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Collateral Attacks May Allow Bankruptcy Courts to Alter Final Sale Orders

By: Louis Calabro

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

 

        In In re Gunboat International, Ltd., the United States Bankruptcy Court for the Eastern District of North Carolina held that section 363(m) of the Bankruptcy Code, which protects a good faith purchaser from a reversal of an order approving a bankruptcy sale, does not apply to collateral attacks on a sale order under Rule 60(b) of the Federal Rules of Civil Procedure (“FRCP”).[1] In that case, the debtor (“Gunboat”) agreed to sell its interest in the G4—a sailboat model contracted between the debtor and two other parties—to a third party, Mr. Chen.[2] In the months leading up to the sale, The Holland Companies (“Holland”), which held certain exclusive manufacturing and usage rights over the G4, had been negotiating a settlement agreement to buy Gunboat’s interest in the G4. Holland was unaware that Gunboat was attempting to sell Gunboat’s G4 interest to another party and believed that Gunboat should have given Holland an opportunity to make a more attractive offer considering its ongoing attempts to settle. On May 10, 2016, the court entered a final order approving the sale of Gunboat’s assets to Mr. Chen.[3] Thereafter, Holland filed a motion to reconsider with the court under FRCP Rule 60(b); in response, Gunboat opposed.[4]

        11 U.S.C. § 363(m) provides that a court’s reversal or modification on appeal of an authorization of a sale or lease does not affect the validity of that sale or lease where the party who purchased or leased the property did so in good faith, absent a stay pending appeal.[5] To assess the issue, the court first had to determine whether this statute strictly refers to appeals of a sale order or more generally includes collateral attacks that are not made through a formal appeal.[6] The court found that § 363(m) only protects formal appeals of a sale order.  Consequently, Holland’s collateral attack was not statutorily mooted.[7] Moreover, the court held that, notwithstanding the protection of 363(m), it could vacate a prior order confirming a sale in certain limited circumstances where equitable concerns persist.[8] According to the court, Rule 60 of the FRCP allows a court, upon request of a party in interest, to revise prior orders to account for mistakes, timing, fraud, or any other reason justifying relief, presenting equitable concerns that might outweigh the interests in finality of a sale.[9] Furthermore, the court decided that it had the power to revisit the sale order and reverse its finding of good faith, which further limits the good faith purchaser protection of § 363(m) and expands the court’s discretionary power.[10]

        The court further stated that Holland’s argument would succeed under Rule 60 if it could establish that (1) its motion was timely; (2) it had a meritorious defense; and (3) Mr. Chen would not be unfairly prejudiced if the sale order was set aside.[11] Importantly, the court concluded that granting Holland’s motion under Rule 60(b) would not unfairly prejudice Mr. Chen because he had not yet received any physical assets, and the court had not yet seen a closing statement or a bill of sale.[12] While the court did not draw a bright line rule on what constitutes unfair prejudice, its analysis suggests that if a party makes a motion to reconsider under Rule 60(b) before the sale has closed, the bankruptcy court has extremely broad discretion to modify the sale.[13] Furthermore, the court found that Holland had a meritorious defense because it had a contractual interest in the property sold and successfully questioned the good faith of the sale.[14] This holding blurs the line in determining when the sale of an asset is final; it opens up the possibility that any party with a contractual interest in the property sold can attack the sale collaterally and void the purchase, as long as it successfully invokes Rule 60.[15] Additionally, the court found that FRCP 60(b) carries equitable concerns that are more important than the interest preserving the finality of sales; if future bankruptcy courts follow this precedent, it will be hard to see how an interest in finality exists at all.[16] Even true good faith purchasers will have to worry about returning to court to defend their good faith status, because a bankruptcy lawyer who represents a party seeking to vacate a sale will now attempt to satisfy the meritorious defense burden of Rule 60(b) by questioning the good faith of the sale. Since the court found that it had the power to change its prior finding of good faith, it will be hard for any buyer to feel his sale is protected.[17] Thus, In re Gunboat Int'l, Ltd. makes it less clear when 11 U.S.C. § 363(m) protects the finality of sale orders made in ‘good faith.’



[1] In re Gunboat Int'l, Ltd., 557 B.R. 410, 423 (Bankr. E.D.N.C. 2016).

[2] Id. at 415.

[3] Id. at 415.

[4] Id. at 415-16.

[5] Id. at 418; 11 U.S.C. § 363 (2010).

[6] In re Gunboat Int'l, Ltd., 557 B.R. 410, 418 (Bankr. E.D.N.C. 2016).

[7] Id. at *9.

[8] In re Chung King, Inc., 753 F.2d 547, 549 (7th Cir. 1985).

[9] Id. at 550.

[10] In re Global Energies, LLC, 763 F.3d 1341, 1350 (11th Cir. 2014); In re Gunboat Int'l, Ltd., 557 B.R. 410, 420 (Bankr. E.D.N.C. 2016).

[11] In re Gunboat Int'l, Ltd., 557 B.R. 410, 411-12 (Bankr. E.D.N.C. 2016).

[12] Id. at 412.

[13] Id.

[14] Id.

[15] In re Gunboat Int'l, Ltd., 557 B.R. 410, 419 (Bankr. E.D.N.C. 2016).

[16] Id. at 420.

[17] See infra note 15; In re Gunboat Int'l, Ltd., 557 B.R. 410, 411-12 (“‘a moving party must show that his motion is timely, that he has a meritorious defense to the action, and that the opposing party would not be unfairly prejudiced by having the judgment set aside.’”) [quoting Nat'l Credit Union Admin. Bd. v. Gray, 1 F.3d 262, 264 (4th Cir. 1993)].