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5th Cir. Rejects Borrower’s Bankruptcy Claim Objection as Barred by Res Judicata

bankruptcyThe U.S. Court of Appeals for the Fifth Circuit recently rejected a borrower’s objections to a bankruptcy court’s jurisdiction and held that the doctrine of res judicata barred the borrower’s claim objection as it was ultimately based on the alleged impropriety of the creditor’s claim from a prior bankruptcy.

A copy of the opinion in BVS Construction v. Prosperity Bank is available at:  Link to Opinion.

Two married individuals who owned a construction company filed separate voluntary Chapter 11 petitions for bankruptcy in 2014. 

In 2015, the husband and the construction company filed an amended “joint” plan of reorganization. This plan set out the amounts the construction company owed to its creditors, including the amount owed to a secured creditor on five promissory notes that were rolled into one note prior to the bankruptcy petitions. 

The plan, which had an effective date of Nov. 8, 2015, provided that the secured creditor would have an allowed secured claim in the amount of $1,812,472.43. The plan was signed by the husband on behalf of himself and the construction company and no objection was filed. The plan was confirmed by the bankruptcy court and the order was not appealed by either party.

The construction company, after making 38 of the 60 payments required by the plan, stopped making payments in January 2019 when it again filed for bankruptcy. 

In the second bankruptcy action, the secured creditor filed a proof of claim in the amount of $1,333,695.84. The construction company filed an objection to this claim and the bankruptcy court held a hearing on the dispute. The construction company argued that the secured creditor’s claim amount was incorrect because it was based on an incorrect claim amount in the 2015 plan, and it failed to account for certain payments made by the construction company. 

The secured creditor pointed out that the construction company failed to object to the secured creditor’s claim in the 2015 plan or otherwise seek appeal after the bankruptcy court confirmed the plan. 

The bankruptcy court overruled the construction company’s objection and allowed the secured creditor’s claim reasoning that neither the husband nor the construction company objected to or disputed the claim amount in the plan.  The bankruptcy court found that the doctrines of res judicata, judicial estoppel, and judicial admission barred the construction company’s claim objection to the extent it was premised on the impropriety of the secured creditor’s claim in the 2015 plan.

The construction company filed an appeal in the district court. The district court affirmed the judgment of the bankruptcy court and dismissed the appeal. The construction company then appealed to the Fifth Circuit.  

In its appeal, the construction company asserted three arguments as to why the bankruptcy court erred.

First, the construction company argued that the bankruptcy court lacked subject matter jurisdiction to allow the secured creditor’s claim in the second bankruptcy action. 

The construction company reasoned that it was not liable for the full claim amount since the husband and wife were individually liable for some of the promissory notes on which the plan directed the company to make payments. Thus, the construction company argued, neither the plan nor the promissory notes shifted liability for all the debt from husband and wife to the construction company. The construction company further argued that the plan did not authorize the bankruptcy court to allow the secured creditor’s claim as to the entire amount owed and thus the court lacked subject matter jurisdiction to allow the same. 

The Fifth Circuit disagreed, ruling that “[b]ankruptcy judges may hear and enter final judgments in ‘all core proceedings arising under title 11, or arising in a case under title 11.’” Stern v. Marshal, 564 U.S. 462, 474, (2011) (quoting 28 U.S.C. 157(b)(1)). Included in the meaning of core proceedings is the “allowance or disallowance of claims against the estate.” 28 U.S.C. 157(b)(2)(B). In determining whether and to what extent the secured creditor had a claim against the construction company, the bankruptcy court allowed a claim against an estate which is an action that falls within the bankruptcy court’s jurisdiction pursuant to 157(b)(1) and (2)(B). 

The Fifth Circuit further held that propriety of the bankruptcy’s determination to allow or disallow the claim against the debtor’s estate was not a jurisdictional inquiry, and thus the bankruptcy court did not lack subject matter jurisdiction.

Next, the construction company argued that the district court erred in affirming the bankruptcy court’s order determining that res judicata barred the construction company from objecting to the secured creditor’s claim. 

The Fifth Circuit again disagreed, ruling that the construction company’s objection was barred because the claim in the second bankruptcy as it related to the secured creditor’s claim in the 2015 plan being for the right amount, arose out of the same transaction that was the subject of the 2015 plan and the construction company could have made its arguments in the first proceeding, but it did not.

The Appellate Court relied on its opinions in Eubanks and Howe in determining what constitutes an identity of claims for res judicata purposes. In Eubanks, the Court held that because the debtor’s liability suit “put[] into issue the same facts which would determine, inter alia, the treatment and amount of the debt owed to [the bank],” there was an identity of claims between the confirmation order and the debtor’s lender liability action. Eubanks v. F.D.I.C., 977 F.2d 166, 172-173 (5th Cir. 1992). In Howe, the Court found that a debtors’ lender liability claims were barred by res judicata by a plan of reorganization because “[t]he loan transaction at the heart of the [lender liability] litigation was also the source of [the creditor’s] claim against the estate.” In re Howe, 913 F.2d 1138, 1144 (5th Cir. 1990).

The Fifth Circuit determined the answer hinged on whether the transactions at the heart of the construction company’s claim objection in the second bankruptcy were the source of the secured creditor’s claim in the first bankruptcy. 

Here, the Appellate Court found that the construction company’s claim objection arose out of the subject matter that formed the basis of the secured creditor’s claim in the first action, i.e. the amounts the construction company owed to the secured creditor on the underlying promissory notes. Because the claim objection arose out of the same transaction that was the subject of the 2015 plan and since the construction company could have raised an objection in the first proceeding, the Fifth Circuit ruled that the lower court was correct in finding the objection barred by res judicata. 

Finally, the Fifth Circuit held that the lower court did not clearly err in allowing the amount of the secured creditor’s claim based on the ledger and witness presented by the secured creditor at the hearing, and the fact that any payments not accounted for in the claim were payments made after the petition and were accounted for in the latest running of the balance.

Thus, the Fifth Circuit affirmed the judgment of the bankruptcy court.

 

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Jenna Tersteegen is an Associate in Maurice Wutscher's New York City office, practicing in the firm’s Consumer Credit Litigation and Commercial Litigation groups. Prior to joining the firm, Jenna was an associate attorney at a litigation law firm in New York City. Her practice covered New York state labor and employment laws, premises liability and property damage cases. She conducted all pre-trial aspects of litigation, including preparing case strategy and evaluation reports, taking and defending depositions, and drafting dispositive pre- and post-trial motions. She is admitted to practice law in Illinois and New York, and the U.S. District Court for the Eastern District of New York.

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