Benchnotes May 2000

Benchnotes May 2000

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Trustee Compensation Reduced

In In re C. Keffas & Son Florist Inc., 240 B.R. 466 (Bankr. E.D.N.Y. 1999), Bankruptcy Judge Stan Bernstein addressed a chapter 7 trustee's application for allowance of compensation. The court found that under the totality of the facts and circumstances of this chapter 7 case, the base compensation under §326(a)(ii) should be addressed. The court noted that if the trustee's commission and applications for final compensation for professionals for the trustee were approved, priority unsecured creditors would receive a 47 percent distribution of their allowed unsecured claims, while nothing would be distributed to the estate's unsecured creditors. The court noted that under any theory, a 65 percent cost to collect would "represent an extraordinary surcharge to priority creditors." The court also recognized that this was a "garden-variety" chapter 7 business case, in which any experienced chapter 7 trustee could efficiently liquidate within three to four months and close within 60 days thereafter. Unfortunately for the trustee, the final report was filed two-and-one-half years from the date of the trustee's appointment. Judge Bernstein addressed the very sensitive issue for trustees of whether to keep an estate open in order to continue collection or to close the estate. The court noted that for 27 months not a single dollar of additional funds were collected. In addition, the court found that the trustee failed to supervise his attorney in the overall litigation strategy for collecting receivables. With the exception of one account, the majority of the accounts owed an average of $300, yet the trustee incurred substantial transaction costs by attempting to collect receivables through litigation. After it was "very clear" there would not be any distribution to unsecured creditors, the trustee directed the estate's accountants to incur professional fees by reviewing claims and assisting in the preparation of objections to claims. More than two years after being appointed, the trustee filed objections to three unsecured claims—"hardly evidence of an expeditious case administration." Under §704(1), a trustee has the obligation to "close such estate as expeditiously as is compatible with the best interests of the parties in interest." A trustee who fails to make this necessary cost-benefit analysis will "necessarily breach the statutory mandate under §704(1) and incur a liability for the damages unjustifiably imposed upon the creditors who would be 'in the money.'" The court also found the trustee breached a statutory duty under §704(5) by objecting to claims under the facts and circumstances of this case. Citing In re Gorski, 766 F.2d 723 (2nd Cir. 1985), the court found that a trustee may be held personally liable for such breaches of its fiduciary duty. The aggregate net opportunity cost to the creditors from significant delay in distribution would be offset against the funds on deposit in the estate that would otherwise be payable to the trustee as a statutory commission. The court found that opportunity costs should be calculated at the rate of 10 percent per annum. The court found the trustee owed in excess of $5,000 to the estate that may be offset against the fees and reimbursable costs otherwise payable to the trustee's successive firms as counsel.

Trustee Compensation When Case Converted to Chapter 7

In In re Lan Associates XI L.P., 192 F.3d 109 (3rd Cir. 1999), the court considered the request of a chapter 11 trustee for compensation in a case that was later converted to chapter 7 and the same trustee was reappointed. The court addressed two issues with regard to the trustee's request for compensation; the first was whether a credit bid could be considered in the base under which a trustee's compensation was calculated under §326(a). The court found that §326(a) is ambiguous; thus, it looked at the legislative history. Having reviewed the legislative history and recognizing there may be cases in which the trustee's arrangement and negotiation of a credit bid transaction may prove to be "as complex and time-consuming" as liquidating estate assets by selling them to third parties, the court found that if Congress had intended to include property or other considerations in the trustee's base compensation, it "certainly knew how to do so." As a result, the court concluded that Congress did not intend to include credit bids in the trustee's compensation. The court then went on to consider the amount of the trustee's compensation and held that, as a matter of law, consideration of the maximum fees set forth in §326(a) should not be an element in determining the reasonableness of fees required by §330(a). The court noted that while Congress intended §330 to prescribe the standard pursuant to which trustee compensation is to be awarded, §326 merely "caps the fees awarded pursuant to §330."

Converting Pre-conversion Claims

In In re Troutman Enterprises Inc., 244 B.R. 106 (Bankr. S.D. Ohio 2000), two years after confirmation of debtor's plan, the IRS successfully moved to convert the chapter 11 case to one under chapter 7 on the grounds that the debtor had defaulted in its obligations under the confirmed chapter 11 plan. Three years later, creditors filed an involuntary chapter 7 petition against the debtor. All of the claims asserted by the petitioning creditors were pre-conversion claims provided for in the debtor's confirmed chapter 11 plan. In interpreting §348(d) and its effect on the facts of the case, the court held that, "by relegating all post-petition, pre-conversion claims, including those arising from the confirmation of a chapter 11 plan, to the status of pre-petition claims upon conversion to chapter 7, §348(d) leaves the petitioning creditors without claims against the reorganized debtor and, accordingly, unable to satisfy the requirements for (the) filing of an involuntary petition pursuant to §303(b)." Thus, the involuntary chapter 7 petition was dismissed.

Declaratory Judgment Proceedings

In In re U.S. Lines Inc., 197 F.3d 631 (2nd Cir. 1999), the plan established a reorganization trust, which became the successor in interest with respect to insurance policies. The creditors included 12,000 employees who had filed more than 18,000 claims alleging asbestos-related injuries. The trust asserted that the employees' claims were covered by several insurance policies covering different years. The proceeds of those policies were the only funds potentially available to cover the personal injury claims. Each of the policies had a "pay-first" provision, pursuant to which the insurer's liability was not triggered until the insured paid the claim of the personal-injury victim, but the deductibles varied. The trust filed an adversary proceeding seeking a declaratory judgment pursuant to 28 U.S.C. §2201 attempting to define the party's respective rights under the various insurance policies. Two questions arose: Is the action core or non-core, and does the bankruptcy court have the discretion to deny a motion to compel arbitration filed by some of the insurance companies? The Second Circuit determined that it had jurisdiction to determine both whether the proceedings were core and whether the bankruptcy court had jurisdiction to enjoin arbitration. The court first addressed the core vs. non-core jurisdictional question and determined that "...the declaratory judgment proceedings brought by the trust in this case directly affect the bankruptcy court's core administrative function of asset allocation among creditors, and for that reason they are core." The court next considered the question of whether the bankruptcy court could deny an effort to send the matter to arbitration. Observing that the bankruptcy court has "broad, well-established powers premised upon 28 U.S.C. §§1334 and 157 to preserve the integrity of the reorganization process...," in this case, the "declaratory judgment proceedings are integral to the bankruptcy court's ability to preserve and equitably distribute the trust's assets..." Thus, it is "within the bankruptcy court's discretion to refuse to refer the declaratory judgment proceedings, which it properly found to be core, to arbitration." Thus, the real issue of interpreting the pay-first provisions is now firmly in the hands of the bankruptcy court.

Health Insurance Claims as Receivables

In re East Boston Neighborhood Health Center Corp., 242 B.R. 562 (Bankr. D. Mass. 1999), involved a trust indenture purporting to grant liens and security interests in receivables, and the issue was whether the term "receivables" was broad enough to include health insurance claims that the debtor had under both government programs, such as Medicare and Medicaid, and its contract with private health insurers—medical services provided to patients of the debtor. The court held that the federal statutes that prohibit a governmental insurer from making any payment under Medicare or Medicaid programs to anyone other than a health service provider do not invalidate a creditor's security interest in the health provider's insurance reimbursement claim. Further, these statutes do not reduce such security interests to a nullity. Bankruptcy Judge Carol J. Kenner held that there is nothing in the statute that prohibits the debtor, as the health provider, from granting a security interest in its receivables under the programs or that would invalidate such a security interest.


Journal Date: 
Monday, May 1, 2000