Here’s our popular weekly roundup of significant recently decided cases involving complex bankruptcy disputes for the week ended 11/13/05 (now with added topical indexing guides for easy reference and review).
Judicial Estoppel – Schedules: Karraker v. Rent-A-Center, Inc., 2005 WL 2979652 (C.D. Ill., 11/7/05)
Permissive Abstention: Allen v. Harris & Co., 2005 WL 2902497 (E.D. Pa., 11/2/05)
Preferences – Statutory Liens – Subcontractors: In re The IT Group, Inc., 2005 WL 2952619 (Bankr. D. Del., 11/1/05)
Procedure – Motions to Strike Jury Demand / Answer: Greenspan v. Snow (In re Brobeck, Phleger & Harrison), 2005 WL 2994291 (N.D. Cal., 11/8/05)
Professional Fees – Carve-Outs: In re US Flow Corp., 2005 WL 2952597 (Bankr. W.D. Mich., 10/29/05)
Rejection Damages – Landlord Statutory Cap: EOP-Colonnade v. Faulkner (In re Stonebridge Tech.), 2005 WL 2982311 (5th Cir., 11/8/05)

Judicial Estoppel – Schedules: Karraker v. Rent-A-Center, Inc., 2005 WL 2979652 (C.D. Ill., 11/7/05): Karraker alleged wrongful termination under the ADA and sought money damages, including past and future wages and benefits, damages for “embarrassment and humiliation,” and punitive damages. Subsequently, Karraker filed a voluntary petition for chapter 13 with the Bankruptcy Court in the Central District of Illinois. Karraker failed to list the wrongful termination case in the statement of financial affairs, which requires the debtor to list “all suits and proceedings to which the debtor is or was a party within one year immediately preceding the filing of [its] bankruptcy case.” Further, Karraker failed to list his claim in his schedule of personal property.
The Court held:

[J]udicial estoppel bars Karraker from asserting his termination claim against RAC in this action. Karraker did not disclose the instant claim to the bankruptcy court on either his statement of financial affairs or his schedule of personal property. Karraker was obviously aware of the need to list pending litigation because he listed a lawsuit filed against him on his statement of financial affairs. On his schedule of personal property, Karraker indicated he had “None” when asked regarding contingent monetary claims. The instant case was proceeding at the time Karraker made these representations. In fact, Karraker filed a motion for partial summary judgment in the instant case on the same day he filed his voluntary petition for bankruptcy.

Permissive Abstention: Allen v. Harris & Co., 2005 WL 2902497 (E.D. Pa., 11/2/05): A recent post cited to this case to show the split among the circuits as to whether the doctrine of mandatory abstention can be applied to an already removed case. Here, J.K. Harris moved to reconsider and argued that in deciding to permissively abstain from hearing the case, the Court failed to consider whether the debtor waived her right to seek a remand. The Court held that the actions taken by the debtor did not act as a waiver of her right to seek permissive abstention.
Preferences – Statutory Liens – Subcontractors: In re The IT Group, Inc., 2005 WL 2952619 (Bankr. D. Del., 11/1/05): This case involves a series of preference actions pursued by the post-confirmation IT Litigation Trust seeking to avoid payments to two defendants who received payments from IT Group as subcontractors for services rendered in connection with a superfund cleanup project in upstate New York. The defendants’ summary judgment motions were supported by affidavits or deposition transcripts from one defendant’s credit manager and the other defendant’s owner. The defendants moved for summary judgment, stating that the transfers at issue were “trust property under the New York lien law,” and thus could not be avoided because the payments did not constitute “an interest of the debtor in property.”
The plaintiff responded by citing to Hechinger Investment Company of Delaware, Inc. v. M.G.H. Home Improvement, Inc. (In re Hechinger), 288 B.R. 398, 402 (Bankr. D. Del. 2003) for the proposition that “New York lien law, to the extent that it conflicts with federal bankruptcy law, is preempted by federal law under the Supremacy Clause of the United States Constitution and is therefore invalid.” In Hechinger, Judge Walsh of the Delaware Bankruptcy Court held “that certain provisions of Michigan law were preempted by § 547, as ‘an obstacle to the accomplishment and execution of the full purposes and objectives that Congress had in enacting the Bankruptcy Code.’ ”
The Court looked to a prior opinion issued where it concluded that New York lien law creates a statutory trust requiring that funds received by a general contractor for the improvement of real property be held in trust for the benefit of the subcontractors, and thus granted the motions for summary judgment because the transfered funds were not property of debtor’s estate.
Procedure – Motions to Strike Jury Demand / Answer: Greenspan v. Snow, 2005 WL 2994291 (N.D. Cal., 11/8/05): The plaintiff is the chapter 7 trustee for the once high-flying San Francisco-based firm of Brobeck, Phleger & Harrison LLP (“Brobeck”). The trustee filed a complaint against Tower Snow, Brobeck’s chairman from 1998 to 2001, seeking the return of approximately $2,741,289 in distributions that Brobeck made to Snow during 2001 and 2002. Snow answered the complaint and demanded a jury trial. The trustee responded by filing a motion to strike both the jury trial demand and 26 paragraphs of factual allegations in Snow’s answer. The bankruptcy court denied the trustee’s motion with respect to the jury trial demand, transferred the case to the District Court, and deferred disposition of the motion to strike the factual allegations in Snow’s answer to the District Court.
In denying the trustee’s motion to strike, the Court stated (bring out your very heavy dictionary to fully understand this ruling, or click the link below):

Plaintiff argues that the majority of the factual allegations in defendant’s answer are irrelevant to this action and consist of nothing more than “Defendant’s personal recollections respecting the final years of his relationship with the Brobeck law firm.” This description is not wholly inaccurate. The 26 paragraphs that are the subject of plaintiff’s motion are, at times, embellished with a style more appropriate for a press release….
Nonetheless, while Snow’s answer may be more flowery than plaintiff’s complaint, it is not so florid as to merit the granting of plaintiff’s motion. The factual allegations describe Snow’s departure from Brobeck in abundant detail, but Snow’s departure, along with the distributions he received during that period, are of central relevance to this case. In addition, many of defendant’s factual allegations are related to his affirmative defenses….
Defendant’s answer may contain some bomphiologia, but nothing sufficiently excessive to warrant being stricken.

Professional Fees – Carve-Outs: In re US Flow Corp., 2005 WL 2952597 (Bankr. W.D. Mich., 10/29/05): The issue in this case is whether court appointed professionals in the chapter 11 case must disgorge “carve-outs” for professional fees approved in a DIP financing order. This case also is one of the few to actually define the phrase “carve-out.” Here, the debtor’s chapter 11 case was converted to a chapter 7 case in less than a month after the filing, leaving the bankruptcy estate administratively insolvent. During the chapter 11, the interim order permitting use of cash collateral established a “carve-out” of only $55,000 for professionals. After conversion to chapter 7, the US Trustee asked the court to declare the $55,000 carve-out to be property of the chapter 7 estate that is available for distribution to all creditors. The chapter 11 professionals who were the subject of the carve-out wanted the monies distributed to them.
The US Flow court reviewed the Sixth Circuit’s decision in Specker Motor Sales Co. v. Eisen, 393 F.3d 659, 664 (6th Cir. 2004), which “stands for the proposition that prepetition retainers … shall be disgorged to achieve pro rata distribution between similarly situated creditors when a chapter 11 estate later proves to be administratively insolvent.” The US Flow court further noted:

In hindsight, it is easy to see that Specker was very narrowly decided … [and] does not address the issue before this court…. A common thread exists among the Specker decision [and its progeny]. [In Specker, t]he retainer in the debtor’s attorney’s trust account remained property of the estate. The fact that the debtor’s attorney was paid did not alter the funds’ character or source–the funds remained property of the estate. Because the chapter 11 estate was administratively insolvent and there was insufficient remaining property of the estate to pay similarly situated creditors on a pro rata basis, the debtor’s attorney was required to return the property of the estate to be equally divided among all chapter 11 administrative claimants.

In holding that the carve-out in the DIP financing order for the benefit of the chapter 11 professionals would not be absconded by the chapter 7 estate, the Court stated:

The court believes it is now unfair to require the court-appointed professionals to lose their entitlement to the carve-out funds after they relied upon a final nonappealable court order. Contrariwise, if the carve-out was not permitted by the court, the professionals would have had to make a decision: either continue to provide representation in the chapter 11 case or decline further involvement and seek to withdraw. If the terms and conditions of the carve-out contained in the Second Interim Order were disagreeable, parties-in-interest, including the UST, should have objected to the order before it was entered, or timely appealed the order after it was entered….
The carve-out funds are not now property of the bankruptcy estate and are not recoverable by the estate for the benefit of all of its creditors. The carve-out funds, pursuant to a prior court order, are earmarked for the exclusive benefit of the court-appointed chapter 11 professionals. Therefore, the requested disgorgement of the carve-out funds by the UST is denied. The court will determine the division of the carve-out funds between the court-appointed professionals in the future.

Rejection Damages – Landlord Statutory Cap: EOP-Colonnade v. Faulkner (In re Stonebridge Tech.), 2005 WL 2982311 (5th Cir., 11/8/05): The debtor’s post-confirmation liquidating trustee brought an action against EOP-Colonnade of Dallas, a lessor, in connection with EOP’s draw on a letter of credit that was provided as security for Stonebridge’s prepetition commercial lease obligations. The liquidating trustee argued that “EOP breached the lease and made negligent misrepresentations to the issuing bank by prematurely drawing on the letter of credit and retaining an amount in excess of the claim cap of 11 U.S.C. §502(b)(6).” The Court of Appeals reversed, holding that because EOP did not file a proof of claim for its lease rejection damages, the statutory cap was not triggered and EOP was entitled to the full proceeds of the letter of credit.
Steve Jakubowski
Hat tips to Ryan Zeller and Kelly Frame.
© Steve Jakubowski 2005