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24 June 2011

Legal Update: Bankruptcy Court Jurisdiction: Stern v. Marshall, No. 10-179

In Stern v. Marshall, No. 10-179, the Supreme Court held that the Constitution does not permit non-Article III federal bankruptcy courts to enter final judgments on a debtor’s counterclaims when those claims are based solely on state law.

The ruling extended an earlier decision by the Supreme Court in Northern Pipeline Construction v. Marathon Pipe Line, 458 U.S. 50 (1982),that limited bankruptcy judges’ powers. In Northern Pipeline, a fractured Court held that bankruptcy judges serving under the Bankruptcy Act of 1978—who lacked the tenure and salary guarantees of Article III—could not “constitutionally be vested with jurisdiction to decide [a] state-law contract claim” against an entity that was not otherwise part of the bankruptcy proceedings. 458 U. S. at 87 n. 40 (plurality opinion). In response to that decision, Congress amended the statutes governing bankruptcy jurisdiction by permitting bankruptcy courts to enter final judgments only in “core” proceedings. 28 U.S.C. § 157(b). Congress provided a non-exhaustive list of “core” proceedings that a bankruptcy court can determine, a list that includes “counterclaims by the estate against persons filing claims against the estate.” 28 U.S.C. § 157(b)(2)(C). At issue in Stern was whether the petitioner’s counterclaim qualified as a “core” proceeding as defined by the statute, and if so, whether the statutory authority vested in bankruptcy courts to decide such a claim exceeds the bounds of Article III.

The case involved a convoluted dispute between a businessman’s wife and son over their respective entitlements to the businessman’s assets after his death. After the wife filed for Chapter 11 protection in bankruptcy court, the son sought damages for defamation in that proceeding, and the wife responded by filing a counterclaim for tortious interference with a gift she expected from her late husband. The bankruptcy court issued what it characterized as a final judgment in favor of the wife, and the son appealed to the federal district court. While that appeal was pending, the Texas probate court held a trial on the merits of the parties’ dispute and entered a judgment in favor of the son. Finding that the wife’s counterclaim was not a “core” proceeding, and that the bankruptcy court’s judgment thus had to be treated as a proposed rather than final judgment, the district court conducted its own, independent review of the counterclaim. The district court ultimately rendered judgment in the wife’s favor after refusing to give preclusive effect to the intervening Texas judgment in the son’s favor. The Ninth Circuit reversed. Although it agreed that the wife’s counterclaim was not a “core proceeding” and that the bankruptcy court therefore lacked authority to enter final judgment on the counterclaim, it concluded that because the final judgment of the Texas court had been issued before that of the district court, the Texas judgment was entitled to preclusive effect in the district court.

In the opinion, authored by Chief Justice Roberts, the Supreme Court affirmed that result, albeit on different grounds. All of Justices agreed that the wife’s counterclaim for tortious interference was a “core” proceeding under the plain text of 28 U.S.C. § 157(b)(2)(C), and the bankruptcy court therefore had the statutory authority to enter final judgment on the claim. The son, the respondent in the Supreme Court, had argued that § 157(b) limited the authority of bankruptcy court to determine only cases “arising under” or “arising in” Title 11, rather than Title 11 cases more generally.  The Court rejected that narrow reading, explaining that “core proceedings are those that arise in a bankruptcy case or under Title 11.” Slip op. 10 (emphasis added).

Although all of the Justices agreed that the bankruptcy court had the statutory authority to enter final judgment on the wife’s counterclaim, a 5-4 majority held that it lacked the constitutional authority to do so. In the Court’s view, Congress failed to comply with Northern Pipeline by limiting bankruptcy courts’ authority to enter final judgments only to “core” proceedings. The Court found that under the revised statute, the newly constituted bankruptcy courts still exercised the same powers they held under the earlier act, including the resolution of “‘[a]ll matters of fact and law in whatever domains of the law to which’ a counterclaim may lead.” Slip op. 20 (quoting Northern Pipeline, 458 U. S. at 91 (Rehnquist, J., concurring)). Thus, according to the Court, Congress had again exceeded constitutional limits by conferring such authority on non-Article III judges. Explaining that “Article III could neither serve its purpose in the system of checks and balances nor preserve the integrity of judicial decisionmaking if the other branches of the Federal Government could confer the Government’s ‘judicial Power’ on entities outside Article III,” the Court reaffirmed that “Congress may not ‘withdraw from judicial cognizance any matter which from its nature, is the subject of a suit at the common law, or in equity, or admiralty.’” Slip op. 18 (Murray’s Lessee v. Hoboken Land & Improvement Co., 18 How. 272, 284 (1856)).

Justice Scalia joined the Court’s opinion, but filed a separate concurrence expressing his view that an Article III judge is required in “all federal adjudications, unless there is a firmly established historical practice to the contrary.” Concurring Opinion 2.

In a dissent joined by Justices Ginsburg, Kagan, and Sotomayor, Justice Breyer disagreed with the majority’s conclusion that bankruptcy court judges did not have constitutional authority to decide the counterclaim at issue. In the eyes of the dissent, the majority had erred in applying “formal standards” rather than taking a “pragmatic approach” to the separation-of-powers principles at stake. Dissent 6, 9.

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