The following is a case update by Maggie E. Schroedter analyzing a recent case of interest:
In In re Cambridge Land Co. II, LLC, 626 B.R. 319 (B.A.P. 9th Cir. 2021), defendants in a state court legal malpractice action filed by bankrupt limited liability companies (LLCs) appealed bankruptcy court orders reopening the LLCs’ previously dismissed Chapter 11 cases for administrative purposes only. The United States Bankruptcy Appellate Panel of the Ninth Circuit determined that the malpractice defendants were not creditors of the estate and had failed to show they were “aggrieved” by the bankruptcy court orders. The BAP therefore dismissed the appeal for lack of standing.
To read the full published decision, click here.
Appellees Alan and Victoria O’Kain were the principals of Cambridge Land Company, LLC and Cambridge Land Company II, LLC (the “LLCs”). They previously owned and operated apartment complexes.
In 2013, the lender commenced foreclosure proceedings and moved to appoint a receiver against each LLC. The O’Kains sought legal advice about filing chapter 11 cases. Legal counsel (“Malpractice Defendants”) advised that chapter 11 cases would not be viable and recommended that the entities file under another chapter. The O’Kains ultimately retained other counsel, who filed chapter 11 cases for the LLCs.
In the interim, the state court appointed receivers for the LLCs.
The LLCs did not schedule any malpractice claim in the chapter 11 cases. The bankruptcy court approved the sale of the apartment complexes and ultimately granted the LLCs’ motion to dismiss the chapter 11 cases under Bankruptcy Code section 1112(b)(1). The bankruptcy court entered an order dismissing and administratively closing the cases.
In 2015, the O’Kains and the LLCs filed a complaint against the Malpractice Defendants in state court alleging that the failure to file bankruptcy before the appointment of receivers caused them damages. The parties agreed that the malpractice claim was a prepetition asset of the LLCs, but disagreed as to whether it belonged to the LLCs or their respective bankruptcy estates. In order to resolve the dispute, the state court ordered that they move to reopen the bankruptcy cases and schedule the malpractice claim.
The bankruptcy court granted the LLCs’ motions to reopen, opining that while it could not reopen the cases under § 350(b)—because they were not closed under § 350(a)—it would reopen for “administrative purposes only,” to allow the LLCs to schedule the malpractice claim. The Malpractice Defendants appealed.
The BAP held that the Malpractice Defendants lacked standing to appeal and therefore dismissed the appeals.
Whether an appellant is a “person aggrieved” is a question the court of appeal reviews in the first instance. When the appellant lacks standing to appeal, the court also lacks jurisdiction over the appeal.
The BAP noted that the Malpractice Defendants had an affirmative duty to establish standing, and that they must show they are a “person aggrieved” who was “directly and adversely affected pecuniarily by an order of the bankruptcy court.” Cambridge Land Co. II, LLC, 626 B.R. at 323.
Noting that the Malpractice Defendants were not creditors of the LLCs, the BAP observed that the reopening of the bankruptcy cases did not diminish their property, increase their burdens on property, or detrimentally affect their rights of ownership inherent in any property. As a result, they are not a “person aggrieved” by the entry of the orders reopening the cases.
In addition, when the bankruptcy cases were dismissed in 2014, all of the estate property revested in the LLCs under § 349(b)(3), “regardless of whether the property was scheduled.” Id., citing Menk v. LaPaglia (In re Menk), 241 B.R. 896, 913-14 (B.A.P. 9th Cir. 1999). A dismissal means there is no estate and no property to be administered or abandoned. Any claim against the Malpractice Defendants is therefore owned by the LLCs—who are the proper plaintiffs.
This opinion, and in particular the concurring opinion by the Honorable Christopher M. Klein, both highlight and attempt to clarify the confusion that often plagues state courts regarding the distinction between “closing” and “dismissing” a bankruptcy case.
A case is “closed” after it has been fully administered. In that case, all scheduled property is “abandoned to the debtor” while unscheduled property remains property of the estate. 11 U.S.C. § 554(c) & (d).
Commonly in state court a plaintiff will have failed to schedule a cause of action in a prior bankruptcy case. The plaintiff then lacks authority over the claim. According to Judge Klein, the “correct solution is to recognize that the bankruptcy trustee is the real party in interest as the custodian of all property of the estate” and send the matter to the bankruptcy court for clarification and administration.
In contrast, a case that has been “dismissed” reverts all property back to the debtor. There is no estate.
In this case, the bankruptcy court was asked to reopen a case to schedule a cause of action that “could not be” property of the estate. In other words, amending the schedules to include the cause of action would have no legal effect. The bankruptcy court’s order reopening for “administrative purposes” was seemingly an “accommodation” to the state court’s request and/or requirement that the schedules be amended.
This explanation provides further support for the BAP’s holding that the Malpractice Defendants ultimately were not aggrieved and lacked standing to appeal.
These materials were written by Maggie E. Schroedter of Robberson Schroedter LLP in San Diego, California (maggie@theRSfirm.com). Editorial contributions were provided by the publications committee of the ILC. Ms. Schroedter is a member of the Insolvency Law Committee.