The inability of the bankruptcy court to issue a final order in a fraudulent transfer suit does not deprive the bankruptcy court of discretion to deny enforcement of an arbitration agreement, according to a May 9 decision by the Ninth Circuit.
The opinion by Circuit Judge Barry G. Silverman went on to say that denial of a motion to compel arbitration is not a final order invoking Stern v. Marshall restrictions on a bankruptcy court’s power.
A chapter 7 trustee brought fraudulent transfer claims against the lawyer for a Ponzi scheme. The lawyer moved to compel arbitration. Although the trustee conceded that the arbitration agreement covered the suit, the bankruptcy court denied the motion to compel and was upheld in district court.
On the second appeal, Judge Silverman ruled that the lower courts properly invoked the Ninth Circuit’s 2012 Thorpe Insulation decision, which held that a bankruptcy court has discretion to deny arbitration in a core proceeding “only if arbitration would conflict with the underlying purposes of the Bankruptcy Code.”
Because the lawyer-defendant had not filed a claim, he argued that the fraudulent transfer suit was not “core” and therefore did not give the bankruptcy court discretion to deny arbitration. Judge Silverman disagreed, saying that Stern “does not affect the statutory designation of matters as core for the purpose of determining whether the bankruptcy court has discretion to deny arbitration.”
Judge Silverman added that the decision to deny arbitration “is not itself a final judgment.” Were it otherwise, the bankruptcy court’s disposition of a motion to compel arbitration would not be efficacious without action in district court. If the bankruptcy court could not rule on a motion to compel arbitration without adoption by the district court, a lawsuit in bankruptcy court would be frozen until the district court passed on the arbitration motion.
The Ninth Circuit held that denial of arbitration was proper on a second ground.
The suit contained claims invoking both Section 548 and the trustee’s status as a creditor under Section 544 to prosecute fraudulent transfers under the California Civil Code. Since only signatories to contracts are bound and no creditor signed the arbitration agreement, the bankruptcy court lacked discretion to compel arbitration.