Would <b><i>Jevic</i></b> Have Come Out Differently with Gorsuch?

Very few bankruptcy cases climb all the way up the judicial ladder to the United States Supreme Court. Sure, celebrity appeal might help; see, e.g., Stern v. Marshall, 564 U.S. 462 (2011) (the “Marshall” better known as “Anna Nicole Smith”), but barring that, SCOTUS has granted cert on just a handful of petitions originating from a bankruptcy court. Most often, the Court grants cert when there is a split in the courts of appeals.

That said, at the tail end of 2016, SCOTUS was treated to oral arguments in Czyzewski v. Jevic Holding Corporation, a case that, according to The New York Times, had the potential to “upend” the absolute priority scheme that serves as the backbone of the United States Bankruptcy Code. Jevic involved a dispute over the validity of a structured dismissal pursuant to a settlement agreement between the debtors and some — but not all — secured, priority, and general unsecured creditors.

The Issue

Under the settlement agreement, the Chapter 11 case and a fraudulent transfer lawsuit would be dismissed, with cooperating creditors receiving distributions on their claims, while the claims of the debtor's truck driver employees — a group typically treated with priority (for wages) under the Code's hierarchy — were eliminated. Those creditors that refused to agree to the terms of the agreement were essentially “cut out.” Lower-ranking general unsecured creditors who did cooperate were to be paid something. Thus, if the structured dismissal were allowed, parties to the settlement agreement could sidestep the Code's priority scheme by dismissing the case just short of plan confirmation (when all the priority rules kick in), and essentially “blackballing” creditors who refused to climb on board.

Despite vocal opposition from not just the employees, but also from the United States Trustee's office, who argued that the Bankruptcy Code's priority rules could not be circumvented in such a manner, the lower courts (the Bankruptcy Court, the United States District Court, and the U.S. Court of Appeals for the Third Circuit) all upheld the structured dismissal. According to the Third Circuit, “absent a showing that a structured dismissal has been contrived to evade the procedure protections … of the plan confirmation … processes, a bankruptcy court had discretion to order such a disposition.”

Notably, the Third Circuit determined that the absolute priority rule really only applies at plan confirmation. Since the structured dismissal took place before plan confirmation, the Third Circuit saw no material collision between the policies underlying the Code and the settlement agreement, particularly since it was unlikely that the employees would have fared any better, whether pursuant to a bread-and-butter Chapter 11 plan confirmation process, or if the case had been converted to a Chapter 7 liquidation.

The Ruling

Ultimately, the members of SCOTUS — sans Neil Gorsuch, who had not yet been confirmed — declined the invitation to “upend” the absolute priority scheme. The question presented: “Can a bankruptcy court approve a structured dismissal that provides for distributions that do not follow ordinary priority rules without the affected creditors' consent?” SCOTUS's answer: a resounding “No.”

In reversing the Third Circuit, the Court explained that “[a] distribution scheme ordered in connection with the dismissal of a Chapter 11 case cannot, without consent of the affected parties, deviate from the basic priority rules that apply under the primary mechanisms the Code establishes for final distribution of estate value in business bankruptcies.” The Court deftly parried numerous arguments aimed at diverting its attention from what was an obvious evasion of the absolute priority rule, including the notion that the employees had no standing since they purportedly would have received nothing in any event.

Noting that the settlement agreement provided for the dismissal of a fraudulent conveyance claim that could — if litigated — bring in more than the $3.7 million the debtors settled for, the Court concluded that it was within the realm of possibility that the truckers could have gotten more than nothing outside of the structured dismissal. This “could have” was sufficient to give them standing. Nor was the Court placated by the repeated reassurance that cases of this nature would be “rare.” Should no less than four separate courts — including the Supreme Court of the United States — bless the package with their stamps of approval, it did not take a crystal ball to predict that cases like these would go from being rare to commonplace.

Interestingly, the Court also raised the specter of a separation of powers issue — a topic that had gained substantial steam during Justice Gorsuch's confirmation hearing. Allowing the structured dismissal to survive would entail a “departure from the protections Congress granted particular classes of creditors.” The Court ultimately concluded that “Congress did not authorize a 'rare case' exception,” and that no court — even the highest Court in the land — could or should “alter the balance struck by the statute, … not even in rare cases.”

Now that Justice Gorsuch — who previously sat on the U.S. Court of Appeals for the Tenth Circuit — is confirmed, what can we discern from his prior rulings from the bench? Indeed, would Gorsuch have joined the majority opinion delivered by Justice Breyer? Or would he have struck out on his own and issued a dissent? While Crystal Ball Reading 101 is not on any law school curriculum, one might predict that Justice Gorsuch's penchant for textualism would make him uncomfortable with the Jevic opinion. Below is a brief summary of one of Gorsuch's more recent bankruptcy opinions, which sheds some light on how he handles questions of statutory interpretation.

In re Woolsey

In re Woolsey was a small Chapter 13 case that wound its way up to the Tenth Circuit, offering then-Judge Gorsuch an opportunity to impart his take on statutory interpretation. In Woolsey, the Chapter 13 debtors proffered a repayment plan that cut out the junior lienholder (Citibank), on the grounds that there was insufficient equity in the security interest (i.e., real property) to give Citi an “allowed secured claim,” as required under 11 U.S.C. § 506(d). Section 506(d) of the Bankruptcy Code specifically provides that “[t]o the extent that a lien secures a claim against the debtor that is not an allowed secured claim, such lien is void.” 11 U.S.C. § 506(d).

Citibank predictably objected to the proposed repayment plan. Both the bankruptcy court and the district court (on interlocutory appeal) sided with Citi. The Tenth Circuit ultimately affirmed the decisions of the bankruptcy court and the district court, but not before Judge Gorsuch threw a few well-aimed barbs at the SCOTUS opinion that tied the hands of “lower court judges” like him.

Judge Gorsuch quickly dispatched the debtors' argument that Citibank's claim was not “allowed” for purposes of 11 U.S.C. § 506(d), noting that “it was beyond question that Citibank's claim is a valid mortgage enforceable under Utah law … .” That left open the much more challenging wrinkle — whether Citibank's allowed claim was also a secured one. To iron out this issue, Judge Gorsuch flipped a few pages ahead in his copy of the Code to § 506(a), which provides that:

An allowed claim of a creditor secured by a lien on property in which the estate has an interest … is a secured claim to the extent of the value of such creditor's interest in the estate's interest in such property … and is an unsecured claim to the extent that the value of such creditor's interest … is less than the amount of such allowed claim.

A plain reading of § 506(a) suggests that “even if a lien qualifies as a valid security interest under state law, it gives rise to a 'secured claim' for purpose of federal bankruptcy law only if and to the extent it is supported by value in the underlying property.” Thus, as Judge Gorsuch explained, “one might be forgiven for thinking any lien either 'disallowed' under § 502 or 'unsecured' under § 506(a) would be void under §506(d).” This would mean that the debtors were right and that Citibank was out of luck.

Gorsuch's Reasoning

“But the law in this corner of bankruptcy practice doesn't follow such a straight path,” Judge Gorsuch lamented. Citing the Supreme Court's opinion in Dewsnup v. Timm, Judge Gorsuch spent the next several pages of his opinion detailing the “topsy turvy” path the Supreme Court followed in order to arrive at its final holding: “value in the collateral has no bearing on the lien-voiding language of § 506(d): any lien secured under state law must be respected and protected from removal.” 502 U.S. 410, 417 (1992).

Gorsuch peppered his 30-page opinion on this tiny Chapter 13 case with references that suggest his disagreement with the Court's reasoning (and ultimately, its conclusion) in Dewsnup. Indeed, his opening volley denotes more than just a hint of irony:

Now, one might ask: How can it be that to qualify as 'secured claim' in § 506(a) some value is needed but a mere three subsections later in § 506(d), value is irrelevant to whether a claim is 'secured'? It's surely a topsy-turvy result to give these two related provisions in the same statutory section entirely different (even opposing) meanings.

Judge Gorsuch identified several “unusual step[s]” the Court took in order to reconcile what appears to be irreconcilable. For instance, even though the “ normal rule of statutory construction that identical words in different parts of the same act are [presumed] to have the same meaning,” the Court found the “liberating ambiguity based on no more than the fact the litigants before it happened to disagree over the statute's meaning — an ailment surely afflicting most every statutory interpretation question in our adversarial legal system.” Based upon this “ambiguity,” the Court “felt free to strike out to interpret § 506(d) on its own, unchained by § 506(a)'s plain language.”

This “rogue” interpretation entailed a review of “historical practice,” a resource that Gorsuch found irrelevant, at best: “Whatever pre-code practice looked like, it would seem to have (at best) limited interpretive significance today … .” He further noted that Dewsnup's departure “from the plain language of § 506(a) and the rationales it supplied for doing so have engendered many critics” and that “it may have warped the bankruptcy code's seemingly straight path into a crooked one.”

Ultimately, however, Judge Gorsuch concluded that though it might be tempting to unbend the “warped” path created by Dewsnup, the panel “fail[ed] to see any principled way [it] might, as lower court judges, get there from here. Dewsnup may be a gnarled bramble blocking what should be an open path. But it is one only the Supreme Court and Congress have the power to clear away.”

Judge Gorsuch made no secret of either his discomfort with the Dewsnup opinion or his preference for relying exclusively — as much as possible — on the plain text of the statute. Gorsuch is often described as a “textualist” (à la, Scalia): His opinion is replete with evidence of his reluctance to turn to “historical practice” or even legislative history in order to interpret an otherwise plain text.

What also leaps out from the Woolsey opinion is Gorsuch's notions of separation of power — not just as between the three branches of government, but a respect for the hierarchy in the judicial system. He is not about mending a blunder that he has no power to mend. Yet, one would hazard a guess that, now on the Supreme Court, he will relish the opportunity to “clear away” the “gnarled bramble” that the Dewsnup opinion represents. By extrapolation, it would seem that now-Justice Gorsuch would pay scrupulous attention to protecting against SCOTUS's issuance of equally “warped” decisions.

Conclusion

It is possible that Justice Gorsuch would be somewhat squeamish with the reasoning set forth in Jevic. For one, nowhere in the Code is there an explicit requirement that a structured dismissal — like the one at issue in Jevic — must be put through the rigors of the absolute priority scheme that a Chapter 7 or Chapter 11 plan must. The Court makes repeated reference to the “fundamental” and “basic” nature of the “priority scheme,” as a means of putting a statutory bandage over Congress's failure to provide for the “structured dismissal” loophole. The Court cites to a string of cases adopting a “holistic” approach to the art of statutory interpretation, and the need to effect the object and policy of the “whole law.” Such an approach might be at odds with Justice Gorsuch's textualist plain-language mode of statutory interpretation.

The Jevic Court concluded that “[n]othing else in the Code authorizes a court ordering a dismissal to make general end-of-case distributions of estate assets to creditors of the kind that normally take place in a Chapter 7 liquidation or Chapter 11 plan … ” Given his past reluctance to fix mistakes that are not within his authority to fix, one wonders whether Justice Gorsuch would raise the obvious counterpoint:

“ Yes, but nothing in the Code explicitly forbids it.”

***** Joanne Lee ([email protected]) is a partner and business litigation attorney with Foley & Lardner LLP. Her practice focuses on electronic discovery and bankruptcy litigation. Charles Tabb ([email protected]) is of counsel with the firm, where he concentrates his practice in commercial and international bankruptcy and insolvency matters, creditors' rights, and out-of-court workouts and restructurings.