Opinion
Case No. 8:19-bk-03648-RCT
06-27-2019
In re Apex Road Commercial, LLC, Debtor.
Chapter 7 ORDER DENYING MOTION TO DISMISS INVOLUNTARY PETITION
This involuntary chapter 7 case was considered on May 30, 2019, on the Motion to Dismiss Involuntary Petition filed by the putative Debtor Apex Road Commercial, LLC (Doc. 6) (the "Motion"); the response to the Motion filed by Creditors Mega Plumbing of the Carolinas, National Millwork Inc., Site Specific Contracting, and Universal Steel of North Carolina, LLC (Doc. 12) (the "Response"); and the putative Debtor's supplement to the Motion (Doc. 13). After hearing argument of counsel, the court took the matter under advisement. The parties were allowed to file supplemental briefs, which the court has also considered (Docs. 16 and 17).
Background
Three judgment creditors filed this involuntary chapter 7 petition against Apex Road Commercial, LLC ("Apex"). Apex acknowledges that these creditors satisfy the statutory requirements for an involuntary bankruptcy under 11 U.S.C. § 303(b). Nevertheless, Apex argues that the involuntary petition should be dismissed for "bad faith" because Apex is out of business and no assets remain to be administered. For the reasons discussed below, the Motion is denied, and the court will enter the Order for Relief.
Statutory references are to 11 U.S.C. §§ 101-1532 ("Code" or "Bankruptcy Code"), unless otherwise indicated.
Apex operated a mixed-use retail property in North Carolina. In 2016, however, the property was lost in foreclosure to the first mortgage lender. Thereafter, much litigation ensued after which several creditors each obtained a final judgment against Apex. Apex also sued, and ultimately settled, claims against its second mortgage lender. The confidential Settlement Agreement and Mutual Release, executed on April 26, 2018, has been filed by Apex under seal.
On April 22, 2019, three creditors with final judgments against Apex filed the involuntary petition that commenced this case. The creditors, and their respective claims, are:
| National Millwork, Inc. | $ 126,079.33; |
| Universal Steel of North Carolina, Inc. | $ 93,532,98; |
| Site Specific Contracting |
Doc. 1.
Doc. 11.
Petitioners' claims are not disputed, and each claim is liquidated by a final judgment.
Apex moves to dismiss the involuntary petition on grounds that it was filed in bad faith. On May 30, 2019, the court conducted a preliminary hearing to assess the applicable law and whether a trial was necessary. See § 303(h).
Applicable Law
Section 303(b) has three requirements for filing an involuntary bankruptcy against a debtor with twelve or more creditors: (1) there must be three or more petitioning creditors; (2) each petitioning creditor must hold a claim against the debtor that is not contingent as to liability or the subject of a bona fide dispute; and (3) the petitioning creditors' claims must, in the aggregate, exceed the value of any liens on the debtor's property securing the claims by at least $15,775. If the alleged debtor challenges the petition, § 303(h) requires that before the court may order relief against the debtor, the court also must find that the debtor is generally not paying its debts as they become due, unless the unpaid debt is the subject of a bona fide dispute. A court must dismiss an involuntary petition if these prerequisites are not met.
It is unclear whether Apex has twelve or more creditors. Although Apex proffered unsworn schedules at the hearing on its Motion, nothing has been filed of record. Exhibit A to the Response suggests there are, at a minimum, ten creditors holding judgments against Apex.
Alternatively, the court must order relief against the debtor if, within 120 days before the involuntary petition was filed, a receiver was appointed or took possession of substantially all of the debtor's property. § 303(h)(2).
Though an involuntary bankruptcy is easy to file, the decision to commence such a case is quite serious. The specter of an involuntary bankruptcy can cause severe damage to a business through loss of customers, vendors, and credit. For individuals, an involuntary bankruptcy can disrupt credit ratings and even jeopardize certain employment arrangements. Because of these potentially devastating consequences, courts are careful to screen out improper involuntary petitions and to award steep sanctions when involuntary petitions are filed in bad faith.
See, e.g., Adell v. John Richards Homes Bldg. Co. (In re John Richards Homes Bldg. Co.), 439 F.3d 248 (6th Cir. 2006) (affirming award of $4.1 million in compensatory damages and $2 million in punitive damages, along with attorneys' fees and costs, under § 303(i) based upon a finding of "bad faith" in filing the involuntary petition).
But none of the typical concerns of an involuntary bankruptcy are present here. Apex has abandoned its business and left behind creditors with significant claims. Apex and the Petitioners would seem to have little to lose by having an independent trustee evaluate any assets and claims in addition to the conduct of Apex's principals. Nevertheless, Apex urges a dismissal of the petition for "bad faith" because it asserts that the Petitioners must know that a trustee will find nothing to administer and that the case will be a "colossal waste of judicial resources."
The court therefore considers the legal requirements for dismissal of an involuntary petition when the statutory requirements are met and the involuntary petition will cause no interruption or damage to the debtor's shuttered business. Whether an Involuntary Petition Can be Dismissed for "Bad Faith."
The threshold issue is whether "bad faith" is grounds to dismiss an involuntary petition if the statutory requirements have been met. Here, Petitioners have satisfied the statutory requirements of § 303(b). And it is undisputed that Apex is no longer in business and that it is not paying its debts as they come due within the meaning of § 303(h)(1).
Petitioners argue that once the statutory requirements are satisfied, nothing more is required for the court to enter an Order for Relief. Petitioners maintain that an Order for Relief must be entered if requirements of § 303(b) are satisfied and if the court finds the debtor is not paying its debts as they come due as per § 303(h)(1) or § 303(h)(2) is satisfied. Indeed, Petitioners correctly point out that the only mention of "bad faith" is in § 303(i)(2). That provision authorizes actual and punitive damages against a petitioning creditor found to have filed an involuntary petition in bad faith. But § 303(i)(2) only kicks in after an involuntary petition is dismissed. Petitioners' reading of § 303 has been accepted by some courts.
§ 303(i); see DVI Receivables XIV, LLC v. Rosenberg (In re Rosenberg), 779 F.3d 1254, 1260 (11th Cir. 2015).
See In re Forever Green Athletic Fields, Inc., 804 F.3d 328, 333 n.3 (listing examples) (hereafter "Forever Green"); see also In re Basil St. Partners, LLC, 477 B.R. 846, 849-51 (Bankr. M.D. Fla. 2012).
Apex responds that "good faith" is always a threshold requirement for bankruptcy, even if an order for relief has not yet been entered. Although "good faith" is not a stated requirement in § 303(b), Apex argues that a bankruptcy court always may resort to its equitable powers to act as a gatekeeper to prevent abuse of bankruptcy court jurisdiction. This view of the law is more widely accepted than the view espoused by Petitioners. Indeed, in some cases the ability to dismiss an involuntary petition for "bad faith" is simply assumed without discussion.
E.g., Forever Green, 804 F.3d at 334 & n.5 (listing cases).
The court agrees with Apex that good faith is required whenever bankruptcy jurisdiction is invoked, and that an involuntary petition may be dismissed for "bad faith" even if the statutory requirements of the Code are satisfied. A bankruptcy judge must act as a gatekeeper to preserve the integrity of the bankruptcy court and its process. Accordingly, an involuntary petition filed in "bad faith" may be dismissed even when the technical requirements of § 303(b) are satisfied.
Id. at 333-35; see U.S. Optical, Inc. v. Corning, Inc. (In re U.S. Optical, Inc.), No. 92-1496, 1993 WL 93931, at *3-*4 (4th Cir. Apr. 1, 1993); In re Manhattan Indus. Inc., 224 B.R. 195, 200-01 (Bankr. M.D. Fla. 1997).
In this analysis, however, Petitioners are presumed to have acted in good faith. The burden of proving bad faith lies with Apex.
See Forever Green, 804 F.3d at 335; In re John Richards Homes Bldg. Co., 439 F.3d at 254.
What is Bad Faith When Filing an Involuntary Petition?
Both Apex and Petitioners acknowledge that "bad faith" is not defined in the Bankruptcy Code and in the context of an involuntary petition, several tests have emerged to assess bad faith. The "improper use" test examines whether a petitioning creditor attempts to use the involuntary petition to obtain a disproportionate advantage over other creditors. The "improper purpose" test examines subjective standards of "ill will, malice, or a desire to embarrass or harass the alleged debtor." The "objective" test assesses what a reasonable creditor would be expected to do under the circumstances. But these tests are narrow and arguably myopic.
E.g., Forever Green, 804 F.3d at 335-36.
Id. at 335.
Lubow Mach. Co. v. Bayshore Wire Prod. Corp. (In re Bayshore Wire Prod. Corp.), 209 F.3d 100, 105 (2d Cir. 2000).
Jaffe v. Wavelength, Inc. (In re Wavelength, Inc.), 61 B.R. 614, 619-20 (B.A.P. 9th Cir. 1986).
In contrast, the "totality of circumstances" test embraces all applicable factors and is consistent with the exercise of the court's equitable jurisdiction to prevent abuse of bankruptcy jurisdiction. Adoption of this test ordinarily will require a trial, particularly when subjective factors are at issue. The Third Circuit, in adopting the "totality of the circumstances" test, identified some, but certainly not all, of the factors that courts might consider:
[W]hether: the creditors satisfied the statutory criteria for filing the petition; the creditors made reasonable inquiry into the relevant facts and pertinent law before filing; there was evidence of preferential payments to certain creditors or of dissipation of the debtor's assets; the filing was motivated by ill will or a desire to harass; the petition creditors used the filing to obtain a disproportionate advantage for themselves rather than to protect against other creditors doing the same; the filing was used as a tactical advantage in pending litigation; the filing was used as a substitute for customary debt-collection procedures; and the filing has suspicious timing.
Forever Green, 804 F.3d at 336.
The court adopts the totality of circumstance test as the standard most likely to protect all parties and preserve the integrity of the court's jurisdiction. But under Apex's view of this test, Petitioners must demonstrate the existence of assets or viable causes of action in order to file an involuntary petition in "good faith." Although potential recoveries can be a factor in assessing the totality of the circumstances, it is not dispositive. At its core, an involuntary bankruptcy is a collective action by creditors to pursue assets and claims for the benefit of all creditors. Petitioning creditors should not be forced to demonstrate on the front end that assets can be recovered or claims against insiders are viable.
Apex's reliance upon In re Deacon Plastics. Mach., Inc., 49 B.R. 982 (Bankr. D. Mass. 1985), is misplaced. The issue in that case was not the bad faith of any petitioning creditor. Nor was there any issue as to the legal sufficiency of the involuntary petition under § 303(b). Rather, the court decided the case under § 305(a)(1).
Apex certainly had hard assets, including the resources and services of Petitioners, and now those assets are gone. Apex also may have claims. Indeed, the timing of the petition appears to be tied to the one-year anniversary of a settlement agreement whereby Apex released claims against one of its creditors for little or no consideration, other than to reduce the guaranty obligations of insiders.
This settlement agreement and the conduct of Apex's principals ultimately may give rise to absolutely nothing, as Apex suggests. The chapter 7 trustee may determine that this is a "no asset" chapter 7 case or that the benefit of pursuing any potential claim is not worth the cost. But even if that is the case, it does not mean that the involuntary petition was a waste of time or filed in bad faith. Even a no asset involuntary corporate chapter 7 case can bring finality and put to rest the collection activities of multiple judgment creditors. Petitioners are not required to simply trust that nothing was improper by these transactions. Whether Bad Faith by One Petitioner Dooms the Other Three Petitioners.
Apex's Motion focuses largely on the alleged bad faith of one of the Petitioners—National Millwork, Inc. Apex argues that National Millwork has taken extensive post-judgement discovery and now knows that no assets remain for a chapter 7 trustee to administer. National Millwork contends, however, that Apex has not been totally forthcoming in post-judgment disclosures.
Regardless, National Millwork is just one of four creditors. Apex argues that by filing the petition, or in the case of Mega Plumbing of the Carolinas joining the petition, any knowledge or ill-intent held by National Millwork essentially has been adopted by the other three creditors because all four are now associated with the same attorney and all must know that Apex has no assets to administer. Thus, the issue for the court to decide is whether, assuming National Millwork is found after trial to have filed the involuntary petition in "bad faith," that finding taints the petition so that the rights, or even good faith, of the other creditors may be ignored.
Under § 303(c), a non-filing creditor may join in the involuntary petition after the petition is filed but before the case is dismissed or an order for relief is entered. This provision provides for the joinder of creditors as a matter of right.
See, e.g., Forever Green, 804 F.3d at 337-38; In re FKF Madison Park Grp. Owner, LLC, 435 B.R. 906, 907-08 (Bankr. D. Del. 2010) (listing cases).
Debtor's position, though not articulated as such, seems to be an extension of the "bar from joinder" rule adopted by some courts. Under this theory, these courts conclude that once bad faith has been established for a single petitioning creditor, the tainted petition cannot be cured by adding or joining other "innocent" creditors. The rule has generally been applied when a single creditor files an involuntary petition in bad faith and seeks to cure afterwards with the joinder of additional creditors. Other courts find this rule misguided because it throws good and bad faith creditors into the same basket and punishes everyone needlessly. Indeed, nothing in the Bankruptcy Code articulates or supports the rule.
E.g., Basin Elec. Power Coop. v. Midwest Processing Co., 769 F.2d 483, 486 (8th Cir. 1985); In re Centennial Ins. Assocs., Inc., 119 B.R. 543, 546 (Bankr. W.D. Mich. 1990).
E.g., Fetner v. Hagerty, 99 F.3d 1180, 1181 (D.C. Cir. 1996); In re Kidwell, 158 B.R. 203, 216 (Bankr. E.D. Cal. 1993).
The court declines to adopt or to apply the "bar from joinder" rule, or any variation of the rule, under the unique facts of this case. Even if Apex can prove that National Millwork acted in bad faith—itself a long shot—there are still two of the original Petitioners who are accused of nothing other than going along with the petition. The timely joinder of Mega Plumbing simply seals the deal in preserving the integrity of this involuntary petition as a collective action by creditors. Indeed, Universal Steel of North Carolina, Inc., Site Specific Contracting, and Mega Plumbing satisfy the statutory requirements of § 303(b)(1) without National Millwork.
More importantly, the purpose of excluding the additional creditors has no application in this case. Courts disallowing creditor joinder to cure a tainted involuntary petition are sensitive to the injury that an involuntary case can cause an alleged debtor. In the face of such injury, it is necessary to prevent bad faith filings that will cause potentially irreparable damage to an operating business. Here, Apex will suffer no damage from this involuntary case. Apex is out of business with no customers, no prospects, and no credit relationships. Apex, like Petitioners, has nothing to lose.
See In re Centennial Ins. Assocs., Inc., 119 B.R. at 546.
Accordingly, the court will deny Apex's motion to dismiss because the inclusion of three other creditors justifies commencement of this involuntary case even if Apex could prove that National Millwork acted in bad faith. In addition, although the court agrees with Apex that "bad faith" is grounds to dismiss an involuntary petition, the court does not agree with Apex's view that, with the undisputed facts here, Petitioners must further prove that Apex has recoverable assets or claims against insiders to demonstrate good faith.
Accordingly, it is ORDERED:
1. The Motion (Doc. 6) is DENIED.
2. The clerk is directed to enter the Order for Relief. Fed. R. Bankr. P. 1013.
ORDERED.
Dated: June 27, 2019
/s/_________
Roberta A. Colton
United States Bankruptcy Judge Attorney Mark F. Robens is directed to serve a copy of this Order on interested parties who are not CM/ECF users and to file proof of service within three days of its entry.