Mcle Article: Test Your Knowledge: Recent Developments in Insolvency Law
| Publication year | 2018 |
| Author | Thomas R. Phinney and Paul Pascuzzi |
Thomas R. Phinney and Paul Pascuzzi
Thomas R. Phinney is a partner with Parkinson Phinney in Sacramento, practicing bankruptcy law and commercial litigation. He is a Business Bankruptcy Specialist certified by the American Board of Certification. He is currently President of the California Bankruptcy Forum.
Paul J. Pascuzzi is a partner at Felderstein Fitzgerald Willoughby & Pascuzzi LLP in Sacramento. Mr. Pascuzzi is a former chair of the Executive Committee and the Insolvency Law Committee of the Business Law Section of the California State Bar. Mr. Pascuzzi's practice focuses on all aspects of business bankruptcy and insolvency law.
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Welcome to the fifth annual edition of our article covering developments in bankruptcy law. This article comes from a program we present for the Bankruptcy and Commercial Law Section of the Sacramento County Bar Association. Once again, we invite you to test your knowledge of recent developments in the area of insolvency law. Unless otherwise noted, all references are to the Bankruptcy Code. We provide a summary of the facts, issues, and holdings from a mix of recent important and interesting bankruptcy decisions. For MCLE credit, please see the twenty true/false questions at the end of the article. Good luck!
This case clarifies the standard of review for an appellate court on the question of whether a creditor is a non-statutory insider. In bankruptcy, if a creditor is an insider, its vote to approve a chapter 11 plan does not count for purposes of determining whether an impaired class of claims has accepted the plan under § 1129(a)(10). The choices are a de novo standard, which is used for questions of law or mixed questions of law and fact, or a clearly erroneous standard, which is used for questions of fact.
In U.S. Bank v. Village at Lakeridge, LLC, the bank held a $10 million secured claim against the debtor. The debtor was controlled by MBP Equity Partners, which held a $2.76 million unsecured claim. The debtor's plan had two classes of claims, one with the bank claim and the other with the insider unsecured claim. To confirm the plan, the debtor needed at least one of the two classes to vote in favor of the plan. The bank voted against the plan, so the debtor needed the other class with MBP to vote in favor. But MBP's vote as an insider did not count to meet the requirement that an impaired class accept the plan. MBP sold its $2.76 million unsecured claim for $5,000 to Rabkin, a friend of one of the MBP board members. The sale of the claim to an apparent non-insider would allow the claim to be voted in support of the debtor's plan, which would then qualify as the one accepting impaired class under § 1129(a)(10).
The bank filed a motion to disallow Rabkin's claim for voting purposes because it was a claim of an insider. The bankruptcy court held that Rabkin was not an insider, because Rabkin and the MBP board member did not cohabitate or purchase expensive gifts for each other and Rabkin did not exercise control over the debtor. The bankruptcy court also held, however, that because Rabkin had acquired the claim from an insider of the debtor, Rabkin's claim was an insider claim that could not be counted for plan voting purposes.
On appeal, the Bankruptcy Appellate Panel ("BAP") affirmed the finding that Rabkin was not an insider because of his relationship to the MBP board member, but reversed the bankruptcy court's decision that Rabkin was an insider because he purchased the claim of an insider. The Ninth Circuit affirmed. Viewing the bankruptcy court's decision as based on a finding that the claim purchase was conducted at arm's length, the Ninth Circuit held that the finding was entitled to clear error review and could not be reversed under that deferential standard.
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The Supreme Court granted review on the sole question of the standard of review for an appellate court on the question of whether a creditor is a non-statutory insider. The Supreme Court actually agreed with the Ninth Circuit! The Court held that the clear error standard of review applied in this case for determining non-statutory insider status.
The Court held that there are three things a court must determine when faced with the issue of whether a creditor is a non-statutory insider: The first is the legal test to determine whether someone is a non-statutory insider. This part of the analysis is reviewed under the de novo standard, because it is a purely legal issue. The next part is the factual part of the analysis, addressing questions of who did what, when, or where, how, or why. That, of course, is purely factual, and is reviewed for clear error. The third part is to determine whether the facts satisfy the legal test for conferring non-statutory insider status. This is the so-called "mixed question" of law and fact at the heart of this case, which considered the standard of review that should be applied by a reviewing court at this stage of the analysis.
Well, the Court didn't really give us a concrete answer. It said that not all mixed questions of law and fact are alike. Some require courts to expound on the law, particularly by amplifying or elaborating on a broad legal standard. When that is so—when applying the law involves developing auxiliary legal principles of use in other cases—appellate courts should typically review a decision de novo. Other mixed questions immerse courts in case-specific factual issues, compelling them to marshal and weigh evidence and make credibility judgments. And when that is so, appellate courts should usually review a decision with deference.
Here, the Court found that the question was more factual than legal, so the clear error standard applied by the Ninth Circuit was correct. Interestingly, there is more in the concurring opinions by Justice Kennedy and Justice Sotomayor about whether the Ninth Circuit articulation of the legal test for determining whether a creditor is a non-statutory insider is right. However, the Court did not grant review on that issue.
Under the federal Controlled Substances Act, 21 U.S.C. §§ 801-904 ("CSA"), it is unlawful to, among other things, "knowingly and intentionally lease, profit from, or make available for use, with or without compensation, any place for the purpose of unlawfully storing, distributing, or using a controlled substance" such as marijuana.
In the Olson case, the debtor ("Debtor") was ninety-two years old and legally blind, and resided in an assisted living facility. Her son helped her obtain tenants for, and manage, a small shopping center. One of the tenants ("Tenant") was a marijuana dispensary that was legal under California and local law. The shopping center generated about $18,000 per month in rents, of which about $10,000 per month came from Tenant. The Debtor's son did not do a very good job of helping her pay the mortgage secured by her shopping center, however, and the mortgage went into default.
On the eve ofthe foreclosure ofthe mortgage, the Debtor filed chapter 13 to stay the foreclosure. The Debtor entered into a cash collateral agreement with the lender that required her to make "adequate protection" payments of $4,000 per month. The record was not clear as to what rents the Debtor had collected postpetition or how the rents had been applied. The Debtor filed motions to reject the Tenant lease, sell the property, and confirm a chapter 13 plan based upon the sale of the shopping center. Tenant, who alleged that, in addition to the lease, he had an option to purchase the property, filed a motion to dismiss the case on the grounds that his payment of rent to the Debtor violated the CSA. At the hearing on the motion to sell the property and to reject the lease with the Tenant, the bankruptcy court dismissed the case sua sponte on the ground that the Debtor's postpetition acceptance of rents from the dispensary business was an ongoing criminal violation that disqualified her from bankruptcy relief. The judge explained that "[t]he Debtor committed the crime of accepting postpetition rent from a marijuana business."
On appeal, the BAP found that the bankruptcy court did not articulate the legal basis for its ruling or make sufficient findings to support its conclusion that the CSA was being knowingly violated. Notably, the bankruptcy court made no bad faith finding, and did not engage in the "totality of the circumstances" analysis required for dismissal under § 1307(c). Nor did the bankruptcy court make findings that it had dismissed the case pursuant to its inherent power, under § 105(a), to "issue any order, process, or judgment that is necessary or appropriate to carry out the provisions of this title." The BAP explained that the situation would be different had the debtor sought to continue to distribute marijuana postpetition or were a bankruptcy trustee being asked to accept proceeds of a drug-related business— situations in which federal law would clearly have been violated.
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