Picard v. Ida Fishman Revocable Trust (In re Bernard L. Madoff Inv. Sec. LLC), 2014 WL , bk, (2d Cir. Dec. 8, 2014)

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1 Bankruptcy Circuit Update Featuring cases from December 2014 First Circuit Wheeling & Lake Erie Railway Co., v. Keach, et. al (In re Montreal, Maine & Atlantic Railway, LTD.), BAP EB , 2014 WL (1 st Circuit B.A.P., Dec. 9, 2014) The Bankruptcy Appellate Panel for the First Circuit ("BAP") affirmed the Bankruptcy Court's determination that the Appellant did not have a valid, enforceable and perfected security interest in the debtor's business interruption insurance policy or its proceeds. Debtor tried to settle with its insurance company on certain claims to which the Appellant objected to the discounted settlement payment, asserting it held a perfected security interest in the insurance proceeds. Appellant was a pre-petition lender with a secured interest in certain of the debtor's assets. The applicable security agreement provided that Maine law controlled. Appellant argued that it held a security interest in the debtor's accounts and the debtor's payment intangibles as perfected by its UCC-1 financing statement. Unfortunately, the settlement payment emanating from the insurance company did not fall within the definition of "accounts" or "payment intangibles under Article 9 of Maine's Uniform Commercial Code. Thus, under the applicable Maine common law, a pledge of an interest in the insurance policy required that the Appellant physically hold the policy, which it did not do. As such, the Appellant failed to perfect its security interest and was not entitled to assert a security interest in the insurance proceeds at issue. PATRICIA S. GARDNER, ESQ. Senior Counsel, Legal Advice & Referral Center The Foreclosure Relief Project 15 Green Street Concord, NH Phone: , ext pgardner@larcnh.org Second Circuit Picard v. Ida Fishman Revocable Trust (In re Bernard L. Madoff Inv. Sec. LLC), 2014 WL , bk, (2d Cir. Dec. 8, 2014) The Second Circuit, affirming the district court's decision, held that payments made from Bernard L. Madoff Investment Securities LLC ( BLMIS ) to its customers were shielded by section 546(e) of the Bankruptcy Code and therefore not subject to avoidance under theories of constructive fraudulent transfer.

2 Bernard L. Madoff, through BLMIS, orchestrated a massive Ponzi scheme that ultimately collapsed. Subsequently, Irving Picard was appointed trustee for BLMIS pursuant to the Securities Investor Protection Act. Picard, under theories of both actual and constructive fraudulent transfer, attempted to clawback money paid to hundreds of BLMIS investors who withdrew more from their accounts than they had invested. Defendants moved to dismiss the constructive fraudulent transfer claims, arguing that such transfers were shielded by 546(e) as payments made in connection with a securities contract and as settlement payments. 546(d) is expressly inapplicable to actual fraudulent transfer claims. The trustee argued that 546(e) should not apply because (1) no securities transactions actually took place (2) the transfers were not made in connection with a securities contract and were not settlement payments as those terms are defined in section 741 of the Bankruptcy Code and (3) permitting the application of 546(e) would give legal effect to Madoff s fraud. The Second Circuit rejected these arguments, noting the expansive definition of securities contract under the Bankruptcy Code, which includes agreements that are similar or related to contracts for the purchase or sale of securities and that 546(e) broadens this further as it protects transfers in connection with a securities contract. The Court further noted that 741 and 546(e) do not contain a purchase or sale requirement and thus, whether or not BLMIS actually transacted in securities is not determinative. The Court also rejected the trustee s policy arguments, again relying on the broad scope of 546(e). Accordingly, the Second Circuit held that the transfers were made in connection with a securities contract and, in the alternative, were settlement payments. Elliot A. Ross Skadden, Arps, Slate, Meagher & Flom LLP Four Times Square New York T: F: elliot.ross@skadden.com Third Circuit Microbilt Corp. v. Chex Sys., Inc. (In re Microbilt Corp.) 2014 WL (3d Cir. Dec. 10, 2014) The Third Circuit affirmed the decisions of the New Jersey Bankruptcy and District Courts compelling arbitration of certain counts of an adversary proceeding and granting summary judgment in favor of the defendants on the remaining counts. The debtor commenced an adversary proceeding against various defendants seeking damages for allegedly tortious interference and for violations of the Florida Uniform Trade Secrets Act ( FUTSA ). The Bankruptcy and District Courts held that Florida s absolute litigation privilege insulated the defendants from any liability for disclosing trade secrets of the debtor in a complaint filed with the Middle District of Florida. The Third Circuit agreed with the lower courts, finding that

3 Florida s litigation privilege is absolute and applied to the defendants statements in their court pleadings. Finally, the Third Circuit upheld the enforcement of what it considered to be a straight forward and unambiguous arbitration clause contained in a contract between the parties. In re Stephan 2014 WL (3d Cir. Dec. 11, 2014) The Third Circuit affirmed the decisions of the New Jersey Bankruptcy and District Courts denying the debtor s motion to reclassify a proof of claim filed by Wells Fargo. The debtor filed for relief under chapter 13. Wells Fargo held two secured mortgages on the debtor s home, but the amount owed on the first mortgage exceeded the value of the property. The Bankruptcy Court therefore reclassified Wells Fargo s second mortgage to an allowed unsecured claim pursuant to Bankruptcy Code section 506(a). The debtor argued on appeal that the entirety of the second mortgage claim is unenforceable because under New Jersey law Wells Fargo was required to commence a foreclosure action before it could collect any deficiency on its note. According to the debtor, because Wells Fargo failed to institute such action the claim is unenforceable as a matter of New Jersey state law. The Third Circuit disagreed because adopting the debtor s reasoning would turn the automatic stay into a device that eliminates all contingent claims in a bankruptcy setting. Justin R. Alberto, Esquire BAYARD Phone: (302) jalberto@bayardlaw.com Fourth Circuit Wolff v. United States of Am. Internal Revenue Serv. (In re Firstpay, Inc.), No , 2014 WL (4th Cir. Dec. 12, 2014): On December 12, 2014, the Fourth Circuit affirmed the decisions of the bankruptcy and district courts, which held that, under 547 and 550, a chapter 7 trustee was not entitled to recover from the IRS approximately $28 million transferred within the 90 days before the petition date. FirstPay, the debtor, provided payroll services to various businesses whereby it would withdraw funds from clients checking accounts to pay various taxes on behalf of the clients. FirstPay, however, also transferred numerous funds fraudulently for its own use and benefit. Creditors ultimately filed an involuntary chapter 7 petition against FirstPay. The Fourth Circuit decided the discreet issue of whether the trustee may reclaim as property of the debtor the $28 million transferred by the debtor to the IRS within 90 days prior to the petition date. By analyzing Maryland law on express and other forms of trusts, the Fourth

4 Circuit held that the debtors had only bare legal title, under 541(d), to the clients funds transferred to the IRS. In short, the chapter 7 trustee s 547(b) claim failed because the trustee may only avoid a transfer of an interest of the debtor in property. 11 U.S.C. 547(b). The funds transferred were trust funds in which the debtor held no equitable interest. Submitted By: Jed K. Donaldson Spotts Fain 411 E. Franklin Street, Suite 600 Richmond, VA Phone: (804) jdonaldson@spottsfain.com Seventh Circuit In re Phillip Ruben, 2014 WL , No (7th Cir. Dec. 23, 2014) On December 23, 2014, the Seventh Circuit Court of Appeals affirmed the decision of the district court, holding that the post-discharge assessment of fees in connection with an arbitration agreed to prior to the debtor s filing bankruptcy was not considered a pre-petition claim. Specifically, in 2008 a trustee sued various attorneys for mismanagement of a trust. The defendants asked to arbitrate the claims, and the trustee agreed. Before the trustee could initiate the arbitration, however, one of the attorneys Ruben -- filed for bankruptcy under Chapter 7. The bankruptcy court discharged Ruben s other debts, but not the claim for mismanagement, which was based on allegations of fraud. The trustee eventually settled all claims other than the fraud-based claims against Ruben, which went to hearing before the arbitration panel. After the hearing, the panel declined to award the trustee actual damages on the ground that her damages proven to be attributable to the actions of [Ruben] have been compensated by virtue of the other settlements, but nonetheless ordered Ruben to pay the trustee s administrative expenses and the expenses of the American Arbitration Association totaling $171,504.54, over 85% of which was compensation for the arbitrators themselves. Ruben sought to have the fee award set aside pursuant to Section 727(b) of the Bankruptcy Code on the grounds that, because the fees arose out of the arbitration, and the arbitration had been agreed to prior to the bankruptcy filing, the fee award should be considered a pre-petition claim. The Seventh Circuit disagreed, noting that Ruben volunteered to participate in the arbitration rather than have the trustee s claims against him heard by the court, which would never have assessed its own salary to any party, and that [a]llowing the debtor to discharge attorney s fees incurred in the post-petition pursuit of dubious claims might invite egregious abuses. Michael R. Cedillos Associate Greenberg Traurig, LLP 77 West Wacker Drive Suite 3100 Chicago, IL 60601

5 Tel Eighth Circuit Starion Financial v. McCormick (In re McCormick), 2014 WL (8th Cir. BAP Dec. 24, 2014): In this matter, Starion Financial ( Starion ) appealed from the Bankruptcy Court s order denying its motion to compel payment of attorney s fees under the confirmed plan of reorganization and 11 U.S.C. 506(b). Prior to the debtors bankruptcy, Starion and the Debtors had entered into a series of loan transactions. As a result of the Debtors default on their loan obligations they consented to judgment entered against them, based on two confessions of judgment, in order to secure their personal guarantees on the loans. Subsequently the bankruptcy case was filed. The Debtor s plan provided that Starion, as an oversecured creditor, would be allowed to seek attorney s fees. When Starion made a motion for fees the Debtors objected and moved that the Bankruptcy Court disallow the requested fees. The Bankruptcy Court granted debtor s motion. Starion then appealed. The Bankruptcy Court analyzed the request for attorney s fees under 11 U.S.C. 506(b). Section 506(b) allows a creditor holding an allowed secured claim, secured by property that exceeds the value of the claim, to recover reasonable attorney s fees that are provided for by the agreement or statute giving rise to the claim. The Bankruptcy Court disallowed the request for attorney s fees, ruling that the agreements giving rise to the claim were the confessions of judgment filed prior to the bankruptcy, which did not contain an entitlement to attorney fees. The BAP reversed the Bankruptcy Court s ruling. In doing so, the BAP held that the Bankruptcy Court erred in focusing on the confessions of judgment. The BAP noted, that a claim under the bankruptcy code is a right to payment whether reduced to judgment or not. Therefore, in this case the agreements giving rise to the claim were the loan agreements under which the transactions were made, which did contain appropriate attorney fee provisions. Matthew S. Sepuya Diamond McCarthy 105 California Street, Suite 2200 San Francisco, CA msepuya@diamondmccarthy.com

6 11 th Circuit Ghee v. Dept. of Human Resources (In re Ghee), WL (11th Cir. Dec. 23, 2014) Ghee filed for Chapter 7 bankruptcy in April of 2003 and received his discharge in August of Ghee listed on his schedules a debt for accrued interest on his child-support owed to the Alabama Department of Human Resources ( ADHR ). Subsequently, ADHR obtained a judgment for the unpaid interest and began collection efforts. Ghee filed an adversary proceeding arguing that the judgment violated the discharge injunction. The bankruptcy court granted summary judgment for ADHR and abstained from determining the amount of childsupport interest that Ghee owed under Alabama law, which the district court affirmed. The Eleventh Circuit affirmed that the pre-petition interest owed on child-support arrearage was not discharged by the bankruptcy court s August 2003 discharge order, as pre-petition child-support interest is part of a non-dischargeable child-support obligation under 11 U.S.C. 523(a)(5). Thus, ADHR s collection efforts did not violate 11 U.S.C. 524's discharge injunction. La Paz at Boca Pointe Phase II Condominium Association, Inc. v. Bandy, 2014 WL (S.D. Fla. Dec. 8, 2014) A creditor holding liens secured by Chapter 7 debtor's condominium moved for stay relief to pursue a foreclosure sale. Shortly thereafter, the debtor filed a motion to value the property and strip off the creditor s lien. While the motions were pending, the Chapter 7 trustee filed a notice of abandonment that indicated that the property at issue was abandoned and no longer part of the bankruptcy estate. Nonetheless, the bankruptcy court held that it retained jurisdiction over the real property and granted the debtor s motion pursuant to the Eleventh Circuit s ruling in McNeal v. GMAC Mortgage, LLC. On appeal, the District Court reversed holding that abandoned property is not property of the estate, and therefore, the bankruptcy court lacked the jurisdiction to value the property and strip off a secured lien under McNeal. While the District Court recognized that there is a circuit split on whether a bankruptcy court retains jurisdiction for administrative purposes, the District Court relied on 10th Circuit s ruling in In re Dewsnup, 908 F.2d 588, (10th Cir. 1990), which was partially premised upon jurisdictional grounds and affirmed by the Supreme Court even though the Supreme Court remained silent on the issue in its Dewsnup opinion. Dewsnup, 502 U.S. at HDR Architecture, P.C. v. Maguire Group Holdings (In re Maguire Group Holdings), 2014 WL (S.D. Fla. Dec. 24, 2014). The District Court reversed the bankruptcy court s denial of creditor HDR Architecture s ( HDR ) motion to reopen the bankruptcy case to modify the discharge injunction holding that HDR could join the Debtor as a defendant in another suit for the limited purposes of determining liability in order to seek insurance proceeds.

7 Maguire Group Holdings, the Debtor, contracted with HDR to provide architectural services for a public works project in Connecticut in which the Debtor agreed to indemnify HDR for any professional liability. Following Connecticut s commencement of a prejudgment remedy against HDR and the Debtor, the Debtor filed for Chapter 11 relief. The Debtor settled with the state and its insurance carrier regarding the Debtor s liability to the public works project and subsequently obtained both confirmation of its plan and an order of final decree. Before the Debtor s case was closed, Connecticut commenced litigation against HDR for negligence in the public works project. Within ten days of the Final Decree, HDR moved to reopen the bankruptcy case and modify the discharge injunction for the limited purpose of naming the Debtor as a third party defendant for potential recovery from the Debtor s insurance carrier. The bankruptcy court denied the HDR s motion, holding that the Debtor s fresh start would be impaired in violation of section 524(a)(2) of the Bankruptcy Code and did not fall within section 524(e). The District Court reversed holding that the Debtor was only a nominal defendant, named only to gain access to proceeds from an insurance policy, and thus could not impair the Debtor s fresh start. In re Bailly, WL (Bankr. M.D. Fla. December 11, 2014) The Court held that a debtor can assume a car lease under section 365(p)(2) of the Bankruptcy Code without separately reaffirming the debt under section 524(c) or seeking approval from the Court. Shortly before receiving, the debtor and Ford Motor Company filed a Stipulation for Assumption of Lease Agreement, and Ford Motor Company filed a memorandum requesting the Court approve the Stipulation without requiring a separate reaffirmation agreement. In reaching its ruling, the Court analyzed the additions by BAPCPA dealing with a debtor s assumption of a lease agreement under section 365(p)(2) and concluded that Congress did not intend to require a debtor to satisfy both sections 365(p)(2) and 524(c) when assuming a lease. Requiring compliance with the reaffirmation procedure effectively renders the lease assumption procedures meaningless because a debtor could choose to reaffirm the debt and forgo section 362(p)(2) entirely. Susan H. Sharp Stichter, Riedel, Blain & Prosser, P.A. 110 East Madison Street, Suite 200 Tampa, Florida Phone: (813) ssharp@srbp.com