Bankruptcy as constitutional property: using statutory entitlement theory to abrogate state sovereign immunity.

Author:Pace, Joseph

NOTE CONTENTS INTRODUCTION I. THE DESTRUCTIVE CONSEQUENCES OF SOVEREIGN IMMUNITY DEFENSES IN BANKRUPTCY PROCEEDINGS A. Equality of Distribution Among Creditors B. Rehabilitating Viable Businesses C. The "Fresh Start" Principle II. RE-EVALUATING SEMINOLE TRIBE: THE BANKRUPTCY EXCEPTION UNDER HOOD AND KATZ A. Hood and the In Rem Exception B. Katz and the Bankruptcy-Wide Exception C. The Court's Troubled Bankruptcy Jurisprudence: A Critical Look at Hood and Katz 1. Uniformity 2. Plan of the Convention 3. The In Rem Exception III. AN ALTERNATIVE GROUND FOR ABROGATING STATE SOVEREIGN IMMUNITY: PROCEDURAL DUE PROCESS A. "... property ... B. "Nor shall any State deprive ..." C. "... without due process of law" 1. Procedural Versus Substantive Due Process 2. How Much Process is Due Process? D. Abrogating State Sovereign Immunity in Bankruptcy Under Section 5 IV. USING ENTITLEMENT THEORY TO BYPASS SEMINOLE TRIBE CONCLUSION INTRODUCTION

Over the last decade, the scope of Congress's authority to abrogate state sovereign immunity in bankruptcy proceedings has ebbed and flowed as factions within the Court have battled over the proper meaning of the Eleventh Amendment. Following the Court's watershed ruling in Seminole Tribe v. Florida (1) that Congress could not subject states to suit under the Indian Commerce Clause, (2) and the majority and dissent's dicta that the ruling applied to all Article I grants, (3) courts and commentators overwhelmingly concluded that states enjoyed immunity from private proceedings brought under the Bankruptcy Code. (4) A cry of alarm issued from bankruptcy scholars and some judges, who convincingly argued that exempting states--among the largest and most frequent creditors in bankruptcy--from the binding jurisdiction of bankruptcy courts would inflict significant damage on the regime's ability to function effectively. (5)

Eight years later, the Court began to backtrack. In Tennessee Student Assistance Corp. v. Hood, it declared that discharge actions, because they are in rem and not suits against the state, did not violate the Eleventh Amendment. (6) Two years later, in Central Virginia Community College v. Katz, the Court declared that in personam actions to reclaim preferential transfers--concededly suits against the state--were permissible because they were "ancillary" to and necessary to facilitate the in rem functioning of bankruptcy courts. (7) The five-person Katz majority carved out a bankruptcy-wide exception to Seminole Tribe by finding that when the states ratified the Bankruptcy Clause, they intended to cede their claims to sovereign immunity in suits brought to enforce bankruptcy laws. As written, the decision did not purport to alter Seminole Tribe's holding that Congress cannot subject states to suit under Article I without their consent. (8) Instead of attacking that principle directly, it grafted consent onto the Bankruptcy Clause itself.

However, it is unlikely that the last word has been spoken on the matter. While the Katz majority disclaimed Seminole Tribe's dicta that Congress cannot abrogate state immunity under the Bankruptcy Clause, (9) there are several reasons to suspect that the Court will revisit the issue and revise its recent judgments. First, decisions delineating the Eleventh Amendment have unusually unpredictable lifespans, perishing (10) (and sometimes reanimating) with the changing composition of the Court. Neither of the Court's factions has been shy about casting stare decisis aside when reviewing decisions pertaining to the scope of state sovereign immunity. (11) The fierceness and persistence of the factions' disagreement has occasioned scholarly resort to military analogies: one scholar speaks of "tit-for-tat retaliation," (12) another of "doctrinal guerilla warfare." (13) Importantly, the composition of the Court has undergone a significant change since Katz: one week after Justice O'Connor furnished the fifth vote in that decision, Justice Alito was sworn in as her replacement. This has led at least two scholars to question Katz's durability (14) and another to predict its demise. (15)

Second, the problematic reasoning on display in Hood and Katz leaves these decisions vulnerable to pruning or repeal. (16) Unable to attack Seminole Tribe's holding head-on, the Katz majority argued that bankruptcy was unique among Article I grants of authority. But in disaggregating the bankruptcy power from the rest of Article I, the majority relied on a questionable characterization of bankruptcy proceedings as in rem and, therefore, inoffensive to state immunity. It padded a gossamer thin historical record with speculation to assert that the states "understood" they were ceding their immunity in all suits "on the subject of Bankruptcies"--in rem and in personam alike--when they ratified the Bankruptcy Clause. (17) Thus, even scholars and practitioners who applauded the ultimate conclusion found fault with how the Court arrived at its decision. (18)

Third, the Supreme Court will likely have to revisit Katz to clarify its scope. The majority did not define the limits of its "ancillary order" theory. (19) The majority provided that "insofar as orders ancillary to the bankruptcy courts' in rein jurisdiction ... implicate States' sovereign immunity from suit, the States agreed in the plan of the Convention not to assert that immunity"; (20) but it also warned that its decision was "not meant to suggest that every law labeled a 'bankruptcy' law could, consistent with the Bankruptcy Clause, properly impinge upon state sovereign immunity." (21) That formulation cum caveat prompts a new set of questions. What are the dimensions of an ancillary order? To which bankruptcy laws does the ancillary order theory apply? Insofar as the majority purported to ground its conclusion in the Framers' comprehension of contemporary bankruptcy law, how should the courts adapt that intent to modern innovations in the Bankruptcy Code? As the courts take up these nagging questions, opportunities will abound to roll back Katz.

Perhaps the most unsettled issue is whether states intended to submit themselves to suit for retroactive money damages. In Edelman v. Jordan, (22) the Court etched a distinction into Eleventh Amendment doctrine between Ex parte Young suits for prospective relief, which it permitted, and actions for retrospective monetary relief, which it did not. Conservatives on the Court have defended this remedial distinction on the grounds that it strikes an appropriate balance between the need to maintain the primacy of federal law and the preservation of state immunity. (23) In Green v. Mansour, a five-Justice majority went a step further and declared that remedies designed only to serve "compensatory or deterrence interests" were impermissible under the Eleventh Amendment. (24) Much rides on whether the Court applies that remedial distinction in the bankruptcy context. As explained below, bankruptcy violations may inflict severe economic harm on already financially distressed parties, but in most cases the violation is complete before the party can commence an action for relief. In an effort to ensure adequate compensation and deter misconduct, the Code provides for compensatory damages, punitive damages, and attorneys' fees for willful bankruptcy violations. (25) But this provision's constitutionality as applied to states is an open question even after Katz.

Finally, the recent economic crisis may hasten reconsideration. The number of bankruptcy filings has skyrocketed in the past two years, (26) any one of which might occasion the act of state noncompliance that furnishes the test case to roll back Katz. Perhaps more importantly from a realist vantage point, the economic turbulence responsible for the surge in bankruptcy filings has also occasioned state budgetary crises across the country. (27) Against this backdrop, the argument that the Eleventh Amendment is a necessary bar to private suits that "threaten the financial integrity of the States" (28) may resonate more with swing Justices who are asked to endorse a rule that would subject financially stressed states to further liability.

To shore up Katz's holding--and ensure its extension to retroactive damages actions--this Note advances a new theory as to how Congress can abrogate state sovereign immunity in bankruptcy proceedings. This Note proposes that Congress re-enact [section] 106(a) (29)--the Bankruptcy Code's immunity-stripping provision--under Section 5 of the Fourteenth Amendment. While the factions within the Court continue to contest whether Article I can ever be a valid source of authority to subject states to suit, both sides agree--and Seminole Tribe explicitly affirmed--that Congress may abrogate state immunity under Section 5 of the Fourteenth Amendment to enforce the substantive guarantees of Sections 1 through 4. (30) Thus, in the aftermath of Seminole Tribe, Congress began to rejustify immunity stripping provisions originally enacted under Article I as valid exercises of its Section 5 powers. While the Court has thwarted many of these efforts in a constellation of decisions that has reworked several key areas of constitutional doctrine, (31) this Note argues that abrogating state immunity in bankruptcy under Section 5 remains a viable option.

Many scholars and judges have been quick to dismiss this option, casting the Court's decision in United States v. Kras that individuals lack substantive due process rights in bankruptcy as the gravaman of any attempt to frame state defiance of federal bankruptcy law as a violation of the Fourteenth Amendment. I contend, however, that by resorting to a different doctrine--the doctrine of "statutory entitlements" and procedural due process--it is in fact possible to bring federally conferred bankruptcy rights within the ambit of the Fourteenth Amendment. The key substantive guarantee for the purposes of this analysis is the Due Process Clause, which...

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