Restructuring

Co-Authored by Kyle J. Ortiz and Doron P. Kenter.
Thus far, we’ve covered the Sixth, Seventh, and Ninth Circuit Courts of Appeals, but has the Fifth Circuit Court of Appeals weighed in on the growing circuit split regarding Stern v. Marshall?  Not exactly.  In a recent decision, the Fifth Circuit determined that Stern was not actually implicated in the dispute before it.  Nonetheless, some may consider the Fifth Circuit’s decision to have interpreted Stern in an incredibly different way.  In Tanguy v. West (In re Davis), the Fifth Circuit characterized Stern as follows:

Stern v. Marshall, 131 S. Ct. 2594, 2611 (2011) (holding that the bankruptcy court lacked subject matter jurisdiction over counterclaims asserted by the bankruptcy estate against a creditor where the 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 the bankruptcy”).

(emphasis added).
Though this short parenthetical statement in an unpublished decision is not central to the Fifth Circuit’s holding (which dealt with claims against the debtor), it is notable insofar as the court suggested that Stern stands for the proposition that bankruptcy courts lack subject matter jurisdiction over certain types of core claims.  This interpretation of Stern is contrary to the general consensus among the courts (a rare occurrence in matters regarding Stern v. Marshall) that Stern implicated the final adjudicative authority of non-Article III courts (as a constitutional matter), as opposed to their subject matter jurisdiction over those core matters.  This consensus likely stems from the Supreme Court’s own conclusion (in Stern) that section 157 “does not implicate questions of subject matter jurisdiction.”  Instead, according to the Supreme Court, Stern dealt with “bankruptcy jurisdiction” – which we have generally understood not to refer to the bankruptcy courts’ ability to hear matters, but rather, their authority to finally decide certain matters which are reserved for Article III courts.  Indeed, courts have consistently denied motions to dismiss adversary proceedings in bankruptcy cases on that basis (occasionally noting that if any relief is warranted pursuant to Stern, it would be a withdrawal of the reference, and not an outright dismissal).  See, e.g., Simon v. Lis (In re Graves), 483 B.R. 113 (E.D. Mich. 2012); German Am. Capital Corp. v. Oxley Dev. Co., LLC (In re Oxley Dev. Co., LLC), 493 B.R. 275 (Bankr. N.D. Ga. May 16, 2013); British Am. Ins. Co. v. Fullerton (In re British Am. Ins. Co.), 488 B.R. 205 (Bankr. S.D. Fla. Feb. 28, 2013).
Moreover, many courts have expressly recognized that the bankruptcy court’s jurisdiction is a direct extension of the district court’s jurisdiction – and that the bankruptcy court for a given district necessarily holds the same subject matter jurisdiction as would the district court.  See, e.g., Brown v. Brown, 2013 WL 2338233 (E.D. Ky. May 28, 2013); S & S Food Corp. v. Sherali (In re Sherali), 490 B.R. 104 (Bankr. N.D. Tex. Mar. 14, 2013); In re EMS Financial Serv., 2013 Bankr. LEXIS 139 (Bankr. E.D.N.Y. Jan. 4, 2013).  Moreover, the Seventh Circuit’s recent decision in Sharif explicitly rejected arguments that Stern implicated bankruptcy courts’ subject matter jurisdiction:

First, as noted above, Stern held that [28 U.S.C.] § 157 constitutes a statutory allocation of authority between the bankruptcy courts and the district courts, and Article III, § 1, can be viewed similarly, that is, as an allocation of authority between Article III courts and non‐Article III courts.  Second, in resolving the constitutional issue in Stern, the Court never asserted that the bankruptcy court in that case had lacked subject‐matter jurisdiction; rather, it held that “[t]he Bankruptcy Court … 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.”  Third, the constitutional bases of federal subject‐matter jurisdiction are set forth in Article III, § 2, whereas Sharif’s objection to the bankruptcy court’s entry of final judgment is based on Article III, § 1. Finally, Sharif’s reliance on Ortiz [v. Aurora Health Care, Inc. (In re Ortiz)] for the proposition that a Stern objection is jurisdictional is misplaced, as the jurisdictional issue in Ortiz concerned whether there was a valid final judgment for purposes of appellate jurisdiction, given the unique procedural posture of that appeal (a direct appeal from the bankruptcy court); Ortiz did not hold that the bankruptcy court had lacked jurisdiction.

(internal citations omitted). On the other hand, if Stern is about subject matter jurisdiction, motions to withdraw the reference would (arguably) be of no avail, as the matter should instead be heard in another forum entirely (for example, in a state court with subject matter jurisdiction over the action).
Despite the general consensus on the issue, claimants in the Fifth Circuit (and conceivably elsewhere) may feel emboldened by Davis to bring motions to dismiss for lack of subject matter jurisdiction in matters they allege invoke Stern.  In fact, lower courts won’t find much help in the Fifth Circuit’s five other cases citing Stern, as those cases do not expressly distinguish between “constitutional adjudicatory authority” and “jurisdiction.”  And even though the Stern Court itself referred to “bankruptcy jurisdiction,” courts have subsequently understood Stern to have held that this undefined term is an entirely different concept from “subject matter jurisdiction,” which would preclude bankruptcy courts from even hearing any such disputes.  Accordingly, in light of Davis, litigants might now pose objections to a bankruptcy court’s subject matter jurisdiction at any point in a proceeding, and consent could never serve to cure that deficiency.  Indeed, if lower courts construe Davis as the Fifth Circuit’s “position” regarding Stern (or at least a signal of what it would decide if it were to directly address the issue), they may even feel compelled to dismiss certain cases sua sponte where they believe Stern is implicated.
The Fifth Circuit’s decision to invoke subject matter jurisdiction regarding Stern is especially surprising in light of the Supreme Court’s recent decision to grant certiorari to review the Ninth Circuit’s decision in Bellingham, which (we hope!) will shed additional light on just what the Supreme Court meant when it issued its decision in Stern.  In the meantime, we are curious to see whether Davis will spur a new wave of motions to dismiss proceedings pending in the Fifth Circuit (or elsewhere).