Purdue Pharma L.P. – The Amicus Curiae Briefs

By Uzzi O. Raanan

On August 10, 2023, the United States Supreme Court granted a writ of certiorari in William K. Harrington, United States Trustee, Region 2 v. Purdue Pharma L.P., et al.

Oral arguments were held on December 4, 2023.  For the oral argument audio:  Click Here

On June 27, 2024, the Court issued its 5-4 majority opinion drafted by Justice Gorsuch, reversing the prior ruling by the Second District Court of Appeals.  Justice Kavanaugh delivered the dissent.  603 U.S. ___ (2024).  To read the opinion:  Click Here

Question Presented by the Supreme Court:

Whether the Bankruptcy Code authorizes a court to approve, as part of a plan of reorganization under Chapter 11 of the Bankruptcy Code, a release that extinguishes claims held by nondebtors against nondebtor third parties, without the claimants’ consent.  Click Here

The Ruling:

The Court boiled down the issue presented to “whether a court in bankruptcy may effectively extend to nondebtors the benefits of a Chapter 11 discharge usually reserved for debtors.”  Applying the ejusdem generis canon, among other, the Court held that 11 U.S.C. section 1123(b)(6)’s catchall provision, namely that a plan may “include any other appropriate provision not inconsistent with the applicable provisions of this title,” could not be extended to include releases for nondebtor parties against claims by nondebtor third parties.

The Court concluded that its ruling was limited to the question at hand and should not be read to question consensual third-party releases included in bankruptcy reorganization plans.  It also expressed no guidance on “what qualifies as a consensual release or [] a plan that provides for the full satisfaction of claims against a third-party nondebtor.”  The opinion left open “whether [the Court’s] reading of the bankruptcy code would justify unwinding reorganization plans that have already become effective and been substantially consummated.”

The Amicus Curiae Briefs Behind the Majority and Dissenting Opinions:

While the question posed and answered by the Supreme Court was succinct and seemingly simple, the legal and societal implications of this 5-4 split ruling could be substantial.  To understand the decision’s likely impact on bankruptcy law, stakeholders, and even the American economy, one need only read the:

*   10 Amicus Curiae briefs filed in support of Petitioner William K. Harrington, United States Trustee, Region 2,

*    12 Amicus Curiae briefs filed in support of Respondents Purdue Pharma L.P., et al., and

*    3 Amicus Curiae briefs that supported neither side.

For a complete list of those who filed Amicus Curiae briefs and their counsel, with links to the briefs, Click Here.

 

USING OUT OF STATE CHOICE OF LAW TO AVOID CALIFORNIA USURY RULES?  THINK AGAIN! 

By: Eric P. Israel

A recent case of interest held that California usury law “is [a] fundamental public policy of the state,” which can overcome the choice of law provisions in loan documents.  G Companies Management, LLC v. LREP Arizona LLC, 88 Cal. App. 5th 342, 304 Cal. Rptr. 3d 651 (2023).  In G Companies, the California Court of Appeal held that anti-usury laws represent a strong public policy of the State, and hence that ordinary choice of law rules apply notwithstanding contractual provisions referencing the law of another state that may be more creditor friendly. This appears to be a change from prior law.  See, e.g., Ury v. Jewelers Acceptance Corp., 227 Cal. App. 2d 11, 20 (1964); Gamer v. duPont Glore Forgan, Inc., 65 Cal. App. 3d 280 (1976); Hyundai Sec. Co. v. Lee, 232 Cal. App. 4th 1379 (2015); Mencor Enterprises, Inc. v. HETS Equities Corp., 190 Cal. App. 3d 432 (1987).  Violations of usury laws can have harsh consequences, including recovery of treble damages.  Cal. Civ. Code § 1916-3(a).

Oftentimes, lenders include in their loan documentation contractual provisions stating that the law of another state applies, even in situations where the transaction has few or no contacts with that other state.  Important factors triggering G Companies might be the location of the borrower, the location of the collateral, and the alternative state’s interest in the transaction.  Practitioners should be aware of the G Companies case when drafting documentation for secured transactions.  Bankruptcy trustees may be able to use G Companies to challenge the underlying debts and liens securing them on usury grounds.

The Uniform Foreign-Country Money Judgment Recognition Act provides that a court is not required to recognize a foreign judgment that is “repugnant to the public policy of this state or of the United States.”  It remains to be seen whether domestication of a foreign judgment will be open to challenge under California usury laws.

In re Matter of GFS Industries, LLC

By: Uzzi O. Raanan

Fifth Circuit Court of Appeals disagrees with the Ninth Circuit BAP as to whether corporate debtors can be sued for nondischargeability under 11 U.S.C. section 1192(2) in subchapter V cases, setting up a future challenge in the Ninth Circuit Court of Appeals

The Fifth Circuit Court of Appeals has held that nondischargeability provisions of the kind specified in 11 U.S.C. section 523(a) apply to individual and corporate debtors who confirm nonconsensual plans of reorganization under subchapter V of chapter 11 of the Bankruptcy Code.  In re Matter of GFS Industries, LLC, 99 F.4th 223 (April 17, 2024).  To read the entire opinion, click here:

Acknowledging that the issue is a “close and interesting one,” the GFS Industries court sided with the Fourth Circuit’s Cantwell-Cleary Co. v. Cleary Packaging, LLC (In re Cleary Packaging, LLC), 36 F.4th 509 (4th Cir. 2022), the only other circuit level decision to consider the issue.  The ruling disagrees with the opposite conclusion reached by the Ninth Circuit Bankruptcy Appellate Panel (BAP) in In re Off-Spec Solutions, LLC, 651 B.R. 862 (2023), that 11 U.S.C. section 1192 does not make the nondischargeability provisions of Section 523(a) applicable to corporate debtors.

At least one bankruptcy judge in the Ninth Circuit has recently predicted that the Ninth Circuit Court of Appeals would likely agree with the Fourth and Fifth Circuits’ interpretation of Section 1192, rather than with the Off-Spec ruling.  See In re Van’s Aircraft, Inc., 2024 WL 2947601 (Bankr. D. Oregon, June 11, 2024).

In re Licup (Nondischargeability Under Section 523(a)(3)(A))

By: Uzzi O. Raanan

In a published decision purporting to answer a question previously unresolved in this circuit, the Ninth Circuit Court of Appeals ruled that a debtor’s failure in an asset chapter 7 case to list or schedule a debt, as required by 11 U.S.C. section 521(a)(1), in time for the creditor to timely file a proof of claim, renders the debt nondischargeable in its entirety, unless the creditor had actual knowledge of the bankruptcy case in time to timely file a proof of claim. In re Licup, 95 F.4th 1234 (9th Cir. 2024). To read the entire opinion, click here: https://cdn.ca9.uscourts.gov/datastore/opinions/2024/03/18/23-60017.pdf 

In January 2013, creditor Jefferson Avenue Temecula, LLC (“Creditor”) obtained a default unlawful detainer judgment (“Judgment”) against Christine Tracy Castro (“Castro”) in the amount of $31,780.29.  Though the caption on the Judgment identified the defendant as “Christina Castro, D.D.S.,” the body of the Judgment erroneously stated that the Judgment debtor was “Christina Castro, LLC.”

In February 2014, Castro and her spouse Edwin Licup (“Licup,” and collectively “Debtors”) filed for bankruptcy under Chapter 7.  For some unknown reason, their bankruptcy schedules and creditor list provided an incorrect mailing address for the Creditor’s counsel.  The Creditor did not file a proof of claim in this case, where the allowed unsecured creditors received a distribution of around 5.5%.  The debt to the Creditor was nevertheless listed as discharged.

In July 2021, the Creditor filed a nondischargeability action against the Debtors pursuant to 11 U.S.C. section 523(a)(3)(A), arguing that it never received notice of the bankruptcy case.  Debtors filed a motion for summary judgment, arguing among other that the Creditor was entitled to receive a nondischargeability judgment only as to the amount it would have received had it filed a timely proof of claim, calculated at $1,614.74.  Debtors argued that the remaining portion of the debt should be discharged as it would have been had the Creditor filed a timely proof of claim.

The Ninth Circuit disagreed, affirming prior rulings by the Bankruptcy Appellate Panel (BAP) and bankruptcy court.  It held that the “plain language” in section 523(a)(3)(A) mandates that, where a creditor was not listed or scheduled and had no notice or actual knowledge of the bankruptcy case, its entire debt would be nondischargeable, regardless of the distributions creditors ultimately received in the case.  The court distinguished non-asset chapter 7 cases where a claims bar date was never set.

Practice pointer:  check and double check with the client(s) that all creditors are properly listed and scheduled.  Failure to do so could result in significant damage to the client(s) and potential malpractice exposure.

ILC eBulletin: In re Masingale v. Munding – Ninth Circuit BAP holds that an asset is fully exempt where chapter 11 debtors listed the value of their claimed exemption as “100% of FMV” and no objection to the exemption was filed

July 21, 2023

Dear constituency list members of the Insolvency Law Committee, the following is a case update analyzing a recent case of interest:

SUMMARY

In Masingale v. Munding (In re Masingale), 644 B.R. 530 (9th Cir. BAP 2022), the Bankruptcy Appellate Panel for the Ninth Circuit Court of Appeal (the “BAP”) held that an asset was fully exempt where chapter 11 debtors listed the value of their claimed exemption as “100% of FMV” and no objection to the exemption was filed.

To read the full published decision, click here.

FACTS

In September 2015, Monte and Rosana Masingale (the “Debtors”) filed a chapter 11 petition. In their schedule of exempt property (Schedule C), they claimed a homestead exemption in their residence. Under section 522(d) of the Bankruptcy Code, they could exempt up to $45,950. However, in the column for “Value of Claimed Exemption,” they typed “100% of FMV.” No party objected to the Debtors’ claimed exemption.

Mr. Masingale passed away in 2016. Mrs. Masingale continued to live in the home and prosecute the bankruptcy case. A chapter 11 plan was confirmed in August 2017, but Mrs. Masingale was unable to complete the plan. In November 2018, the case was converted to chapter 7.

In October 2021, Mrs. Masingale filed a motion to compel abandonment of the residence. Mrs. Masingale argued that, under Schwab v. Reilly, 560 U.S. 770 (2010), and Taylor v. Freeland & Kronz, 503 U.S. 638 (1992), the property was fully exempt because the Debtors had claimed an exemption in “100% of FMV” and no objection to the exemption had been filed.

The chapter 7 trustee (the “Trustee”) and the State of Washington (the “State”) – an alleged judgment lien creditor – opposed Mrs. Masingale’s motion. They argued, among other things, that the amount of the exemption was fixed as of the petition date and that statements in Schwab regarding the effect of an exemption claimed in “100% of FMV” were dicta. Soon thereafter, the Trustee filed a motion for authority to sell the property.

The Bankruptcy Court denied Mrs. Masingale’s motion to compel abandonment and granted the Trustee’s sale motion. Among other things, the Bankruptcy Court held that the Debtors’ exemption was limited to $45,950. The Trustee sold the home for $422,000, generating net proceeds (after paying costs of sale and a senior secured creditor) of about $223,000.

Mrs. Masingale appealed to the BAP. According to the BAP’s opinion, the sole issue on appeal was “[w]hether the bankruptcy court erred in limiting the Masingales’ homestead exemption to $45,950.” After rejecting arguments that the appeal was statutorily and equitably moot, the BAP reversed the Bankruptcy Court’s determination that the exemption was limited to $45,950.

REASONING

First, citing Bankruptcy Code section 522(l) and Taylor, the BAP reiterated that an unobjected-to claim of exemption is valid even if it is asserted in an amount that is larger than the law allows. In Taylor, the Supreme Court held that if no one files a timely objection, an exemption claim is valid even if it has no “colorable basis” in the law.

Federal Rule of Bankruptcy Procedure (“FRBP”) 4003(b)(1) requires an objection to be filed within 30 days after the conclusion of the section 341(a) meeting of creditors. The BAP noted that the objection period generally is reopened when a case converts to chapter 7, but not when the conversion occurs more than one year after entry of an order confirming a chapter 11 plan. See Fed. R. Bank. P. 1019(2)(B). Accordingly, the BAP concluded that the Debtors’ exemption claim is no longer contestable. The BAP quoted the Supreme Court’s observation in Taylor that “[d]eadlines may lead to unwelcome results, but they prompt parties to act and they produce finality.

Second, the BAP relied on the Supreme Court’s decision in Schwab for the proposition that a debtor may use the phrase “100% of FMV” to put parties on notice that the debtor intends to claim the full value of property as exempt. In Schwab, the debtor had scheduled certain assets as having a value of $10,718 and claimed an exemption in the amount of $10,718. When the trustee sought to sell the assets, the debtor argued that she had exempted the full value of the assets. The Supreme Court rejected that argument because the debtor had declared the value of the claimed exemption in a particular amount. In doing so, the Supreme Court said that:

[w]here, as here, it is important to the debtor to exempt the full market value of the asset . . . our decision will encourage the debtor to declare the value of her claimed exemption in a manner that makes the scope of the exemption clear, for example, by listing the exempt value as “full fair market value (FMV)” or “100% of FMV.”

Schwab, 560 U.S. at 792-93.

The BAP highlighted the Supreme Court’s guidance, as well as its statement that if a trustee fails to object to such an exemption claim “the debtor will be entitled to exclude the full value of the asset.” Id. at 793. The BAP observed that the Debtors “followed the Supreme Court’s suggestion to the letter.” Because they did so, and because no party in interest objected to the exemption, the residence was fully exempt even though the claimed exemption exceeded the statutory limit.

Third, in the conclusion of its opinion – even though no party had requested sanctions below and the issue on appeal was limited to whether the Bankruptcy Court improperly limited the Debtor’s homestead exemption – the BAP noted that sanctions could be imposed against Mrs. Masingale and her counsel. Citing 11 U.S.C. § 727(a)(4)(B), FRBP 9011, 18 U.S.C. § 152, and courts’ inherent powers, the BAP stated as follows:

We do not condone the conduct of the Masingales and their counsel, and we do not mean to immunize them from all consequences for making a baseless claim of exemption. Improperly claiming exemptions, in the hope that no one will object, is risky at best. As the Court recognized in Taylor, 503 U.S. at 644, bankruptcy courts can impose penalties against parties and attorneys who make assertions that lack any colorable legal basis or who engage in improper or bad-faith conduct.

The BAP reversed the portion of the Bankruptcy Court’s order that limited the amount of the Debtors’ homestead exemption, affirmed the order in all other respects, and – importantly – remanded “so the bankruptcy court may determine how to enforce the exemption and what other remedies, if any, are appropriate.”

AUTHOR’S COMMENTS

1. Analysis of the BAP’s Decision

The Trustee and the State have appealed the BAP’s decision to the Ninth Circuit Court of Appeals and have filed their opening briefs. According to the appellants, Mrs. Masingale’s assertion that the Debtors intended to claim an exemption in “100% of FMV” is inconsistent with other statements made by the Debtors during the case, including in their confirmed plan. The appellants also argue, among other things, that the Supreme Court’s comments in Schwab are dicta and that the Debtors’ homestead exemption is capped at $45,950.

In this author’s view, while the result may seem unfair, the BAP’s decision is consistent with the Bankruptcy Code, the FRBP, and binding Supreme Court precedent. The Supreme Court’s statements in Schwab, that the appellants seek to disregard as dicta, were given in direct response to a policy argument made by the debtor in that case. Unless the Ninth Circuit determines that the Debtors forfeited their “100% of FMV” exemption by making contradictory statements in other filings, the Ninth Circuit should affirm the BAP’s decision.

2. Limited Impact of the BAP’s Decision

Regardless of how the Ninth Circuit rules, the impact of Masingale will be extremely limited. In December 2015, Schedule C was revised to require debtors to either identify the dollar amount of a claimed exemption or check a box for “100% of fair market value, up to any applicable statutory limit.” Thus, the issue in Masingale should not arise in any bankruptcy case filed within the last 7-1/2 years.

3. Scope of the BAP’s Remand and Impact on the Ninth Circuit Appeal

Whether Mrs. Masingale or her former bankruptcy counsel should be sanctioned was not before the Bankruptcy Court or the BAP. The BAP’s discussion of potential sanctions consisted of one paragraph in the opinion’s conclusion. Nevertheless, the BAP remanded the matter to the Bankruptcy Court to “determine . . . what other remedies, if any, are appropriate.” This has resulted in procedural and jurisdictional quandaries.

In a status conference held a week after the BAP decision was issued, the bankruptcy judge stated that “it is clear to me that I was given a directive to consider whether or not sanctions or penalties should be awarded” against Mrs. Masingale and/or her former counsel. To afford due process, the Bankruptcy Court issued an order to show cause why the Debtors’ former counsel should not disgorge all or a portion of the fees it had been paid during the case (about $157,000). Concerned that sanctioning Mrs. Masingale would run afoul of Law v. Siegel, 571 U.S. 415 (2014), the Bankruptcy Court is not considering monetary sanctions against her.

A few weeks later, the Bankruptcy Court entered a preliminary order on its OSC stating that “it would be appropriate to wait until the Ninth Circuit . . . has ruled on [the Trustee’s] appeal of the BAP’s decision.” Based on discussions during hearings, this occurred because the outcome of the appeal may influence the amount of sanctions issued against the Debtors’ former counsel. Further proceedings on the OSC are on hold pending resolution of the Ninth Circuit appeal.

Interestingly, the broad scope of the BAP’s remand may prevent the Ninth Circuit from exercising jurisdiction over the pending appeals. Generally, when a BAP remands to the bankruptcy court with explicit instructions to engage in further fact-finding, the BAP’s order is not immediately appealable to the Ninth Circuit. In re Marino, 949 F.3d 483 (2020); In re Gugliuzza, 852 F.3d 884 (9th Cir. 2017); In re Landmark Fence Co., Inc., 801 F.3d 1099 (9th Cir. 2015). A BAP order is not “final” if it remands for factual determinations on a central issue. Marino, 949 F.3d at 487. Although the sanctions issue was not a central issue in the Bankruptcy Court, the BAP arguably made it one. Whether the broad scope of the issues to be addressed on remand results in dismissal of the pending appeals remains to be seen.

4. Has the Time to Object Actually Expired?

The Trustee and the State have conceded that the time for objecting to the Debtors’ exemption claim expired on December 27, 2015, and that the Trustee cannot still object. Is that correct?

When the Supreme Court decided Taylor in 1992, FRBP 4003(b) required parties to file objections within 30 days after the conclusion of the meeting of creditors unless the period was extended by the bankruptcy court. But FRBP 4003(b) was amended in December 2008. Since then, “[t]he trustee may file an objection to a claim of exemption at any time prior to one year after the closing of the case if the debtor fraudulently asserted the claim of exemption.” Fed. R. Bankr. P. 4003(b)(2) (emphasis added). The Advisory Committee Note explains why: “Extending the deadline for trustees to object to an exemption when the exemption claim has been fraudulently made will permit the court to review and, in proper circumstances, deny improperly claimed exemptions, thereby protecting the legitimate interests of creditors and the bankruptcy estate.” The record in Masingale reflects that the Trustee has never objected to the Debtors’ claimed exemption. Neither the Trustee nor the State has mentioned FRBP 4003(b)(2) in any relevant brief filed in the Bankruptcy Court, the BAP, or the Ninth Circuit.

In 2015, the BAP held that the phrase “fraudulently asserted” should be construed in accordance with the common law definition of fraud and 11 U.S.C. § 523(a)(2), requiring (1) a representation (2) that the debtor knew was false, (3) that the debtor made with intent to deceive, (4) on which the hearer justifiably relied. In re Stijakovich-Santilli, 542 B.R. 245, 255-56 (9th Cir. BAP 2015). After Husky Int’l Elecs. v. Ritz, 578 U.S. 356 (2016), that formulation probably is too narrow. Either way, if a claim of exemption for “100% of FMV” is so egregious as to warrant sanctions and a potential criminal referral for bankruptcy fraud, it should readily satisfy the “fraudulently asserted” standard of FRBP 4003(b)(2). Query, then, whether Mrs. Masingale or her former counsel should suffer sanctions for filing a baseless exemption claim when the Trustee has not exercised (and may at this point be estopped from exercising) his right to object.

These materials were written by former ILC Co-Chair John N. Tedford, IV, of Danning, Gill, Israel & Krasnoff, LLP, in Los Angeles, California (jtedford@DanningGill.com). Editorial contributions were provided by Summer Shaw of Shaw & Hanover, PC in Palm Desert, California.

Best regards,
Insolvency Law Committee

Co-Chair
Aaron E. de Leest
Danning, Gill, Israel & Krasnoff, LLP
adeleest@danninggill.com

Co-Chair
Kit J. Gardner
Law Offices of Kit J. Gardner
kgardner@gardnerlegal.com

Co-Vice Chair
Kathleen A. Cashman-Kramer
Sullivan, Hill, Rez & Engel APLC
cashman-kramer@sullivanhill.com

Co-Vice Chair
Joseph Boufadel
Salvato Boufadel LLP
Jboufadel@salvatoboufadel.com