NCBJ Celebrates 40th Anniversary of Bankruptcy Code

The 2019 National Conference of Bankruptcy Judges in Washington, D.C. celebrated the 40^th anniversary of the Bankruptcy Code with a fast-paced history of the Code.  The historical segment featured Ken Klee and Rich Levin who helped to draft the bill as House staffers.   

A Short History of the Code

The impetus for a new bankruptcy law started with a North Dakota creditor who complained that he had to go to St. Louis to appeal to the 8th Circuit.   He complained to his Senator who sponsored a bill to create a bankruptcy commission in 1970.   The legislation percolated throughout the 1970s.    One of the big issues was whether to make bankruptcy judges Article III judges.   This was opposed by Chief Justice Burger.   After going back and forth multiple times, the Article III provision was stripped from the bill, resulting in problems down the road.   The drafting was a bipartisan process with Rich Levin representing the majority and Ken Klee the minority.   After the bill was passed by the House and Senate, it hit one last snag.  Tip O'Neill refused to allow the clerk of the House to send the bill to be signed by the president.   This was not because he opposed the bill but because O'Neill faced pressure to prevent a judge whose term was expiring on October 31, 1978 from being folded into the bill.   The bill finally made it to President Carter who signed it on November 6, 1978.   Thus, the Bankruptcy Code (represented in the presentation as an animated character named Code-y) was born.

Asked what they wished they had changed about the bill, Ken Klee said that he wished that he had provided that the effect of rejecting an executory contract was to terminate the contract except in the case of intellectual property under section 365(n).  Levin said that he would have put in a forty year sunset provision so that the legislation would have to be re-examined.

Code-y faced an Article III problem when the Supreme Court struck down the provisions of the Code giving bankruptcy judges authority to make final decisions on a broad range of issues in the Northern Pipeline case.  When Congress failed to act, the Supreme Court adopted interim rules which created the core/non-core dichotomy that we have operated under ever since.   Bankruptcy Judge Bob Martin of the Western District of Wisconsin refused to accept that the new rules solved the constitutional issue.   He refused to act as a judge other than to sign uncontested orders.   When a mandamus action was brought against him, the Justice Department and his local U.S. attorney declined to represent him.   The two District Judges sat en banc and granted the mandamus.  Then Judge Martin happily went back to being a bankruptcy judge.

Article III (who also appeared as a character) resurfaced in 2011 when the Stern decision knocked out the ability of bankruptcy judges to enter final decisions in some core proceedings, such as counterclaims filed against claims filed in bankruptcy.    The voice of Article III spoke up and said that he had provided a warning that the Code's authority was questionable back in 1989 when the Granfinanciera decision held that defendants were entitled to a jury trial on a preference claim.    Article III, ever the kidder, said that when lawyers didn't get the message in Granfinanciera, he had to get a little more Stern.   However, balance to the system was restored with Arkison and Wellness International.   

In 1986, Code-y was seven years old and agriculture was in  crisis.   Congress passed the Family Farmer Bankruptcy Act of 1986.  This statute added chapter 12 for family farmers and later family fisherman.   The two judges describing the act included plenty of bad puns, such as family farmer bankruptcy is a tough row to hoe.   Originally this was intended as a temporary fix which would expire in seven years.  However, in 2005 it was made permanent.  Many family farmers were having to file under chapter 11 because they could not meet the debt limits for chapter 12.   As a result, the limits were increased to $10 million under the Family Farmer Relief Act of 2019.

In 1988, Code-y was nine years old when Congress passed legislation to protect the rights of licensees of intellectual property.  The Lubrizol decision from the Fourth Circuit held that rejection of a license of intellectual property also prohibited the licensee from continuing to use the technology.   This legislation added Section 365(n) to the Code.   34 years later, Justice Kagan ruled that Lubrizol was wrong all the time in the Tempnology case.   The Justice looked to the structure of the Code and saw that Section 365 was part of chapter 3, which did not include any avoidance provisions.

In 1998, Congress removed the ability to discharge student loans except in the case of undue hardship.  Student loans are a major problem, having grown from $24 billion to $1.5 trillion dollars in recent years.  Sen. Dick Durbin (who was once a bankruptcy trustee) said that 44 million Americans owe student loan debt and that the average student graduates with $30,000 in debt.  He said that 8.4 million Americans over the age of 50 owe student loan debt and that many are retiring and dying without ever paying their student loans.  He cited a Wall Street Journal article which found that in 2017, only four reported cases found that a debtor could meet the undue hardship test.    Megan Bardoe of Public Counsel stated that her organization is looking for test cases to challenge the Brunner test for undue hardship.   

In 2005, when Code-y was 26 years old, President Bush signed the Bankruptcy Abuse and Consumer Protection Act of 2005.   Judge Sheri Bluebond said that passage of this statute prompted the Great Bankruptcy Rush of 2005 (which incidentally was the name of an article that I wrote) when millions filed bankruptcy before the law took effect.   U.S. Rep. Katie Porter said that BAPCPA changed the Code from a protection device for families to an enforcement apparatus against abuse.  BAPCPA brought new paperwork and placed the bankruptcy courts in the position of administering tests to determine whether families qualied for relief.   Rep. Porter said that the Bankruptcy Code is there to backstop capitalism.  (What she did not point out was that BAPCPA largely exempted debtors with primarily business debts from its clutches).

Sen. Chuck Grassley touted the Family Farmer Relief Act of 2019 and the Small Business Reorganization Act of 2019 as two laws that show what we can accomplish when we work together.  (This is a common theme.  Most bankruptcy reform legislation has been bipartisan).    Sen. Grassley said that the Small Business act will Increase debtors' ability to negotiate a successful reorganization and retain control of the business and will reduce their burdens and improve oversight.

Bob Keach, a former president of the American Bankruptcy Institute, spoke about how the ABI's commissions to study chapter 11  and consumer bankruptcy acted as the Code's personal trainer.   He said that Chapter 11 worked well enough for large businesses, but doesn't work well for small and medium sizes.  Deadlines, lack of tools and onerous disclosure requirements complicate small business cases. He said that of 18,000 small businesses which filed in a recent year, only 27% confirmed a plan.   The new small business act will take effect on February 19, 2020.  It will streamline and provide new tools in two principal ways.   Only the debtor will be able to file a plan.   The absolute priority rule and Section 1129(a)(10) will not apply.   A plan will be fair and equitable if all of the business's projected disposable income for three to five years is devoted to the plan.   It will also change oversight.   There will be no creditors' committee and no separate disclosure statement.  A standing trustee will be appointed to see that cases stay on track and make disbursements.  The new statute imports the existing definition of a small business debtor from the Code which means that cases cannot exceed $2.6 million of debt.  While about half of chapter 11 cases may qualify, Mr. Keach sees next year's goal as increasing the debt limits to $10 million.

Top 10 Supreme Court Cases of the Past 40 Years

Finally, no retrospective of the past 40 years would be complete without a look at the top 10 Supreme Court cases from the period.  Prof. Erwin Chemerinsky presented his top ten list.   The obvious top cases were Northern Pipeline in first place and Stern and Wellness tied for second.   This trio of cases helped define the constitutional authority of a bankruptcy judge.    

Next Prof. Chemerinsky contrasted two cases on statutory interpretation.   Should courts interpret the Bankruptcy Code based on its purpose or its text?  It turns out that the Supreme Court has used both methods.  In third place was Marrama, which held that bankruptcy courts had the inherent power to deal with fraudulent debtors.  Case number 4 was Law v. Siegel which said that the court could not use its inherent powers to sanction a dishonest debtor by denying an exemption that he was entitled to under the Code.   

The next theme he covered was federalism.   Number 5 was Butner v. United States which held that a creditor’s property rights are defined by state law unless the Bankruptcy Code provides otherwise.   In sixth place was BFP v. Resolution Trust.  This case overruled the so-called Durrett rule which said that a foreclosure sale which brought less than 70% of fair market value could be set aside as a fraudulent transfer.  BFP held that property sold at a regularly conducted foreclosure sale could not be overturned in bankruptcy.  

Next up were  several procedural cases. Case #7 was Granfinanciera in 1989.   This case held that Congress could only eliminate the right to trial by jury for public rights matters.  Because a suit to recover a preference was simply an action to recover money, there was a right to a jury trial (unless waived by filing a proof of claim as found in Langenkamp).   What is a public right? Is it a suit brought by or against the United States or is it something more?  We are not sure.  Case number 8, Commodity Futures Trading Corp. v. Weintraub found that a Chapter 7 trustee can waive a corporation’s attorney-client privilege.   In ninth place was Bullard v.Hyde Park Savings Bank. Interlocutory orders may not be appealed without leave of court.   So when is an order final?   According to Bullard, an order denying confirmation of a chapter 13 plan was not a final order.    

The final case, Milavetz, Gallup & Milavetz v. United States, decided whether the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 violated attorneys' First Amendment rights.  BAPCPA requires attorneys representing consumer debtor to identify themselves as Debt Relief Agencies and barred them from advising clients to take on more debt.  The Court found that requiring lawyers to identify as DRAs was not compelled speech because BAPCPA defined them as Debt Relief Agencies.   The Court found that the prohibition on advising clients to incur debt only applied to incurring debt for a bad purpose and therefore did not violate attorneys' rights. 

Note:  I have mentioned a number of cases by their names.  If you would like the full citation of any of these decisions, please email me at ssather@bn-lawyers.com.