Volume 3, Number 2 - August 2004
The Continuing Mystery of the “Bankruptcy Estate”: Three Cases Seek to Define What the “Estate” is, If it continues (In Another Form) Post-Confirmation, and When it is "Reborn"
Three recent cases have explored the definition of the bankruptcy “estate”—the entity created by §541 of the Bankruptcy Code. In succession, these cases explore what the estate is for the purposes of when an action “benefits” the estate; whether a matter affects the estate sufficiently so as to create jurisdiction in the bankruptcy court; and whether and when assets from a prior chapter 11 estate “revest” in a chapter 7 estate following a post-confirmation conversion.
Stalnaker
In Stalnaker v. DLC, Ltd., 2004 WL 1630956 (8th Cir. 2004), the Eighth Circuit Court of Appeals was faced with the question of whether the continued pursuit of an avoidance action by a chapter 7 trustee, when the proceeds would be used only to satisfy administrative claims (rather than unsecured claims, all of which had been eliminated by settlement), was “for the benefit of the estate.” Under §550(a), the remedies companion to the preference and fraudulent conveyance provisions of the Code, “a trustee may recover the property that is the subject of the avoided transfer or its value, for the benefit of the estate…” In Stalnaker, the defendant-insider argued that, since there were no unsecured creditors to be satisfied from the proceeds, the action was not for the benefit of the estate.
The Eighth Circuit rejected this argument, stating “DLC incorrectly characterizes the estate and its unsecured creditors as being synonymous.” Quoting the BAP opinion below, Stalnaker v. DLC, Ltd. (In re DLC, Ltd.), 295 B.R. 593, 607 (8th Cir. BAP 2003), the court reasoned that “Estate” is a statutory term that Congress uses to denote the asset side of the bankruptcy balance sheet. [Section] 541 defines what constitutes property of the estate and what can be credited to the asset account. In virtually every case, recovery of property benefits the estate…. Creditors are on the opposite side of the balance sheet.” Accordingly, the Eighth Circuit held that the bankruptcy estate is not synonymous with the “concept of a pool of assets to be gathered for the sole benefit of unsecured creditors.” The absence of unsecured creditors—or a distribution to such creditors—“does not extinguish the estate as a legal entity, nor does it extinguish other claims on the assets of the estate, such as administrative claims.”
While Stalnaker is a chapter 7 case, the reasoning will support the argument that, for example, a §363 sale can be conducted in a chapter 11 case despite the absence of the prospect of a dividend to the class of unsecured creditors. Such a sale, which may only pay some combination of secured, administrative and priority claims, would nonetheless benefit the estate (to the extent that some courts graft such a requirement onto §363). Seen in this light, it could be argued that “benefit to the estate” does not assume the necessity of a payment to the unsecured class.
Resorts International
In Binder v. Price Waterhouse & Co., LLP (In re Resorts Int’l), 372 F.3d 154 (3rd Cir. 2004), the Third Circuit was faced with the question of whether the bankruptcy court had “related to” jurisdiction over a post-confirmation lawsuit brought by a litigation trust formed pursuant to a confirmed plan against accountants the trust had retained post-confirmation and after formation of the trust for alleged malpractice in connection with audit and other accounting services performed for the trust. The trustee of the litigation trust argued that the litigation trust was “effectively a continuation of the bankruptcy estate” and, further, that jurisdiction existed because the proceeds of the suit would be distributed to trust beneficiaries, all of whom were former creditors of the estate. The defendant argued that the trust was a distinct legal entity and not a continuation of the bankruptcy estate, and that the beneficiaries were no longer creditors of the estate, having “traded their creditor status to attain rights to the Trust’s assets.” The bankruptcy court had agreed with the defendant and found no “related to” jurisdiction, a decision reversed by the district court. The Third Circuit reversed the district court.
The circuit court rejected the argument that a plan-created litigation trust is a continuation of the estate. Therefore, the court held, ‘jurisdiction does not extend necessarily to all matters involving litigation trusts.” 372 F.3d at 169. This holding is noteworthy in light of the fact that the plan made the trustee the successor to the debtor under §1123(b)(3)(B) (providing for the “enforcement…by a representative of the estate appointed for such purpose” of claims).
Wading into the murky waters of post-confirmation jurisdiction, the court noted that the touchstone of “related to” jurisdiction is the Third Circuit’s Pacor decision. Pacor, Inc. v. Higgins, 743 F.2d 984 (3rd. Cir. 1984). Under Pacor, a matter is related to a bankruptcy case, for jurisdictional purposes, if “the outcome of that proceeding could conceivably have any effect on the estate being administered in bankruptcy.” Id. at 994. “An action is related to bankruptcy if the outcome could alter the debtor’s rights, liabilities, options, or freedom of action … and which in any way impacts upon the handling and administration of the bankrupt estate.” Id. However, the court acknowledged that a strict application of Pacor in the post-confirmation context would eliminate all of post-confirmation jurisdiction: “At the most literal level, it is impossible for the bankrupt debtor’s estate to be affected by a post-confirmation dispute because the debtor’s estate ceases to exist once confirmation has occurred.” 372 F.3d at 165. Noting that the Code seems to contemplate some post-confirmation jurisdiction and that the courts, including the Third Circuit, had recognized it, the court acknowledged that the Pacor test required some tweaking for application in a post-confirmation setting.
After reviewing the case law, the court noted that “the essential inquiry appears to be whether there is a close nexus to the bankruptcy plan or proceeding sufficient to uphold bankruptcy court jurisdiction over the matter.” Id. at 166-67. The court formulated the following test for extension of “related to” jurisdiction over matters involving post-confirmation actions by plan-created trusts:
[W]here there is a close nexus to the bankruptcy plan or proceeding, as when a matter affects the interpretation, implementation, consummation, execution, or administration of a confirmed plan or incorporated litigation trust agreement, retention of post-confirmation bankruptcy court jurisdiction is normally appropriate.
372 F.3d at 168-69. Such a “close nexus” was not present in the case before the court. In particular, the court rejected the idea that the nexus was present simply because the successful litigation of the action would add to the assets of the trust: “if the mere possibility of a gain or loss of trust assets sufficed to confer bankruptcy court jurisdiction, any lawsuit involving a continuing trust would fall under the ‘related to’ grant.” Id. at 170. The fact that the reorganized debtor, which held a claim against the trust, might share in the lawsuit proceeds, was similarly insufficient. Id.
The holding in Resorts Int’l is hardly a “bright-line” test, and may or may not contribute to clarity in the confused realm of post-confirmation jurisdiction. For example, under the examples provided by the court, it is not clear that all actions brought by the trust arising out of causes of action transferred to the trust under the plan will trigger “related to” jurisdiction. However, its rejection of the concept that all plan-created trusts are continuations or extensions of the estate, despite formation under §1123(b)(3)(B), and its requirement of a “close nexus” provide a jurisdictional argument in some cases where a plan-created trust is the plaintiff.
Captain Blythers
In In re Captain Blythers, Inc., 2004 WL 1490314 (9th Cir. BAP 2004), the BAP was once again faced with the question of what assets, if any, revest in the chapter 7 estate following a post-confirmation conversion of a chapter 11 case to a case under chapter 7. The issue arises because, in the absence of language in the plan or confirmation order to the contrary, the assets of the chapter 11 estate revest in the debtor following confirmation. This issue has generated a prior article in this newsletter. See, “Post-confirmation Conversion from 11 to 7: What’s In the Estate?,” Volume 1, No. 2 (December 2002).
The BAP, consistent with prior Ninth Circuit precedent, found that fairly general language in the chapter 11 plan evidenced an intent to have assets revest in the chapter 7 estate. The asset in question was a cause of action. The plan provided that claims (in general) would be enforced for the benefit of creditors. The disclosure statement accompanying the plan stated that proceeds of the cause of action would be paid to creditors in the order of their priority. In addition, the plan contained a broad retention of jurisdiction clause (which the BAP recognized as typical of most plans). This combination of provisions was sufficient to result in the cause of action “revesting” in the estate upon post-confirmation conversion.
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