PBCBA BAR BULLETINS pbcba_bulletin_Sept. 2019 - Page 9

BANKRUPTCY CORNER Supremacy of Federal Bankruptcy Law and the Right of a Bankruptcy Trustee JASON S. RIGOLI Recently I was involved in a case representing a trustee seeking to recover an asset for the benefit of the estate. The parties opposing me in that effort consistently argued that certain state law applies preventing the alienation of the asset and that res judicata applied because one creditor had sued on certain issues in a state court proceeding and lost. The position we had taken was, no, the trustee in the bankruptcy case has independent rights arising from the Bankruptcy Code itself and res judiciata does not apply, because our issue could not have been litigated outside of bankruptcy. When Judge Grossman’s opinion in Pryor v. Town of Smithtown (In re Jadeco Construction Corp.), 2019 WL 3026841 (Bankr. E.D.N.Y July 10, 2019) came to my attention my interest was piqued as it addressed many of these issues. Factual Background In Jadeco the trustee sued to recover the value of labor and materials provided by the debtor prepetition to Smithtown as a constructively fraudulent transfer under §§ 544 and 550 of the Bankruptcy Code. Prepetition a state court found that the underlying contract for which Smithtown received services, expired and the applicable nonbankruptcy law prohibited Smithtown from paying for services rendered absent an enforceable contract. Smithtown, therefore, asserted that the trustee could not recover because: (i) the important state interest of protecting taxpayers – requiring the enforceable contract – overrode the rights conferred by Congress on the Trustee under § 544; and (ii) that the claims were barred by Rooker- Feldman, res judicata, and/or collateral estoppel. Conflict Preemption Judge Grossman first addressed preemption, Jadeco at *5-7, stating that “Congress is vested with the exclusive power under the Bankruptcy Clause of the U.S. Constitution to enact uniform laws governing bankruptcy,” Id . at *5 ( citing U.S. Const., art. 1, CL. 8), and that federal law “will preempt state law when a discernible conflict or inconsistency arises.” Ibid. (citing U.S. Const., art. VI, CL. 2; Arizona v. United States , 567 U.S. 387, 399 (2012); Gibbons v. Ogden , 9 Wheat. 1, 210–211 (1824)). Smithtown argued that the state’s interest in protecting its tax payers by awarding public contracts in strict compliance with statutory requirements prevailed over the avoidance rights of the trustee under § 544. Judge Grossman disagreed and distinguished the case law on which Smithtown relied and stated that the trustee’s suit would not compel the city to violate state law, the trustee was recovering the value of the assets transferred for which no consideration was paid by Smithtown to benefit the creditors of the estate, not the debtor, and was not suing on a contract or quantum meruit . Id at *7. Judge Grossman then ruled that the Sections 544 and 550 preempted state law under “conflict preemption” and that “the interests protected by these state laws must be subservient to [the bankruptcy laws enacted by Congress], which promote the objectives of protecting a debtor’s creditors from harm as a result of transfers made by a debtor for less than fair consideration.” Ibid. Rooker-Feldman and Red Judicata and/or Collateral Estoppel 544 and 550 only exists in bankruptcy and could not have been litigated in the state court proceeding, meaning res judicata is not applicable. Id at *10. The trustee was seeking to avoid and recover the transfer of the labor and materials provided to Smithtown by the debtor for which Smithtown paid no consideration, the trustee was not seeking to enforce the contract, meaning the first prong for collateral estoppel is not satisfied. Id. at *9 (applying New York law, “(1) the identical issue necessarily was decided in the prior action, and (2) the party to be precluded from relitigating the issue had a full and fair opportunity to litigate the issue in the prior action.” (citations omitted)). Florida’s standard for applying collateral estoppel is similar: “an identical issue must have been presented in the prior proceeding, the issue must have been a critical and necessary part of the prior determination, there must have been a full and fair opportunity to litigate that issue, and the issue must have been actually litigated.” Ward v. State, 111 So.3d 225, 227 ( quoting Larimore v. State , 76 So.3d 1121, 1123 (Fla. 1st DCA 2012) ( quoting M.C.G. v. Hillsborough Cnty. Sch. Bd ., 927 So.2d 224, 227 (Fla. 2d DCA 2006)). This article is submitted by Jason S. Rigoli, Esq., Furr Cohen, 2255 Glades Road, Suite 301E, Boca Raton, FL 33431, [email protected] furrcohen.com Judge Grossman quickly dismissed these arguments by Smithtown. Judge Grossman explained that the Rooker- Feldman does not apply because the trustee was not seeking a “review and rejection” of the earlier state court ruling that the contract had expired, the trustee was seeking recovery of the materials and labor provided by the debtor without the benefit of a contract.” Id . at *9. And, res judicata and collateral estoppel do not apply because the issue the trustee was litigating could not have been litigated in state court and was not identical to the issue litigated in state court. The avoidance action under section PBCBA BAR BULLETIN 9 LEADING PRACTICE MANAGEMENT SOFTWARE 10% Discount for Bar Members