue the fraudulent transfer action. 131 S.Ct. at 2614.

      • After this review, Justice Roberts concludes that the Smith counterclaim is more like the fraudulent transfer claim than it is the counterclaim in Schor, and concludes that the Smith counterclaim neither falls within the public rights exception nor “flows from a federal statutory scheme …[in which the counterclaim’s adjudication] is completely dependent upon ‘adjudication of a claim created by federal law’”.Id.

      • Accordingly, the majority concludes that the California bankruptcy court lacked constitutional authority, under Article III, to make Final Rulings on Smith’s counterclaim to the Pierce Proof of Claim, notwithstanding its “core” nature under 28 U.S.C. §157. In making this conclusion, the majority dismisses: (1) any “implied” consent to the determination of the Smith Counterclaim through the filing of the Pierce Proof of Claim – because of the lack of factual connection between the Pierce Proof of Claim and the Smith Counterclaim, and the need for separate findings for each claim, 131 S.Ct. at 2615-18; (2) the bankruptcy court’s “adjunct” status to the district court, since such status is not accompanied by an appropriate limitation as to the areas that a bankruptcy court can decide, 131 S.Ct. at 2618-19; and (3) the concern that a two-tier adjudication of state law claims, with  the need to confirm and approve proposed findings and rulings through de novo review, does not justify overriding Article III constitutional concerns even if the process is inefficient, expensive or impractical, 131 S.Ct. at 2620.

      • On the latter point, the majority does appear to backtrack a little on the scope of its decision: “[W]e are not convinced that the practical consequences of such limitations on the authority of bankruptcy courts to enter final judgments are as significant as [Smith] and the dissent suggest…As described above, the current bankruptcy system also requires the district court to review de novo and enter final judgment on any matters that are "related to" the bankruptcy proceedings, § 157(c)(1), and permits the district court to withdraw from the bankruptcy court any referred case, proceeding, or part thereof, § 157(d). Pierce has not argued that the bankruptcy courts ‘are barred from `hearing' all counterclaims’ or proposing findings of fact and conclusions of law on those matters, but rather that it must be the district court that ‘finally decide[s]’ them.... We do not think the removal of counterclaims such as Vickie's from core bankruptcy jurisdiction meaningfully changes the division of labor in the current statute; we agree with the United States that the question presented here is a "narrow" one.” 131 S.Ct. at 2620.

  • Is the Stern v. Marshall Effect on Bankruptcy Litigation Broad or Narrow?

    • Answers from Circuit Courts:

      •  Yes, It is Narrow:

        • 11th CircuitStern v. Marshall involved a “permissive” state law counterclaim to a proof of claim, and has no application when the counterclaim is “mandatory”, i.e. arising from the same facts and occurrences, as in loan payment recoupment claims asserted in response to a secured creditor’s action to determine the validity, extent and priority of its lien. Sundale, Ltd. v. Florida Associates Capital Enterprises, LLC (In re Sundale, Ltd), __ F 3d __ (Case No. 12-11450 11th Cir. 11/29/12).

        • 2nd Circuit: Stern v. Marshall holding is narrow and has no application to a bankruptcy court injunction issued to stay asbestos litigation against the debtor’s parent company,  in aid of the automatic stay. Pfizer, Inc. v. Law Offices of Peter G. Angelos (In re Quigley Co., Inc.), 676 F.3d 45 (2nd Cir. 2012).

        • 1st Circuit: Stern v. Marshall is limited in scope and inapplicable to a Truth in Lending rescission action, when the bankruptcy court’s resolution of that action was necessary to its determination of the secured creditor’s motion for relief from stay. DiVittorio v. HSBC Bank USA (In re DiVittorio), 670 F.3d 273, 282 n.4 (1st Cir. 2012)

      • “It Depends”:

        • 9th Circuit: Although Stern v. Marshall certainly applied to a bankruptcy court’s determination of a fraudulent transfer case under 11 U.S.C. §548 against a noncreditor, the right to a hearing in an Article III court can be waived by a party, and the bankruptcy court could still issue final findings of fact and rulings of law on the claim when the defendant had failed to object or indicate a lack of consent to such hearing, until the final judgment was challenged on appeal. Executive Benefits Insurance Agency v. Arkison (In re Bellingham Insurance Agency, Inc.), ___ F.3d ___ (Case No. 11-35162 9th Cir. 12/4/12).

      • No, It is Broad and Far-Reaching:

        • 6th Circuit: In determining a debtor’s state law fraud counterclaim against a secured creditor in the context of the debtor’s declaratory judgment action to disallow and discharge the creditor’s secured and unsecured claims, the Sixth Circuit stated: “ Stern thus provides a summary of the law in this area: When a debtor pleads an action under federal bankruptcy law and seeks disallowance of a creditor's proof of claim against the estate—as in Katchenthe bankruptcy court's authority is at its constitutional maximum.(my emphasis – KCM) 131 S. Ct. at 2617-18. But when a debtor pleads an action arising only under state-law, as in Northern Pipeline; or when the debtor pleads an action that would augment the bankrupt estate, but not ‘necessarily be resolved in the claims allowance process[,]’ 131 S. Ct. at 2618; then the bankruptcy court is constitutionally prohibited from entering final judgment. Id. at 2614.” Waldman v. Stone,  ___ F.3d ___, ___ , 2012 WL 5275241 (6th Cir. Oct. 26, 2012).

  • What Are the Courts Doing to Accommodate Stern v. Marshall in Practice?

    • National Rulemaking: In September 2012, the Advisory Committee on Bankruptcy Rules for the Judicial Conference of the United States  proposed amendments to Bankruptcy Rules 7008, 7012, 7016, 9027, and 9033 to address the “inefficiencies” of Stern v. Marshall. The common theme in each rule is to require each party to state whether or not the party consents to the bankruptcy court’s final determination of facts and final rulings, with opportunities at the pleading stage (proposed Fed. R. Bankr. P. 7008 & 7012), if the case is removed from another court (proposed Fed. R. Bankr. P. 9027), and at pre-trial conferences (proposed Fed. R. Bankr. P. 7016). The proposed rules also eliminate any requirement that the parties state whether each count is “core” or “non-core”[3]. Proposed Fed. R. Bankr. P. 9033 follows this trend in eliminating any reference to 28 U.S.C. §157(c)(1) with respect to proposed findings and rulings issued by a bankruptcy court, thus acknowledging that proposed findings and rulings may be required in “core” matters as well as “non-core” matters.

    • Local Rulemaking: At least one bankruptcy court, has adopted the “get consent to everything first” approach taken up by the Advisory Committee to the Judicial Conference. Bankr. SDNY Local Bankruptcy Rule 7008.1 (adopted 4/16/12); see also Local Rule 7012-1 (Bankr. D. Md.) (requiring statement of consent in pleadings); Local Rule 7008 (Bankr. W.D. Mich.)(same). U.S. District Courts have mostly reacted by reaffirming the referral of bankruptcy matters to bankruptcy courts, and requiring that all determinations under Stern v. Marshall be made, in the first instance, by the bankruptcy court (as opposed to through a motion to withdraw reference addressed to the district court). Amended Standing Order or Reference (D. Del. 2/29/12); Standing Order of Ref. 6:12-MC-26-ORL-22 (M.D. Fla. 2/22/12); L.R. 206 (D. Mass. effective 6/5/12); Amended Standing Order of Reference (S.D.N.Y. 1/31/12); General Order No. 2011-12 (S.D. Tex. 11/29/11)[4].

[1]  §157(b)(2)(C) provides that “Core proceedings include, but are not limited to, …counterclaims by the estate against persons filing claims against the estate[.]” Pursuant to §157(b)(1), bankruptcy courts “may hear and [finally] determine” all core proceedings arising under title 11, and enter orders and judgments subject to appellate review as a final order, judgment or decree under 28 U.S.C. §158. Cf. 28 U.S.C. §157(c)(1) “A bankruptcy court may hear a proceeding that is not a core proceeding but that is otherwise related to a case under title 11. In such proceeding, the bankruptcy court shall submit proposed findings of fact and conclusions of law to the district court, and any final order or judgment shall be entered by the district court after considering the bankruptcy judge’s proposed findings and conclusions and after reviewing de novo those matters to which any party has timely and specifically objected.”

[2] Interestingly, the Texas state court had conducted a separate jury trial on the parties’ dispute and rendered a verdict in Pierce’s favor; however, the District Court declined to give that verdict preclusive effect.
[3] But see 28 U.S.C. §157(b)(3) – “The bankruptcy judge shall determine, on the judge’s own motion or on timely motion of a party, whether a proceeding is a core proceeding … or is a proceeding that is otherwise related to a case under Title 11. A determination that a proceeding is not a core proceeding shall not be made solely on the basis that its resolution may be affected by State law.” One can assume that the Advisory Committee wants to avoid messy pleadings that state that a matter is “core” under §157, but is otherwise “non-core” for the purposes of the bankruptcy judge’s authority to enter final findings and rulings.
[4] In citing all these rules, I acknowledge the work done by David Mawhinney, law clerk to Judge Frank Bailey of the Massachusetts Bankruptcy Court; he collected these rules in materials presented to the district court judges for Massachusetts and was a driving force in proposing Local Rule 206 to them. 


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