The Eleventh Circuit twisted itself in knots to hold that neither Rooker-Feldman nor issue preclusion prevented the bankruptcy court from disregarding an erroneous state court decision saying that an individual retirement account was NOT exempt.
The IRA
On default, creditors obtained a $1.6 million judgment against the debtor. The creditors discovered that the debtor had an individual retirement account, or IRA, at a broker. The IRA evidently held about $850,000.
The debtor moved to quash a writ of garnishment that the state court had issued to the broker. The debtor contended that the IRA was exempt from execution in payment of the judgment. The state court decided that the IRA was not exempt, perhaps believing that the debtor had made prohibited transactions.
The state court entered judgment against the broker for $850,000. The judgment allowed the broker to satisfy the judgment by exercising a right of setoff against the IRA.
The judgment became final; the broker liquidated the IRA but never wired the funds to the court clerk, as the judgment specified.
Finally, the debtor filed a chapter 7 petition and claimed an exemption for the funds that had been in the IRA. The creditors objected to the exemption, contending that the funds could not be exempt because they were no longer estate property after the state court found that the IRA was not exempt.
The bankruptcy court ruled against the creditors, concluding that the IRA was exempt. The Eleventh Circuit accepted a direct appeal.
Rooker-Feldman
The creditors contended that the Rooker-Feldman doctrine bereft the bankruptcy court of subject matter jurisdiction. In his opinion for the Eleventh Circuit, Chief Judge William Pryor described the doctrine as meaning, generally, that a loser in state court may not appeal the loss to a federal court.
Acknowledging that the Supreme Court in recent years has narrowed the scope of Rooker-Feldman, Judge Pryor quoted precedent from his court:
Federal courts “do not lose subject matter jurisdiction over a claim ‘simply because a party attempts to litigate in federal court a matter previously litigated in state court.’” (quoting Exxon Mobil, 544 U.S. at 293).
Behr v. Campbell, 8 F.4th 1206, 1210 (11th Cir. 2021).
Judge Pryor explained that the debtor was not asking the bankruptcy court to overturn the state court judgment. Rather, he said, the debtor wanted the bankruptcy court to rule on the “effect” of the judgment.
Rooker-Feldman did not apply, Judge Pryor said, because “those arguments about the effect of the Alabama judgment are not invitations to overrule it.”
The IRA as Estate Property
On the merits, Judge Pryor described the issue as asking the court to decide whether the judgment in state court “terminated” the debtor’s interest in the IRA. The intricacies of state law saved the debtors’ bacon.
On a “creditor’s bill” utilized by the creditors, Judge Pryor said that a judgment “can” alter a debtor’s interest in property. “But,” he said, “a judgment does not necessarily extinguish all of a debtor’s interests in his property.”
Of pivotal significance, the broker retained the funds in the IRA, and the judgment did not give rise to a “personal judgment” against the broker. Furthermore, Judge Pryor said that the judgment created no “duty” for the broker to transfer the funds to the court clerk.
Judge Pryor said that bankruptcy stopped all collection efforts. Because the debtor “had an interest in the retirement account when he filed for bankruptcy,” he held that “the bankruptcy court correctly determined that the retirement account was part of [the debtor’s] bankruptcy estate.”
No Setoff
The creditors contended that the judgment gave the broker a right of setoff, but Judge Pryor saw none because the debtor did not owe a debt to the broker.
There was no personal judgment against the broker, and the judgment only gave the broker a right to transfer the debtor’s funds to the court clerk. There being no mutual debts between the broker and the debtor, there was no right of setoff.
Claim Preclusion
The creditors relied on the doctrine of collateral estoppel, now often known as issue preclusion.
Judge Pryor said that issue preclusion under state law prevents relitigation of a fact or law that was litigated and decided in a prior suit. He said that issue preclusion did “not apply because it is not clear that resolution of the issue in this appeal — whether [the debtor’s] retirement account was exempt — was a ‘necessary’ part of the Alabama judgment.”
Judge Pryor went on to say that there could have been procedural or substantive grounds on which the state court decided that the IRA was not exempt. When a judgment fails to distinguish between two adequate and independent grounds for a decision, he cited Eleventh Circuit authority for the proposition that the judgment has no preclusive effect.
Judge Pryor affirmed the judgment in favor of the debtor.
The Eleventh Circuit twisted itself in knots to hold that neither Rooker-Feldman nor issue preclusion prevented the bankruptcy court from disregarding an erroneous state court decision saying that an individual retirement account was NOT exempt.
The IRA
On default, creditors obtained a $1.6 million judgment against the debtor. The creditors discovered that the debtor had an individual retirement account, or IRA, at a broker. The IRA evidently held about $850,000.
The debtor moved to quash a writ of garnishment that the state court had issued to the broker. The debtor contended that the IRA was exempt from execution in payment of the judgment. The state court decided that the IRA was not exempt, perhaps believing that the debtor had made prohibited transactions.
The state court entered judgment against the broker for $850,000. The judgment allowed the broker to satisfy the judgment by exercising a right of setoff against the IRA.