Spring 2008 • Issue 28, page 6
Bay Area Bankruptcy Forum & San Francisco Ban Assn. Review 2007's Key Business Bankruptcy Case Decisions
By Montali, Honorable Dennis, Dumas, Cecily & Oliner, Ron*
(This is the first of a two-part article – Ed.)
“Recent Developments in Business Bankruptcy” was the subject of panel
presentations by the Bay Area Bankruptcy Forum and the San Francisco Bar
Association Commercial Law and Business Section for attorneys from
throughout the greater Bay Area and San Jose in November 2007.
The authors, panelists and presenters at the annual evening programs –
The Honorable Dennis Montali, United States Bankruptcy Judge; Cecily A.
Dumas, Esq., (a partner in the firm Friedman Dumas & Springwater LLP); and
Ron Mark Oliner, Esq. (a partner in the firm Duane Morris LLP) – have
excerpted the facts and law from some of the most important cases reported
on for readers of the Receivership News.
Chapter 7 Debtors Do Not Have an Absolute Right to
Convert their Cases to Chapter 13.
Section 706(a) of the Bankruptcy Code gives debtors who file
under chapter 7 an unwaivable right to convert their cases to chapters 11,
12, or 13 at any time, subject to the condition (expressed in subsection
(d)) that the debtor is eligible to be a debtor under the new chapter. In
Marrama, the Supreme Court held that this right to convert, though
it may not be waived, may be forfeited through bad faith. The debtor had
made a number of misleading or inaccurate statements about his principal
asset; when he later invoked his right to convert to chapter 13, the
bankruptcy court denied his request. The Supreme Court affirmed, reasoning
that the debtor’s eligibility under chapter 13 was vitiated by the court’s
finding of bad faith, which is grounds for dismissal or conversion under
section 1307. In dissent, Justice Alito opined that the majority’s
imposition of a good faith condition on the debtor’s conversion right was
inconsistent with the clear terms of section 706(a).
Marrama v. Citizens Bank of Mass., ___ U.S. ___, 127 S. Ct. 1105,
166 L. Ed. 2d 956 (2007).
Section 502(b)(6) Does Not Cap Tort Claims for Damage
to Rented Property.
Bankruptcy Code § 502(b)(6) limits a landlord’s claim for
damages from the termination of a real property lease by a debtor tenant,
based on the amount of rent still owed. Here, the landlord was stuck not
only with a terminated lease, but also with approximately a million tons
of dirt and debris that its tenant, a mining company, had allegedly left
behind. The cleanup cost was $23 million—several orders of magnitude
greater than the cap would allow. But the Ninth Circuit held (reversing
the BAP) that the § 502(b)(6) cap applies only to claims for damages
resulting from the rejection of the lease itself, not to claims for
collateral damage to the rented property. Overruling Kuske v.
McSheridan (In re McSheridan), 184 B.R. 91 (9th Cir. BAP 1995).
Saddleback Valley Community Church v. El Toro Materials Co. (In re
El Toro Materials Co.), 504 F.3d 978 (9th Cir. 2007).
Property of the Estate Includes the Debtor’s Right to
Future Tax Reductions.
James and Beverly Nichols were entitled to federal and state
tax refunds for the year 2001, but instead they elected to apply the
overpayments to their future tax liabilities. A few weeks after making
this irrevocable election, the couple filed for bankruptcy. The court held
that the money left on deposit with the taxing authorities was property of
the estate subject to turnover from the debtors under Bankruptcy Code §
542. Cf. In re Feiler, 218 F.3d 948 (9th Cir. 2000) (holding that a
debtor’s waiver of the right to a present tax refund based on previous
years’ net operating losses was a fraudulent transfer). It didn’t matter
that the money was in the government’s hands and out of the debtors’
reach, the illiquidity of an asset being no barrier to its becoming
property of the estate. See Bankruptcy Code § 541(c)(1).
Nichols v. Birdsell, 491 F.3d 987 (9th Cir. 2007).
Discharge Does Not Moot Appeal From Denial of Motion
Last year, the Ninth Circuit held that the SEC, by virtue of a
disgorgement judgment it held against the debtor, was a “creditor” with
standing to move for dismissal of a chapter 7 case. Although the
bankruptcy court had discharged the debtor’s debts by the time the appeal
was heard, the Ninth Circuit considered the appeal not moot because the
bankruptcy court had no jurisdiction to enter its discharge order while
the appeal of its order denying the motion to dismiss was pending. The
Ninth Circuit has now amended its opinion to explain that the appeal did
not in fact divest the bankruptcy court of its jurisdiction to enter the
discharge order—as would, for example, an appeal from an order granting
a motion to dismiss—because the court could enter the discharge order
without altering or expanding upon the appealed order. Nevertheless the
appeal was still not moot, given that the SEC, if it prevailed on appeal,
could obtain relief from the discharge order under Fed. R. Civ. P. 60(b).
Sherman v. SEC (In re Sherman), 491 F.3d 948 (9th Cir. 2007).
Counter-Claim Against a Trustee in Preference
Chapter 7 trustee sued to recover a preference. Defendants
filed a counter-claim against the trustee. Question presented was whether
the trustee is an “opposing party” when he brings a preference action on
behalf of the estate, but where a counter-claim alleges causes of action
that could have been brought against the debtor (not the estate). Ninth
Circuit rules that trustee is not an opposing party under these
circumstances, affirming Bankruptcy Court’s dismissal of counter-claim.
See generally FRBP 7013 and FRCP 13 (governing the proprietary of
Metcalf v. Golden (In re Adbox, Inc.), 488 F.3d 836 (9th Cir.
Even a Single Transaction Can Create “Ordinary
Course” Exception in Preference Litigation.
Under pre-BAPCPA Bankruptcy Code § 547(c)(2), payment for a
debt incurred in the ordinary course of business is exempt from avoidance
as a preference if the payment is also made in the ordinary course of
business and according to ordinary business terms. The ordinariness of a
transaction is generally to be determined relative to past practices
between the debtor and the creditor. See In re Food Catering & Hous.,
Inc., 971 F.2d 396, 398 (9th Cir. 2002). In this case, the debt arose
from the first-time dealing between the debtor and the creditor, so there
were no past practices to be considered. The Ninth Circuit held that in
such a circumstance, the debt can be considered to have arisen in the
ordinary course of business if it is ordinary relative to the debtor’s and
creditor’s past dealings with other, similarly situated parties. If a
party has never engaged in similar transactions, courts may consider more
generally what would be expected of similarly situated parties. The court
also held that when an original debt was later restructured, both the
original debt and the restructuring must be considered to determine
whether the transaction was within the ordinary course of business.
Wood v. Stratos Product Development, LLC (In re Ahaza Systems,
Inc.), 482 F.3d 1118 (9th Cir. 2007).
Bankruptcy Schedules Do Not Give Constructive Or
Inquiry Notice To Defeat Trustee’s BFP Status Under 544(a)(3).
In the infamous case of Briggs v. Kent (In re Professional
Investment Properties), 955 F.2d 623 (9th Cir. 1992), a creditor
holding an unperfected security interest invited disaster by filing an
involuntary petition. That would normally result in avoidance of its
interest by the trustee, wielding the powers of a hypothetical bona fide
purchaser (a “bfp”). The creditor was saved by the Ninth Circuit’s
surprising holding that the involuntary petition itself listed enough
information about the creditor’s claim to put the trustee on constructive
or inquiry notice, preventing the trustee from qualifying as a bfp. The
BAP, however, narrowed Professional Investment Properties to its
highly unusual facts, reversing a bankruptcy court’s holding that the
debtor’s schedules and statement of financial affairs gave the trustee
constructive or inquiry notice, since logically those documents cannot be
filed until after the petition is filed, whereas the trustee’s bfp powers
arise as of the moment the petition is filed.
Taxel v. Chase Manhattan Bank, USA, NA (In re Deuel), 361 B.R. 509
(9th Cir. BAP 2006).
*The Hon. Dennis Montali is a United States Bankruptcy Judge
sitting in the San Francisco Division of the Northern District of
*Cecily A. Dumas, Esq. is a partner in the firm Friedman Dumas &
*Ron Mark Oliner, Esq. is a partner in the firm Duane Morris LLP.