Rochelle's Daily Wire

The bankruptcy court does not have constitutional power to enter final judgment in a preference suit against a defendant who did not file a claim or consent to final adjudication in bankruptcy court, according to District Judge James A. Teilborg of Phoenix.

Although Judge Teilborg reversed Bankruptcy Judge Daniel P. Collins of Phoenix regarding adjudicatory power in preference suits, Judge Teilborg conducted a de novo review and adopted Judge Collins’ findings of fact and conclusions of law on the preference claim.

Consequently, Judge Teilborg came up with the same result as Judge Collins last year: The trustee for a litigation trust under a confirmed chapter 11 plan walked out of district court with a $12 million preference judgment.

The Preference Claims

The case before Judges Teilborg and Collins involved an adversary proceeding against multiple defendants asserting claims for breach of fiduciary duty, preference, and intentionally fraudulent transfer. Some of the defendants had filed proofs of claim, but others had not. The case that went up on appeal involved preference defendants who had neither filed claims nor consented to final adjudication in bankruptcy court.

Regarding preference claims, Bankruptcy Judge Collins saw them as existing only as a matter of bankruptcy law. Given the “narrow scope” of Stern v. Marshall, 564 U.S. 462 (2011), together with the nature of preference claims as a “creature of the Bankruptcy Code,” Judge Collins concluded last year “that preferential transfer avoidance claims are the type of ‘core proceedings’ over which this Court has the authority to enter final orders, regardless of whether a given Defendant has filed a proof of claim in this case.” Morris Anderson & Associates Ltd. v. Redeye II LLC (In re Swift Air LLC), 14-00534, 2019 BL 94442, 2019 Bankr. Lexis 852 (Bankr. D. Ariz. March 15, 2019). To read ABI’s report, click here.

Just four days earlier, Chief Bankruptcy Judge Christopher S. Sontchi of Delaware had reached the same result, holding that a bankruptcy court may enter a final preference judgment against a defendant who had not filed a claim. Paragon Litigation Trust v. Noble Corp. PLC (In re Paragon Offshore PLC), 598 B.R. 761 (Bankr. D. Del. March 11, 2019). To read ABI’s report, click here.

The District Court’s Stern Analysis

Reviewing the decision by Judge Collins, Judge Teilborg laid out Stern and the litany of decisions from the Supreme Court and the Ninth Circuit on the constitutional power of bankruptcy courts. Absent consent, Stern teaches that the bankruptcy court cannot enter a final order on a state law claim that does not stem from the bankruptcy itself or would be resolved in the allowance of claims.

Judge Teilborg recognized that public rights do not fall under the Stern umbrella. Interpreting Granfinanciera, he concluded that preference claims involve private rights, “although arising under federal law.” Granfinanciera, S.A. v. Nordberg, 492 U.S. 33, 48–49 (1989).

Unlike Judge Soncthi, but like Judge Collins, Judge Teilborg was constrained by In re Bellingham Ins. Agency Inc., 702 F.3d 553, 565 (9th Cir. 2012). The Ninth Circuit is generally understood as meaning in Bellingham that bankruptcy courts have no final adjudicatory power over fraudulent transfer defendants who did not file claims or otherwise submit to the bankruptcy court’s power. However, the proclamations in Bellingham are dicta because the circuit court decided that the defendants had waived the Stern defense by failing to raise the issue below.

Just like a fraudulent transfer suit where there can be the right to a jury trial, Judge Teilborg said there “is a jury right in a recovery action for preferential transfers so long as the creditor who is the subject of the preference recovery has not filed a claim against the bankruptcy estate.” He cited Granfinanciera for the notion that preference suits are indistinguishable “in all relevant respects” from fraudulent transfer actions. Granfinanciera, supra, at 48-49.

Judge Teilborg rejected the trustee’s contention that the bankruptcy court had in rem jurisdiction. He cited Nordic Village for the idea that there is no res over which the bankruptcy court would have jurisdiction when the suit only aims to recover a sum of money, not particular dollars. U.S. v. Nordic Village Inc., 503 U.S. 30, 38 (1992).

Because the preference defendants had neither filed a claim nor consented to final adjudication, Judge Teilborg held that “the Bankruptcy Court did not have authority to enter a final order on the preference claims at issue.”

Judge Teilborg therefore treated “the Bankruptcy Court’s order regarding the preference claims as proposed findings of fact and conclusions of law subject to de novo review per Federal Rule of Bankruptcy Procedure 8018.1.” Over the next 36 pages, he decided that Judge Collins’ “proposed findings of fact should be adopted in their entirety.” He entered judgment in favor of the trustee on the preference claims.

N.B. In a separate 69-page opinion in the same case, Judge Teilborg adopted Judge Collins’ report and recommendation and entered a $12 million judgment on fiduciary duty claims involving the same facts.