In re CRD Sales and Leasing, Inc., Bankruptcy No. 98-11734 FGC

• Decision Date: 22 February 1999
• Docket Number: S138-8-97 OeCv,98-1106 and 98-1107,S472-12-95WrCv,Bankruptcy No. 98-11734 FGC,9999-1-97 WrCv and S133-4-96CaCv.,No. S644-11-95 WnCv,98-11733 FGC,Adversary No. 98-1103,98-1104,S644-11-95 WnCv
• Citation: 231 BR 214
• Court: U.S. Bankruptcy Court — District of Vermont
• Parties: In re CRD SALES AND LEASING, INC., Debtor. In re C.R. Davidson Company, Inc., Debtor. The Merchants Bank and Atlantic Bank and Trust Company v. C.R. Davidson Company, Inc., CRD Sales & Leasing, Inc., Paul P. Tierney, Carol S. Tierney, Michael J. Bouchard, Martha Bouchard v. George J. Cooke v. Roselli Rothers, Inc. The Merchants Bank Atlantic Bank and Trust Co. v. Paul P. Tierney, Carol S. Tierney v. George J. Cooke Atlantic Bank and Trust Company v. Michael J. Bouchard and Martha Bouchard v. The Merchants Bank and George J. Cooke The Merchants Bank and Atlantic Bank and Trust Company v. C.R. Davidson Company, Inc. and CRD Sales & Leasing, Inc. v. Winston J. Doe and Louise C. Doe, Co-Administrators of Muriel M. Davidson Estate CRD Sales & Leasing, Inc. and C.R. Davidson Company, Inc., Plaintiff, v. Atlantic Bank and Trust Co. The Merchants Bank, Defendant.

231 B.R. 214 (1999)

In re CRD SALES AND LEASING, INC., Debtor.

In re C.R. Davidson Company, Inc., Debtor.

The Merchants Bank and Atlantic Bank and Trust Company v. C.R. Davidson Company, Inc., CRD Sales & Leasing, Inc., Paul P. Tierney, Carol S. Tierney, Michael J. Bouchard, Martha Bouchard v. George J. Cooke v. Roselli Rothers, Inc.

The Merchants Bank Atlantic Bank and Trust Co. v. Paul P. Tierney, Carol S. Tierney v. George J. Cooke

Atlantic Bank and Trust Company v. Michael J. Bouchard and Martha Bouchard v. The Merchants Bank and George J. Cooke

The Merchants Bank and Atlantic Bank and Trust Company v. C.R. Davidson Company, Inc. and CRD Sales & Leasing, Inc. v. Winston J. Doe and Louise C. Doe, Co-Administrators of Muriel M. Davidson Estate

CRD Sales & Leasing, Inc. and C.R. Davidson Company, Inc., Plaintiff, v. Atlantic Bank and Trust Co. The Merchants Bank, Defendant.

Bankruptcy Nos. 98-11734 FGC, 98-11733 FGC, Adversary Nos. 98-1103, 98-1104, 98-1106 and 98-1107, Nos. S644-11-95 WnCv, S472-12-95WrCv, S138-8-97 OeCv, 9999-1-97 WrCv and S133-4-96CaCv.

United States Bankruptcy Court, D. Vermont.

February 22, 1999.

COPYRIGHT MATERIAL OMITTED

J. Behm and C. Reiss, of Sheehey, Brue, Gray, & Furlong, Burlington, VT, for The Merchants Bank and George Cooke ("Merchants").

L. Chalidze, and J.P. Faignant, of Miller, Faignant & Whelton, PC, Rutland, VT and J. Emens-Butler, and R. Obuchowski, of Obuchowski Law Office, Bethel, VT, for CRD Sales and Leasing, Inc. and CR Davidson Company, Inc. ("Debtors").

R. Curtiss, and L. Saffo, of Van Dorn, Cullenberg, Tenses & Curtiss, Orford, NH, for Atlantic Bank & Trust Company ("Atlantic").

A.L. Gallitano, of Otterman & Allen, PC, Barre, VT, for estate of Muriel Davidson.

FRANCIS G. CONRAD, Bankruptcy Judge.

We are asked¹ to abstain from hearing these adversary proceedings² and remand the foreclosure action and counterclaims³ to the state court. We Deny the Motions to Abstain and Remand.⁴

FACTUAL AND PROCEDURAL HISTORY

Debtors were formed in 1988 to do business in the granite industry. CRD Sales and Leasing held the assets and real estate, while C.R. Davidson Company acted as the operating, entity. Bradford National Bank made a number of loans⁵ to Debtors personally guaranteed by Michael and Martha Bouchard and Paul and Carol Tierney ("guarantors"). Those loan obligations were later assigned to Merchants. Merchants filed foreclosure actions on the collateral of Debtors and guarantors in December of 1995.⁶ Defendants in the foreclosure actions brought counterclaims against Merchants, alleging breach of contract, tortious interference with a contract, promissory estoppel, violations of the Equal Credit Opportunity Act, violation of 8 V.S.A. § 1211⁷, and negligence.⁸ Merchants sold the loan to Atlantic, rendering both Atlantic and Merchants (collectively "Banks") parties to the foreclosure action.⁹

After discovery in state court¹⁰, the matter was set for trial. On the eve of trial, Debtors filed a voluntary Chapter 11 petition, and removed the foreclosure action to an adversary proceeding here.¹¹ Debtors then brought an adversary proceeding against Atlantic, seeking equitable subordination, injunctive relief, and a determination of the validity and extent of Atlantic's lien. Merchants filed a Motion for Mandatory Abstention¹² and to Remand, to which Atlantic joined.

DISCUSSION

Banks first claim that we must abstain from hearing the matters before us under the mandatory abstention doctrine as codified under 28 U.S.C. § 1334(c).¹³ The six criteria for mandatory abstention are: 1) a timely abstention motion; 2) a state law claim or cause of action; 3) no independent federal jurisdictional basis; 4) a claim `related to' but not `arising in' or `arising under' title 11; 5) a parallel action in state court; and 6) the ability to timely adjudicate the state court action.<sup>14</sup>9281 Shore Road Owners Corp. v. Seminole Realty Co. (In re 9281 Shore Road Owners Corp.), 214 B.R. 676 (Bankr.E.D.N.Y.1997). Mandatory abstention applies only to `non-core proceedings'.¹⁵S.G. Phillips Constructors v. City of Burlington (In re S.G. Phillips Constructors), 45 F.3d 702 (2d Cir.1995). If the foreclosure action is a `core proceeding', mandatory abstention is inapplicable.<sup>16</sup> Generally, core proceedings are deemed proceedings `arising in' or `arising under' title 11.¹⁷ "To be a core proceeding, an action must have as its foundation the creation, recognition, or adjudication of rights which would not exist independently of a bankruptcy environment although of necessity there may be a peripheral state law involvement." Unsecured Creditors Committee v. Noyes (In re STN Enterprises), 73 B.R. 470, 478 (Bankr.D.Vt.1987) (quoting Acolyte Electric Corp. v. City of New York, 69 B.R. 155, 173-174 (Bankr.E.D.N.Y. 1986)).

Foreclosure proceedings are based on state law,¹⁸ and are generally deemed `non-core'.¹⁹ The foreclosure action here, however, is based upon the same facts as Debtors' equitable subordination claim. Under 28 U.S.C. § 157(b)(2)(B)(K) & (O),²⁰ equitable subordination²¹ is a core matter and may not be remanded to the state court.²² To reach a decision on the equitable subordination claim, we must necessarily determine the validity of Atlantic's attempted state court foreclosure, and vice versa. This interaction between the foreclosure action and the equitable subordination claim makes it difficult to determine whether or not the foreclosure action should be deemed core for purposes of our jurisdiction. "In its present posture, the litigation between the parties involves a non-core complaint to foreclose on the debtor's real estate and a core counterclaim for equitable subordination. . . . When combined, the issues raised by the pleadings do not fit neatly within the pale of either core or non-core for purposes of determining if mandatory abstention is applicable." Aetna v. Danbury Square Ass. Ltd. Partnership (In re Danbury Square Ass. Ltd. Partnership), 150 B.R. 544, 547 (Bankr.S.D.N.Y. 1993).

While not explicitly saying that foreclosure proceedings intertwined with equitable subordination claims are core proceedings, courts have consistently noted the two should be heard in the same forum. "In the instant case, the equitable subordination claim may not be heard in this court if the foreclosure action is remanded to a state court where a judgment of strict foreclosure would be entered." 9281 Shore Road Owners Corp. v. Seminole Realty Co. (In re 9281 Shore Road Owners Corp.), 187 B.R. 837, 854 (E.D.N.Y. 1995); see also In re Danbury Square, 150 B.R. at 547. Such rulings are based on the policies of efficiency and consistency. "For example, this Court might decide that the conduct of Defendant in the foreclosure warrants equitable subordination of Defendant's claim while, at the same time, a state court might rule that foreclosure was proper and that no damages are warranted". Walker v. Bryans (In re Walker), 224 B.R. 239, 242 (Bankr.M.D.Ga.1998).

Such rulings are further based, we think, upon an implicit realization that once an equitable subordination claim or defense is raised, any actions, claims, or liens so intertwined with that equitable subordination claim should be heard by the bankruptcy court. "Equitable subordination is a bankruptcy remedy peculiar to the equitable jurisdiction of the bankruptcy court and cannot be severed from, and exist independently of, a lien or claim which (sic) will not be determined in the bankruptcy court." In re 9281 Shore Road Owners Corp. 187 B.R. at 854.

We find that we must hear the foreclosure action as a core matter under 28 U.S.C. §§ 157(B)(K) & (O) because the foreclosure proceeding, while based on state law, is so intertwined with the undoubtedly core subordination claim and the request to determine the validity and extent of Bank's lien.

In so doing, we do not ignore the fact that foreclosure actions are usually deemed non-core.²³ When inextricably intertwined with the equitable subordination claim, however, a core claim that must be heard here, we think it is safe to say the entire proceeding is core. "When a proceeding is in part core and in part non-core related, we may determine the entire proceeding is core when the core aspect predominates and the non-core related aspect, by comparison is insignificant." In re STN Enterprises, 73 B.R. at 484.²⁴ We note that generally, a foreclosure action could hardly be described as `insignificant'. When compared to the equitable subordination claim, however, we think such a description is warranted. The equitable subordination claim predominates all of the state law claims here, because if we find Debtors are entitled to subordinate Bank's claim, Bank's right to foreclose may be overridden, regardless of any rights under state law. Equitable subordination, for lack of a better term, is the proverbial 500-pound gorilla of this case — the doctrine is not bound by state law, and it can trump the state law foreclosure, even if that foreclosure is legally valid.²⁵

Because the equitable subordination claim predominates this proceedings, we think that the entire matter is core under 28 U.S.C. §§ 157(B)(K) & (O). Accordingly, mandatory abstention does not apply. See 28 U.S.C. § 1334(c).

Even if the foreclosure action and counterclaims were non-core, and we were somehow able to wrest the 500-pound gorilla's grasp from the state law claims and sever the foreclosure action, mandatory abstention would still not apply. To avoid conflicting judgments, we could not grant relief from the automatic stay²⁶ until rendering a decision on the equitable subordination claim. Equitable subordination is a defense to foreclosure, a defense unavailable at the state court. "If the automatic stay is terminated and the movant allowed to foreclose, the estate would be deprived of these defenses (equitable subordination) in the nonbankruptcy forum." In re Poughkeepsie Hotel Ass. Joint Venture, 132 B.R. 287, 292 (Bankr....