Tuesday, January 12, 2010

Just How Far Does "Related-To" Jurisdiction Go?

The Fifth Circuit has a new opinion in which it finds that a dispute between two non-bankrupt parties fell within "related-to" jurisdiction based upon a contractual indemnification clause. Lone Star Fund V (US), LP v. Barclays Bank, PLC, No. 08-11038 (5th Cir. 1/11/10).

The Lone Star Fund V case involved a suit over alleged fraud in the sale of mortgage-backed securities. New Century sold mortgages to Barclays, which packaged them into mortgage-backed securities. Barclays sold some of them to Lone Star Fund. Lone Star claimed that the mortgages were bad and sued Barclays. Meanwhile, New Century was in bankruptcy in Delaware. Barclays removed the action to federal court asserting "related to" jurisdiction. The District Court found that it had jurisdiction and dismissed the action for failure to state a claim. Lone Star appealed to the Fifth Circuit.

The Fifth Circuit affirmed on all grounds, including jurisdiction. It noted that related to jurisdiction exists where the "outcome could alter, positively or negatively, the debtor's rights, liabilities, options, or freedom of action or could influence the administration of the bankruptcy estate." In this case, New Century had agreed to indemnify Barclays for claims arising from the sale of the mortgages. Thus, a judgment against Barclays would give rise to liability of New Century under the indemnification clause.

The court distinguished In re Federal-Mogul Global, Inc., 300 F.3d 368 (3rd Cir. 2002), in which the court found that a tort suit in which further litigation would be required to establish a right of contribution against the debtor did not confer related-to jurisdiction. The difference is when a right of contribution "accrues." With a contractual indemnification, the right of indemnification was already accrued because it was provided for in a contract. Thus, a judgment against Barclays would be a judgment against the debtor. However, in the tort context, a judgment against the non-debtor party would not automatically translate to a claim against the Debtor absent further litigation. As a result, the underlying suit was not "related to" the bankruptcy case.

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