7.05.2007

8th Circuit Notes Intra-Circuit Split Re Recognition Of Derivative Standing To Pursue Avoidance Actions On Behalf Of A Bankruptcy Estate

Per In re Racing Services, Inc., 363 B.R. 911, 47 Bankr. Ct. Dec. 246 (8th Cir. BAP (N.D.) March 9, 2007) (NO. 06-6058):

The Eighth Circuit Court of Appeals concluded that creditors cannot bring avoidance actions under Section 548 of the Bankruptcy Code absent evidence that the trustee cannot be relied upon to assert such claims. Nangle v. Lauer (In re Lauer), 98 F.3d 378, 388 (8th Cir.1996). In order for a creditor to assert standing under Section 548, the creditor must establish that the trustee was unable or unwilling to pursue the claims on behalf of the bankruptcy estate. Id.

Courts within the Eighth Circuit have split in their interpretation of the Lauer opinion. A prior panel of the Eighth Circuit Bankruptcy Appellate Panel interpreted the Lauer opinion as a determination by the Eighth Circuit Court of Appeals that the statutory language of Section 548 of the Bankruptcy Code expressly confers avoidance powers exclusively on the trustee. LaBarge v. Benda (In re Merrifield), 214 B.R. 362, 365 (8th Cir. BAP 1997). While this statement is technically true, it ignores the Eighth Circuit Court of Appeals' acknowledgment that creditors may be able to assert avoidance actions where the trustee cannot be relied upon to do so or is unable or unwilling to pursue such claims.

One court has followed the Merrifield decision and focused on the strict language of the statute to determine that a Chapter 13 debtor lacks standing to bring an avoidance action because the statutory language limits the authority to the trustee. Wood v. Mize (In re Wood), 301 B.R. 558 (Bankr.W.D.Mo.2003).

Courts within the circuit have recognized derivative standing to pursue avoidance actions under certain circumstances. At least one court has recognized derivative standing where the bankruptcy court has approved the assignment of such claims from the trustee to the creditor. Quad City Bank v. Union Planters Bank (In re Chapman Lumber Co., Inc.), 2006 WL 3861107 (Bankr.N.D.Iowa 2006). Other courts have recognized derivative standing where the trustee is unable or unwilling to do so. However, the courts disagree as to what constitutes the trustee's inability or unwillingness to bring suit which justifies derivative standing. Some courts require the trustee's failure to bring the avoidance action to be unjustifiable and, accordingly, an abuse of discretion. Cambridge Tempositions, Inc. v. Cassis (In re Cassis), 220 B.R. 979, 983 (Bankr.N.D.Iowa 1998). Others require the party seeking standing to have made demand upon the trustee which was refused and to establish a colorable claim which will benefit the bankruptcy estate. In re Newcorn Enter. Ltd., 287 B.R. 744, 750 (Bankr.E.D.Mo.2002).

Other courts have refused to expressly acknowledge the availability of derivative standing within the Eighth Circuit, concluding that the issue is unclear, yet have agreed that if it is available a creditor must obtain permission from the bankruptcy court prior to asserting the claim. St. Francis County Farmers Ass'n v. Wright (In re Wright), 353 B.R. 627, 652-54 (Bankr.E.D.Ark.2006); Quad City Bank v. Chapman (In re Chapman Lumber Co. Inc.), 343 B.R. 217, 220-221 (Bankr.N.D.Iowa 2006). Regardless, no court has allowed a creditor to assert an avoidance action without prior court approval to do so. In re Wright, 353 B.R. at 653; In re Chapman Lumber, 343 B.R. at 221; JBD Pork Inc. v. Bank of America, N.A. (In re Premier Farms L.C.), 2004 WL 1175223 (Bankr.N.D.Iowa 2004). One court, in dicta, refused to weigh in on the issue without further guidance from the Eighth Circuit Court of Appeals. Lee v. Nat'l Home Centers, Inc. (In re Bodenstein), 248 B.R. 808, 817-18 n. 39 (Bankr.W.D.Ark.2000).

In 2000, the Supreme Court concluded that a creditor could not assert surcharge rights available to a trustee under Section 506(c) of the Bankruptcy Code. Hartford Underwriters Ins. Co. v. Union Planters Bank, N.A., 530 U.S. 1, 120 S.Ct. 1942, 147 L.Ed.2d 1 (2000). The language in Section 506(c) is similar to the language in the avoidance sections at issue today: the "trustee may...." 11 U.S.C. ยง 506(c). In the Hartford Underwriters case, the creditor never sought court permission to pursue the surcharge action. The Supreme Court noted this fact and expressly left unanswered the question before us today: can a bankruptcy court authorize another interested party to act in the trustee's stead in pursuing a claim or cause of action belonging to the estate and about which the Bankruptcy Code states only that the trustee may assert such claim or cause of action. Hartford Underwriters, 530 U.S. at 14 n. 5, 120 S.Ct. 1942.

Every circuit court which has addressed this issue since the Hartford Underwriters opinion was decided has recognized the possibility of derivative standing to pursue avoidance actions on behalf of a bankruptcy estate. Scott v. Nat'l Century Fin. Enter. Inc. (In re Baltimore Emergency Services II Corp.), 432 F.3d 557 (4th Cir.2005); Official Comm. of Unsecured Creditors of Cybergenics Corp. v. Chinery, 330 F.3d 548 (3rd Cir.2003); Commodore Int'l Ltd v. Gould (In re Commodore Int'l Ltd.), 262 F.3d 96 (2nd Cir.2001); Fogel v. Zell, 221 F.3d 955 (7th Cir.2000). None has gone so far as to say a bankruptcy court cannot authorize derivative standing.

The bankruptcy court thoroughly analyzed Eighth Circuit law on the subject of derivative standing and concluded that under the circumstances of this case the Plaintiff should not be granted standing to pursue the avoidance claims against the Defendants. We need not address the various factors relied upon by the bankruptcy court in reaching its well reasoned decision because one factor alone is sufficient to deny the request for standing: lack of prior court permission. At a minimum, prior court approval is required for a creditor to assert an avoidance action. In re Wright, 353 B.R. at 653; In re Chapman Lumber, 343 B.R. at 221; JBD Pork Inc. v. Bank of America, N.A. (In re Premier Farms L.C.), 2004 WL 1175223 (Bankr.N.D.Iowa 2004). Without prior approval, derivative standing does not exist.

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