In the Wake of Stern: Supreme Court Issues Narrow Ruling in Executive Benefits and Grants Certiorari in Wellness International

Fall 2014Articles American Bar Association Young Lawyer Division Bankruptcy Committee Newsletter

Originally published in the American Bar Association Young Lawyer Division Bankruptcy Committee Fall 2014 Newsletter, Vol. 1 No. 1. (c) 2014 by the American Bar Association.

In a narrow and unanimous decision entered on June 9, 2014, the Supreme Court of the United States provided guidance to Bankruptcy Courts confronted with “Stern claims” – those “designated for final adjudication in the bankruptcy court as a statutory matter, but prohibited from proceeding in that way as a constitutional matter.”Executive Benefits Ins. Agency v. Arkison, 134 S.Ct. 2165, 2170, 573 U.S. __ (2014).

As background, under the Bankruptcy Amendments and Federal Judgeship Act of 1984 (the “1984 Act”), federal district courts have “original and exclusive jurisdiction of all cases under title 11.” 28 U.S.C. § 1334(a); Executive Benefits, 134 S.Ct. at 2171.Under 28 U.S.C. § 157(a), district courts may refer to bankruptcy courts “proceedings arising under title 11 or arising in or related to a case under title 11.”The 1984 Act divided matters that may be referred to bankruptcy courts as either “core” or “non-core” proceedings, and set forth a non-exhaustive list of “core” proceedings in Section 157(b).For core proceedings, the 1984 Act authorizes bankruptcy courts to “enter appropriate orders and judgments, subject to review under section 158,” traditional appellate review.28 U.S.C. § 157(b)(1).Non-core proceedings are those that are not core but are “otherwise related to a case under title 11,” and bankruptcy courts may “submit proposed findings of fact and conclusions of law to the district court” subject to de novo review. 28 U.S.C. § 157(c)(1).However, “with consent of all the parties,” bankruptcy courts may enter “appropriate orders and judgments” subject to traditional appellate review on non-core proceedings as if they were core.28 U.S.C. § 157(c)(2).

In Stern v. Marshall, 564 U.S. 2 (2011), the Supreme Court issued its landmark decision that Article III of the Constitution does not permit bankruptcy courts to enter final judgment on a counterclaim for tortious interference despite the bankruptcy court’s authority to adjudicate the claim as a core proceeding under § 157(b)(2)(C).The Stern opinion was based on the distinction between “public rights” – which stem from federal statutes and may be adjudicated outside of an Article III court – and “private rights” – which stem from common or state law and may be adjudicated by only an Article III court.As the counterclaim at issue in Stern, tortious interference, derived from state law, the Supreme Court held that the 1984 Act violated Article III of the Constitution by allowing final adjudication by a bankruptcy judge.

Since Stern, courts and practitioners have considered whether other core proceedings violate Article III, such as fraudulent conveyance claims that arise under state law.As the Supreme Court noted in Executive Benefits, “Stern did not, … address how the bankruptcy court should proceed” when confronted with one of these “Stern claims.”Executive Benefits, 134 S.Ct. at 2172.“Because §157(b) does not explicitlyauthorize bankruptcy judges to submit proposed findings of fact and conclusions of law in a core proceeding, the argument goes, Stern created a gap in the statute.”Id. at 2172-73.In Executive Benefits, the Supreme Court’s first decision since Stern, the bankruptcy court had granted summary judgment in favor of a chapter 7 trustee, which was affirmed after de novo review by the district court.While Executive Benefits’ appeal to the Ninth Circuit was pending, the Supreme Court issued its Stern decision, and Executive Benefits sought dismissal for lack of jurisdiction, which was rejected by the Ninth Circuit.The Supreme Court ruled in Executive Benefits that the 1984 Act “permits Stern claims to proceed as non-core within the meaning of § 157(c),” particularly in light of the severability provision of the statute (§ 151).Id. at 2173.If a Stern claim meets the criteria as non-core, but is otherwise related to a case under title 11, “[t]he bankruptcy court should hear the proceeding and submit proposed findings of fact and conclusions of law to the district court for de novoreview and entry of judgment.”Id.(finding that the district court’s de novoreview cured any error of the bankruptcy court’s entry of judgment on a Stern claim).

AlthoughExecutive Benefitsclarified how bankruptcy courts should approach Stern claims, the Supreme Court declined to decide (1) whether the fraudulent conveyance claims at issue must be decided by an Article III court; and (2) whether a bankruptcy judge can enter a final order on a Stern claim with consent of the parties.However, the Supreme Court recently granted certiorari in Wellness International Network, Ltd. v. Sharif, in which a judgment creditor sought a declaratory judgment that certain assets held in trust were property of the bankruptcy estate.On appeal, the Seventh Circuit Court of Appeals reversed the district court’s ruling that the bankruptcy court did not have authority to declare that the trust assets were estate property because such a declaration required deciding state-law alter ego issues.On July 1, 2014, the Supreme Court granted certiorari in Wellness Internationalto consider two issues: (1) whether the presence of a subsidiary state property law issue in an action to determine whether property belongs to the bankruptcy estate does not “stem[] from the bankruptcy itself” and therefore the bankruptcy court does not have constitutional authority to enter a final order; and (2) whether, under Article III, litigants can consent to bankruptcy court jurisdiction, and if so, whether consent can be implied based on a litigant’s conduct.

A decision from the Supreme Court on these issues may provide greater clarity in the wake of Stern, although its recent narrow ruling in Executive Benefits may be an indication that the Supreme Court will only decide issues it deems necessary to rule on the case before it.