The Eighth Circuit Extends Substantive Consolidation by Affirming the Consolidation of a Separated Couple’s Bankruptcy Estates

By: Justin A. Klingenberg

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

In Boellner v. Dowden, the Eighth Circuit held that it is within the discretion of the bankruptcy court to order substantive consolidation of spouses’ bankruptcy estates when they file separate petitions for chapter 7 bankruptcy. In Boellner, the debtors, Samuel and Marilyn Boellner, who were married and living separately, each filed their own petition for chapter 7 bankruptcy on the same day. James Dowden was assigned as trustee in their respective cases. In addition to living apart and having individual credit card debt, the debtors “had separate insurance policies, separate interests in business, separate annuities, and separate IRAs….” However, the debtors shared a checking account, several credit cards, a leased car, and had jointly withdrawn funds from IRAs. Additionally, the debtors shared obligations for state and federal taxes and attorney’s fees from a previous civil case. The trustee filed a motion for joint administration and substantive consolidation, arguing that the debtors’ “assets, liabilities, and handling of financial affairs were substantially the same,” and permitting them to “maintain separate bankruptcy estates would prejudice the creditors.” The debtors disagreed and argued that they should be permitted to maintain separate bankruptcy estates because it would allow Samuel, the husband, to choose federal exemptions and Marilyn, the wife, to choose state exemptions. After comparing the schedules filed by each spouse, the bankruptcy court ruled in favor of the trustee, and ordered substantive consolidation. The debtors appealed to the Bankruptcy Appellate Panel and the trustee removed the appeal to the district court, which affirmed the bankruptcy court’s order. Subsequently, the debtors appealed to the Eighth Circuit, contending that the substantive consolidation order was an abuse of the bankruptcy court’s discretion. In determining whether substantive consolidation was appropriate, the Eighth Circuit adopted a two-prong factor test articulated by the Eleventh Circuit that considered “(1) whether there is a substantial identity between the assets, liabilities, and handling of financial affairs between the debtor spouses; and (2) whether harm will result from permitting or denying consolidation.” In assessing the first factor, the Eighth Circuit found that the bankruptcy court’s reliance on the debtor’s statements of financial affairs and bankruptcy schedules was appropriate. In concluding the first factor had been fulfilled and, thus, substantial identity had been established, the Eighth Circuit emphasized the bankruptcy court’s finding it peculiar that Marilyn claimed ownership of the home while Samuel claimed ownership of the household’s goods. In its analysis of the second factor, the Eight Circuit affirmed the bankruptcy court’s finding that the evidence was sufficient to establish harm to creditors, particularly because the debtor’s “separate estates would have significantly less value than if their cases were substantively consolidated and [they] were forced to choose either federal or state exemptions.” Ultimately, the Eighth Circuit held that, since substantial identity had been established and separate estates would greatly prejudice the debtor’s creditors, the bankruptcy court was within its discretion in ordering substantive consolidation.

The Ninth Circuit Continues to Broadly Interpret § 510 (b)

By: James M. Kerins

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

In Pensco Trust Co. v. Tristar Esperanza Props., LLC (In re Tristar Esperanza Props., LLC), the U.S. Court of Appeals for the Ninth Circuit held that a creditors claim, based upon a debtor’s failure to pay an arbitration award, must be subordinated pursuant to section 510 (b) of the Bankruptcy Code. In Tristar, Jane O'Donnell purchased a minority membership interest in Tristar, a limited liability company, and exercised her right to withdraw her membership interest. Subsequently, debtor filed a chapter 11 bankruptcy petition and commenced an adversary proceeding against O'Donnell seeking to subordinate her claims under section 510 (b) of the Bankruptcy Code. O'Donnell insisted that section 510 (b) of the Bankruptcy Code did not apply because the claim was “not for damages, but for a fixed, admitted debt.” Additionally, O'Donnell claimed that section 510 (b) should not apply because the claim “does not arise from the purchase or sale of securities” because she converted her equity interest to a debt claim before debtor filed its bankruptcy petition. The bankruptcy court rejected O'Donnell’s arguments and held that the subordination clause of section 510 (b) “sweeps broadly.” Consequently, the bankruptcy court “broadly interpreted” the phrase “arises from” to mandate subordination whenever there is a “causal relationship between the claim and the purchase” or sale of securities. Furthermore, although O'Donnell did not “enjoy the benefits of equity ownership on the date of the petition,” according to the bankruptcy court, since O'Donnell bargained for an equity position she therefore, “embraced the risks that position entails.” On appeal, the Bankruptcy Appellate Panel for the Ninth Circuit[xiii] and the United States Court of Appeals for the Ninth Circuit both affirmed.

Skilled Nursing Homes May Not Seek Protection From Medicare/Medicaid Termination Under the Bankruptcy Code

By: Anthony J. Ienna

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

In In re Bayou Shores SNF, LLC, a district court found that a bankruptcy court lacked subject matter jurisdiction to thwart the regulation of Medicare and Medicaid funds of a non-compliant debtor. In particular, the district court, siding with the majority view, determined that 42 U.S.C. 405(h) bars bankruptcy courts from interfering with decisions made by the Centers for Medicare and Medicaid Services (“CMS”) relating to Medicare and Medicaid.

U.S. Bankruptcy Court Dismisses Bahamian Hotel’s Chapter 11 Case

By: Micaela Manley

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

In In re Northshore Mainland Services, Inc. , the Bankruptcy Court for the District of Delaware dismissed Bahamian companies’ chapter 11 cases, relating to the construction of the Baha Mar Resort, under the abstention provision of the United States Bankruptcy Code (the “Code”), and refrained from dismissal of the Delaware companies’ chapter 11 case.[1] Construction of the Baha Mar Resort, which included four new hotels, a Las Vegas style casino, and a premier Jack Nicklaus Signature 18-hole golf course, broke ground in February 2011 with completion estimated by November 20, 2014.[2] By 2013 it was clear that the contractors were not going to meet the planned schedule.[3] Almost two years later, the Baha Mar Resort remained incomplete.[4] Subsequently, the debtors filed chapter 11 petitions under the Code with the Delaware bankruptcy court.[5] In addition, the debtors requested recognition of the chapter 11 cases in the Bahamas.[6] The Bahamian Attorney General opposed the debtors’ request for recognition and asked the Bahamian court to issue an order winding up of all the Bahamian debtors’ business.[7] The Bahamian court concluded that subordinating the local proceedings to the Delaware proceedings where the locale had little connection to the debtors would not be equitable.[8] The Bahamian Court thereafter dismissed the winding up proceedings for certain debtors and appointed joint provisional liquidators to seven others.[9] In the meantime, two of the debtors filed motions in the bankruptcy court to dismiss their chapter 11 cases.[10] According to the debtors, the best interests of the debtors and creditors would be served by dismissal of the chapter 11 cases and the continuation of proceedings in the Bahamas.[11] Ultimately, the United States bankruptcy court dismissed the cases of the Bahamian debtors under Section 305(a) of the Code.[12] The bankruptcy court, however, refused to dismiss the chapter 11 case filed by Northshore Mainland Services, Inc., a Delaware corporation.[13]

“Professional Persons” Employed: Pay for Your Own Lawyer

By: Christopher Atlee F. Arcitio

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

In general, a debtor may, subject to court approval, retain and pay professionals, including attorneys, under section 327 of the chapter 11 Bankruptcy Code. It is unclear, however, who is responsible for paying a professional retained by a debtor’s professional. The United States Bankruptcy Court for the District of Idaho held in a chapter 11 bankruptcy case that a court-approved accountant can be statutorily barred from recovering legal fees from the debtor. Debtor, Walker Land & Cattle, L.L.C., filed for chapter 11 bankruptcy and requested permission to use cash collateral. Upon the request of Creditor, Wells Fargo Bank, the court required the debtor to provide audited financial statements. The court approved the employment of accountant Judith K. Bower (“Bower”) to conduct the audit. Bower conducted the audit within five months. After the audit, the creditor issued a notice to depose Bower. The creditor subsequently issued a subpoena for Bower to testify at the debtor’s confirmation hearing. Bower retained counsel for both the deposition and hearing. Bower subsequently sought $7,735 for reimbursement of her attorney’s fees from the debtor. The court denied the request, finding that Bower did not prove the legal fees were necessary expenses under section 330 of the Bankruptcy Code. Therefore, Bower could not recover such fees as reimbursement expenses.