Enforcing Arbitration in Bankruptcy: Second Circuit Puts Pressure on a Slam-Dunk Issue

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Basketball — an arena for slam-dunks

By: Donald L. Swanson

“[T]he Supreme Court has time and time again held: where parties have agreed to arbitration, . . . the agreement of the parties is to govern. There is no reason to think that, with time, the bankruptcy courts will not get there too.”

–Collier on Bankruptcy, ¶ 9019-05 (15th Ed. 1998).

Bankruptcy courts have, historically, been hostile to the use of arbitration. According to Collier, the rationale for such hostility includes these items:

The bankruptcy trustee and the debtor are not the same entity, so the trustee is not bound by the debtor’s arbitration agreement;

The bankruptcy judge has broad discretion on whether to allow arbitration because the underlying purposes of the Bankruptcy Code impliedly modify the Arbitration Act; and

Bankruptcy has a special place in the federal judicial system, beginning with the Bankruptcy Clause of the U.S. Constitution and including a unique need for expedited processes, so that the Bankruptcy Code “primes” the Arbitration Act.

Pressure from Appellate Courts

The historic hostility toward arbitration in bankruptcy is eroding.  And the erosion pressure  is coming from appellate courts.

A prime example of such pressure is a new opinion from the Second Circuit Court of Appeals.

New Opinion

A new opinion from the Second Circuit Court of Appeals shows how far appellate attitudes have progressed, on arbitration of bankruptcy issues, since 1998. Here’s how:

The facts of the case, involving enforcement of the discharge injunction (a “core” proceeding), look like a slam-dunk for denying arbitration; but

The Second Circuit gives the matter a thorough and meticulous analysis before affirming the Bankruptcy Court’s no-arbitration decision.

The new opinion is Anderson v. Credit One Bank, N.A. (In re Anderson), Case No. 16-2496 (2nd Cir., March 7, 2018).

–The Facts

Orrin Anderson had a Credit One Bank credit card, and his cardholder agreement requires that any dispute be submitted to “binding arbitration.”  In September 2011, Anderson defaulted on this credit card debt.

On January 31, 2014, Anderson filed Chapter 7 bankruptcy. On May 6, 2014, he received a discharge of debts, including credit card debts. Then, Anderson asked Credit One to remove the discharged debt from his credit reports. Credit One refused.

So, Anderson moved to reopen his bankruptcy case to pursue Credit One’s “alleged violations” of the “discharge injunction.” The Bankruptcy Court granted his motion.

Then, Anderson sued Credit One in Bankruptcy Court for “knowingly and willfully” failing to “update” his credit reports in an “effort to coerce payment on the discharged debt,” all in violation of the discharge injunction.

Credit One then moved to “compel arbitration” of Anderson’s claims under the cardholder agreement. The Bankruptcy Court denied the motion. Credit One appealed, and the District Court affirmed. So, Credit One appealed to the Second Circuit Court of Appeals.

–The Opinion

On March 7, 2018, the Second Circuit issues its opinion in the Anderson case.

The Court’s opinion discusses a mootness issue and standards of review. Then it tackles the merits of the arbitration issue, providing a two-step test for deciding whether the arbitration of a bankruptcy dispute can be compelled.

1. The First step is to determine whether the dispute is a “core” or “non-core” proceeding, because bankruptcy courts “are more likely to have discretion to refuse to compel arbitration” of “core” disputes. 28 U.S.C. § 157(b)(2) provides a nonexclusive list of “core” proceedings that involve “pressing bankruptcy concerns.”

–In this case the parties have agreed that Anderson’s claim is a “core” proceeding. So, the Second Circuit moves “to the second step” of the test.

2. The second step is to assess whether Congress intended for the Bankruptcy Court, in this “core” proceeding, to have “discretion to refuse to compel” arbitration. Here’s what the Second Circuit says about such Congressional intent:

The Federal Arbitration Act, 9 U.S.C. § 1 et seq., establishes a non-absolute federal policy favoring arbitration which, like any other “statutory directive,” may be “overridden by a contrary congressional command”; but

The “burden is on the party opposing arbitration” to show the intention of Congress to deny arbitration “for the statutory rights at issue.”

–Congressional Intent

Regarding Congressional intent, the Second Circuit’s opinion looks only to this question: “whether there is an ‘inherent conflict between arbitration’ and the Bankruptcy Code” for the particular “core” dispute at issue.

To answer this question the Second Circuit engages in a “particularized inquiry” into the nature and details of the dispute as follows.

The Court identifies “objectives of the Bankruptcy Code relevant to this inquiry” as including:

(i) “the goal of centralized resolution of purely bankruptcy issues,”

(ii) “the need to protect creditors and reorganizing debtors from piecemeal litigation,” and

(iii) “the undisputed power of a bankruptcy court to enforce its own orders.”

The Court’s “particularized inquiry” into the nature of the dispute, includes these factors:

A bankruptcy discharge “is the foundation upon which all other portions of the Bankruptcy Code are built” and “allows honest but unfortunate debtors an opportunity to reorder their financial affairs” and to “get a fresh start”—this is the “central purpose” of the Bankruptcy Code;

Violations of the discharge injunction “damage the foundation on which the debtor’s fresh start is built” and “seriously jeopardize a particular core bankruptcy proceeding”;

Arbitration of Anderson’s claim “presents an inherent conflict with the Bankruptcy Code” because, (i) the discharge injunction will be “central to bankruptcy long after the close of proceedings” and “must be protected indefinitely,” and (ii) bankruptcy courts, alone, have the power “to enforce the discharge injunction”;

Enforcement of the discharge injunction “is a crucial pillar” of bankruptcy court powers and is “central” to the Bankruptcy Code’s statutory scheme; and

Bankruptcy courts have an “undisputed power” and “wide latitude” granted by Congress to enforce their own orders and injunctions and to determine “when they have been violated.”

Accordingly, the Second Circuit reaches this conclusion:

“We hold that the bankruptcy court did not abuse its discretion by denying Credit One’s motion to compel arbitration in this case.”

Contrast With Bankruptcy Court’s Ruling

The Bankruptcy Court’s approach to this same issue, in the same case below, is markedly different.  The Bankruptcy Court gives short shrift to Credit One’s Motion to compel arbitration and treats it as a slam-dunk issue.

[The bankruptcy case is identified as In re Anderson, Adv. Proc. No. 15-08214, in the Bankruptcy Court for the Southern District of New York.]

The Bankruptcy Court’s decision (Doc. 15) denying arbitration, that’s on appeal in this case, is a one-and-a-half pager, double spaced, consisting of 17 lines.  Here’s the operative language from the Bankruptcy Court’s opinion on the arbitration issue:

“after due deliberation and for the reasons stated by the Court at the Hearing, it is hereby ORDERED that the Motions to compel arbitration . . . and to dismiss or stay are DENIED.”

That’s it.

By contrast, the Second Circuit’s opinion is twenty-two pages long.  And the intervening District Court’s opinion is eighteen pages long.

Startling

The startling thing about the Second Circuit’s opinion is not the no-arbitration result it achieves: that’s still an easy, slam-dunk decision.

The startling thing is the Second Circuit’s deference toward arbitration and the care it takes in articulating a rationale for denying arbitration–and the implication that arbitration should be granted in nearly-all disputes.

The Second Circuit’s meticulous and “particularized” inquiry into its no-arbitration decision is a major step in the erosion process of removing hostility-toward-arbitration from the entire bankruptcy system.

Implications for Mediation

A recent empirical study of court-sponsored ADR processes reached this conclusion:

“Litigants had more favorable views of their court when they knew it offered mediation . . . , but a similar result did not emerge for arbitration.”

So . . . it will be interesting to see if a greater emphasis on use of arbitration for bankruptcy disputes will result in a greater utilization of mediation for resolving bankruptcy disputes.

Editorial Note on Arbitration in Bankruptcy

At the risk of being an old fuddy-duddy or progress-averse or out-of-touch-with-the-times, I’m on board with the historical hostility, in bankruptcy, to arbitration.

Here’s why:  I believe the costs of arbitration are excessive and provide a huge litigation advantage to deep-pocket parties over no-pocket parties (and there are lots of the latter in bankruptcy).  The practical result is that arbitration is often disfavored by all parties, absent a deep-pocket advantage–like in the Anderson case.

But it looks like such a concern will not stem the tide of arbitration advancement.  And, perhaps, the concern will be minimized by a greater use of mediation.

Conclusion

It appears from the Second Circuit’s Anderson decision that bankruptcy courts’ appellate overseers are forcing bankruptcy courts to get on board with the broad Federal policy favoring enforcement of arbitration agreements in nearly all contexts.

Consequently, Collier’s double-negative prediction from 1998, quoted above, appears to be coming true.

–Whether this development is for good or for ill remains to be seen.

** If you find this article of value, please feel free to share. If you’d like to discuss, let me know.

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