9.1 Introduction

• Library: Enforcement of Liens and Judgments in Virginia (Virginia CLE) (2019 Ed.)

9.1 INTRODUCTION

For much of its history, bankruptcy law in the United States tracked the vicissitudes of fortune. Because of the subject's intimate connection to commerce, the framers present at the Constitutional Convention saw fit to enable Congress to "establish . . . uniform Laws on the subject of Bankruptcies throughout the United States." ¹ Congress exercised this authority following the Panics of 1797, 1837, 1857 and the Civil War by enacting bankruptcy statutes in 1800, 1841, and 1867. Yet, it also repealed each act when prosperity returned within a few years of passage. ² Indeed, the question of whether bankruptcy law should be a permanent fixture in the United States Code or a "temporary expedient to resolve [an] immediate financial crisis" remained prominent throughout the legislative processes. ³

Lurking behind this question was something more elemental, though: federalism. Southern agricultural states opposed a national bankruptcy law out of fear that it would give creditors recourse to their land, while northern financiers advocated for a federal bill to facilitate commerce. Individuals in the west opposed far-reaching legislation and sought to maintain the strong homestead exemptions they enjoyed under state law. ⁴ The result of these competing concerns was a patchwork of varying state law protections punctuated by short-lived, polarizing federal responses to acute financial crises.

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The first permanent, comprehensive bankruptcy framework arrived in 1898 (following the Panic of 1893). The 1898 Act mollified factions by permitting only state-law exemptions, focusing on an "equitable and efficient administration and distribution of the debtor's property to creditors," and leaving procedural matters for the Supreme Court to resolve. ⁵ The legacy of this compromise is that bankruptcy is a federal subject, but with a major gloss of state law.

The 1898 Act was amended on a number of occasions, most notably in 1938, but remained in place longer than any of its predecessors by staying in effect until 1978. In that year Congress passed the Bankruptcy Reform Act, which instituted the "Bankruptcy Code" and thus marked the beginning of modern bankruptcy law. ⁶ The Bankruptcy Code ushered in Chapter 11 reorganizations, provided greater protections for creditors, and expanded the administrative powers available to debtors. ⁷ Notably, the 1978 Bankruptcy Reform Act was "unique in the history of the nation's bankruptcy legislation in that it was the first major [law] that was not enacted as a response to a severe economic depression." ⁸

Since 1978 Congress has revised the Bankruptcy Code four times. The most significant change was a restriction on access to Chapter 7 imposed by the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 ("BAPCPA"). ⁹ Because ten years have passed since the enactment of BAPCPA, calls for an update to the Bankruptcy Code now occur with increasing frequency. Further, the American Bankruptcy Institute recently published recommended reforms to Chapter 11 after conducting a three-year survey on the subject. ¹⁰

What does this all mean for the attorney seeking to enforce liens and judgments in Virginia? First, American bankruptcy law is a powerful tool for providing stability in times of financial crisis—on both a macro and a micro level. But its remedial nature means that changes to the Bankruptcy Code

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can come swiftly and suddenly, requiring vigilant surveillance of the law to avoid pitfalls. And second, the bankruptcy process provides strong protections for creditors. Creditors, though, must be proactive to protect their rights and maximize recovery from an insolvent or illiquid debtor.

9.101 In General. The filing of a bankruptcy petition immediately affects the rights of creditors to enforce consensual liens, judgment liens, and judgments upon which liens have not been perfected. In most cases, upon the filing of a petition, the Bankruptcy Code ¹¹ imposes an automatic stay (an injunction) against any effort to liquidate, enforce, or collect a claim against the debtor or to obtain property of the bankruptcy estate. ¹² Prohibited acts include repossession, foreclosure, garnishment, enforcement or perfection of liens, and dunning phone calls. In addition, in certain situations, the debtor has the ability to avoid liens.

Once a bankruptcy petition is filed, creditors can take steps to ensure that they are afforded the greatest recovery possible within the confines of the bankruptcy laws. One of the best ways to ensure the maximum recovery available is for the creditor to become familiar with common bankruptcy terms and to achieve a basic understanding of the bankruptcy process. As with most areas of the law, the Bankruptcy Code is constantly evolving and being modified. It is important for creditors and practitioners alike to stay abreast of any changes to the Code that will affect the rights of creditors.

9.102 Subject Matter Jurisdiction. Technically, jurisdiction over bankruptcy cases resides with the United States district courts. However, nearly all district courts have entered a standing order of reference referring bankruptcy cases to their corresponding bankruptcy court. The district court reserves the right to withdraw the reference for cause. ¹³ In addition, unless parties consent, bankruptcy judges may only submit proposed findings of fact and conclusions of law to the district court in noncore proceedings. ¹⁴ Core proceedings, which are enumerated in 28 U.S.C. § 157, include only those issues arising under title 11 or arising in a case under title 11. In 2006, the United States Supreme Court resolved a circuit split as to whether an action could be maintained in a bankruptcy court

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against a state or other governmental unit. The debate centered on whether Congress's attempt in section 106 of the Bankruptcy Code to abrogate the states' Eleventh Amendment immunity is constitutional. The debate stemmed from the Supreme Court's decision in Seminole Tribe v. Florida, ¹⁵ where the Court held that Congress could not abrogate the states' Eleventh Amendment immunity by exercising authority granted to Congress under Article I of the federal Constitution. In the wake of Seminole Tribe, a majority of courts that addressed the issue held that section 106 was an unconstitutional attempt to abrogate the states' Eleventh Amendment immunity. In the context of a bankruptcy action against a state, several important issues remained, however. These issues included (i) whether the action is a suit under the Eleventh Amendment; ¹⁶ (ii) whether the suit is being brought against the state (for example, whether a county is a state for Eleventh Amendment purposes); and (iii) whether the state has waived its Eleventh Amendment immunity (for example, by filing a proof of claim or otherwise appearing in the case). In Central Virginia Community College v. Katz, ¹⁷ the Supreme Court held that lawsuits to avoid preferential transfers brought in federal bankruptcy court against states or state agencies are not barred by sovereign immunity and that section 106 is constitutional. ¹⁸

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Following Katz, the Supreme Court issued three opinions in which it shifted its focus from a debtor's ability to maintain certain claims in bankruptcy court to a bankruptcy court's ability to adjudicate them. First, in Stern v. Marshall ¹⁹ the Supreme Court concluded that bankruptcy courts lack the constitutional authority to enter final judgments on certain core matters despite possessing the statutory authority to do so. Specifically, Stern held that 28 U.S.C. § 157(b)(2)(C) —which empowers a bankruptcy court to enter final judgment on a core state-law counterclaim, subject to appellate review by the district court (a "Stern claim")—violates Article III of the Constitution. ²⁰ Simply, the Stern Court reasoned that Congress impermissibly assigned Article III powers to an Article I tribunal when it passed § 157(b)(2)(C), thus violating the Constitution's deliberate system of checks and balances. Under Stern, then, bankruptcy courts cannot adjudicate state-law counterclaims (outside the course of ruling on a creditor's proof of claim) without running afoul of the Constitution. ²¹

Second, having left unresolved for three years the question of what, exactly, a bankruptcy court should do when it encounters a Stern claim, the Supreme Court set out to provide an answer in Executive Benefits Insurance Agency v. Arkison. ²² The trouble arose because the Stern opinion created a "statutory 'gap'" wherein bankruptcy courts could not issue final orders on core state-law counterclaims but had no alternative action available because § 157(c)(1) only authorizes them to issue proposed findings of fact and conclusions of law on non-core claims. ²³ Arkison found that the severability provision located in 28 U.S.C. § 151 held the solution to this problem: when a court identifies a Stern claim, it "necessarily 'h[olds] invalid' the 'application' of § 157(b)—i.e., the 'core' label and its attendant procedures—to the litigant's claim," but that invalidation does not affect the remainder of § 157. ²⁴ According to its "general approach to severability," the Supreme Court "ordinarily give[s] effect to the valid portion of a partially unconstitutional statute so long as it 'remains fully operative as a law,' and so long as it is not 'evident from the statutory text and context that Congress would have

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preferred no statute at all." Applying this approach to § 157, Arkison concluded that bankruptcy courts should treat Stern claims as non-core matters under subsection § 157(c)(1) and adjudicate them by issuing proposed findings of fact and conclusions of law for the district court to review de novo. ²⁵

Finally, in Wellness International Network, Ltd. v. Sharif the Supreme Court implicitly limited the application of its Stern opinion. ²⁶ That is, the Wellness Court wrote that the...