The Third Circuit handed down a nonprecedential opinion underscoring the right of a putative debtor to recover compensatory and punitive damages after winning dismissal of an involuntary petition.
Lenders had filed an involuntary petition against an individual based on his guarantee of a lease. A bankruptcy court in Florida dismissed the petition. Alleging that the involuntary filing was in bad faith, the debtor sued the lenders under Section 303(i), seeking compensatory and punitive damages.
The suit was withdrawn to the district court in Florida, where a jury awarded the debtor some $6.1 million, including $5 million in punitive damages. The Eleventh Circuit upheld the judgment in view of a procedural snafu by the lenders’ counsel. See Rosenberg v. DVI Receivables XIV, LLC, 818 F.3d 1283 (11th Cir. 2016). For ABI’s discussion of the opinion, click here.
Meanwhile, the lenders sued the debtor in district court in Pennsylvania to recover on the debtor’s guarantee of the lease that had been the subject of the involuntary petition. The district court later entered judgment in favor of the lenders and against the debtor for about $6.5 million.
The lenders filed a motion in the Pennsylvania district court for mutual judgment satisfaction under Federal Rule 69(a). In plain English, the lenders wanted to offset the debtor’s $6.1 million judgment against their judgment for $6.5 million. Had they succeeded, the lenders would have recovered a net of only $400,000, but they would have not been out of pocket for the $6.1 million judgment against them. There was an important wrinkle, though.
Several law firms had charging liens against the $6.1 million judgment in favor of the debtor. Evidently, the lawyer’s charging liens would have come ahead of the lenders’ judgment lien. So, without offset, the lenders would have paid $6.1 million in cash but recovered perhaps little from the debtor. Offset, therefore, would bestow a significant financial advantage on the lenders.
The Pennsylvania district court denied the offset, and the lenders appealed. In a July 31 opinion, Circuit Judge Marjorie O. Rendell upheld denial of the offset.
Pennsylvania law governed because Rule 69(a) invokes state procedures in the enforcement of a money judgment. In Pennsylvania, setoff is an equitable right addressed to the sound discretion of the court.
Judge Rendell said that an “involuntary petition has devastating consequences for the putative debtor” and that “Section 303(i) plays a key role in deterring bad faith filing.” She cited several lower courts and the Collier treatise, which she characterized as saying that “Section 303(i)’s equitable purpose would be frustrated if bad faith filers were allowed to offset a Section 303(i) judgment.”
In view of the lenders’ conduct, Judge Rendell concluded that the district court had not abused its discretion in denying “the equitable remedy of offset.”
In a prior appeal involving the same involuntary petition but damages claimed by other parties, the Third Circuit created a split with the Ninth Circuit in August 2016 when the Philadelphia-based appeals court held that Section 303(i) does not preempt claims by non-debtors against creditors who mount unsuccessful involuntary bankruptcy petitions. To read ABI’s discussion, click here.