By NELSON D. SCHWARTZ Tens of thousands of Bank of America’s most distressed borrowers could be evicted and lose their homes more quickly as a result of a proposed settlement between the bank, which is the country’s largest mortgage servicer, and investors in its troubled mortgage securities.For struggling borrowers in better financial shape, the outcome could be more positive: the deal would include incentives for mortgage servicers to help homeowners who have fallen behind on their payments and whose homes are worth less than they borrowed.“The goal is to reinstate as many borrowers in a modification that performs well,” said Tony Meola, a servicing executive with Bank of America. “It also is likely to lead to faster resolution in those unfortunate situations where foreclosure is inevitable. While not a desirable outcome, the recovery of the housing markets depends on moving through the foreclosure process as quickly and fairly as possible.”While powerful investors stand to benefit from the $8.5 billion settlement over the bank’s bundling of shoddy mortgages as securities, the fallout for the nearly 275,000 borrowers who took out those loans depends greatly on how deep they are in the foreclosure process and whether they earn enough money to dig themselves out.While no exact income qualification has been set as part of the agreement, which was announced last month, many servicers use a formula in which borrowers can qualify for a modification as long as the new monthly payment does not exceed 31 percent of their monthly gross income. For borrowers who are unemployed or lack the income to cover even reduced mortgage payments, foreclosure and eviction could be much more immediate.With 1.3 million borrowers at risk of foreclosure, Bank of America has been overwhelmed by the surge in defaults, and the accord has raised hopes that this logjam will finally begin to ease. But skeptics say that previous arrangements, like another multibillion-dollar settlement by Bank of America in 2008, have barely made a dent in the problem.“The mortgage servicers have repeatedly promised to do things and then not done them,” said Michael S. Barr, a former assistant Treasury secretary who now teaches law at the University of Michigan. “I think it’s positive in general, but I don’t expect it to be transformative of what we’ve witnessed from the mortgage servicers over the last four years.”Matthew Weidner, a Florida lawyer who represents borrowers facing foreclosure, said he was skeptical of promises by the deal’s architects that lower monthly payments would be easier to obtain.“It’s like giving aspirin to someone with cancer,” he said of the proposed assistance. “You had all the big players at the top of the pyramid negotiating but nobody was speaking for the homeowners who have far more at stake at the ground level.”Still, for some of the homeowners now facing foreclosure who took out loans with Countrywide, the subprime specialist bought by Bank of America in 2008, the deal could bring a few quick improvements.Under the terms of the agreement, Bank of America must now start transferring these borrowers to 10 smaller outside servicers, even without the deal being approved in court, which is not expected before November. The architects of the settlement say these subservicers will be far more efficient than Bank of America’s giant payment processing operation.For example, an analysis of data by RBS prepared as part of the settlement found that Bank of America provided fewer modifications as a percentage of unpaid principal than JP Morgan Chase, Wells Fargo, Litton and other servicers. In addition, borrowers defaulted again within six months in nearly one in five cases when modifications were made by Bank of America, a higher rate than other servicers that were studied.Officials at Bank of America contend the company has made nearly 875,000 modifications since 2008, more than any other servicer.Under the new proposal, subservicers will have to provide an answer to homeowner modification requests within 60 days of receiving paperwork, and will get up to 1.5 percent of the unpaid principal balance as an incentive fee for each successful permanent modification.“We wanted smaller, high-touch servicers who would consider every modification option at once, not try this and that,” said Kathy D. Patrick, a Houston lawyer who represented the 22 private investors in the settlement. “Servicers get more in fees for successful modifications than for any other kind of workout, including foreclosure.”The first homeowners should be transferred out of Bank of America by early fall, with each of the 10 subservicers taking up to 30,000 cases. Borrowers with mortgages 60 days past due who have been delinquent more than once in the last 12 months will receive priority in the switch, followed by homeowners who are 90 days past due but not in foreclosure.Homeowners already in foreclosure or who have been declared bankrupt will go to the back of the line, although they will also eventually be transferred, Ms. Patrick said. More than 75 percent of the nearly 275,000 delinquent homeowners have not made a payment in more than 120 days or are already in foreclosure.One unintended consequence of the problems at Bank of America and other large servicers is that many borrowers have managed to remain in their homes despite being in default, and without the income to qualify for a modification. At the time of foreclosure, the typical Bank of America borrower has not made a payment in 18 months.What is more, according to the analysis of RBS data, it takes 30 months on average for a subprime borrower’s property to move from foreclosure to a final sale with Bank of America, nearly a year longer than Wells Fargo, and 10 months longer than SPS, a smaller subservicer likely to be among the 10 selected to take over the former Countrywide loans.“Countrywide made a lot of bad loans and borrowers with no money can’t afford a modification,” said Peter Swire, a former special assistant for housing policy in the Obama administration who helped oversee earlier federal efforts to promote modifications. He is now a professor at Ohio State University. “One discouraging problem is that only a small fraction of Countrywide borrowers will likely qualify,” Professor Swire said.Delores Gosha hopes she will be one of the lucky ones.It has been more than a year since she last made a mortgage payment to Bank of America, raising the risk that her bungalow in the Cleveland suburbs will end up in foreclosure. The bank, she says, has given varying answers as to whether she qualifies for a modification, telling her she did not at one point last week only to reverse course days later and say it was still under consideration. Ms. Gosha said she had had to deal with a multitude of representatives and submit the same documents over and over.While a new servicer might not give her the answer she has been praying for, she said, at least she will get an answer.“I’ve been up and down,” said Ms. Gosha, who is a clerk at a Cleveland hospital. “Can’t somebody tell me something?”Copyright 2011 The New York Times Company. All rights reserved.

By TARA SIEGEL BERNARD After steadily climbing for several years, the number of Americans filing for bankruptcy is on the decline, though that is not necessarily an indicator of an improving economy.The number of bankruptcy filings in June was 120,623, or an average of 5,483 a day, a drop of 6.2 percent from May, when filings totaled 122,775, or 5,846 a day, according to a report from Epiq Systems, which tracks bankruptcy filings. There was one additional day to file in June compared with May. Average daily filings are down nearly 10 percent from June of last year.Though economic factors like foreclosures and unemployment play a role in bankruptcy, over the long run, the filing rate tends to be more closely tethered to the amount of outstanding consumer debt.Access to credit, however, can influence the bankruptcy rate over the shorter term: as lenders tighten their standards, filings tend to rise because struggling consumers can no longer rely on credit cards or other loans to get them through a rough period. But when more new loans are being made, filings tend to fall — at least for a while.“There is a lot of mythology about what drives bankruptcy rates,” said Robert M. Lawless, a professor at the University of Illinois College of Law who specializes in bankruptcy. “But consumer credit appears to be the most significant indicator.”Over all, he said he expected filings to decline 5 to 10 percent this year, leveling off at about 1.46 million, largely because consumers have slightly more access to credit now than in recent years. But he also said that consumers had taken on less debt in the past three years, which means there is less debt to discharge and fewer incentives to file bankruptcy.That estimate compares with about 1.56 million bankruptcy filings in 2010 and nearly 1.45 million in 2009. Filings surpassed two million in 2005, when many people rushed to declare bankruptcy before a new law went into effect that made it more difficult, and significantly more expensive, to file.There have been 731,237 filings this year. “If they keep going the way they were,” Professor Lawless said, “bankruptcy filings will keep going down a little bit.”So far this year, the vast majority of the bankruptcy cases — nearly 70 percent — were Chapter 7 filings, which provide individuals with the proverbial “fresh start” because their debts are forgiven. (To qualify, filers need to pass a means test to determine whether they are unable to repay their debts.) In contrast, a Chapter 13 filing requires individuals to use their disposable income to pay back a portion of their debts through a three- or five-year repayment plan. Some people choose Chapter 13 because it allows them to save their primary homes from foreclosure, though they are required to catch up on their mortgage payments. Slightly more than 27 percent were Chapter 13 filings. (The remainder were mostly commercial filings.) The overall split between Chapter 7 and Chapter 13 filings is consistent with last year’s ratio.While the overall number of bankruptcy filings was down last month, there were variations from state to state. For instance, filings in Georgia rose 13 percent and were up 33 percent in Delaware, compared with May. But filings in Wyoming fell 30 percent, in South Dakota 21 percent, in West Virginia 18 percent and in Wisconsin 17 percent.In both New York and New Jersey, the number of bankruptcy cases dropped by 5 percent.Copyright 2011 The New York Times Company. All rights reserved.

Here at Shenwick & Associates, clients with a variety of marital statuses seek our bankruptcy counsel–single, married, in the process of divorce, filing individually or jointly. Each variation requires the analysis and creativity of sophisticated bankruptcy counsel to avoid potential pitfalls in the process.On June 23, 2011, in CFTC v. Walsh, the New York State Court of Appeals ruled that a woman could keep proceeds from a divorce agreement, even though those proceeds were the ill-gotten gains of a financial fraud perpetrated by her former husband. In February 2009, federal authorities arrested Stephen Walsh and his business partner Paul Greenwood. According to an article on the case in the New York Times, they were charged with defrauding investors of more than $550 million in a 13 year Ponzi scheme. Although the government did not accuse Ms. Schaberg (the wife of Mr. Walsh) of participating in a crime, they still sought to recover the money she received from her husband in her divorce settlement agreement.The Court of Appeals ruled that ex-spouses have a reasonable expectation that once their marriage has been dissolved and their property divided, they will be free to move on with their lives. Ms. Schaberg's lawyer argued that once the couple had divided their marital property and signed a divorce settlement agreement, the government could not force her to disgorge what were her rightful proceeds. Similar principles may also apply in personal bankruptcy and buttress the argument that marital property divided by a divorcing couple, pursuant to a divorce decree in New York State, would not be subject to fraudulent conveyance or other "clawback" actions by a Bankruptcy Trustee if a spouse filed for chapter 7 bankruptcy after the divorce proceeding.Accordingly, let's assume that a couple with two young children were having marital problems, the husband has substantial debts, cash and stock and the couple owns a house that has appreciated in value. The couple decides that as part of their divorce, the husband will deed the house to his wife and transfer a substantial amount of the stock and cash to his wife pursuant to the divorce decree for support and maintenance. The husband then waits three months and files for Chapter 7 bankruptcy to liquidate his debts and obtain a discharge.Following the Court of Appeals' holding in CFTC v. Walsh, a Bankruptcy Trustee should not be able to challenge the transfer of the house and assets to his ex-wife, thereby making those assets non-exempt or unreachable by the husband's creditors or the Bankruptcy Trustee. Clients with questions regarding bankruptcy and divorce should contact Jim Shenwick.

Since the Supreme Court dropped its constitutional bombshell on the bankruptcy system last week in Stern v. Marshall, 2011 U.S. LEXIS 4791 (2011) (aka Anna Nicole Smith II), lots of people are scratching their heads and wondering what this all means. While Chief Justice Roberts suggested that the decision had only a "narrow" impact, many others, including myself, are not so sure. In this post, I am going to focus on the practical and theoretical impact of the decision.The Practical SideOn the practical side, we are going to spend a whole lot more time fighting turf wars about whether a particular action belongs in bankruptcy court or somewhere else. That means even more motions to withdraw reference and motions to abstain. While Stern v. Marshall focused on the distinction between an Article III federal court and an Article I federal court, the more likely choice will be between an Article I federal court and a state court. While the Supreme Court was troubled by final decision making by judges who lacked life tenure and salary protection, the opinion may lead more cases to be decided by state court judges who lack these protections. One of the chief virtues that Chief Justice Roberts attributed to Article III judges was their freedom from outside influences. However, elected state court judges who must seek campaign contributions from the lawyers who appear in front of them and who are placed in office by an electorate that knows little more than their party affiliation seem to be the polar opposite. Thus, the theoretical and practical underpinnings of the opinion appear to be in tension. A second practical effect will be delay. Bankruptcy Courts have proven to be efficient engines for deciding cases. In the Bankruptcy Court for the Western District of Texas, it is common for an adversary proceeding to go to trial within six months. In the U.S. District Court for the Western District of Texas, a civil action will take closer to two years to make it to trial. Bankruptcy Courts can proceed faster because they do not have a criminal docket which can trump civil actions and because they are not allowed to conduct jury trials. The third practical effect will be that we will be fighting endless battles about finality. If the Bankruptcy Court rendered a final decision based on now-infirm core jurisdiction, can that decision be set aside under Rule 60? If an action is currently pending in Bankruptcy Court and the other party mistakenly admitted core jurisdiction, can they go back and change their mind? Can they file an untimely jury demand and move to withdraw the reference? I think the answer is likely no, but we will spend a lot of time arguing about it.Theoretical ImpactOn the intellectual side, we are going to spend more time thinking about what makes the bankruptcy system unique. In Northern Pipeline Construction Co. v. Marathon Pipe Line Co., 458 U.S. 50 (1982), Justice Brennan's plurality opinion referred to "the restructuring of debtor-creditor relations, which is at the core of the federal bankruptcy power." 458 U.S. at 71. We now know that that "core" is smaller than we thought it was. It seemed that resolving claims between the estate and persons filing claims against the estate would be intimately tied to "the restructuring of debtor-creditor relations." However, based on Stern v. Marshall, it appears to be limited to those functions which are both fundamental to the bankruptcy system and/or unique to the bankruptcy system. What are those functions?To me, deciding claims is the least defensible of these functions because most claims objections revolve around whether a claim is allowable under state law. However, in his concurrence, Justice Scalia opined that determining claims might be permissible. Why is this? Justice Scalia cited a law review article that I haven't read which could likely provide a definitive answer. However, going out on a limb, I would suggest that determining claims is integral to what the Bankruptcy Court does because it is a necessary component of allocating scarce resources between creditors and the debtor. A State Court is concerned with a dispute between the debtor and one of his creditors. A Bankruptcy Court must deal with the debtor and potentially thousands of creditors. If one creditor gets too large of a slice of the pie, it means that everyone else gets less. State Court is all about the race to the courthouse, while Bankruptcy Court is about the collective resolution of claims. This collective aspect is what distinguishes the Bankruptcy Court.What else is fundamental to or unique about the bankruptcy system? At a minimum, I would say: the automatic stay, the discharge, plans and the ability to use cash collateral, to sell assets free and clear of liens and to assume or reject executory contracts and unexpired leases. Each of these provisions is based on a specific Code-created right and does not exist outside of bankruptcy. Consider the automatic stay. It is true that injunctions exist outside of Bankruptcy Court. However, there is no comparable provision that allows for a universal injunction without proving a substantive right or posting security. Additionally, the automatic stay is fundamental to the bankruptcy process because it allows for the collective process to take place.Exemptions pose an interesting question. Most exemptions in bankruptcy are determined by state law. State courts make decisions about exempt property all the time. However, I think exemptions are fundamental for two reasons. First, federal law can displace state law, as in the homestead caps contained in Sec. 522(o)-(q) and the ability to avoid liens under Sec. 522(f). Secondly, a State Court only rules upon an exemption dispute relating to a debtor and a creditor at a specific point in time. A Bankruptcy Court, on the other hand, determines the debtor's exempt property with respect to all of his creditors and draws a line in the sand saying this property is available for creditors and this property is the debtor's. The distinction between preferences and fraudulent transfers raises another interesting question. Both preferences and fraudulent transfers are Code-created rights. However, in Granfinanciera v. Nordberg, 492 U.S. 33 (1989), the Supreme Court held that fraudulent transfers did not involve "public rights." Is there a distinction between them? One distinction is that fraudulent transfer law exists outside of bankruptcy, while preference law does not. A preference is defined by the fact that it occurred on the eve of bankruptcy, while a fraudulent transfer can happen at any time. A fraudulent transfer action recovers property rightfully belonging to the debtor, while a preference action is designed to provide equality of distribution between creditors (and make money for trustee's lawyers). In defining the new boundaries of core jurisdiction, I think it is important to ask three questions:1. Does it involve a Code-created right?2. Does it exist outside of bankruptcy?3. Does it have a collective aspect to it?I predict that an action that satisfies two out of three of these tests will be a core proceeding 99% of the time.

By PETER LATTMAN J.B. Nicholas/Bloomberg NewsThe Ponzi schemes that came to light during the depths of the financial crisis have spawned various lawsuits seeking to claw back money from divorce agreements. Now, in one case, a court has said: Hands off. On Thursday, New York’s highest court ruled that a woman could keep proceeds from a divorce agreement, even if those proceeds were the ill-gotten gains of a financial fraud perpetrated by her former husband. The decision is a blow to the federal government, which is seeking to force the woman to disgorge what it says are millions of dollars in stolen money. “Ex-spouses have a reasonable expectation that, once their marriage has been dissolved and their property divided, they will be free to move on with their lives,” said Judge Victoria A. Graffeo, writing for the New York State Court of Appeals. The federal appeals court in Manhattan, which had asked the New York State court for guidance on the case, is now expected to prevent the federal government from seizing the woman’s assets. Thursday’s ruling could also affect other divorce cases, like some involving victims of Bernard L. Madoff’s huge Ponzi scheme. The New York State Court of Appeals is hearing a case brought by a man seeking to rescind his divorce settlement with his ex-wife because a large chunk of the marital proceeds were in a Madoff account. The husband, Steven Simkin, kept much of his money with Mr. Madoff after the divorce; his wife, Laura Blank, received cash. After losing the bulk of his assets in the Madoff fraud, Mr. Simkin now wants to rewrite their divorce agreement. In Massachusetts, a Madoff victim has also sued his ex-wife to revise their separation pact. A family court judge dismissed the lawsuit this month, and the plaintiff’s lawyer has appealed. Thursday’s ruling in New York involves Janet Schaberg, 55 years old, the former wife of Stephen Walsh, a former executive at WG Trading, a commodities firm in Greenwich, Conn. In February 2009, federal authorities arrested Mr. Walsh and his business partner, Paul Greenwood, on charges that they had defrauded investors of more than $550 million in a 13-year Ponzi scheme. Mr. Greenwood pleaded guilty last year; Mr. Walsh is fighting the case. Although the government did not accuse Ms. Schaberg of having any knowledge or participation in the scheme, lawyers at the Securities and Exchange Commission and the Commodity Futures Trading Commission went after her money, saying that much of it was ill-gotten proceeds from her former husband’s fraud. In August 2009, a federal judge agreed with the government, freezing most of Ms. Schaberg’s assets, including $7.6 million in cash. Ms. Schaberg, who divorced Mr. Walsh in 2007 after 25 years of marriage, appealed the judge’s order. Her lawyer, Steven Kessler, argued that once she and Mr. Walsh had divided their marital property and signed a divorce settlement agreement, the government could not force her to disgorge what were her rightful proceeds. In an unusual request, the federal appeals court asked New York state’s highest court for guidance on the divorce-law issues instead of a ruling. The case, Judge Graffeo wrote, raised “difficult policy questions” that required the court to weigh the competing interests of returning stolen property to its rightful owners against the innocent former spouse of the defrauder. In ruling for Ms. Schaberg, the court made an analogy between Ms. Schaberg and her divorce settlement proceeds and any person who unknowingly receives tainted money in a business transaction. For instance, the government could not seize stolen money from an architect whom a thief had paid to build his home. The court said its decision to protect Ms. Schaberg, an innocent recipient of stolen funds, over the victims of the Ponzi scheme, was “rooted in New York’s concern for finality in business transactions.” The decision emphasized that fraud victims could try to reclaim their stolen money if the former spouse was aware or participated in the crime. Representatives for the S.E.C. and C.F.T.C. declined to comment. New York divorce lawyers are divided on the decision. Michael D. Stutman, a divorce lawyer in Manhattan, is uninvolved in the Schaberg case, but along with three other lawyers, he submitted a brief that sided with the government. “We disagree with the decision because someone in possession of stolen property should not be able to claim an ownership interest superior to the rightful owner,” Mr. Stutman said. “Here, however, largely because she received ‘title’ to the ill-gotten gains through the divorce, she trumps the claims of people from whom the money was stolen,” he said. Mr. Stutman also questioned the court’s emphasis on what it called New York’s “strong public policy of ensuring finality in divorce proceedings.” He said other facets of divorce law — the amount of child and spousal support, as well as child-custody issues — are all subject to change based on newly discovered facts. “Why is finality all of a sudden so sacred that you’re depriving victims of a fraud from access to their assets?” he asked. Richard Emery, a lawyer for Ms. Blank, who is battling with her former husband in the New York case involving the Madoff fraud, applauded the ruling, calling it ”the right result for families and society.” “The appeals court embraced the plight of a spouse who relies on the right to move on with her life after divorce,” Mr. Emery said. “This consideration trumps the interest of even the federal government.” The Schaberg rulingCopyright 2011 The New York Times Company. All rights reserved.

After fifteen years of litigation, two trips to the Supreme Court and the deaths of both of the original antagonists, the Supreme Court decided Stern v. Marshall, ___ U.S. ___ (2011). While Vickie Lynn Marshall, better known as Anna Nicole Smith, made a splash during her lifetime as a Playboy Playmate who married an aging oil billionaire, her posthumous legacy is the most important Supreme Court case on bankruptcy court jurisdiction since Northern Pipeline Construction Co. v. Marathon Pipe Line Co., 459 U.S. 813 (1982). It may also sow as much confusion as the latter case. You can find the opinion here. The issue in Marshall was straightforward: does 28 U.S.C. §157(b)(2)(C) mean what it says, namely that counterclaims to proofs of claim are core proceedings, and if so, is that grant of jurisdiction constitutional? In a 5-4 decision authored by Chief Justice Roberts, the Court concluded that §157(b)(2)(C) did authorize the bankruptcy court to determine a counterclaim to a proof of claim as a core proceeding, but that the statutory grant was unconstitutional. In doing so, the Chief laid out a manifesto on the meaning of Article III. The Executive Summary While the three opinions in the case make for compelling reading, the following two quotes from the beginning of the opinion carry the gist of it: Chief Justice Roberts opened his opinion with a reference to Dickens’ Bleak House: This “suit has, in course of time, become so complicated, that . . . no two . . . lawyers can talk about it for five minutes, without coming to a total disagreement as to all the premises. Innumerable children have been born into the cause: innumerable young people have married into it;” and, sadly, the original parties “have died out of it.” A “long procession of [judges] has come in and gone out” during that time, and still the suit “drags its weary length before the Court.” Those words were not written about this case, see C. Dickens, Bleak House, in 1 Works of Charles Dickens 4–5 (1891), but they could have been. This is the second time we have had occasion to weigh in on this long-running dispute between Vickie Lynn Marshall and E. Pierce Marshall over the fortune of J. Howard Marshall II, a man believed to have been one of the richest people in Texas. *** Although the history of this litigation is complicated, its resolution ultimately turns on very basic principles. Article III, §1, of the Constitution commands that “[t]he judicial Power of the United States, shall be vested in one supreme Court, and in such inferior Courts as the Congress may from time to time ordain and establish.” That Article further provides that the judges of those courts shall hold their offices during good behavior, without diminution of salary. Ibid. Those requirements of Article III were not honored here. The Bankruptcy Court in this case exercised the judicial power of the United States by entering final judgment on a common law tort claim, even though the judges of such courts enjoy neither tenure during good behavior nor salary protection. We conclude that, although the Bankruptcy Court had the statutory authority to enter judgment on Vickie’s counterclaim, it lacked the constitutional authority to do so. Opinion, pp. 1-2. For those who want the nitty, gritty details, here are several thousand more words about the opinion. A Billionaire’s Death Paves the Way for the Destruction of Many Trees On June 27, 1994, Vickie Lynn Smith married Howard Marshall. She was 26 and had been Playboy’s Playmate of the Year the prior year. He was 89. Howard passed away thirteen months later on August 4, 1995. However, the parties did not wait for his death to begin their legal battle. In April 1995, Vickie filed suit in Probate Court in Texas seeking to invalidate Howard’s living trust and asserting that Howard son, Pierce, had tortuously interfered with her property rights in Howard’s assets. Pierce then filed suit against Vickie and two of her lawyers in Texas state court asserting that they had defamed him. In January 1996, Vickie did what any destitute ex-stripper would have done and filed for chapter 11 relief in California. Pierce filed a dischargeability adversary and a proof of claim against Vickie. Vickie counterclaimed for tortuous interference with an inter vivos gift, contending that Pierce had forged Howard’s name to a living trust and destroyed or suppressed a trust that Howard had asked his lawyers to draw up for Vickie’s benefit. Things did not go well for Pierce in bankruptcy court. The Bankruptcy Court found that he had engaged in “massive discovery abuse.” Pierce then asked the District Court to withdraw the reference. The District Court initially indicated it would grant the motion but then reconsidered based on the fact that Pierce had voluntarily chosen the Bankruptcy Court forum. The Bankruptcy Court commenced a trial on the adversary proceeding on October 25, 2009. It rendered a final judgment awarding Vickie $447 million on December 29, 2000. Meanwhile, back in Texas, Vickie filed a parallel claim against Pierce in January 2000. Pierce defended asserting that there was not an agreement to be tortuously interfered with. After recovering a judgment against Pierce in Bankruptcy Court, Vickie non-suited her claims against Pierce in Texas Probate Court. The Bankruptcy Court initially ordered Pierce not to proceed, but changed its mind after Pierce represented that there was no risk of inconsistent judgments. After a five month trial, the jury in the Probate Court returned a verdict adverse to Vickie on March 7, 2001. Among other things, the jury found that Howard had not agreed to make a gift to Vickie. The Probate Court entered a final judgment on December 27, 2001. The two trials were a contrast in the evidence considered. The Bankruptcy Court did not allow Pierce to present any evidence because of his discovery abuse. On the other hand, the Probate Court heard 40 witnesses, including six days of testimony from Vickie Lynn and resulted in a jury verdict. Up to the Supreme Court Round One Pierce appealed the Bankruptcy Court judgment, contending among other things that the dispute was a non-core proceeding which must be reviewed de novo by the District Court. The District Court agreed that the claim was non-core and conducted additional hearings. It entered a judgment which affirmed the Bankruptcy Court’s findings on liability but reduced the damage award. This judgment was entered on March 7, 2002. Pierce appealed to the Ninth Circuit which vacated the judgment, finding that the “probate exception” deprived the Bankruptcy Court of jurisdiction. Marshall v. Marshall, 392 F.3d 1118 (9th Cir. 2004). The Supreme Court disagreed and remanded the case to the Ninth Circuit. Marshall v. Marshall, 547 U.S. 293 (2006). Shortly after the remand, both Pierce and Vickie passed away within a few months of each other. This left the contest over the assets of Howard as a battle between the estates of Pierce and Vickie. The Ninth Circuit Tangles With Jurisdiction Again Having gotten the jurisdiction issue wrong on the “probate exception When the case went back to the Ninth Circuit, it reached the same result although for different reasons. Stern v. Marshall, 600 F.3d 1037 (9th Cir. 2010). (The caption of the case changed because Howard K. Stern was the executor of Vickie’s estate. However, it is Howard Stern the lawyer, rather than Howard Stern the radio shock jock). The Ninth Circuit basically held that 28 U.S.C. §157(b)(2)(C) did not mean what it said. While 28 U.S.C. §157(b)(2)(C) expressly provides that counterclaims to proofs of claim constitute core proceedings, the Ninth Circuit held that it only extended to counterclaims to the extent necessary to determine the proof of claim, but not to an affirmative recovery. Alternatively, it held that if §157(b)(2)(C) did extend to counterclaims in their entirety, that it was unconstitutional. This set the stage for a second trip to the Supreme Court. Bankruptcy Jurisdiction 101 As an introduction, Chief Justice Roberts summarized eight principles of Bankruptcy Court jurisdiction: * District Judges have “original and exclusive jurisdiction of all cases under title 11.” * Bankruptcy proceedings fall into three categories: those that arise under title 11, that that arise in a case under title 11 and those that are related to a case under title 11. * District Courts may refer “any or all such proceedings to the bankruptcy judges of their district” and may withdraw the reference “for cause shown.” * Since 1984, Bankruptcy Judges “have been appointed to 14-year terms by the courts of appeals for the circuits in which their district is located.” * Bankruptcy Judges may enter final orders in “all core proceedings arising under title 11, or arising in a case under title 11.” * Core proceedings include but are not limited to sixteen enumerated categories, including “counterclaims by [a debtor’s] estate against persons filing claims against the estate.” * If the Bankruptcy Court can enter a final judgment, an aggrieved party has a right of appeal to the U.S. District Court. * If a matter is not a core proceeding, then the Bankruptcy Court must submit proposed findings of fact and conclusions of law to the District Court for de novo review unless the parties consent to entry of a final judgment by the Bankruptcy Court. Opinion, pp. 7-8. Section 157(b)(2)(C) Means What It Says Chief Justice Roberts found that Vickie’s counterclaim against Pierce was a core proceeding “under the plain text of §157(b)(2)(C).” This was a rebuke to the Ninth Circuit which had adopted the rather magical reasoning that a counterclaim was only a core proceeding to the extent that it reduced a claim against the estate, but not to the extent that it granted affirmative recovery. The Chief then analyzed what the phrase “all core proceedings arising under title 11, or arising in a case under title 11” meant. This phrase is important because it identifies the types of proceedings that Bankruptcy Judges can enter final orders in. Pierce had suggested that the phrase was ambiguous and that there could be some core proceedings which neither arose under title 11 or in a case under title 11. The Court acknowledged that the phrase was ambiguous but concluded that “core proceedings are those that arise in a bankruptcy case or under Title 11.” Opinion, p. 10. The Court also rejected the argument that core proceedings that did not arise under Title 11 nor in a Title 11 case should be “related to” proceedings. Pierce argues that we should treat core matters that arise neither under Title 11 nor in a Title 11 case as proceedings “related to” a Title 11 case. Brief for Respondent 60 (internal quotation marks omitted). We think that a contradiction in terms. It does not make sense to describe a “core” bankruptcy proceeding as merely “related to” the bankruptcy case; oxymoron is not a typical feature of congressional drafting. Opinion, p. 10. Concluding its discussion of statutory interpretation, Chief Justice Roberts stated, “We agree with Vickie that §157(b)(2)(C) permits the bankruptcy court to enter a final judgment on her tortious interference counterclaim.” Opinion, p. 11. The Court also shot down Pierce’s argument that the Bankruptcy Court lacked jurisdiction on Vickie’s defamation claim because it was a “personal injury tort claim.” Under §157(b)(5), “The District Court shall order that personal injury tort and wrongful death claims shall be tried in the district court in which the bankruptcy case is pending, or in the district court in the district in which the claim arose.” Pierce contended that this meant that the Bankruptcy Court lacked jurisdiction to hear these claims. Vickie contended that defamation was not a “personal injury tort” and that the statute was not jurisdictional. The Court declined the invitation to define the term “personal injury tort” and instead found that the section was not jurisdictional and could be waived. When Pierce waited 27 months to file his motion to withdraw reference, he waived his ability to seek a trial in the district court. All About Article III If the Opinion had stopped here, there would have been much rejoicing on Vickie’s side. However, it did not. “Although we conclude that§157(b)(2)(C) permits the Bankruptcy Court to enter final judgment on Vickie’s counterclaim, Article III of the Constitution does not.” Article III of the Constitution vests the judicial power of the United States in the supreme court and “such inferior Courts as the Congress may from time to time establish.” While I am sure that District Court Judges don’t like to think of themselves as “inferior Courts,” at least the Constitution guaranties them life tenure and protection against reduction in pay. Bankruptcy Judges, being appointed under Article I of the Constitution, do not enjoy these protections. The Chief described Article III as “an inseparable element of the constitutional system of checks and balances that both defines the power and protects the independence of the Judicial Branch.” Opinion, p. 16. It also “protects liberty.” Opinion, p. 17. In the Declaration of Independence , one of the grievances of the colonists was that King George “made Judges dependent on his Will alone, for the tenure of their offices and the amount and payment of their salaries.” The Framers undertook in Article III to protect citizens subject to the judicial power of the new Federal Government from a repeat of those abuses. By appointing judges to serve without term limits, and restricting the ability of the other branches to remove judges or diminish their salaries, the Framers sought to ensure that each judicial decision would be rendered, not with an eye toward currying favor with Congress or the Executive, but rather with the “[c]lear heads . . . and honest hearts” deemed “essential to good judges.” 1 Works of James Wilson 363 (J. Andrews ed. 1896). Opinion, p. 18. Thus, the Court’s consideration of the constitutionality of §157(b)(2)(C) is not just about which person in a black robe will decide a particular case or which estate of a dead person will receive a lot of money, but rather, it is a mighty bulwark protecting us against a new King George and his corrupt judges. Public Rights and Private Lawsuits While Article III jurisdiction is important in preventing tyranny, there is an exception for “public rights.” The plurality in Northern Pipeline recognized that there was a category of cases involving “public rights” that Congress could constitutionally assign to “legislative” courts for resolution. That opinion concluded that this “public rights” exception extended “only to matters arising between” individuals and the Government “in connection with the performance of the constitutional functions of the executive or legislative departments . . . that historically could have been determined exclusively by those” branches. Id., at 67–68 (internal quotation marks omitted). A full majority of the Court, while not agreeing on the scope of the exception, concluded that the doctrine did not encompass adjudication of the state law claim at issue in that case. Opinion, p. 19. After Northern Pipeline, Congress tried again, creating bankruptcy courts appointed by the Court of Appeals and allowing them to enter final judgments in “core” proceedings only. Judgments in core proceedings were subject to only traditional appellate review with deference to judicial fact finding. The Chief Justice then found that the Vickie Lynn Marshall case was just like the Northern Pipeline case in that the Bankruptcy Court in this case exercise the “judicial Power of the United States” in purporting to resolve and enter final judgment on a state common law claim, just as the court did in Northern Pipeline. No “public right” exception excuses the failure to comply with Article III in doing so, any more than in Northern Pipeline. Opinion, p. 21. The Court found that “Vickie’s claim is a state law action independent of the federal bankruptcy law and not necessarily resolvable by a ruling on the creditor’s proof of claim in bankruptcy.” Id. . So, what is a public right? We know that it is not a suit between two creditors, since that was the case in Northern Pipeline. We know that it is not a state law counterclaim by a debtor against a person filing a claim against the estate, since that is the holding in this case. The public rights doctrine goes back to Murray’s Lessee v. Hoboken Land & Improvement Co., 18 How. 272 (1856). Here is how Chief Justice Roberts described the decision: “To avoid misconstruction upon so grave a subject,” the Court laid out the principles guiding its analysis. Id., at 284. It confirmed that Congress cannot “withdraw from judicial cognizance any matter which, from its nature, is the subject of a suit at the common law, or in equity, or admiralty.” Ibid. The Court also recognized that “[a]t the same time there are matters, involving public rights, which may be presented in such form that the judicial power is capable of acting on them, and which are susceptible of judicial determination, but which congress may or may not bring within the cognizance of the courts of the United States, as it may deem proper.” Ibid. Opinion, p. 22. Thus, the distinction was between public rights defined as those arising “between the Government and persons subject to its authority in connection with the performance of the constitutional functions of the executive or legislative departments” and private rights which are the liability of one individual to another under the law as defined. Opinion, p. 23. While it is not necessary for the government to be a party to an action to invoke the public rights doctrine, the Court has continued . . . to limit the exception to cases in which the claim at issue derives from a federal regulatory scheme, or in which resolution of the claim by an expert government agency is deemed essential to a limited regulatory objective within the agency’s authority. Opinion, p. 25. While the discussion thus far was fairly general, the Court brought it back to the bankruptcy realm in discussing Granfinanciera, S.A. v. Nordberg, 492 U.S. 33 (1989). That case involved whether a defendant who had not filed a proof of claim was entitled to a jury trial in a fraudulent conveyance case. In Granfinanciera we rejected a bankruptcy trustee’s argument that a fraudulent conveyance action filed on behalf of a bankruptcy estate against a noncreditor in a bankruptcy proceeding fell within the “public rights” exception. We explained that, “[i]f a statutory right is not closely intertwined with a federal regulatory program Congress has power to enact, and if that right neither belongs to nor exists against the Federal Government, then it must be adjudicated by an Article III court.” Id., at 54–55. We reasoned that fraudulent conveyance suits were “quintessentially suits at common law that more nearly resemble state law contract claims brought by a bankrupt corporation to augment the bankruptcy estate than they do creditors’ hierarchically ordered claims to a pro rata share of the bankruptcy res.” Id., at 56. As a consequence, we concluded that fraudulent conveyance actions were “more accurately characterized as a private rather than a public right as we have used those terms in our Article III decisions.” Id., at 55.7 Opinion, at 26-27. Applying the Law to This Case The Court clicked off the following reasons that Vickie Lynn’s counterclaim did not fall within the public rights exception: * It was not a claim which could be pursued only by grace of the other branches of government. * It was not a matter that historically could be determined only by the other branches. * It did not flow from a federal regulatory scheme. * It was not “completely dependent upon” adjudication of a claim created by federal law. * It was a claim under state common law between two private parties. The Court made an interesting observation about why consent to trial in the Article I court: Pierce did not truly consent to resolution of Vickie’s claim in the bankruptcy court proceedings. He had nowhere else to go if he wished to recover from Vickie’s estate. Opinion at 27. In Granfinanciera, the Supreme Court found that the defendant was entitled to a jury trial because he had not consented to the Bankruptcy Court’s jurisdiction by filing a proof of claim. Here, however, the Supreme Court is saying that even filing a claim does not constitute consent. More on this below. Finally, this was not a case involving an expert and inexpensive method for dealing with a class of questions of fact which are particularly suited to examination and determination by an administrative agency specially assigned to that task. Opinion, p. 28. The “experts” in the federal system at resolving common law counterclaims such as Vickie’s are the Article III courts, and it is with those courts that her claim must stay. Id. In summing up his public rights discussion, the Chief Justice stated: What is plain here is that this case involves the most prototypical exercise of judicial power: the entry of a final, binding judgment by a court with broad substantive jurisdiction, on a common law cause of action, when the action neither derives from nor depends upon any agency regulatory regime. If such an exercise of judicial power may nonetheless be taken from the Article III Judiciary simply by deeming it part of some amorphous “public right,” then Article III would be transformed from the guardian of individual liberty and separation of powers we have long recognized into mere wishful thinking. Opinion, p. 29. I think what the court was trying to say here was, “You don’t have jurisdiction. We really, really mean it.” No Proof of Claim Waiver In Katchen v. Landy, 382 U.S. 323 (1966) and Langenkamp v. Culp, 498 U.S. 42 (1990), the Supreme Court had held that a creditor who filed a proof of claim could be sued to recover a preference. The Court distinguished these cases on two grounds. First, the Court argued that the preference could be a ground for disallowing the claim, so that the preference claim was tied into allowance of the claim. Second, it found that the preference claim was created by the Bankruptcy Code and was part of the process of determining an equitable allocation of the assets of the debtor. What’s the Big Deal? Responding to concerns that its decision would radically change the workload of the Courts, Chief Justice Roberts stated: We do not think the removal of counterclaims such as Vickie’s from core bankruptcy jurisdiction meaningfully changes the division of labor in the current statute; we agree with the United States that the question presented here is a “narrow” one. Brief for United States as Amicus Curiae 23. *** Article III of the Constitution provides that the judicial power of the United States may be vested only in courts whose judges enjoy the protections set forth in that Article. We conclude today that Congress, in one isolated respect, exceeded that limitation in the Bankruptcy Act of 1984. The Bankruptcy Court below lacked the constitutional authority to enter a final judgment on a state law counterclaim that is not resolved in the process of ruling on a creditor’s proof of claim. Accordingly, the judgment of the Court of Appeals is affirmed. Opinion, pp. 37, 38. Justice Scalia Would Throw the Whole System Out In a brief concurrence, Justice Scalia reaffirmed his prior concurrence in Granfinanciera that at a minimum, a public rights case must arise between the government and others, a conclusion that would render most bankruptcy court jurisdiction unconstitutional. He mused that it could possibly be constitutional for bankruptcy judges to adjudicate claims against the estate, but demurred that “the subject has not been briefed, and so I state no position on the matter.” The Dissent In a vigorous dissent, Justice Breyer, joined by Justices Ginsburg, Sotomayor and Kagan, argued that counterclaim jurisdiction is constitutional. The dissent placed a different emphasis upon the Court’s prior precedents to arrive at the opposite conclusion. In particular, the dissent took the majority to task for relying so heavily on the plurality opinion in Northern Pipeline instead of the more recent decisions in Thomas v. Union Carbide Agricultural Products Co., 473 U.S. 568 (1985) and Commodity Futures Trading Commission v. Schor, 478 U.S. 833 (1986). The dissent also questioned the majority’s view that the opinion does not change all that much. The majority predicts that as a “practical matter” today’s decision “does not change all that much.” Ante, at 36–37. But I doubt that is so. Consider a typical case: A tenant files for bankruptcy. The landlord files a claim for unpaid rent. The tenant asserts a counterclaim for damages suffered by the landlord’s (1) failing to fulfill his obligations as lessor, and (2) improperly recovering possession of the premises by misrepresenting the facts in housing court. (These are close to the facts presented in In re Beugen, 81 B. R. 994 (Bkrtcy. Ct. ND Cal. 1988).) This state-law counterclaim does not “ste[m] from the bankruptcy itself,” ante, at 34, it would not “necessarily be resolved in the claims allowance process,” ibid., and it would require the debtor to prove damages suffered by the lessor’s failures, the extent to which the landlord’s representations to the housing court were untrue, and damages suffered by improper recovery of possession of the premises, cf. ante, at 33-33. Thus, under the majority’s holding, the federal district judge, not the bankruptcy judge, would have to hear and resolve the counterclaim. Why is that a problem? Because these types of disputes arise in bankruptcy court with some frequency. See, e.g., In re CBI Holding Co., 529 F. 3d 432 (CA2 2008) (statelaw claims and counterclaims); In re Winstar Communications, Inc., 348 B. R. 234 (Bkrtcy. Ct. Del. 2005) (same); In re Ascher, 128 B. R. 639 (Bkrtcy. Ct. ND Ill. 1991) (same); In re Sun West Distributors, Inc., 69 B. R. 861 (Bkrtcy. Ct. SD Cal. 1987) (same). Because the volume of bankruptcy cases is staggering, involving almost 1.6 million filings last year, compared to a federal district court docket of around 280,000 civil cases and 78,000 criminal cases. Administrative Office of the United States Courts, J. Duff, Judicial Business of the United States Courts: Annual Report of the Director 14 (2010). Because unlike the “related” non-core state law claims that bankruptcy courts must abstain from hearing, see ante, at 36, compulsory counterclaims involve the same factual disputes as the claims that may be finally adjudicated by the bankruptcy courts. Because under these circumstances, a constitutionally required game of jurisdictional ping-pong between courts would lead to inefficiency, increased cost, delay, and needless additional suffering among those faced with bankruptcy. Dissent, pp. 16-17. What Does It All Mean? The difficulty with the Stern opinion is that it is a narrow opinion with a very broad rationale. While the holding merely invalidates 28 U.S.C. §157(b)(2)(C), it does so with a broad reading of the importance of the Article III judiciary and a narrow reading of the public rights exception. Lying underneath the opinion, there is a palpable feeling that Congress has gone too far in giving power to non-Article III adjuncts. To paraphrase a song, the majority’s lips say no, no, no (practical effect), but their eyes say yes, yes, yes. Here are a few conclusions that can be drawn: 1. The opinion will have its greatest impact on adversary proceedings. Contested matters, such as plans of reorganization and motions to lift stay would not be affected. 2. State law causes of action against non-debtor parties are non-core proceedings even if the other party has filed a proof of claim. 3. Fraudulent conveyance actions, even those arising under Section 548, may prove to be non-core. 4. Preference actions remain as core proceedings. 5. Even Justice Scalia would probably allow the Bankruptcy Court to determine an objection to claim on a good day. For more opinions about what all this means, tune in to the State Bar of Texas’s Webinar, Stern v. Marshall: Handling State Claims After the Supremes Make It All Clear on July 12, 2011 at 10:00 a.m. Speaking will be Bankruptcy Judge Harlin “Cooter” Hale, former judge and law professor Glen Ayers and yours truly.

The Supreme Court's decision in Schwab v. Reilly, 130 S.Ct. 2652 (2010) last term provoked a lot of concern about the finality of exemptions. Under Taylor v. Freeland & Kronz, 503 U.S. 638 (1992), a trustee's failure to timely object to an exemption, even a frivolous one, meant that the asset left the estate. However, in Schwab v. Reilly, the Supreme Court held that an exemption of a specific dollar amount in value of property exempted only the value claimed but not the asset itself, allowing a trustee to sell the asset if the value ultimately exceeded the amount of the debtor's exemption. I have written about Schwab v. Reilly and its consequences here and here. Now Texas Bankruptcy Judges are struggling with whether Schwab permits, or even dictates, that a debtor may claim 100% of fair market value, forcing the trustee to object within 30 days. Judge Michael Lynn and Judge Craig Gargotta have held that claiming 100% of FMV is permissible, In re Moore, 442 B.R. 865 (Bankr. N.D. Tex. 2010), In re Dominguez-Ortega, No. 10-61416 (Bankr. W.D. Tex. 5/17/11), while Judge Robert Jones has ruled the opposite way, In re Salazar, 2011 Bankr. LEXIS 1117 (Bankr. N.D. Tex. 2011). Because Judge Gargotta's opinion is the latest word, I will start with his ruling in this post. The transcript is not yet available online. I will be happy to provide a copy to anyone who requests it. The Permissible Approach In the Dominguez-Ortega case, the court was faced with objections filed by the chapter 7 and chapter 13 trustees in six cases in which the debtors claimed 100% of FMV. Relying upon the Moore decision and scholarly articles from the American Bankruptcy Institute, Judge Gargotta denied the objections. He stated: As everyone knows, in Schwab v. Reilly, the Supreme Court unequivocally says at least two things--it may say other things in addition to that. One, that one hundred percent of fair market value on Schedule C is permissible and correct. And second, that the trustee may not be bound by the 30 day objection period under Federal Rule of Bankruptcy Procedure 4003(b). Transcript, pp. 6-7. He went on to adopt the reasoning of Judge Lynn of the Northern District. He stated: (T)he judges in the (Fort Worth) division had the following observations. First of all, fair market value of one hundred percent is the correct methodology. It puts the trustee on notice to object within 30 days. Then there can be an evidentiary hearing . . . regarding whether or not that's a fair objection. For purposes of the proceedings here in Waco, I agree with that. I think that's exactly what the Supreme Court requires. Second as to the discussion that we had on the record day about whether or not debtors may use a numeric amount for the interest they claim as an aid, they are free to do that, but they are not required to do that. And I will leave it up to them as to whether or not they want to do that. Transcript, pp. 8-9. Judge Gargotta acknowledged that his ruling would result in more work for the trustees and the court, but stated that his mandate was to follow the Supreme Court. Now, what is the consequence to the Court? Well, the consequence to the Court is, in those situations where the trustee thinks that . . . when (the debtors) use the designation of one hundred percent of fair market value, that it may exceed the amount of the interest in an asset, the trustee is going to have to object, and I'll have to conduct a hearing on it and we'll . . . figure out how that plays out. I recognize that, ultimately, it may increase the litigation in this Court. But, by the same token, I'm of the opinion, and I think it's unequivocally clear that what debtors are doing in that consequence is precisely what the Supreme Court ordered, and I'm not going to alter their methodology in terms of claiming it. I apologize to both Mr. Hendren and Mr. Studensky if it increases their workload. That is not my intent. Rather, I am complying with what the Supreme Court commands. Transcript, p. 10. The Impermissible Approach Writing in Salazar, Judge Robert Jones agreed that if a debtor claimed 100% of fair market value and no party objected, that "the debtor effectively reclaims the property." 2011 Bankr. LEXIS 1117 at *15. However, he disagreed with Judge Lynn about what to do if there was a timely objection. His conclusion was that an objection to 100% of fair market value was a facially valid objection and that the debtor would be required to amend his exemption to state a specific dollar amount. He explained his reasoning as follows: The Court will set forth its reasons for the approach it adopts. First, the Court fails to see the necessity of a hearing under the circumstances as presented. The debtors' exemption claims are limited to an interest in the property. The value of the property itself is relevant only to the extent that there is sufficient value to support the amount of the exemptible interest. If, as suggested by the Supreme Court, the debtor is trying to exempt the property in-kind rather than an interest in property, such goal may still be thwarted if, for example, the property subsequently appreciates in value. This is the very issue confronted by the Ninth Circuit in In re Gebhart, 621 F.3d 1206 (9th Cir. 2010). There the debtors made an exemption claim to the equity in their house, which amount was well within the amount they were allowed under § 522(d)(1). The trustee did not object; like the trustee in Schwab, the trustee in Gebhart had no reason to object. During the pendency of the bankruptcy case, the house appreciated in value. Two years later, after the debtors had defaulted on their mortgage payments and the mortgage company moved for stay relief, the trustee sought approval to sell the house to recover the value of the house that then well exceeded the exemption claim. The Ninth Circuit, consistent with Schwab, emphasized that the debtors' allowable exemptions did not permit the exemption of the house itself, but rather the specific dollar amount of their interest in the house. 2011 Bankr. LEXIS 1117 at *17-18. The Court went on to stateThe Supreme Court in Schwab predicted such claims would likely draw objections. Claiming "100% of FMV" is the debtors' way of stating that they wish to keep the asset in-kind. While this is their desire, the Court must construe that such claim has the legal effect of claiming an interest in the property up to an amount that is determined by the fair market value of the property in-kind. Accordingly, if the trustee wishes to preserve for the estate any excess value--value over the amount of the statutory limit that may exist either at the time the exemption is claimed, as was the case in Schwab, or any excess value that may exist as a result of an anticipated appreciation in the property, as happened in Gebhart--the trustee must object to the exemption claim itself. That is precisely what has been done here. The trustees' objections are facially valid. The objections do not otherwise contest the exemption claims. The Court certainly concedes that, given the items against which the exemptions were made and the claimed values of the items in-kind, it is highly unlikely that any of the items would ever achieve a value that would exceed the statutory limit for the exemption. Regardless, the Court recognizes the trustees' right to preserve this eventuality for the estates. 2011 Bankr. LEXIS 1117 at *25-26. Reconciling the Cases Moore, Salazar and Dominguez-Ortega all agree that if a debtor claims 100% of fair market value and no party objects, that the debtor gets to keep the property. However, where they split is in allocating the burden of proof. Under Fed.R.Bankr. P. 4003(c), the objecting party has the burden of proof on an objection to exemptions. Moore and Dominguez-Ortega require the trustee to meet the burden of proof with evidence. On the other hand, Salazar holds that the objection should be sustained as a matter of law and that the debtor has the burden of proof to state what the value of the property is. Even then, the debtor has no security. If the value of the property increases beyond the exempt amount, the trustee may sell it out from underneath the debtor. I have mixed feelings about these opinions. Moore and Dominguez-Ortega bring order to the force by restoring the status quo under Taylor v. Freeland & Kronz. On the other hand, Salazar is more faithful to the Supreme Court's reasoning that an exemption attaches to a dollar amount rather than the thing itself. However, that is a horrible result. It allows trustees to sleep on their rights and leave estates open in the hope that an asset may appreciate. As a practical matter, it is much better to require the trustee to put up or shut up in an evidentiary hearing. This will ensure that the trustee only objects when there is a genuine basis for doing so and gives all parties certainty in dealing with assets claimed as exempt. Post-Script I typically do not blog about oral rulings. I chose to do so in this case because it was a very definitive ruling from one of my local judges. However, I do want to acknowledge that all of the Texas bankruptcy judges that I appear in front of put a lot of thought and hard work into their oral rulings. In most cases, the oral rulings are equivalent in force to a written opinion, just delivered in a more informal manner. In this case, it was refreshing to hear the directness of the Court’s comments. Finally, I apologize to Judge Robert Nelms. In his ruling, Judge Gargotta referred to rulings by Judge Michael Lynn and Judge Robert Nelms. I could only find Judge Lynn's opinion. When Judge Gargotta refers to the Fort Worth judges, he is referring to both Judge Lynn and Judge Nelms.

A decision by twenty Central California Bankruptcy Judges is likely to generate more heat than light[i] with its ruling that the Defense of Marriage Act is unconstitutional when applied to prevent a legally married same sex couple from filing a joint bankruptcy petition under 11 U.S.C. §302. In re Balas, No. 2:11-bk-17831 TD (Bankr. C.D. Cal. 6/13/11). You can find the opinion here. (PACER registration required). A Gay Couple Walks Into a Courtroom G. Balas and C. Morales were legally married in California. After experiencing numerous periods of illness, hospitalization and extended periods of unemployment, they filed for chapter 13 bankruptcy to attempt to restructure and repay their debts. Had they been named Jean and Carlos, there would have been no question that the legally married couple could file a joint petition. However, their names were actually Gene and Carlos, both males, married during a brief period when same sex marriage was legal in California.[ii] The U.S. Trustee filed a Motion to Dismiss unless they consented to severing their cases. However, the debtors were up to the challenge. They were represented by well-respected California bankruptcy attorney Peter Lively. They were also represented by pro bono special counsel Robert Pfister with Ken Klee’s firm, Klee, Tuchin, Bogdanoff & Stern, LLP, who brought some star power to the case. Joint Administration and DOMA The general rule in bankruptcy is one debtor one case.[iii] However, under 11 U.S.C. §302(a), a single petition may be filed by “an individual that may be a debtor under such chapter and such individual’s spouse.” In 1996, the Defense of Marriage Act (DOMA) dictated that under federal law, the word spouse “refers only to a person of the opposite sex who is a husband or wife.” 1 U.S.C. §7. Reading the two statutory sections together, a joint petition could only be filed by a man and a woman who were husband and wife.[iv] Filing a joint petition offers several advantages. For one thing, the couple pays one filing fee instead of two. In a chapter 13 case, that means a savings of $274. It also means paying one attorney’s fee instead of two. Filing a joint petition avoids difficult community property issues posed by separate filings. Under 11 U.S.C. §541(a)(2)(A), the bankruptcy estate of a debtor includes all community property under the sole, equal or joint management and control of the debtor.” That means that the first to file includes all joint community property. Additionally, a joint filing may influence the ability to confirm a chapter 13 plan. Assume two individuals, one with positive disposable income and one with negative disposable income. Together, they could confirm a plan based on their combined disposable income. Separately, one could not confirm a plan and the other would have to pay more. These are not huge differences, but they could be important in specific cases. Prior to 2011, joint cases which did not involve a legally married man and a woman did not fare well. Courts had denied joint petition status to a man and his corporation,[v] In re Jephunneh Lawrence & Assoc. Chartered, 63 B.R. 318 (Bankr. D.C. 1986), a co-habiting but unmarried heterosexual couple, In re Malone, 50 B.R. 2 (Bankr. E. D. Mich. 1985), an unmarried same sex couple, In re Favre, 186 B.R. 769 (Bankr. N.D. Ga. 1995) and a same sex couple married in Canada, In re Kandu, 315 B.R. 123 (Bankr. W.D. Wash. 2004). However, in 2011, two other courts held that legally married same sex couples could file joint petitions notwithstanding DOMA. In re Ziviello-Howell, No. 11-22706 (Bankr. E.D. Cal. 5/31/11); In re Somers, 2011 WL 1709839 (Bankr. S.D. N.Y. 5/4/11). The Ninth Circuit and Constitutional Law The Bankruptcy Court considered DOMA in the context of the equal protection clause of the Fifth Amendment and prior Ninth Circuit precedent. Under Equal Protection analysis, a distinction based on sexual orientation must survive heightened scrutiny, a standard greater than rational relationship. Under heightened scrutiny, a statute must be justified based on the reasons stated when it was passed rather than post hoc reasoning. The Ninth Circuit had previously held that the military’s “Don’t Ask, Don’t Tell” policy violated the Constitution. Witt v. Department of Air Force, 527 F.3d 806 (9th Cir. 2008). This ruling gave the bankruptcy court considerable support for its ruling. The Bankruptcy Court’s Ruling Given the court and the context, there was little suspense as to how the issue would be decided. The Court began its opinion with the following statement: This case is about equality, regardless of gender or sexual orientation, for two people who filed for protection under Title 11 of the United States Code (Bankruptcy Code). Like many struggling families during these difficult economic times, Gene Balas and Carlos Morales (Debtors), filed a joint chapter 13 petition on February 24, 2011. Although the Debtors were legally married to each other in California on August 20, 2008, and remain married today, the United States Trustee (sometimes referred to simply as “trustee”) moved to dismiss this case pursuant to Bankruptcy Code § 1307(c) (Motion to Dismiss), asserting that the Debtors are ineligible to file a joint petition based on Bankruptcy Code § 302(a) because the Debtors are two males. The issue presented to this court is whether the Debtors, who are legally married and were living in California at the time of the filing of their joint petition, are eligible to file a “joint petition” as defined by § 302(a). As the Debtors state, “[T]he only issue in this Bankruptcy Case is whether some legally married couples are entitled to fewer rights than other legally married couples, based solely on a factor (the gender and/or sexual orientation of the parties in the union) that finds no support in the Bankruptcy Code or Rules and should be a constitutional irrelevancy.” Debtors’ Opp. 5:24–28. In this court’s judgment, no legally married couple should be entitled to fewer bankruptcy rights than any other legally married couple. Opinion, p. 1-2. The Bankruptcy Court did not have any difficulty finding that, in the specific context, DOMA would not survive rational relationship analysis, let alone heightened scrutiny. The Court advanced the following analysis of the reasons advanced to support DOMA in Congress as applied to the specific case: *Encouraging responsible procreating and child bearing. The couple did not have children and their ability to file a joint bankruptcy would not affect children in other relationships. *Defending or nurturing the institution of traditional heterosexual marriage. Since the debtors were already married, allowing them to proceed with a joint bankruptcy would not affect anyone else’s marriage. *Defending traditional notions of morality. The joint bankruptcy filing “is in no sense discernible to the Court to be a validly challengeable to morality, traditional, or otherwise, under the Fifth Amendment”. *Preserving scant resources. “No governmental resources are implicated by the Debtors’ bankruptcy case different from the resources brought to bear routinely in thousands upon thousands of joint bankruptcy cases filed over the years[vi]”. Opinion, pp. 12-13. The Bottom Line While the Balas case has attracted a lot of publicity, it is unlikely to have a lot of practical effect. First, it is limited to couples who are legally married. The Court did not allow unmarried same sex couples to file joint petitions. Therefore, the case is not a step toward requiring same sex marriage. Second, it is not clear whether courts outside of the Ninth Circuit would reach the same conclusion. The Ninth Circuit is the most liberal circuit. A more difficult test would be if a couple married in California were to move to Texas and file a joint petition. Third, allowing a joint bankruptcy petition, while desirable in some cases, is not a huge victory. What it means in this specific case is that two guys will have a little easier time proposing a plan to pay their creditors. The case does have two interesting sidelights to it. First, it is unusual for bankruptcy courts to deal with the constitutionality of federal statutes. The Debtors’ counsel apparently provided a lot of very helpful briefing as shown by the many references to the Debtors’ Response in Opposition throughout the opinion. This shows that good briefing and research can be invaluable when the court is faced with a novel question. Second, it is unusual that twenty judges out of twenty-four in the district signed off on the opinion. This was Bankruptcy Judge Thomas Donovan’s case. There was no explanation given for why the other nineteen judges joined in. Sometimes, the judges of a district will sit en banc when considering an important issue. However, that does not appear to be what happened in this case. It seems to be highly unprecedented for other judges to sign on to a colleague’s decision on an ad hoc basis. Perhaps some of the judicial readers of this blog can shed some light on the issue. [i] The phrase originates from Hamlet, Act I, Scene 3 where Polonius gives his daughter Ophelia the following advice: When the blood burns, how prodigal the soul Lends the tongue vows. These blazes, daughter, Giving more light than heat, extinct in both Even in their promise as it is a-making, You must not take for fire. In judicial parlance, the phrase has come to refer to an argument with more passion than persuasiveness. See Sather, “Shakespeare for Lawyers: More Heat Than Light,” Am. Bankr. Inst. J. (March 1998). I am using the phrase in this context to refer to a decision which generates more controversy than practical effect. [ii] According to the Opinion, there were 18,000 same sex marriages in California before the law was overturned by Proposition 8. [iii] Not to be confused with the Texas Rangers maxim “one riot, one Ranger.” If you are confused over whether the phrase refers to the baseball team or the legendary law enforcement organization, you are not from Texas. [iv] Theoretically, the man could be the wife and the woman could be the husband and still pass scrutiny under DOMA. [v] While the man’s wife could have claimed that he was married to his job, this argument apparently was not raised. [vi] This is actually not correct, since the clerk’s office is foregoing a filing fee of $274. However, if it is assumed that the filing fee is an accurate reflection of the cost of administering a case, then it would be a break even proposition.

By JOHN SCHWARTZ A bankruptcy court in California has declared that the 1996 law barring federal recognition of same-sex marriage is unconstitutional, increasing pressure against the law. “In this court’s judgment, no legally married couple should be entitled to fewer bankruptcy rights than any other legally married couple,” wrote Judge Thomas B. Donovan of the United States Bankruptcy Court for the Central District of California. In an unusual move, 19 other judges — nearly all of the 24 judges of the central district — also signed the decision. The impact of the opinion could be limited, since the decision of the court is specific to the bankruptcy of the couple, Gene Douglas Balas and Carlos A. Morales. But the other judges’ signatures suggest that as a matter of policy they would rule similarly. It is not the first blow to the law known as the Defense of Marriage Act. A federal judge in Boston declared the law unconstitutional last July, and that case is working its way through the legal system. The Department of Justice, however, is not driving that appeals process. In February, Attorney General Eric H. Holder Jr. announced in a letter to members of Congress that while the Obama administration would continue to enforce the law, it would no longer defend it in court and that classifications based on sexual orientation should be subjected to a tough legal test intended to block unfair discrimination. Speaker John A. Boehner, Republican of Ohio, then announced that Congress would defend the law, and that it had hired former Solicitor General Paul Clement to argue on its behalf. Mr. Balas and Mr. Morales cited Mr. Holder’s letter in their pleadings, and Judge Donovan quoted it approvingly in his 26-page opinion, and stated, “The Holder Letter demonstrates that DOMA cannot withstand heightened scrutiny.” Mr. Balas and Mr. Morales were legally married under California law, and wanted to file jointly for bankruptcy. The trustee, the federal officials who oversee the bankruptcy process, moved to dismiss their petition under the Defense of Marriage Act. They then asked Judge Donovan to allow them to file jointly, and Monday’s decision was the result. Adam Winkler, a professor at the law school at the University of California, Los Angeles, called the decision “a powerful statement about the status of gay rights today.” Professor Winkler said, “it shows the effect of Eric Holder’s letter in shaping legal decisions that came after it, almost as if it’s a precedent in the case.” Mary Bonauto, the civil rights project director for Gay and Lesbian Advocates and Defenders, the group that brought the Massachusetts case, said she was not surprised to see another judge agree with the earlier decision, because the law “advances a blatant legal double standard.” Ms. Bonauto added, “In our system of justice, it’s the job of courts to call that out.” One of those who signed Judge Donovan’s opinion, Judge Sheri Bluebond, said that a signing by other judges is “an unusual occurrence, but it is certainly not unprecedented.” Judge Bluebond said bankruptcy judges signed on to their colleagues’ decisions when “threshold questions” were brought before one judge and the others in that district “so the bar would know where we stand,” and whether they would be able to file in those courts. While 20 judges signed the opinion and there are 24 in the Central District of California, Judge Bluebond said, “the fact that some judges did not sign on to it does not mean one way or another what their views on that issue are.” “There could have been procedural reasons or just logistical reasons that they did not sign on,” she said. It is unclear whether an appeal will be filed. Judge Donovan noted that the House Bipartisan Legal Advisory Group, which is leading the Congressional action, requested a brief delay in proceedings while it considered whether to intervene, but that “no further pleadings and no challenge” had ensued. “The government’s nonresponse to the debtors’ challenges is noteworthy,” Judge Donovan wrote. A spokesman for Mr. Boehner, Brendan Buck, said the ruling would not be appealed. “Bankruptcy cases are unlikely to provide the path to the Supreme Court, where we imagine the question of constitutionality will ultimately be decided,” Mr. Buck said. “Obviously, we believe the statute is constitutional in all its applications, including bankruptcy, but effectively defending it does not require the House to intervene in every case, especially when doing so would be prohibitively expensive.”Copyright 2011 The New York Times Company. All rights reserved.