Yesterday, we reported on a district court decision from New York finding “related to” jurisdiction in the bankruptcy court to entertain a lawsuit between two nondebtors.
Today, we report on a decision by a bankruptcy judge, also in New York, who found no “related to” jurisdiction to underpin a lawsuit between nondebtors. The factual distinctions explain why the results were not the same.
In the case we report on today, a chapter 7 trustee sued a corporate defendant for receipt of about $160,000 in fraudulent transfers from the corporate debtor’s bank account. The defendant responded by filing a third-party complaint against an individual against whom the defendant claimed to have a common law right of indemnification.
The third-party plaintiff contended there was diversity and “related to” jurisdiction. With regard to “related to” jurisdiction, the third-party plaintiff reasoned that recovery against the third-party defendant would enhance the trustee’s ability to recover. The third-party defendant moved to dismiss the third-party complaint, contending there was neither diversity nor “related to” jurisdiction.
In his July 26 opinion, Bankruptcy Judge James L. Garrity, Jr. granted the motion and dismissed the third-party complaint.
No Diversity Jurisdiction
Judge Garrity pointed out how matters are referred to bankruptcy courts under 28 U.S.C. § 157(a) only if they arise under the Bankruptcy Code or arise in or are related to a bankruptcy case. He said, “Such relation to title 11 is the sine qua non of bankruptcy courts’ jurisdiction.”
Judge Garrity found no diversity jurisdiction in the bankruptcy court because “satisfaction of the section 1332 diversity and amount-in-controversy requirements is not a sufficient basis for a bankruptcy court to exercise jurisdiction over a case,” citing a law review article by former Bankruptcy Judge Leif M. Clark.
Bankruptcy Jurisdiction
Regarding “related to” jurisdiction, Judge Garrity cited SPV Osus Ltd. v. UBS AG, 882 F.3d 333, 339–40 (2d Cir. 2018), as did District Judge Torres in the opinion we reported on yesterday. He said that “related to” jurisdiction can include suits between third parties, but it is not “limitless.” He added that the third-party complaint was “not a core proceeding because it does not directly involve any of the bankruptcy estates and does not arise under title 11 or in [a] case under title 11.”
The third-party plaintiff argued that there was “related to” jurisdiction because there was a “conceivable effect” on the debtor’s estate. Specifically, the third-party plaintiff contended that the trustee would have an additional source of collection if the third-party plaintiff were to prevail on its claim against the third-party defendant.
Judge Garrity didn’t buy the idea. He said that a suit is not “related to” unless it involves property in which the debtor has a “legally cognizable interest,” and he found none. He held:
The Debtor has no legally cognizable interest in the Third-Party Complaint. Any judgment awarded to [the third-party plaintiff] on the complaint will direct [the third-party defendant] to pay damages directly to [the third-party plaintiff], not to the Chapter 7 Trustee. The proceeds of the litigation, if any, will not constitute estate property, and the resolution of that action will not affect the property available for distribution to the creditors of a bankruptcy estate or the allocation of property among such creditors.
Judge Garrity dismissed the third-party complaint for lack of subject matter jurisdiction.
Yesterday’s Opinion Distinguished
Yesterday, we reported on Universal Life Insurance Co. v. Lindberg (In re PB Life & Annuity Co.), 22-5122 (S.D.N.Y. July 31, 2023), where the district judge said there was “related to” jurisdiction because a recovery by the nondebtor plaintiff against a nondebtor third party would reduce the claim of the estate’s largest creditor.
The outcome of the third-party suit in the case before Judge Garrity would not have an immediate, automatic effect on the estate. Thus, the two cases are readily distinguishable.
Judge Garrity decided that the third-party suit was noncore. Likewise, the suit in yesterday’s district court decision was evidently noncore also. Paradoxically, one noncore suit stayed in bankruptcy court and one didn’t. In yesterday’s case, the suit would presumably end up back in district court for final judgment or trial by jury.
Perhaps there should be a higher threshold to find “related to” jurisdiction when a suit between nondebtors is noncore. And when a third-party, noncore suit has questionable “related to” jurisdiction, the bankruptcy court might consider abstaining rather than dismissing, to obviate appeal.
Yesterday, we reported on a district court decision from New York finding “related to” jurisdiction in the bankruptcy court to entertain a lawsuit between two nondebtors.
Today, we report on a decision by a bankruptcy judge, also in New York, who found no “related to” jurisdiction to underpin a lawsuit between nondebtors. The factual distinctions explain why the results were not the same.
In the case we report on today, a chapter 7 trustee sued a corporate defendant for receipt of about $160,000 in fraudulent transfers from the corporate debtor’s bank account. The defendant responded by filing a third-party complaint against an individual against whom the defendant claimed to have a common law right of indemnification.
The third-party plaintiff contended there was diversity and “related to” jurisdiction. With regard to “related to” jurisdiction, the third-party plaintiff reasoned that recovery against the third-party defendant would enhance the trustee’s ability to recover. The third-party defendant moved to dismiss the third-party complaint, contending there was neither diversity nor “related to” jurisdiction.
In his July 26 opinion, Bankruptcy Judge James L. Garrity, Jr. granted the motion and dismissed the third-party complaint.