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Monday, June 9, 2014


     This morning, on June 9, 2014, the U.S. Supreme Court issued its unanimous decision in Executive Benefits Agency  v. Arkinson, settling an issue that has plagued federal courts on all levels since the SCOTUS’s 2011 decision in Stern v. Marshall, 564 U.S. ___, 131 S. Ct. 2594 (2011):

Does the bankruptcy court violate Article III of the U.S. Constitution or Title 28 of the United States Code if it issues proposed findings and rulings on the type of issue identified in Stern v. Marshall as “core” under the bankruptcy statutory scheme, but beyond the tolerance of Article III if the bankruptcy court makes final findings of fact and rulings of law?

The Basics: Bankruptcy jurisdiction, since 1984, has divided issues into two categories: “core” matters spelled out in 28 U.S.C. §157(b)(2), which involve matters “arising in” a bankruptcy case and that a bankruptcy court would be expected to decide as part of the bankruptcy case (i.e., deciding whether proofs of claim are allowed, adjudicating the debtor’s discharge or the dischargeability of certain debts, confirming plans of reorganization); and “non-core” matters, which are matters “related to” the bankruptcy case. 

     Classic examples of “non-core” matters are disputes between non-parties, and the debtor’s pending state law claims against other persons.  28 U.S.C. §157 envisions that bankruptcy courts, as adjuncts of the U.S. District Courts to whom the District Courts “referred” all bankruptcy and related matters, can issue final findings of fact and final rulings of law on core matters. If the matter is “non-core”, 28 U.S.C. §157(c)(1) still allows the bankruptcy court to hear the case,  but issue only “proposed” findings and rulings for the U.S. District Court to either confirm or rehear.  28 U.S.C. §157(c)(2) allows bankruptcy courts, like U.S. magistrates, to finally determine any non-core matters if both parties to the matter consent.

     The difference between “core” and “non-core” has traditionally been on appeal. If the matter is core, then the U.S. District Court (or a Bankruptcy Appellate Panel) sits as an appellate court and its standard of review is “abuse of discretion” on factual findings and “de novo” (or “anew”) on rulings of law based on those facts (28 U.S.C. §158(a)). If the matter is non-core, the appellant gets another shot to try the case in front of the U.S. District Court, which looks at the proposed factual findings as suggested findings, and can rehear evidence to reach its own factual findings (28 U.S.C. §157(c)(1)).

The Effect of Stern v. Marshall: Stern v. Marshall, in effect, created a third category of matters for the bankruptcy court: “core” under the statutory definitions, but beyond the bankruptcy court’s power to finally decide under the U.S. Constitution. In Stern, the “core” matter was the debtor’s state law counterclaim to a proof of claim filed by a creditor. Because the counterclaim could not be decided based on the same facts and occurrences raised in the proof of claim, it was a “permissive” counterclaim instead of a “mandatory” counterclaim; however, 28 U.S.C. §157(b)(2)(C) provides that all “counterclaims by the estate against persons filing claims against the estate” fall into the “core” category, including the permissive state law counterclaims.

     The SCOTUS held that if the allowance of the debtor’s permissive state law counterclaim did not have the effect of directly offsetting the proof of claim amount, Article III prohibited the bankruptcy court’s decision of that counterclaim  as a “core” matter (with final findings and rulings). The SCOTUS majority (it was a 5-4 decision authored by Chief Justice Roberts) believed that “the removal of counterclaims such as [the debtor’s counterclaim] from core bankruptcy jurisdiction meaningfully changes the division of labor in the current statute; we agree with the Unite States that the question presented here is a “narrow” one.”

Post Stern v. Marshall ConfusionStern v. Marshall threw bankruptcy courts, U.S. District Courts, and U.S. Circuit Courts of Appeal into a jurisdictional tizzy. If the bankruptcy court’s “core” jurisdiction could be questioned for counterclaims to proofs of claim, then does the bankruptcy court’s final decision of other types of “core” matters implicate Article III?  Will the U.S. District Court be forced to withdraw its “reference”  of Stern “core, but really non-core” matters in every case, or can the bankruptcy court issue proposed findings and rulings in such matters as if they were non-core matters under the statute? Can the parties consent – or be deemed to consent – to the bankruptcy court’s final decision of Stern matters?  Does Article III allow bankruptcy courts to decide any Stern matter, regardless of consent of the parties?

   Lawyers in bankruptcy court were just as flummoxed. What the heck is a Stern matter? Do you commit malpractice if you don’t challenge the bankruptcy court’s “core” jurisdiction on any issue that might be beyond that jurisdiction per Article III, such as fraudulent transfers and preferences? Does filing a proof of claim still waive objections to bankruptcy court jurisdiction on Stern matters, as it does with jury trials on preferences and fraudulent transfers? Do you need to file a motion for withdrawal of the reference from the bankruptcy court as an automatic reflex?

     Local rules and orders from District Courts and bankruptcy courts tamed some of this chaos by: keeping the reference with the bankruptcy court; allowing for District Courts to second-guess bankruptcy court determinations that a Stern matter was or was not involved; and permitting U.S. District Court to treat bankruptcy court “final” findings and rulings as “proposed” if the bankruptcy court guessed wrong on a Stern issue.

Executive Benefits Agency  v. Arkinson Background: Executive Benefits Agency  v. Arkinson involved state law fraudulent transfer claims asserted under 11 U.S.C. §544; these types of claims were one of the fertile sources for post-Stern confusion. 28 U.S.C. §157(b)(2)(H) identifies all fraudulent transfer claim determinations as “core”. However, there are federal fraudulent transfer claims – asserted under 11 U.S.C. §548 – and state fraudulent transfer claims – asserted under §544(a). Moreover, there are jury trial rights associated with fraudulent transfer claims, if the transferee had not filed a proof of claim.   Granfinanciera, S.A. v. Nordberg, 492 U.S. 33 (1989); Langenkamp v. Culp, 498 U.S. 42 (1990).

     In this particular case, the transferee had not filed a proof of claim. At the bankruptcy court level, the court entered summary judgment for the trustee bringing the claims. The U.S. District Court (W.D. Wash.) treated the bankruptcy court’s findings and rulings as proposed, reviewed those findings and rulings de novo, and the matter proceeded up to the 9th Circuit Court of Appeals.  After the appellant’s opening brief, the SCOTUS decided Stern v. Marshall. Despite the appellant’s argument, based on Stern, that the bankruptcy court lacked any authority under Article III to rule on the summary judgment motion, the 9th Circuit affirmed the U.S. District Court.  The 9th Circuit held that either the appellant had, in effect, consented to bankruptcy court jurisdiction below, or the bankruptcy court in this instance issued only proposed findings and rulings that the U.S. District Court then confirmed.  

Executive Benefits Agency  v. Arkinson SCOTUS Decision: Justice Thomas authored the decision for a unanimous court. The justices ignored the “consent” issue, and went directly to the issue of whether the U.S. District Court could have treated the bankruptcy court summary judgment determinations as “proposed” despite the lack of an indication from the bankruptcy court regarding whether it issued a “final” or “proposed” summary judgment order. Justice Thomas, focusing on the statutory scheme in 28 U.S.C. §157, stated that Stern v. Marshall effectively invalidated §157(b)(2) as to any “core” matter that Article III prohibited the bankruptcy court from deciding as a “core” and final matter. The Court noted, however, that in enacting 28 U.S.C. §157, Congress also enacted a “savings” provision, as follows:

“If any provision of this Act or the application thereof to any person or circumstance is held invalid, the remainder of this Act, or the application of that provision to persons or circumstances other than those as to which it is held invalid, is not affected thereby.” 98 Stat. 344, note following 28 U. S. C. §151.

     Using that savings provision, Justice Thomas held that the invalidation of a matter as “core” on constitutional grounds threw that matter into the “non-core” bin. As a result, the bankruptcy court could still issue proposed findings and rulings on the matters under 28 U.S.C. §157(c)(1). The U.S. District Court’s review of the bankruptcy court’s summary judgment order on a de novo basis treated that order as “proposed”, and the SCOTUS affirmed the 9th Circuit decision on those narrow grounds. The slip opinion is located here: http://www.supremecourt.gov/opinions/13pdf/12-1200_2035.pdf

What Comes Now?  Three thoughts after reviewing the Executive Benefits Agency  v. Arkinson decision:

·         The SCOTUS has blessed the creation of three categories of bankruptcy court matters: “core” matters, “non-core” matters, and “core” matters treated as non-core per Stern. It also has told us that Stern issues may safely be handled as if they were "non-core" matters instead of "core" matters defined in §157(b)(2).

·         Although the SCOTUS ignored the consent issue raised in the 9th Circuit (see Slip Op. at p. 4 fn. 4), its decision opens the back door to allowing a bankruptcy court’s final determination of a Stern matter “by consent” under 28 U.S.C. §157(c)(2). If the savings provision allows treatment of an invalidated “core” matter as a matter under §157(c)(1), it also allows it to be treated as a matter for consent under §157(c)(2), which provides: “Notwithstanding the provisions of [§157(c)(1)], the district court, with the consent of all the parties to the proceeding, may refer a proceeding related to a case under title 11 to a bankruptcy court to hear and determine and to enter appropriate orders and judgments, subject to review [as final orders and judgments under 28 U.S.C. §158(a)].” Check your local rules and orders of reference from your local U.S. District Court, as well as any post-Stern orders and rules adopted. Arguably, in Massachusetts, LR 206 modifies the general reference in LR 201 and requires proposed findings and ruling on Stern matters; however, who knows what happens if the bankruptcy court determines that LR 206 does not apply because it finds that all parties consented to its final determination?

·         The Executive Benefits Agency  v. Arkinson decision, following Stern v. Marshall, places the onus on both bankruptcy courts and litigants to confront – early in a case -- whether a “core” matter is really a Stern matter, and act accordingly. The hard issues will continue to be in the area of avoidance recoveries – especially preferences and fraudulent transfers. Note that the SCOTUS left open – and did not decide – whether a §544 avoidance action is really a Stern matter (Slip Op. at p. 11). The justices seemed more concerned with straightening out the procedural morass rather than wrestling with the limits of bankruptcy court jurisdiction over §544 avoidance actions. Thus trustees, debtors, creditors with proofs of claim, and transferees without proofs of claim remain free to argue most of the questions set forth above to probe the extent of bankruptcy court jurisdiction over certain matters.

©Kevin C. McGee 2014

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