The Supreme Court heard argument yesterday in U.S. Bank NA v. The Village at Lakeridge LLC to prescribe the standard of appellate review for non-statutory insider status.
More precisely, the Court will decide whether review is de novo when the underlying facts are undisputed. Or, as the government proposed in its amicus brief, do appellate courts review for clear error when the trial court drew factual inferences from undisputed facts?
The outcome will be important in federal practice generally. The role, power and workload of appellate courts will be enhanced if appellate review is de novo whenever the facts are undisputed.
As usual, how the justices will rule is unclear because several of them played devil’s advocate on both sides of the issue. And, it’s possible there will be no decision on the merits because newly appointed Justice Neal M. Gorsuch suggested that the Court might dismiss the certiorari petition as having been improvidently granted.
The Ninth Circuit Decision
The appeal arose from the tortured confirmation of a chapter 11 plan where there were only two creditors. One was a bank with a $10 million secured claim. The other was the debtor’s general partner, who had a $2.8 million unsecured claim.
The bank opposed the plan and could have defeated confirmation for lack of an accepting class because the insider’s vote could not be counted under Section 1129(a)(10).
To manufacture an accepting class, the insider sold her claim for $5,000 to a very close friend. The plan provided a $30,000 distribution on the unsecured claim.
The bankruptcy judge ruled that the buyer automatically became an insider by purchasing an insider’s claim. The Bankruptcy Appellate Panel reversed and was upheld by the Ninth Circuit in a 2-1 opinion.
All three circuit judges agreed that a purchaser does not automatically become an insider by purchasing an insider’s claim. The majority then proceeded to say that status as an insider entails a “factual inquiry that must be conducted on a case-by-case basis.” To become an insider, a claim buyer “must have a close relationship with the debtor and negotiate the relevant transaction at less than arm’s length.”
Neither the BAP nor the Ninth Circuit remanded the case to the bankruptcy court because the bankruptcy judge had determined that the buyer was not an insider based on his conduct and relationship with the debtor and its owners. Since the buyer as a matter of law did not become an insider by purchasing the insider’s claim, the majority on the circuit court upheld the appellate panel because the bankruptcy judge’s findings of fact on insider status were not clearly erroneous.
The Petition for Certiorari
The bank filed a petition for certiorari, which was granted in March. The Court limited its review to the appellate standard of review. To the disappointment of many, the Court will not rule on whether the purchaser of an insider’s claim automatically becomes an insider, perhaps because there does not appear to be a circuit split on that issue.
When the facts are undisputed, the bank argued that appeal is always de novo, not a search for clear error. At the outset, several justices seemed hostile to the notion of de novo review.
For instance, Chief Justice John G. Roberts Jr. asked whether the issue was a mixed question of law and fact, leading to clear error review because the parties applied the same facts to reach different conclusions. In the same vein, Justice Stephen G. Breyer implied that applying a label to undisputed facts can be a question of fact.
Justice Breyer employed an example involving people who agreed about the appearance of a bird but could not agree on the species. He asked whether applying a label would be a factual question calling for the opinion of an ornithologist.
Justice Breyer may have been the most solidly in the debtor’s corner. He said an appellate court would only have a cold record without the benefit of seeing the parties’ testimony. He asked whether “applying a label to a set of undisputed facts is itself a factual matter.”
The record suggests that another bankruptcy judge could have decided that the purchaser was an insider based on the same facts. Acknowledging that the bank had a good argument on the facts, Justice Sonia Sotomayor said that “it still doesn’t answer why this is not a finding of fact as opposed to a conclusion of law” that is “better left in the hands of the bankruptcy judge, who deals with financial transactions all the time.”
Although Justice Sotomayor seemed partial to the debtor when interrogating the bank’s counsel, she seemed to turn against the debtor’s counsel when he rose to argue. She intimated that deciding whether the sale was an arm’s length transaction was a “pure question of law.” Justices Elena Kagan and Samuel A. Alito Jr. at times also seemed prone to the bank’s point of view.
Justice Gorsuch raised the specter of dismissing the petition without reaching the merits. On several occasions, he intimated that the best outcome would be dismissal because the circuits are not in agreement about facts that turn a non-statutory insider into an insider.
Justice Sotomayor may be in league with the dissenter in the Ninth Circuit, who saw the conclusion of non-insider status as clear error.
The Solicitor General filed an amicus brief and argued on the debtor’s side. The government submitted that “pure factual inferences” should be reviewed for clear error. The government, however, took no position on whether there was clear error.
The year’s second bankruptcy case in the Supreme Court, Management Group LP v. FTI Consulting Inc., 16-784 (Sup. Ct.), will be argued on Monday, November 6.