The validity and amount of a “deemed allowed” claim under Section 502(a) can be binding in a subsequent litigation between the same parties or their privies, according to the Sixth Circuit. Before applying issue preclusion or claim preclusion, however, courts should consider whether the claim was actually or necessarily litigated.

The case involved a trucking company that terminated a union contract and withdrew from a union pension fund. The pension fund sued to recover about $1.1 million, representing the trucking company’s withdrawal liability.

The trucking company filed a chapter 7 petition, and the pension fund filed a claim for exactly same amount it sought in the pre-petition lawsuit, which had been stayed by bankruptcy. No one objected to the claim, so it was deemed allowed under Section 502(a).

Section 502(a) says that a proof of claim filed under Section 501 “is deemed allowed, unless a party in interest . . . objects.” Eventually, the pension fund received a $52,000 distribution from the trustee on its deemed allowed claim of $1.1 million.

Around the time of the bankruptcy filing, the family that owned the bankrupt trucking company set up a new corporation and began the same business with many of the same customers. The pension fund mounted a suit in federal court against the new company, asserting it was an alter ego under the National Labor Relations Act, making it liable for the bankrupt’s withdrawal liability.

The district court granted the pension fund’s motion for summary judgment, holding that the new company was the bankrupt’s alter ego. With regard to damages, the district court added interest and fees allowed under the NLRA, raising the judgment to some $3.2 million.

The “new” company appealed, contending that res judicata precluded the district court from awarding more than $1.1 million.

In his March 21 opinion, Circuit Judge Eric L. Clay upheld the district court’s finding that the new company was the alter ego of the bankrupt company under the NLRA. He then addressed the question of whether the amount of the deemed allowed claim was binding in the new lawsuit under the doctrine of res judicata, or claim preclusion.

In the Sixth Circuit, claim preclusion requires proof of four elements: (1) A final decision on the merits by a court of competent jurisdiction; (2) a subsequent litigation between the same parties or their privies; (3) an issue in the later litigation that was actually litigated or should have been litigated; and (4) an identity of the cases of action.

On the first element, Judge Clay said that the Second, Fifth and Ninth Circuits had held between 1993 and 2007 that an uncontested proof of claim is a final judgment on the merits for the purposes of claim preclusion.

Judge Clay agreed with the sister circuits, quoting the Ninth Circuit’s comment that it would be “most peculiar” if an uncontested proof of claim “had less dignity” than a claim that someone had contested. Siegel v. Fed. Home Loan Mortgage Corp., 143 F.3d 525, 530 (9th Cir. 1998).

Judge Clay therefore held that “an uncontested proof of claim that was allowed under 11 U.S.C. § 502(a) is a final judgment on the merits for the purposes of res judicata, with or without a separate court order specifically allowing the claim.”

In one paragraph, Judge Clay said that the new lawsuit involved the same parties or their privies.

On the issue of whether interest and fees under the NLRA could be litigated in bankruptcy court, Judge Clay said yes and held that interest and fees “should have been litigated.”

The new company’s res judicata argument came up short on the fourth and last element: an identity of the causes of action.

The pension fund’s proof of claim rested on the bankrupt’s failure to pay withdrawal liability. The claim in the new lawsuit dealt with the new company’s alter ego liability. Thus, Judge Clay said, claim preclusion “does not bar litigation of the amount of [the new company’s] liability” because the claim did not arise from the same “operative facts.”

In a footnote, Judge Clay insinuated that the new company might have won were its argument based on issue preclusion (collateral estoppel) rather than res judicata. He refused to consider collateral estoppel because the new trucking company had not raised the argument until the reply brief.

So, if the new company had argued issue preclusion, the deemed allowed claim would have had preclusive effect regarding the amount of the claim. In other words, the lawyer’s failure to distinguish between res judicata and collateral estoppel was a $2 million mistake.

Observations

The deemed allowance of a claim involves more issues than meets the eye. In a chapter 11 case, a deemed allowed claim logically should be binding in any later litigation involving the debtor or those in privity, such as officers and directors. In those situations, the company and its officers and directors were in control with regard to claim allowance. Even so, a small percentage distribution may not have justified the expense of a claim objection.

But take the case of a corporate debtor in chapter 7. The small size of the estate may not justify objecting to claims. Furthermore, is a trustee in privity with the debtor corporation and its officers and directors for the purpose of claim and issue preclusion? Indeed, the trustee may be the principal adversary of officers and directors. At least with regard to issue preclusion, a deemed allowed claim might not have been actually and necessarily litigated.