F.D.I.C. v. Colonial Realty Co.

• Decision Date: 01 June 1992
• Docket Number: D,No. 1026,1026
• Citation: 966 F.2d 57
• Parties: , 26 Collier Bankr.Cas.2d 1687, Bankr. L. Rep. P 74,645 FEDERAL DEPOSIT INSURANCE CORPORATION, Plaintiff-Appellant, v. COLONIAL REALTY COMPANY, Jonathan Googel, and Benjamin Sisti, Defendants-Appellees. ocket 91-5073.
• Court: U.S. Court of Appeals — Second Circuit

Page 57

966 F.2d 57

60 USLW 2781, 26 Collier Bankr.Cas.2d 1687,

Bankr. L. Rep. P 74,645

FEDERAL DEPOSIT INSURANCE CORPORATION, Plaintiff-Appellant, v. COLONIAL REALTY COMPANY, Jonathan Googel, and Benjamin

Sisti, Defendants-Appellees.

No. 1026, Docket 91-5073.

United States Court of Appeals, Second Circuit.

Argued March 4, 1992.

Decided June 1, 1992.

John R. Mallin, Hartford, Conn. (Anna Marie DiBartolo, Elia C. Walsh, Corcoran, Mallin & Aresco, P.C., of counsel), for plaintiff-appellant.

Hal M. Hirsch, Purchase, N.Y. (David L. Barrack, Howard P. Magaliff, Pamela J. Varin, Gainsburg & Hirsch), for defendants-appellees.

Before KEARSE and ALTIMARI, Circuit Judges, and TELESCA, District Judge. ¹

TELESCA, Chief Judge:

As receiver to two insolvent lending institutions, the Federal Deposit Insurance Corporation ("FDIC") appeals from the District Court's affirmance of the order of the Bankruptcy Court directing the substantive consolidation of the bankruptcy estates of the defendant debtors--a general partnership and two of its general partners. On appeal to the District Court, the FDIC argued, inter alia, (i) that substantive consolidation was improper because it resulted in unfairness to the two insolvent banks, who had each loaned monies to the individual defendants and (ii) that the bankruptcy court was without authority to order such consolidation of two "natural" persons, since the Bankruptcy Code provides a basis for invoking the equitable doctrine of substantive consolidation only to permit the merger of the assets and debts of either (i) legal entities or (ii) legal entity/ies with a single natural entity.

On appeal to this Court, the FDIC raises a single issue: whether the equity jurisdiction of the bankruptcy court may be invoked to permit the substantive consolidation of the estates of a general partnership and two of its general partners who are individuals. Because we discern neither in the Bankruptcy Code nor in the principles of equity which are the foundation of the Code any prohibition against such consolidation, we affirm the District Court.

BACKGROUND

Colonial Realty Company ("Colonial"), a Connecticut general partnership, invests in and manages real estate. Jonathan Googel ("Googel") and Benjamin Sisti ("Sisti") are two general partners in Colonial. Colonial both syndicated real estate limited partnerships and performed various management and financial functions with respect to the limited partnerships. Colonial, Googel, and Sisti are general partners in a number of such syndicated limited partnerships; the Trustee of the consolidated estate indicates that Colonial, Googel, and Sisti maintained ownership interests in at least 132 separate entities in at least 40 states.

Involuntary petitions in bankruptcy under Chapter 7 of the Bankruptcy Code were filed against Colonial, Googel, and Sisti September 14, 1990, in the United States Bankruptcy Court for the District of Connecticut. Although the bankruptcies were thereafter converted to Chapter 11 cases, they were subsequently reconverted to Chapter 7; contemporaneous with the reconversion of the estates of Googel and Sisti on August 24, 1991, the Bankruptcy Court substantively consolidated the three estates on the motion of Hal M. Hirsch, Trustee of the Colonial estate, and appointed Mr. Hirsch Trustee of the newly consolidated estate.

The FDIC, appearing as receiver of Community National Bank, formerly a national bank, and The Landmark Bank, formerly a Connecticut bank, which had each made loans to Googel and to Sisti as individuals prior to being declared insolvent in early 1991, opposed the motion for substantive consolidation. The decision of the Bankruptcy Court to permit the substantive consolidation of the three estates followed a six-day hearing. The Court granted the motion upon its finding that

convincingly the witnesses have established the entanglement of these estates and the fact that creditors generally relied on the three entities when they dealt with all of them or one of them.

In support of its determination the Court "substantially adopt[ed] the allegations contained in the motion" and "credit[ed] fully the testimony of [the Trustee's] witnesses[.]" With respect to the sole issue raised on this appeal by the FDIC--the propriety of consolidating substantively the bankruptcy estates of a partnership and two of its general partners--the Bankruptcy Court stated only that the contention was "meritless and without any authority whatsoever."

In affirming the Bankruptcy Court, the District Court also dealt only briefly with this issue, stating:

[A]ppellant has not drawn to our attention any authority for this proposition, which this court declines to accept on the mere assertion that "there is no case law to support setting aside of the independent existence of natural persons." (citation to Appellant's Brief omitted.) If Congress had intended to prevent the consolidation of unmarried "natural persons," it surely knew how to accomplish such an end.

Following the entry of the District Court's affirmance of the Bankruptcy Court order, this appeal ensued.

Discussion

The substantive consolidation of estates in bankruptcy effects the combination of the assets and the liabilities of distinct, bankrupt entities and their treatment as if they belonged to a single entity. See 5 Collier on Bankruptcy § 1100.06, at 1100-33 (Lawrence P. King, ed., 15th ed. 1991). Substantive consolidation usually results not only in the pooling of assets and liabilities of two or more entities, but also in "satisfying liabilities from the resultant common fund; eliminating inter-[entity] claims; and combining the creditors of the two [entities] for purposes of voting on reorganization plans." In re Augie/Restivo Baking Co., Ltd., 860 F.2d 515, 518 (2d Cir.1988) ("Augie/Restivo"). This consolidation "makes possible what has heretofore not been feasible, determination, allowance and classification by the trustee[ ] of claims of creditors prior to the preparation and submission of a plan of liquidation." Chemical Bank N.Y. Trust Co. v. Kheel, 369 F.2d 845, 847 (2d Cir.1966).

On appeal, the FDIC raises only the question of whether the bankruptcy court may order the substantive consolidation of the bankruptcy estates of two natural persons. There is no express authority for any substantive consolidation in the Bankruptcy Code. As this Court has stated, "[s]ubstantive consolidation has no express statutory basis but is a product of judicial gloss." Augie/Restivo, 860 F.2d at 518. Courts have consistently found the authority for substantive consolidation in the bankruptcy court's general equitable powers as set forth in 11 U.S.C. § 105. (West Supp.1992). See, e.g., Augie/Restivo, 860 F.2d at 518 n. 1. In relevant part, Section 105(a) provides that the bankruptcy court "may issue any order, process, or judgment that is necessary or appropriate to carry out the provisions of this title." By its very terms, Section 105(a) limits the bankruptcy court's equitable powers, which "must and can only be exercised within the confines of the Bankruptcy Code[,]" Norwest Bank Worthington v. Ahlers, 485 U.S. 197, 206, 108 S.Ct. 963, 968, 99 L.Ed.2d 169 (1988), and "cannot be used in a manner inconsistent with the commands of the Bankruptcy Code." In re Plaza de Diego Shopping Ctr., Inc., 911 F.2d 820, 830-31 (1st Cir.1990).

The FDIC argues that the substantive consolidation of the estates of non-spousal individuals is contraindicated by various provisions in the Bankruptcy Code, including the narrow provisions for the filing of a joint case and for the joint administration of cases. Its argument is unavailing. Section 302(a) of the Bankruptcy Code expressly provides that a married couple may file a joint petition in bankruptcy. Section 302(b) authorizes the bankruptcy court to determine whether and to what extent the estates of such married debtors "shall be consolidated." Bankruptcy Rule 1015(b) governs the consolidation referenced in Section 302(b), and permits the bankruptcy court, in its discretion, to order the joint administration of the estates of (1) a husband and wife, (2) a partnership and one or more of its general partners, (3) two or more general partners, or (4) a debtor and an affiliate. Bankr.Rule 1015(b), 11 U.S.C.A. (West Supp.1992.) The Advisory Committee Note following Rule 1015 expressly states that the Rule governs cases in which a husband and wife have filed a joint petition pursuant to Section 302 and that the "consolidation" contemplated in Section 302 and in the Rule itself is not substantive consolidation:

Consolidation of cases implies a unitary administration of the estate.... This rule does not deal with the consolidation of cases involving two or more separate debtors. Consolidation of the estates of separate debtors may sometimes be appropriate, as when the affairs of an individual and a corporation owned or controlled by that individual are so intermingled that the court cannot separate their assets and liabilities. Consolidation, as distinguished from joint administration, is neither authorized nor prohibited by this rule since the propriety of consolidation depends on substantive considerations and affects the substantive rights of the creditors of the different estates. (emphasis added.)

See also In re Crowell, 53 B.R. 555, 557 (Bankr.M.D.Tenn.1985) (quoting In re Stuart, 31 B.R. 18 (Bankr.D.Conn.1983)) (" 'Section 302 is designed for ease of administration and to permit the payment of only one filing fee.... [and] separate estates will exist for each debtor unless and until the court orders substantive consolidation of the estates.' ").

The FDIC also argues that certain definitional provisions of the Code implicitly proscribe the substantive consolidation of the estates of non-spousal individuals. The Code provides that a bankruptcy case concerns a "debtor", 11 U.S.C. §§ 301 and 303; that a "debtor" is either a "person" or a...