POST-TWOMBLY/IQBAL -- HOW BANKRUPTCY COURTS APPLY THE NEW PLEADING STANDARD TO PREFERENCE ACTIONS AND OTHER TRUSTEE CAUSES OF ACTION

Transcription

1 POST-TWOMBLY/IQBAL -- HOW BANKRUPTCY COURTS APPLY THE NEW PLEADING STANDARD TO PREFERENCE ACTIONS AND OTHER TRUSTEE CAUSES OF ACTION 37th Annual Southeastern Bankruptcy Law Institute April 14-16, 2011 By: Adam Paul Galia Messika Mark Rasmussen Kirkland & Ellis LLP 300 North LaSalle Street Chicago, IL (312)

2 Nearly four years ago, the U.S. Supreme Court issued a decision in Bell Atlantic Corp. v. Twombly 1 that announced a new pleading standard under Rule 8 of the Federal Rules of Civil Procedure ( Federal Rules ), which applies to matters under the United States Bankruptcy Code pursuant to Rule 7008 of the Federal Rules of Bankruptcy Procedure ( Bankruptcy Rules ). 2 Immediately following the decision in Twombly, bankruptcy courts and bankruptcy practitioners alike struggled to understand the meaning of the new decision. Some of that confusion abated when, two years later, the Supreme Court decided Ashcroft v. Iqbal. 3 But still today, with each new decision, bankruptcy judges continue to clarify the contours of the new pleading standard. This article reviews how bankruptcy courts have applied Twombly and Iqbal to preference actions and other trustee causes of action. It first describes the pleading standard applied by bankruptcy courts prior to Twombly and Iqbal (see Section II, infra); it then reviews the holdings of Twombly and Iqbal (see Section III, infra); following that, it discusses how bankruptcy courts are applying Twombly and Iqbal today (see Section IV, infra); and it concludes by providing practical litigation pointers for counsel, using for purposes of illustration a preferential transfer claim and a constructive fraudulent transfer claim (see Section V, infra). I. THE STANDARD BEFORE TWOMBLY AND IQBAL Under Federal Rule 8(a)(2), a pleading must contain a short and plain statement of the claim showing that the pleader is entitled to relief. Until recently, the leading Supreme Court case interpreting this standard was Conley v. Gibson. 4 In Conley, plaintiffs represented a putative class of minority railroad workers who were allegedly discharged or demoted by their Bell Atlantic Corp. v. Twombly, 550 U.S. 554 (2007). Bankruptcy Rule 7008 provides that Fed. R. Civ. P. 8 applies in adversary proceedings. Ashcroft v. Iqbal, 556 U.S. ---, 129 S. Ct (2009). Conley v. Gibson, 355 U.S. 41 (1957).

3 employer for discriminatory reasons. 5 The plaintiffs sued their union, claiming that the union violated their rights under the Railway Labor Act by not protecting them against discriminatory discharge and demotion and failing to represent them equally with other union members. 6 The U.S. District Court for the Southern District of Texas dismissed the complaint for lack of jurisdiction, and the U.S. Court of Appeals for the Fifth Circuit affirmed on the same ground. 7 The Supreme Court granted certiorari and reversed, holding that the Railway Labor Act did not prevent the federal courts from exercising jurisdiction over the matter. 8 But the Supreme Court s analysis did not end there. The Court also addressed an argument made by the defendants in their motion to dismiss the complaint but not addressed by the lower courts: that the plaintiffs had failed to state a claim upon which relief could be given. 9 In rejecting the defendants argument, the Court, in an opinion by Justice Hugo L. Black, announced the no set of facts rule, which would become the leading standard for evaluating the sufficiency of a pleading on a motion to dismiss: In appraising the sufficiency of the complaint we follow, of course, the accepted rule that a complaint should not be dismissed for failure to state a claim unless it appears beyond doubt that the plaintiff can prove no set of facts in support of his claim which would entitle him to relief. 10 Applying this standard, the Supreme Court held that if the plaintiffs central allegation that the union refused to represent the plaintiffs fairly and without hostile discrimination at at at 44. at 45. at (emphasis added). 2

4 proved true, then the union had breached its statutory duty. 11 Thus, the Court concluded that the plaintiffs had adequately alleged their claim. 12 The Court rejected the defendants argument that the complaint did not include specific facts to support its general allegations of discrimination, holding that the Federal Rules did not require a claimant to set out in detail the facts upon which he bases his claim. 13 To the contrary, the Court held that all that is required is notice pleading i.e., a short and plain statement of the claim that will give the defendant fair notice of what the plaintiff s claim is and the grounds upon which it rests. 14 Following Conley, bankruptcy courts routinely held that dismissal should only be granted where it was clear beyond a doubt from the face of a pleading that no relief could be granted under any set of facts that could be proved consistent with the allegations. 15 Despite this liberal pleading standard (and perhaps in part due to the significant number of lawsuits brought in bankruptcy cases), however, bankruptcy courts often refused to permit legal conclusions, without more, to serve as the sole basis for a complaint, and held that such conclusory allegations are insufficient to allow a complaint to survive a motion to dismiss. 16 Moreover, bankruptcy courts routinely required allegations to be well-pleaded and rejected sweeping and unwarranted averments of fact at 46. at 47. (citing Federal Rule 8(a)(2)). In re Everfresh Beverages, Inc., 238 B.R. 558, (Bankr. S.D.N.Y. 1999); see also In re Heilig-Meyers Co., 297 B.R. 46, 48 (Bankr. E.D. Va. 2003). See, e.g., Kubick v. FDIC (In re Kubick), 171 B.R. 658, 660 (9th Cir. BAP 1994); In re Adelphia Commc ns Corp., 359 B.R. 54, 60 (Bankr. S.D.N.Y. 2006). In re Delta Air Lines, Inc., 386 B.R. 518, 531 (Bankr. S.D.N.Y. 2008) (internal quotations and citations omitted). 3

5 The tension between the lenient standard applied in Conley and the requirement that a complaint be well-pleaded led some bankruptcy courts to apply a more stringent pleading standard when deciding a motion to dismiss. In In re Valley Media, Inc., for example, Judge Walsh, ostensibly applying the notice pleading standard under Conley, dismissed a preference action for failure to allege sufficient factual detail. 18 Judge Walsh held that a well-pleaded preference claim must allege the nature and amount of the debt, as well as identify specific facts concerning the alleged preferential transfer. 19 The majority of bankruptcy courts, however, disagreed with the Valley Media standard, 20 viewing it as a heightened pleading standard for preference complaints that is contrary to the language and intent of Federal Rule In In re Randall s Island Family Golf Centers, Inc., for example, former Chief Judge Bernstein of the Southern District of New York rejected Valley Media as too stringent a standard under Conley, finding that it may have the unintended effect of cutting off valid claims prematurely. 22 Other courts agreed with Judge Bernstein. In In re Webvan Group, Inc., for example, the court ruled that [a]lthough a debtor should provide specific information when available, requiring such information at the pleading stage is a heavy burden given the time constraints for filing preference actions and the condition of the debtor s books and records. 23 Similarly, in In re The IT Group, Inc., the court held that requiring a In re Valley Media, Inc., 288 B.R. 189, 192 (Bankr. D. Del. 2003). ; see also In re TWA Inc. Post Confirmation Estate, 305 B.R. 228, 232 (Bankr. D. Del. 2004). Although most bankruptcy courts did not follow Valley Media, one court recently stated that the decisions by the Supreme Court in Twombly and Iqbal breathe new life into the pleading requirements implemented in Valley Media[.] Angell v. BER Care, Inc. (In re Caremerica, Inc.), 409 B.R. 737, 753 n.2 (Bankr. E.D.N.C. 2009) ( Caremerica I ). In re NM Holdings Co., LLC, 376 B.R. 194, 203 (Bankr. E.D. Mich. 2007). In re Randall s Island Family Golf Centers, Inc., 290 B.R. 55, 65 (Bankr. S.D.N.Y. 2003). In re Webvan Group, Inc., No , 2004 WL , at *2 (Bankr. D. Del. Mar. 9, 2004). 4

6 plaintiff to provide the specific information required by Valley Media in an initial pleading is inappropriate and unnecessarily harsh. 24 Even as federal courts grappled with how much factual detail was sufficient to state a claim under Federal Rule 8, they continued to rely on the longstanding no set of facts rule announced in Conley. Fifty years after Conley was decided, however, the Supreme Court announced a new standard for judging the sufficiency of a pleading in Twombly, 25 making the Conley standard obsolete. II. THE TWOMBLY AND IQBAL DECISIONS In Twombly, plaintiffs represented a putative class consisting of all subscribers of local telephone and high speed internet services against local exchange carriers (ILECs), asserting that the ILECs violated section 1 of the Sherman Act. 26 The U.S. District Court for the Southern District of New York dismissed the complaint as deficient, but the U.S. Court of Appeals for the Second Circuit reversed, holding that the district court measured the complaint by the wrong pleading standard. 27 The Supreme Court granted certiorari to address the proper standard for pleading an antitrust conspiracy claim through allegations of parallel conduct. 28 In deciding that question, the Court analyzed the antecedent question of what a plaintiff must plead in order to state a claim under Federal Rule 8(a)(2), which requires only a short and plain statement of the claim showing that the pleader is entitled to relief. The Court held that plaintiffs need to allege facts plausibly suggesting, and not merely consistent with, the inference that a violation In re The IT Group, Inc., 313 B.R. 370, 373 (Bankr. D. Del. 2004). Twombly, 550 U.S Section 1 of the Sherman Act prohibits every contract, combination in the form of trust or otherwise, or conspiracy in restraint of trade or commerce among the several States, or with foreign nations[.] 15 U.S.C. 1. Twombly, 550 U.S. at at

7 occurred or, in this case, that an agreement to restrain trade, existed. 29 The mere conclusory allegation of an agreement, the Court ruled, will not suffice. 30 The Supreme Court explained that [a]sking for plausible grounds to infer an agreement does not impose a probability requirement at the pleading stage; it simply calls for enough facts to raise a reasonable expectation that discovery will reveal evidence of illegal agreement. 31 The Court further clarified that it does not require a heightened fact pleading of specifics, but only enough facts to state a claim to relief that is plausible on its face. 32 It was evident to the Court that this decision directly conflicted with the Court s own ruling in Conley, which held that a complaint should not be dismissed for failure to state a claim unless it appears beyond doubt that the plaintiff can prove no set of facts in support of his claim which would entitle him to relief. 33 Recognizing that under a literal reading of Conley s no set of facts language, a complaint could survive a motion to dismiss if the pleadings left open the possibility that a plaintiff may later establish some undisclosed facts to support recovery, the Court stated that, after puzzling the profession for 50 years, this famous observation has earned its retirement. 34 As a result, the Court held that plaintiffs were required to allege facts that reasonably support the inference of an agreement, not simply assert the existence of an agreement and hope discovery will later support that factual assertion. The Court then concluded that [b]ecause the plaintiffs here have not at 557. at 556. at 570. Conley, 355 U.S. at Twombly, 550 U.S. at

8 nudged their claims across the line from conceivable to plausible, their complaint must be dismissed. 35 Although the ruling was not explicitly limited to antitrust matters, the Supreme Court in Twombly noted that discovery in the antitrust context is expensive, and that only by requiring allegations that reach the level of suggesting conspiracy can the court hope to avoid unwarranted enormous expense of discovery. 36 These comments lent support to the view that the Twombly decision should not apply outside the antitrust context. 37 The Supreme Court s decision in Ashcroft v. Iqbal, however, put that argument to rest. 38 In Iqbal, Javaid Iqbal, a Pakistani citizen, was arrested and detained by federal officials following the terrorist attacks of September 11, Iqbal pleaded guilty to criminal charges, served prison time, and was removed to Pakistan. 40 Following his removal, Iqbal claimed that he was deprived of various constitutional protections while in federal custody and brought claims against numerous federal officials, including the former Attorney General of the United States, John Ashcroft, and the director of the Federal Bureau of Investigation, Robert Mueller. 41 Petitioners (Messrs. Ashcroft and Mueller) moved to dismiss the suit as insufficient to state a at 570 (emphasis added). at 559. See Kendall W. Hannon, Much Ado About Twombly? A Study on the Impact of Bell Atlantic Corp. v. Twombly on 12(b)(6) Motions, 83 Notre Dame L. Rev. 1811, 1826 (2008) (summarizing view of legal scholars who believed that Twombly might not apply beyond antitrust field based, in part, on the Supreme Court s discussion of discovery costs in antitrust actions). Iqbal, 129 S.Ct at at at

9 claim against them. 42 The U.S. District Court for the Eastern District of New York denied the motion, and the Court of Appeals for the Second Circuit affirmed. 43 The Supreme Court granted certiorari to decide whether plaintiff pleaded factual matter[s] that, if taken as true, state[] a claim that petitioners deprived him of his clearly established constitutional rights. 44 The Court found that Iqbal did not meet this standard. In analyzing the question before it, the Supreme Court reviewed the pleading standard under Federal Rule 8. The Court reiterated its holding in Twombly and emphasized the two working principles that underlie that decision: First, the tenet that a court must accept as true all the allegations contained in a complaint is inapplicable to legal conclusions. 45 As the Court explained, [Federal] Rule 8 does not unlock the doors of discovery for a plaintiff armed with nothing more than conclusions. 46 Second, only a complaint that states a plausible claim for relief survives a motion to dismiss. 47 Determining whether the claim is plausible is a context-specific task that requires the reviewing court to draw on its judicial experience and common sense. 48 Accordingly, the Court proposed a two-pronged approach for analyzing the sufficiency of pleadings: (i) the reviewing court should identify pleadings that, because they are no more than conclusions, are not entitled to the assumption of the truth; and (ii) with respect to at at at at

10 the remaining well-pleaded factual allegations (if any), the reviewing court should assume their veracity and then determine whether they plausibly give rise to an entitlement to relief. 49 The Supreme Court rejected Iqbal s argument that the decision in Twombly was limited to pleadings made in the antitrust context. As the Court explained, the decision in Twombly expounded the pleading standard for all civil actions, and it applies to antitrust and discrimination suits alike. 50 The Court further rejected the argument that Federal Rule 9, which allows a plaintiff to allege intent generally, somehow undermines the requirements of Federal Rule 8 for well-pleaded factual allegations. 51 As the Court clarified, [Federal] Rule 9 merely excuses a party from pleading [] intent under an elevated standard. It does not give him license to evade the less rigid through still operative strictures of [Federal] Rule III. APPLICATION OF THE TWOMBLY AND IQBAL STANDARD BY BANKRUPTCY COURTS A. Bankruptcy Courts Follow the Higher Pleading Standard Announced in the Twombly and Iqbal Decisions. Without question, the pleading standard announced in Twombly and Iqbal applies to claims filed in the bankruptcy context, and bankruptcy courts have welcomed the application of such a heightened standard to causes of action brought in bankruptcy cases. 53 Numerous decisions by bankruptcy courts have considered the sufficiency of a variety of causes of action under the Twombly and Iqbal standard. While bankruptcy courts continue to define the contours of this new standard, it is clear that they consider it to be more exacting for plaintiffs to meet than the old Conley standard. As recognized by one Southern District of Florida court, at 1953 (citing Federal Rule 1). at In re Old CarCo LLC, 435 B.R. 169, 177 (Bankr. S.D.N.Y. 2010). 9

11 [h]owever inconvenient it may be for a plaintiff, it is apparent that [since Twombly and Iqbal] the jurisprudential landscape regarding the adequacy of complaints in civil cases has changed. 54 B. The Two-Pronged Analysis Applied by Bankruptcy Courts. Bankruptcy courts that have analyzed in some detail the Twombly and Iqbal standard seem to follow closely the two-pronged approach outlined in Iqbal. This two-pronged analysis is extremely helpful when evaluating the sufficiency of a complaint. In the oft-cited Caremerica I decision that is discussed in more detail below, for example, Judge Leonard of the Eastern District of North Carolina used the two-pronged test to analyze a preference claim under section 547 of the Bankruptcy Code. 55 For each element of the claim, the court first set aside the legal conclusions that lacked any factual support and then reviewed the remaining allegations to determine whether they plausibly supported the alleged claim. 56 Using this analytical framework, the court concluded that the complaint failed to sufficiently plead factual support for several of the elements of a preference claim under section 547 and dismissed the complaint. 57 Numerous other bankruptcy courts have hewn closely to this two-pronged analysis. In In re KCMVNO, Inc., for example, Judge Shannon of the District of Delaware cited Fowler v. UPMC Shadyside, a leading Third Circuit decision that interprets Twombly and Iqbal, for the proposition that a court should first separate the factual and legal elements of a claim, accepting the facts and disregarding the legal conclusions, and second, determine whether the remaining In re Levitt and Sons, No , 2010 WL , at *2 (Bankr. S.D. Fla. Apr. 16, 2010). Caremerica I, 409 B.R. at 750. at (finding that trustee had failed to plead sufficient facts to show (i) that there was a transfer of an interest of the debtor in the property because there was no indication of what entity initiated the transfer, (ii) that a transfer occurred on account of an antecedent debt because the trustee failed to identify the nature and amount of the antecedent debt, or (iii) that a transfer was made while the debtor was insolvent because the trustee only allege in a conclusory way that the debtor was insolvent). 10

12 well-pled facts sufficiently show that the plaintiff has a plausible claim for relief. 58 Following this approach, Judge Shannon dismissed claims for avoidance of alleged preferential transfers because the complaint relied on bare legal conclusions and facts that did not show that the recipient of the transfers was an insider of the debtor. 59 Similarly, in In re Tronox Inc., Judge Gropper explained that Iqbal requires a two-step approach in deciding whether a complaint contains sufficient plausible factual allegations to withstand a motion to dismiss for failure to state a claim. 60 In keeping with this approach, Judge Gropper first found that the plaintiffs allegations were not legal conclusions that could be disregarded. 61 He then analyzed the factual assertions and, while recognizing that some of them will be hotly contested, he concluded that they were wholly plausible if taken as true, as they must be. 62 C. What Constitutes a Plausible Claim? The Supreme Court s decisions in Twombly and Iqbal have forced bankruptcy courts to grapple with the issue of what constitutes a plausible claim. Such analysis is context-specific and is decided on a case-by-case basis. Bankruptcy courts dealing with this issue have assessed the underlying facts asserted to determine whether such facts could give rise to a plausible claim. In In re Aphton Corp., for example, the trustee brought an adversary proceeding to avoid certain pre-petition transfers made in connection with (i) the debtor s redemption of a debenture for $3 million (the Redemption Payment ) and (ii) the surrender of notes held by certain creditors in exchange for a lump-sum payment of $3 million and the issuance of preferred and common In re KCMVNO, Inc., No , 2010 WL , at *2 (Bankr. D. Del. Oct. 15, 2010) (citing Fowler v. UPMC Shadyside, 578 F.3d 203, 210 (3d Cir. 2009)). at *5. In re Tronox, Inc., 429 B.R. 73, 90 (Bankr. S.D.N.Y. 2010). at

13 stock (the Exchange Payment ). 63 After first dismissing alleged violations of state law as blanket assertions that did not even state the grounds upon which the claims rested, 64 Judge Sontchi next considered whether the Redemption Payment and the Exchange Payment were avoidable as constructive fraudulent transfers under section 548 of the Bankruptcy Code. Judge Sontchi found that the complaint contained detailed allegations sufficient to satisfy Federal Rule 9(b) because the complaint alleged (i) when each payment was made, (ii) the amount of each payment, and (iii) that the debtor received less than fair value in exchange for each payment. 65 Nevertheless, Judge Sontchi found that the claim concerning the Redemption Payment was not facially plausible. In so doing, Judge Sontchi looked past the allegations in the complaint and focused on the documents attached thereto. Finding that the documents contradicted the allegations set forth in the complaint, Judge Sontchi held that he could not draw the reasonable inference that the defendant [was] liable for the misconduct alleged. 66 In contrast, the allegations concerning the Exchange Payment were not contradicted by the documents attached to the complaint and, therefore, were facially plausible. 67 Notably, Judge Sontchi also rejected the argument that the Exchange Payment was not fraudulent because it was made in satisfaction of an antecedent debt, holding that, in the context of a motion to dismiss, a court may only consider whether the Complaint is facially plausible, and cannot consider possible defenses to the allegations in the Complaint In re Aphton Corp., 423 B.R. 76, (Bankr. D. Del. 2010). at at 88. at (citing Iqbal, 129 S. Ct. at 1949). at

14 Similarly, in In re Brandon Overseas, Inc., the bankruptcy trustee initiated an adversary proceeding to avoid and recover alleged fraudulent transfers made by the debtor to the Internal Revenue Service. 69 The trustee alleged that the transfers were made to satisfy the individual tax liabilities of the debtor s principal and that the transfers were part of the principal s pattern of looting the debtor. 70 In moving to dismiss the complaint, the IRS argued that the transfers that were allegedly consistent with looting were also equally consistent with compensation paid by the debtor for services rendered by the principal to the debtor. 71 The court, however, refused to evaluate which of these two competing theories was more likely; instead, it reserved for trial the factual dispute over the possibility that the transfers were part of a legitimate compensation agreement rather than the alleged looting. 72 This approach is consistent with the guidance provided in Twombly that the plausibility standard does not impose a probability requirement at the pleading stage[.] 73 Rather, it simply calls for enough fact to raise a reasonable expectation that discovery will reveal evidence of the alleged claim. 74 In Tronox, Judge Gropper faced a similar situation where the defendants argued that the collapse of the financial markets in 2008 was a more plausible explanation for the debtor s bankruptcy filing than any of the allegations of wrongdoing in the complaint. 75 Citing Iqbal and Twombly, Judge Gropper held that it is quite irrelevant whether Defendants scenario has greater plausibility, as Defendants assert, because [t]he relative strength of the parties In re Brandon Overseas, Inc., No , 2010 WL , at *1 (Bankr. S.D. Fla. July 16, 2010). at *6. at *6-7. Twombly, 550 U.S. at 556. Tronox, 429 B.R. at

15 explanations is not a question to be decided at the pleading stage unless the plaintiff s version is so remote as to be implausible. 76 D. The Particulars Necessary to Support a Plausible Claim. A review of the bankruptcy decisions analyzing Twombly and Iqbal reveals that bankruptcy courts have raised the bar with respect to the pleading standard, requiring plaintiffs to allege more particular facts in order to support a plausible claim to survive a motion to dismiss. As discussed in the next section below, the Caremerica line of cases analyzed the particular facts required to support a plausible claim under section 547 of the Bankruptcy Code and placed a higher burden on a trustee or debtor in possession seeking to assert such claims. Other cases have also focused on the particulars required to assert fraudulent transfer claims at the pleading stage. Chief Judge Gonzalez of the Bankruptcy Court for the Southern District of New York, for example, focused his analysis in two cases on what a plaintiff must allege to support the contention that the debtor did not receive fair consideration under a constructive fraudulent transfer claim. In In re Saba Enterprises., Inc., the alleged consideration for the transfer was the cancellation of certain debts owed by the debtor and its subsidiaries. 77 Even though the trustee could not state precisely the value of such debts or the transferred assets, Judge Gonzalez nevertheless concluded that the trustee had stated a plausible claim for constructive fraudulent transfer because the complaint contained sufficient facts showing that the transferred assets were valued in the hundreds of millions of dollars whereas the consideration received was at most nominal In re Saba Enters., Inc., 421 B.R. 626, 632 (Bankr. S.D.N.Y. 2009). at

16 Judge Gonzalez reached a different conclusion in In re Hydrogen, L.L.C., where a committee of unsecured creditors sued to avoid pre-petition transfers of compensation, including bonuses, paid to certain insiders of the debtor. 79 The committee alleged that bonus payments in the aggregate amount of approximately $410,000 had been made to six insiders and attached to the complaint a schedule listing the amount of each bonus and the identity of each recipient of each payment. 80 In analyzing the constructive fraud claim, Judge Gonzalez focused on the sufficiency of the allegations that the debtor received less than equivalent value in exchange for the alleged transfers. 81 Apart from what Judge Gonzalez deemed to be a formulaic recitation of the elements of the constructive fraud claim, there was a complete absence of facts supporting the allegation that the debtor did not receive fair consideration for the bonus and salary payments; thus, the claim was dismissed. 82 When read together, these two decisions by Judge Gonzalez confirm that it is not enough for a plaintiff bringing a fraudulent transfer claim under section 548 of the Bankruptcy Code to allege solely the value of the asset that was transferred; rather, sufficient facts about the value of the consideration received must also be alleged so the court can evaluate whether the claim plausibly states that fair value for the transfer was not received. Of course, as Saba Enterprises teaches, a large disparity between the alleged value of the asset transferred and the consideration received may allow a court to find plausibility and more readily deny a motion to dismiss In re Hydrogen, L.L.C., 431 B.R. 337, 343 (Bankr. S.D.N.Y. 2010). at In addition, the complaint alleged that a variety of payments in the form of salary, benefits, stock, and payment of expenses each in unspecified amounts were made to the insiders. at at 353. The committee s attempt to avoid the transfers as preferences under section 547 of the Bankruptcy Code was likewise unsuccessful. Judge Gonzalez found that the complaint failed to allege that any transfer had been made for a specific and identifiable antecedent debt owed by the debtor or enough facts about the timing of the transfers. at

17 Similarly, in Levitt and Sons, the administrator of a confirmed plan of reorganization alleged that preferential and fraudulent transfers had been made on behalf of the debtors to KeyBank, N.A. 83 According to the complaint, a number of the debtors had become jointly and severally liable for the obligations of the other debtors. 84 The complaint did not, however, specify which entities were the sources of the funds that were allegedly transferred to KeyBank. 85 Judge Ray of the Southern District of Florida held that the administrator s failure to adequately distinguish identity with respect to various obligors, guarantors, and transferors allegedly involved in the transactions with KeyBank [was] fatal to the claim. 86 In reaching this conclusion, Judge Ray explicitly adopted the reasoning of Caremerica I, which is discussed in more detail below. 87 IV. LITIGATION PRACTICE POINTERS This section attempts to provide both defendants and plaintiffs counsel with practical litigation pointers. For purposes of illustration, two common bankruptcy claims are analyzed. First, this section focuses on the Caremerica cases, 88 which provide an extremely useful framework for analyzing a preference transfer claim under the new pleading standard in Twombly and Iqbal. Second, this section includes a brief discussion of the pleading requirements to bring a constructive fraudulent transfer claim under the Twombly and Iqbal standard In re Levitt and Sons, LLC, No , 2010 WL , *1 (Bankr. S.D. Fla. Apr. 16, 2010). at *2. Caremerica I, 409 B.R. 737 (Bankr. E.D.N.C. 2009); Angell v. BER Care Inc., , 2009 WL (Bankr. E.D.N.C. July 28, 2009). 16

18 A. Drafting a Complaint and Defending a Motion to Dismiss General Overview. As the cases discussed above demonstrate, following Twombly and Iqbal, it is no longer sufficient merely to identify and assert the existence of the elements of a preference claim although it is necessary to do so. In order to state a claim, plaintiffs must assert sufficient facts that support a reasonable inference that those elements exist in the specific case. Those facts are context-specific and are determined to a large extent on the court s interpretation of the underlying legal claim. When drafting a complaint, plaintiffs counsel should: (i) identify the elements of the claim; (ii) research the specific area of the law in the applicable jurisdiction to determine any facts required to give rise to a plausible claim (for example, how a particular jurisdiction defines insider ); and (iii) assert specific facts that support a reasonable inference that the claim s elements are met. Of course, even before the holdings in Twombly and Iqbal, this was good advice for a potential litigant when drafting a complaint. Now, however, it has become critical that plaintiffs counsel perform such an analysis and carefully draft the complaint taking into account the standard enunciated by Twombly and Iqbal. In addition, when faced with a motion to dismiss, plaintiff s counsel should seek leave to re-plead. 89 Indeed, where requested, 89 It is important for plaintiffs counsel to review the specific rules in the jurisdiction for requesting leave to re-plead. In the Third Circuit, for example, courts require a plaintiff to file a draft amended complaint along with such request. See, e.g., Fletcher-Harlee Corp. v. Pote Concrete Contractors, Inc., 482 F.3d 247, 252 (3d Cir. 2007) ( Standing in tension with the long-standing amendment rule is our longer-standing rule that, to request leave to amend a complaint, the plaintiff must submit a draft amended complaint to the court so that it can determine whether amendment would be futile. Indeed, we have held that a failure to submit a draft amended complaint is fatal to a request for leave to amend[.] Thus, we held that a district court need not worry about amendment when the plaintiff does not properly request it. ); see also Burtch v. Milberg Factors, Inc., No , 2009 WL , at *3 (D. Del. May 31, 2009) (denying plaintiff s request for leave to amend because Plaintiff has still not provided the Court with a draft Amended Complaint or with specific information concerning what the new averments would show, despite the fact that Plaintiff has acknowledged that this more detailed information is within his knowledge and control. ). 17

19 courts in many jurisdictions have provided plaintiffs with an opportunity to re-plead their claim, 90 unless such repleading would be futile. 91 Because bankruptcy courts have required more detailed facts to support plausible claims, commentators have suggested that litigants in bankruptcy matters use the unique and powerful pre-litigation discovery tool of Bankruptcy Rule 2004 to obtain the necessary facts to make such claim. 92 Indeed, the Caremerica I court rejected the argument that trustees should not be subject to the heightened pleading standard specifically because [i]f these [other] claimants were held to a heightened pleading standard, so too can a trustee in bankruptcy. After all, the trustee has the full discovery powers of the court through [Bankruptcy Rule] 2004 exams. 93 While not within the scope of this article, it should be noted that the powers granted under Bankruptcy Rule 2004 to conduct pre-litigation discovery (i) are extremely broad, (ii) cover matters that are relevant to the debtor, the case, or the formulation of a plan, and (iii) may be used by various parties in interest, and not only the debtor or the trustee. 94 Thus, the successful use of Bankruptcy Rule 2004 may allow a potential litigant to increase the chance that its complaint will meet the pleading standard of Twombly and Iqbal. B. Asserting a Preferential Transfer Claim. To illustrate the level of detail now required by bankruptcy courts, outlined below are the facts that a plaintiff would likely need to assert in order to state a claim for the avoidance of See, e.g., In re Jamuna Real Estate, LLC, 416 B.R. 412 (Bankr. E.D. Pa. 2009); Tronox, 429 B.R. 73. Lucent v. IBM Corp., 310 F.3d 243, 258 (2d Cir. 2002) (explaining that an amendment to a pleading is futile if the proposed claim could not withstand a motion to dismiss pursuant to [Federal Rule] 12(b)(6) ). See., e.g., R.J. Keach, Rule 2004 as a Pre-Litigation Tool in a Post-Twombly/Iqbal World: Part I, ABI J. (Oct. 2010). Caremerica I, 409 B.R. at 754. Bankruptcy Rule

20 preferential transfers under section 547 of the Bankruptcy Code. The analysis of such facts is based upon the various elements of the claim, which is the approach suggested by many courts, and it certainly does not represent a definitive list of facts that will defeat a motion to dismiss in every case. As previously noted, the analysis below is based on the Caremerica cases, and while courts vary in the requirements they impose in order to state a claim, 95 the standard enunciated in those cases seems to provide a useful framework for ensuring plaintiffs meet the requirements of Federal Rule 8 after Twombly and Iqbal (and for defendants to determine whether plaintiffs have carried their initial burden). In order to assert a plausible claim of preferential transfer under section 547 of the Bankruptcy Code, a plaintiff should allege the following facts: (i) Transfer of an interest of the debtor in property. To meet this requirement, a plaintiff should allege facts that support a reasonable inference that the property transferred originated with the debtor. A conclusory statement that the money/property originated with the debtor will not suffice. 96 To state a claim, plaintiffs are advised to identify amounts of money (or property) transferred, dates of each such transfer, and the entity that initiated each transfer. 97 Providing some, but not all, of these items has been deemed inadequate. 98 (ii) To or for the benefit of a creditor. To satisfy this element, plaintiffs are advised to identify the transferees as creditors of the debtor, in addition to the dates and amounts or property transferred Some bankruptcy courts have suggested that the Caremerica standard is higher than that required by Twombly/Iqbal decisions. See, e.g., In re TOUSA, Inc., No , 2010 WL , at *2 (Bankr. S.D. Fla., Dec. 27, 2010) ( I am confident that my colleagues in this district do not follow Caremerica s heightened pleading interpretation in toto. ). See, e.g., Caremerica I, 409 B.R. at 750. at

21 (iii) For or on account of an antecedent debt. To satisfy this element, plaintiffs should assert the nature and amount of the antecedent debt. 99 A conclusory statement that the transfers were made for or on account of an antecedent debt owed by the transferor to the debtor before the transfer was made is insufficient. 100 (iv) Made while the Debtor was insolvent (within 90 days of filing or between 90 days and a year prior to the petition date if the transfer was to an insider). The Bankruptcy Code provides that the trustee may presume a debtor to be insolvent within the 90-day period immediately preceding the bankruptcy filing. 101 When dealing with a transfer to an insider that occurred prior to the 90-days but within a year prior to the bankruptcy filing, however, that presumption is inapplicable. 102 Instead, the trustee must alleged facts sufficient to show that such insolvency is plausible. 103 Conclusory assertions such as the transfers were made while the debtor was insolvent will be disregarded. 104 Likewise, the mere labeling of transferees as insiders is not enough to establish a reasonable inference of insider status. 105 The trustee or debtor in possession needs to allege both particular facts that establish a reasonable inference that the debtor was insolvent and facts forming the basis for asserting that a defendant qualifies as an insider, as well as facts showing that the alleged insider relationship is plausible at U.S.C. 547(f). See, e.g., Caremerica I, 409 B.R. at

22 (v) Enabled creditor to receive more than it would under Chapter 7. To satisfy this element, the trustee should allege facts showing that it is plausible that creditors would receive less than 100% payment in liquidation. A schedule summarizing liabilities in an amount greater than assets has been deemed sufficient. 107 C. Asserting a Constructive Fraudulent Transfer Claim. Another bankruptcy claim that is frequently analyzed by courts under the Twombly and Iqbal standard is a claim for constructive fraudulent transfer under section 548(a)(1)(B) of the Bankruptcy Code. Although the claim sounds in fraud, unlike a claim of actual fraudulent transfer under section 548(a)(1)(A) of the Bankruptcy Code, a claim of constructive fraudulent transfer does not require a plaintiff to satisfy the heightened pleading requirement under Federal Rule 9(b) because such claims are not based on actual fraud but instead rely on the debtor s financial condition and the sufficiency of the consideration. 108 Outlined below are the factual allegations that may be required to support a claim of constructive fraudulent transfer. This analysis is based on a review of the various elements of the claim by a number of recent bankruptcy court decisions and may provide a useful guide for a bankruptcy practitioner. In order to assert a plausible claim of constructive fraudulent transfer under section 548 of the Bankruptcy Code, a plaintiff should allege the following facts: 109 (i) Transfer of an interest of the debtor in the property. Like the claim for preferential transfer, to meet this requirement, a plaintiff should allege facts that support a at 754. at 755; accord Saba Enters., 421 B.R. at See 11 U.S.C. 548 (a)(1)(b). 21

23 reasonable inference that the property transferred originated with the debtor. It is important to identify the amount of the transfer and the entity that initiated the transfer. 110 (ii) Within two years of the date of the filing of the bankruptcy petition. To satisfy this requirement, the complaint should include the date that the transfer occurred. 111 (iii) Received less than reasonably equivalent value in exchange for the transfer. To satisfy this element, a plaintiff should not only plead the value of the property transferred, but must also plead sufficient facts to show the amount of the value received in return. As noted above, it has been held that a failure to plead facts supporting the allegation that the debtor did not receive fair consideration for the transfer requires dismissal of the claim. 112 (iv) Debtor was insolvent on the day the transfer was made or became insolvent as a result of the transfer. 113 To meet this requirement, a plaintiff should plead facts sufficient to show that the debtor was insolvent on the day the transfer was made or became insolvent as a result of the transfer. A plaintiff is advised to plead facts showing that, at the time of the transfer or shortly thereafter, the debtor s assets were exceeded by its debts. 114 V. CONCLUSION The decisions of the Supreme Court in Twombly and Iqbal dispensed with the longstanding no set of facts rule of liberal pleading under Conley. With each new decision, 110 See, e.g., Caremerica I, 409 B.R. at See, e.g., Saba Enters., 421 B.R. at See, e.g., Hydrogen, L.L.C., 431 B.R. at In lieu of this element, the Bankruptcy Code allows a plaintiff to plead one of three other elements, including: (i) that debtor was engaged in (or was about to engage in) business for which the amount of property remaining with the debtor was an unreasonably small capital; (ii) that the debtor intended to incur debts that were beyond its ability to pay; or (iii) that the debtor made the transfer for the benefit of an insider, under an employment contract, and not in the ordinary course of business. 11 U.S.C. 548 (a)(1)(b)(ii). 114 See, e.g., Saba Enters., 421 B.R. at

24 bankruptcy courts continue to define the contours of the new plausibility standard of pleading and how to apply it to various bankruptcy causes of action. As this process unfolds, bankruptcy practitioners are well-advised to carefully scrutinize each element of a cause of action, research the particular requirements of the claim in the applicable jurisdiction, and analyze whether sufficient facts have been alleged for a court in the relevant jurisdiction to conclude that the asserted claim is plausible on its face. 23