Standing to Object in Chapter 7 Sales: Lessons from In re Riddle

Summary

In In re Riddle, the United States Bankruptcy Court for the District of New Mexico (the “court”), Case No. 23-10827-j7 (August 15, 2025) (“Riddle”) held that the debtor’s former state court law defense firm lacked standing to object to the Chapter 7 trustee’s motion to sell the estate’s malpractice claim against the firm to the judgment creditor in the state law case. 

Riddle can be found here. 

Facts

The debtor suffered a monetary judgment in favor of Dwoskin in Washington state court.  Ranier LLC and Wais (together “Counsel”) represented him in the Washington state court action.  The debtor later filed a Chapter 7 case.  In his filing, the debtor scheduled claims against Counsel:  legal malpractice and violation of the Washington Consumer Protection Act.  The Chapter 7 trustee agreed to sell the malpractice claim to Dwoskin despite Counsel’s offer to pay a bit more and moved the bankruptcy court under Bankruptcy Code § 363 for approval of the sale.  Only Counsel objected to the motion.  Counsel’s grounds were that the cause of action for malpractice is not transferable under Washington law and that to maximize the estate for creditors the trustee should have sold the malpractice claim by auction rather than private sale to Dwoskin.  The trustee responded that Counsel lacked Article III Constitutional, prudential and statutory standing.  The bankruptcy court overruled the objection on the grounds that Counsel, which evidently was not a creditor of the debtor, lacked standing, therefore eschewing addressing the merits of the objection. 

Reasoning

The bankruptcy court began with a review the general contours of standing in federal court.  There are two kinds, it said:  one is Article III Constitutional standing, and the other is what has been generally known as “prudential” standing.  According to the opinion, the latter doctrine, which has undergone some transition recently, bars Counsel’s objection. 

Setting the Stage:  Constitutional Standing.  The trustee has Constitutional standing because he is proceeding under a federal statute (§ 363) that authorizes him to sell estate assets and in doing so he is fulfilling his duty as trustee of the estate.  Given that fact, Counsel has Constitutional standing because parties opposing such a motion automatically have standing to appear.  Thus, there is no Constitutional standing issue in the proceeding. 

Prudential Standing.  Prior to Lexmark Int’l v. Static Control Components, Inc., 572 U.S. 118, 126 (2014), the bankruptcy court asserted, prudential standing had three traditional elements:  (1) a party cannot raise the claims of another, (2)  the issues must not be a generalized grievance more appropriately committed to resolution by an appropriate governmental process in a democracy, and (3) the party’s claims must be within “the zone of interests” protected by the law(s) invoked.  According to the bankruptcy court, however, Lexmark narrowed the scope of prudential standing by re-allocating the “generalized grievance” test to Constitutional standing (which is in essence a test of whether our system allocates the kind of issue involved to resolution by courts or to a nonjudicial process) and eliminating the zone of interests as an element of prudential standing, leaving whether a party is seeking to vindicate the rights of another as the principal component of prudential standing.  However, whether a statutory claim comes within a party’s “zone of interest”, though no longer an element of prudential standing is still relevant.  In any case, the bankruptcy court observed, the Tenth Circuit has abandoned the notion that the issue is one of standing; rather, it says it really is just a determination of whether the relevant federal statute encompasses the plaintiff’s claim.  See In re Peeples, 880 F.3d 1207, at 1213 (10th Cir. 2018).

Resolution.  Counsel is not trying to raise the rights of others.  Thus, whether Counsel has a right to be heard under the federal law—what previously was known as “statutory standing” but the bankruptcy court labels as “the right to be heard”—the zone of interests test for prudential standing is the ultimate issue. 

Were this a proceeding in Chapter 11, with the broad allocation of standing under Code § 1109(b), Counsel perhaps would have standing to appear and be heard.  That section provides expansively that:

(b)  A party in interest, including the debtor, a trustee, a creditor’s committee, an equity security holder’s committee, a creditor, an equity security holder, or any indenture, may raise and may appear and be heard on any issue in a case under this chapter. 

[Emphasis added.]  (Note that under §§ 1102(3), “‘includes’ and ‘including’ are not limiting”.)  Thus, standing in Chapter 11 is very broad.  See, e.g., Truck Ins. Exchange v. Kaiser Gypsum Co., Inc., 602 U.S. 268, 144 S.C. 1414 (Supreme Court 2024) (debtor’s insurer entitled to appear and be heard (but not vote) on plan confirmation even though plan did not expressly alter insurance contract or increase insurer’s liability; standing has to do not with what in fact a plan does, but whether a party has a say about what a plan in fact does).  But Riddle is a Chapter 7.  Although there are some Chapter 7 sections that identify parties for proceedings, there is no provision like § 1109(b) that similarly specifically and broadly identifies qualified parties which applies in a contested matter such as the one before the bankruptcy court.  And nothing in the sale statute (§ 363) entitles a third party whose only interest in the case is as a defendant on the claim the estate is trying to sell to appear to be heard on the sale motion.  

Counsel insisted that they nevertheless have standing because they have an interest in the proper administration of the malpractice claim so that it is sold for a maximum and is not compromised by an assignment contrary to Washington law.  But the bankruptcy court rejoined that a disappointed bidder who otherwise lacks standing only would have standing to show fraud, collusion, bad faith or the like in a Chapter 7 § 363 sale.  No such allegation has been made.  And the issue of whether the transfer violates Washington law is for Washington courts to decide. 

Author’s Comment

Riddle is right, though its analysis is perhaps needlessly complex.  The sale is a bit curious because the trustee evidently is taking a little less than he might had he sold the claim to Counsel.  Though the trustee may be effecting a void transfer or selling for a little less than he might have to Counsel (ironically, the more it is sold for, the more credible it seems), those outcomes may do harm to the creditors, but not to Counsel, and the creditors have not objected (nor has the United States Trustee).  And any negative effect of the transaction on the trustee’s reputation is his problem.  Counsel’s remedy is not to head off the claim at the pass in the bankruptcy case by objecting to the sale, but like any other defendant that otherwise is a stranger to the bankruptcy, to defend themselves (including by arguing in state court the claim is not transferrable) if they are sued. 

The Commercial Finance Newsletter is written by an ad hoc group of the California Lawyers Association (CLA) Business Law Section.  These materials were authored by Adam A. Lewis, Senior Counsel (Ret.), Morrison & Foerster LLP, a member of the ad hoc group, with editorial assistance by Hon. Meredith Jury (U.S. Bankruptcy Judge. C.D. Cal., Ret.), those of the author.