A case to be decided by the Supreme Court in the upcoming term will not resolve all questions that arise when the Federal Deposit Insurance Corp. and a bankruptcy trustee are fighting over ownership of an income tax refund.
In Rodriguez v. Federal Deposit Insurance Corp., 18-1269 (Sup. Ct.), the high court will decide whether state or federal common law governs the ownership of tax refunds when a subsidiary generated the losses but the government would ordinarily pay the refund to the bankrupt corporate parent. Rodriguez involves a failed bank taken over by the FDIC as receiver. The bankruptcy trustee for the bank’s holding company unsuccessfully relied on state law in laying claim to a tax refund resulting from losses incurred by the bank subsidiary.
The circuits are split. In the appeal to the Supreme Court, the Tenth Circuit employed federal common law in concluding that the tax refund belonged to the FDIC, as receiver.
The Ninth Circuit Case
An August 28 opinion from the Ninth Circuit did not reach the merits of ownership and thus did not deal with issues arising in Rodriguez. Instead, the appeals court ruled that the bankruptcy court lacked jurisdiction over disputed ownership of the tax refund because the bankruptcy trustee had not exhausted administrative remedies.
A bank failed in 2009 and was taken over by the FDIC. The FDIC obtained permission from the Internal Revenue Service to file amended tax returns to recover refunds owed on account of losses the bank incurred before its failure. Ultimately, the FDIC received about $8.5 million in tax refunds from the IRS.
Outside of bankruptcy, the right to the refund would have been governed by a tax allocation agreement, or TAA, between the bank and its parent holding company. Under the TAA, the refund would have been paid to the holding company. In bankruptcy, the holding company’s trustee took the position under state law that the FDIC only had an unsecured claim for the refund because the refund itself was property of the estate. (Whether state or federal common law governs ownership is the issue to be decided in Rodriguez.)
In the holding company’s chapter 7 bankruptcy, the FDIC filed a protective proof of claim contending that the tax refund was property of the FDIC, not property of the estate. Alternatively, the FDIC asserted a claim for the refund if it was determined to belong to the trustee.
The holding company’s trustee mounted a preference action against the FDIC for the $8.5 million. The FDIC moved to dismiss for lack of jurisdiction, because the trustee had not exhausted administrative remedies. The bankruptcy court denied the motion to dismiss.
After a bench trial on the merits, the bankruptcy court again found jurisdiction, rejected the idea that federal common law governs ownership, decided that the refund belonged to the trustee, and held that the trustee was entitled to recover the refunds as a preference. The district court affirmed.
FIRREA
The Financial Institutions Reform, Recovery and Enforcement Act of 1989, or FIRREA, contains elaborate procedures for asserting claims against an FDIC receivership. Among them, 12 U.S.C. § 1821(d)(13)(D) provides that “no court” has jurisdiction over “any claim . . . for payment from . . . the asset of any” FDIC receivership. 12 U.S.C. § 1821(d)(6)(A) then provides for judicial review after exhaustion of administrative remedies.
In a per curiam opinion on August 28, the Ninth Circuit explained why its own precedent did not control. See In re Parker N. Am. Corp., 24 F.3d 1145 (9th Cir. 1994).
Parker created an exception to FIRREA’s exhaustion requirement. There, the FDIC had filed a claim against a bankrupt estate for more than the bankruptcy trustee was seeking to recover from the FDIC as a preference.
The August 28 opinion described Parker as holding “that if the FDIC is attempting to collect from a debtor during bankruptcy proceedings an amount greater than the amount that the debtor seeks to recover from FDIC as a preferential transfer, then there is no ‘claim’ against FDIC within the meaning of subsection (D)(i).” In other words, Parker did not require exhaustion of administrative remedies because the bankruptcy trustee was asserting a defense, not making a claim.
In its new per curiam decision, the Ninth Circuit declined to “expand” the “narrow holding of Parker,” because the facts were different.
In the new case, the bankruptcy trustee was not asserting an affirmative defense. Rather, as the appeals court said, the FDIC’s claim “equals the amount sought to be recovered.”
The appeals court rested its decision largely on the inapplicability of a primary rationale of Parker: The bankruptcy court has “special expertise” in ruling on preferences, where the FDIC does not have “specific expertise.”
In the case on appeal, the circuit court said that preference was not an issue, because no question about preferences “will arise if [the trustee’s] assertion of ownership fails.”
There being no exception to the rule requiring exhaustion of remedies, the Ninth Circuit reversed because the bankruptcy court lacked subject matter jurisdiction.
What About Section 1334?
Although Parker discussed the bankruptcy court’s jurisdiction conferred by 28 U.S.C. § 1334, the Ninth Circuit’s new opinion did not.
In divesting all courts of jurisdiction over claims against FDIC receiverships, FIRREA speaks in general terms. Section 1334 is more specific. When it comes to granting or terminating jurisdiction, which statute governs, the specific or the general?
Section 1334(b) grants original but not exclusive jurisdiction over “all civil proceedings arising under title 11,” such as the trustee’s preference claim. Further, Section 1334(e) gives the bankruptcy court “exclusive jurisdiction . . . of all property, wherever located, of the debtor.”
If the tax refund in fact was property of the bankrupt holding company that was being held improperly by the FDIC, why didn’t the bankruptcy court have exclusive jurisdiction?
In addition, 28 U.S.C. § 157(b)(2)(B) and (b)(2)(F) provides that the bankruptcy court had core jurisdiction over the allowance of the FDIC’s claim and the trustee’s preference action.
Shouldn’t those specific grants of power in Section 1334 and 157 be considered in judging whether the bankruptcy court had jurisdiction to adjudicate ownership of the tax refund, a necessary step in reaching a conclusion in the preference action?
The Rodriguez Appeal in the Supreme Court
In Rodriguez, the Supreme Court granted certiorari at the end of the term in late June. The bankruptcy trustee filed his brief on August 30, but the case has not yet been scheduled for oral argument.
The outcome will affect some bankruptcy cases, such as complex chapter 11s where the holding company has filed a tax return for a sizeable refund, but creditors of a loss-making subsidiary want the refund directed to the subsidiary.
Although Rodriguez will provide guidance in some bankruptcies, the justices of the Supreme Court may primarily view Rodriguez as a vehicle for deciding when federal courts are at liberty to create federal common law.
For an ABI discussion of Rodriguez, click here.
A case to be decided by the Supreme Court in the upcoming term will not resolve all questions that arise when the Federal Deposit Insurance Corp. and a bankruptcy trustee are fighting over ownership of an income tax refund.
In Rodriguez v. Federal Deposit Insurance Corp., 18-1269 (Sup. Ct.), the high court will decide whether state or federal common law governs the ownership of tax refunds when a subsidiary generated the losses but the government would ordinarily pay the refund to the bankrupt corporate parent. Rodriguez involves a failed bank taken over by the FDIC as receiver. The bankruptcy trustee for the bank’s holding company unsuccessfully relied on state law in laying claim to a tax refund resulting from losses incurred by the bank subsidiary.
The circuits are split. In the appeal to the Supreme Court, the Tenth Circuit employed federal common law in concluding that the tax refund belonged to the FDIC, as receiver.
The Ninth Circuit Case
An August 28 opinion from the Ninth Circuit did not reach the merits of ownership and thus did not deal with issues arising in Rodriguez. Instead, the appeals court ruled that the bankruptcy court lacked jurisdiction over disputed ownership of the tax refund because the bankruptcy trustee had not exhausted administrative remedies.
A bank failed in 2009 and was taken over by the FDIC. The FDIC obtained permission from the Internal Revenue Service to file amended tax returns to recover refunds owed on account of losses the bank incurred before its failure. Ultimately, the FDIC received about $8.5 million in tax refunds from the IRS.