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Closing the Gap: The Supreme Court Holds that Bankruptcy Courts Should Enter Proposed Findings of Fact and Conclusions of Law for Stern Claims

On June 9, 2014, while the Bankruptcy Bar waited with bated breath, Justice Thomas delivered the long-anticipated opinion of the unanimous Court in Executive Benefits Insurance Agency v. Arkinson.   While the Supreme Court answered the question of how to proceed when confronted with a Stern claim, it left the question of consent “for another day.” 

The Statutory Gap Identified in Stern

Under 28 U.S.C. § 157(b)(1), Congress allocated to bankruptcy judges the power to hear and determine the bankruptcy case itself and all "core" matters arising under the Bankruptcy Code or  arising in a bankruptcy case.  However, under 28 U.S.C. § 157(c)(1), if the matter is "non-core" (meaning it is only related to the bankruptcy case), and the parties have not consented to final adjudication by the bankruptcy court, the bankruptcy court must submit proposed findings of fact and conclusions of law to the district court.  The district court can enter final judgment only after a de novo review.  However, if the parties consent, the bankruptcy court may hear and determine "non-core" matters.

In Stern, the Court considered a constitutional challenge to the statutory designation of a matter as "core."  The claim at issue, a common-law counterclaim for tortious interference against a creditor to the estate, fell within Section 157(b)(2)(C)’s definition of a core claim (“counterclaims by the estate against persons filing claims against the estate”).  Pursuant to the statute, the bankruptcy court could adjudicate the claim.  However, the Court found that Article III of the Constitution prohibits Congress from vesting the bankruptcy court with authority to adjudicate the tortious interference counterclaim.  Therefore, under Stern, some claims labeled by Congress as “core” could not be adjudicated by a bankruptcy court.  The Court called these claims "Stern claims."

Stern failed to address how bankruptcy courts should proceed when confronted with Stern claims.  These claims could not be adjudicated to final judgment by the bankruptcy court like other core claims but the alternative procedure set forth in 28 U.S.C. § 157(c), whereby the bankruptcy court submits proposed findings of fact and conclusions of law, applies only to non-core claims.  There was a question whether this statutory gap rendered the bankruptcy court powerless to act on these claims, requiring the district court to hear them.  There was also a question whether the parties could consent to the bankruptcy court adjudicating Stern claims.

The Court's Opportunity to Clarify Stern

In Executive Benefits Insurance Agency v. Arkinson, the Chapter 7 bankruptcy trustee filed an adversary proceeding against Executive Benefits Insurance Agency (“EBIA”) and others alleging that the debtor’s owner and operator fraudulently transferred the debtor’s assets to EBIA.  The bankruptcy court granted the trustee’s motion for summary judgment on all claims, and EBIA appealed to the district court.  After conducting a de novo review, the district court affirmed and entered judgment for the trustee.  EBIA appealed to the Ninth Circuit and while the appeal was pending, the Court decided Stern.  EBIA moved to dismiss the appeal on the grounds that Article III did not permit Congress to vest authority in the bankruptcy court to finally decide the trustee’s fraudulent conveyance claims.  The Ninth Circuit rejected the motion and affirmed the district court holding that Article III does not permit a bankruptcy court to enter final judgment on a fraudulent conveyance claim against a noncreditor unless the parties consent.  The Ninth Circuit found that EBIA had impliedly consented to the bankruptcy court’s jurisdiction, making the bankruptcy court’s adjudication of the fraudulent conveyance claim permissible.  The Ninth Circuit also noted that the bankruptcy court’s judgment could instead be treated as proposed findings of fact and conclusions of law, subject to de novo review by the district court.  The Supreme Court granted certiorari.

Closing the Gap

To resolve the statutory gap issue, the Court relied on the severability provision of the statute.  The Court reasoned that when a court identifies a claim as a Stern claim, it necessarily holds invalid the application of Section 157(b), including the "core" label and the attendant procedures.  Therefore, the remainder of the statute, including the portion of the statute governing non-core claims, is not affected.  “With the ‘core’ category no longer available for the Stern claim at issue, we look to § 157(c) to determine whether the claim may be adjudicated as a non-core claim—specifically whether it is 'not a core proceeding' but is 'otherwise related to a case under title 11.'”  If the claim satisfies these criteria, the bankruptcy court should treat the claim as noncore – hear the proceeding and submit proposed findings of fact and conclusions of law to the district court for de novo review and entry of judgment.

In the Executive Benefits case, the district court reviewed the bankruptcy court’s grant of summary judgment de novo, issued a reasoned opinion affirming the Bankruptcy Court, then separately entered judgment in favor of the trustee.  The Court found that EBIA received the same review from the district court that it would have received if the Bankruptcy Court had treated the fraudulent conveyance claims as non-core such that any error was harmless.

What about consent?

 In a footnote, the Court punted the consent issue: “Because we conclude that EBIA received the de novo review and entry of judgment to which it claims constitutional entitlement . . . this case does not require us to address whether EBIA in fact consented to the Bankruptcy Court’s adjudication of a Stern claim and whether Article III permits a bankruptcy court, with the consent of the parties, to enter final judgment on a Stern claim.  We reserve that question for another day.”