The Second Circuit arguably expanded the notion of “related to” bankruptcy jurisdiction in another consequential decision stemming from Bernard Madoff’s mammoth $60 billion Ponzi scheme.
The Second Circuit’s enlarged concept of “related to” jurisdiction is more evident in the tenuous application of the facts to the law than in the statement of the law itself.
An investor lost $2.9 billion by entrusting money with Madoff. The investor sued a foreign bank in state court in New York, contending the bank knew or suspected that Madoff was running a Ponzi scheme and aided and abetted the fraud by supporting foreign feeder funds that funneled billions to Madoff, thus furthering the fraud and exacerbating the investor’s losses.
The bank removed the suit to federal court based on the general removal statute, 28 U.S.C. § 1452(a), and “related to” bankruptcy jurisdiction under 28 U.S.C. § 1334(b). The district court denied the investor’s motion to remand, concluding there was bankruptcy jurisdiction. The district court then dismissed the suit for lack of personal jurisdiction over the foreign bank.
The investor appealed, contending there was no bankruptcy jurisdiction. If that were true, the dismissal for lack of personal jurisdiction would have been a nullity.
The investor lost the appeal in a February 9 opinion by Second Circuit Judge Rosemary S. Pooler, who concluded there was bankruptcy jurisdiction and agreed the U.S. court lacked personal jurisdiction over the foreign bank.
In the Second Circuit, as elsewhere, Judge Pooler said there is “related to” bankruptcy jurisdiction if there is a “conceivable effect” on the bankrupt estate, even when the suit is between two third parties.
When the bankrupt estate is not directly involved, Judge Pooler said that “contingent outcomes” can satisfy the conceivable-effect test if there is a “possibility” of an effect on the estate.
Applying the test, Judge Pooler said that the “gravamen” of the complaint was the allegation that the foreign bank was a joint tortfeasor with Madoff. If the investor succeeded in showing that the bank was a joint tortfeasor, then the bank would have a contribution claim against Madoff, thus providing an effect on the estate and establishing “related to” jurisdiction.
The investor contended that the connection was too tenuous because the bar date against Madoff passed years ago. The investor secondarily argued that a contribution claim would be worthless because there will be nothing in Madoff’s general estate to pay general unsecured creditors. (N.B. The Madoff liquidation falls under the Securities Investor Protection Act, where there are two estates: one for “customers” with customer claims and a separate estate for general creditors like the investor, who have non-customer claims such as contribution claims. Until customers are paid in full, which seems unlikely at present, there will be no general estate.)
Judge Pooler said the bank’s failure to timely file a claim was not fatal, because the bankruptcy court has power to allow a late claim. Even if allowance of a late claim were extremely unlikely, she went on to say that the mere filing of a “late claim would result in the estate incurring costs” in terms of counsel fees to expunge the late claim.
A litigation strategy that might ultimately impose additional costs on a bankruptcy estate is evidently now sufficient in the Second Circuit to sustain “related to” jurisdiction.
Judge Pooler had a second theory for finding an effect on the estate. If the investor succeeded in winning a recovery from the bank, the judgment would reduce the investor’s claim against the Madoff estate, thus providing another effect on the bankrupt estate.
The investor contended there is unlikely ever to be a general estate against which the bank’s contribution claim would have any value. Judge Pooler rejected the investor’s argument, saying that the creation of a general estate “may be improbable, [but] it is not impossible.”
Evidently, the concept of “plausibility” that today governs the sufficiency of pleadings is not applicable to the pleading of “related to” jurisdiction, because the Madoff trustee, if asked, might say that the likelihood of his generating a general estate is theoretically possible but not “plausible.”
Having found there was bankruptcy jurisdiction, Judge Pooler proceeded to uphold the district court’s conclusion that the court lacked personal jurisdiction over the foreign bank. Mavens on personal jurisdiction over offshore defendants should read the opinion in full text.
The opinion may be an example of hard cases making bad law. The Second Circuit and the district courts in New York have shown an antipathy for allowing suits in federal court alleging that financial institutions aided the Madoff fraud. This opinion closes the door to investors’ hopes of mounting successful suits in what might be a more favorable state forum.