Although the Third Circuit has held that creditors can have derivative standing to sue on behalf of a chapter 11 debtor in possession, the appeals court has not said whether there is a similar rule in chapter 13.
A bankruptcy judge in Philadelphia filled in the gaps by holding that the court can grant derivative standing to a creditor when a chapter 13 trustee declines to bring suit for lack of funds to finance litigation.
The case involved an individual in chapter 13 whose estate held potential fraudulent transfer claims against third parties. Because the trustee would not file suit, Bankruptcy Judge Ashely M. Chan authorized a creditor to sue, given that the creditor agreed that any recovery would go to the estate.
Citing circuit authority, Judge Chan said in her Feb. 29 opinion that while a trustee alone has standing to file an avoidance action under Section 544(b), the Third and other circuits grant derivative standing allowing creditors’ committees to sue on behalf of a chapter 11 estate, employing the court’s equitable powers.
The same rule applies in chapter 13, the judge said, if the system “breaks down” when a trustee cannot or will not pursue a meritorious suit. In that instance, Judge Chan said, the bankruptcy judge becomes the “gatekeeper” to decide whether creditors can sue for the benefit of the estate.
Like in chapter 11, Judge Chan did not impose a requirement that the creditor make a formal demand on the trustee to sue if it would be futile.
Although the Third Circuit has held that creditors can have derivative standing to sue on behalf of a chapter 11 debtor in possession, the appeals court has not said whether there is a similar rule in chapter 13.