In re Equip. Acquisition Res., Inc.

• Citation: 742 F.3d 743
• Decision Date: 06 March 2014
• Docket Number: No. 13–1480.,13–1480.
• Parties: In re EQUIPMENT ACQUISITION RESOURCES, INC., Debtor. Appeal of United States of America.
• Court: United States Courts of Appeals. United States Court of Appeals (7th Circuit)

742 F.3d 743

In re EQUIPMENT ACQUISITION RESOURCES, INC., Debtor.

Appeal of United States of America.

No. 13–1480.

United States Court of Appeals,Seventh Circuit.

Argued Dec. 2, 2013.

Decided Feb. 4, 2014.

Rehearing and Rehearing En Banc Denied March 6, 2014.

George P. Apostolides, Attorney, Arnstein & Lehr LLP, Chicago, IL, for Debtor–Appellee.

John A. Dudeck, Jr., John A. Dudeck, Jr., Gilbert S. Rothenberg, Deputy Assistant Attorney General, Department of Justice, Washington, DC, for Appellant.

James D. Newbold, Jane E. Notz, Office of the Attorney General, Chicago, IL, Amicus Curiae.

Before BAUER and FLAUM, Circuit Judges, and VAN BOKKELEN, District Judge.^*

FLAUM, Circuit Judge.

This case concerns whether a bankruptcy trustee can bring an action under § 544(b)(1) of the Bankruptcy Code to recoup a debtor's federal tax payment. Section 544(b)(1) allows a trustee to step into the shoes of an actual creditor who could have avoided the transfer outside bankruptcy using a state-law cause of action. The federal government's sovereign immunity prevents creditors from suing the IRS using state law. However, another section of the Bankruptcy Code, § 106(a)(1), abrogates the government's sovereign immunity “with respect to” § 544.

The trustee's ability to recover federal tax payments thus hinges on the interplay between § 544 and § 106. The courts below, relying on § 106(a)(1), concluded that a debtor in possession could use § 544(b)(1) to bring an Illinois fraudulent-transfer action against the IRS. But we find that § 106(a)(1) does not displace the actual-creditor requirement in § 544(b)(1). Ordinarily, a creditor cannot bring an Illinois fraudulent-transfer claim against the IRS; therefore, under § 544(b)(1), neither can the debtor in possession. We reverse in favor of the United States.

I. Background

Equipment Acquisition Resources, Inc. (“EAR”), an Illinois subchapter S corporation,filed for Chapter 11 bankruptcy in October 2009. In the years before its petition, EAR made nine federal income tax payments to the IRS on behalf of its shareholders. (Subchapter S corporations do not pay taxes on corporate income; instead, the tax liability is passed through to the corporation's shareholders.) EAR made eight of these payments in the two years preceding its petition. The ninth payment was just outside this period.

Once in Chapter 11, EAR, acting as debtor in possession,¹ filed an adversary complaint against the United States seeking to recover all nine payments as fraudulent transfers. EAR sought to recover the eight most recent payments under 11 U.S.C. § 548(a)(1), which provides a cause of action for the recovery of transfers made within two years of the filing. It sought to recover the ninth under 11 U.S.C. § 544(b), the provision (described above) that enables a trustee to bring a state-law fraudulent-transfer action. Illinois, like most states, has adopted the Uniform Fraudulent Transfer Act, which has a four-year statute of limitations. 740 Ill. Comp. Stat. Ann. 160/5(a)(2), 160/10. EAR asserted that the Bankruptcy Code's abrogation of the government's sovereign immunity “with respect to” both § 548 and § 544 precluded the IRS from claiming immunity as a defense to either theory of recovery. See11 U.S.C. § 106(a)(1).

The parties reached a settlement. The United States agreed to disgorge the eight payments that EAR could recover using § 548, but contested EAR's ability to recover the ninth payment under § 544(b). Because the federal government's sovereign immunity ordinarily prevents a creditor from bringing an Illinois fraudulent-transfer action against the IRS, the government argued, the ninth tax payment was not “voidable under applicable law by a creditor holding an unsecured claim.” Id. § 544(b)(1). The parties thus agreed that the United States would disgorge the ninth payment only if it could not prevail in its motion to dismiss the § 544(b) count in EAR's complaint.

The bankruptcy court rejected the government's theory. 451 B.R. 454 (Bankr.N.D.Ill.2011). The court found that § 106(a)(1) communicated Congress's intent to abolish the federal government's immunity from suit under the listed bankruptcy causes of action, including § 544. This general waiver, the court reasoned, showed that “Congress intended to include those state law causes of action available under § 544(b)(1).” Id. at 464. The court grounded its conclusion in “[t]he plain, unambiguous language of § 106, the deliberate inclusion of § 544 in § 106(a), and the policy consideration favoring recovery for the benefit of all creditors.” Id.

The United States appealed to the district court, which affirmed. 485 B.R. 586 (N.D.Ill.2013). The district court framed the dispute as “whether § 544(b), which explicitly limits a trustee's ability to avoid a transfer, overrides § 106(a)'s abrogation of sovereign immunity.” Id. at 592. It agreed with the bankruptcy court that § 106's “complete abolishment” of the government's sovereign immunity in bankruptcy carried the day. Id. at 593. “It simply does not matter how a sovereign immunity defense is invoked against EAR's claim,” the district court held, because “106(a)(1) simply eliminates the obstacle wherever it appears ‘with respect to’ § 544.” Id. (emphasis added). The United States appeals.

II. Discussion

This case concerns the proper interpretation of the Bankruptcy Code. We decide this legal question de novo. Wiese v. Cmty. Bank of Cent. Wis., 552 F.3d 584, 588 (7th Cir.2009).

A.

As we have mentioned, EAR's action implicates two different Code provisions: § 548 and § 544(b). Section 548 provides a stand-alone cause of action for the recovery of fraudulent transfers. See11 U.S.C. § 548(a)(1) (“The trustee may avoid any transfer ... of an interest of the debtor in property ... that was made ... on or within 2 years before the date of the filing of the petition, if [certain criteria are met].”). Because § 548 is included in § 106(a)(1)'s list of Code provisions for which sovereign immunity is abrogated—and because the cause of action is a creature of the Code itself—the United States does not assert immunity as a defense to EAR's recovery under that provision.

Section 544(b) is a different matter, however. Unlike § 548, § 544(b) is derivative of state law—that is, law external to the Bankruptcy Code. Section 544(b)(1) authorizes the trustee to avoid transfers that are “voidable under applicable law by a creditor holding an unsecured claim.” Usually, the “applicable law” is a state's fraudulent-transfer statute. See In re Xonics Photochem., Inc., 841 F.2d 198, 202 (7th Cir.1988). This provision enables the trustee to do in a bankruptcy proceeding what a creditor would have been able to do outside of bankruptcy—except the trustee will recover the property for the benefit of the estate.

Section 544(b) is unique in another regard: its terms require the actual existence of an unsecured creditor that could have brought the state-law action itself. “If there are no creditors against whom the transfer is voidable under the applicable law, the trustee is powerless to act under section 544(b)(1).” 5 Collier on Bankruptcy ¶ 544.06[1] (Alan N. Resnick & Henry J. Sommer eds., 16th ed.2013); see also In re Cybergenics Corp., 226 F.3d 237, 243 (3d Cir.2000) (“The avoidance power provided in section 544(b) is distinct from others because a trustee or debtor in possession can use this power only if there is an unsecured creditor of the debtor that actually has the requisite nonbankruptcy cause of action.”). In other words, the trustee stands in the shoes of an actual unsecured creditor. And if the actual creditor could not succeed for any reason—whether due to the statute of limitations, estoppel, res judicata, waiver, or any other defense—then the trustee is similarly barred and cannot avoid the transfer. 5 Collier on Bankruptcy ¶ 544.06[3]. By contrast, there is no such limitation in § 548. The trustee stands in its own shoes and exercises rights bestowed by the Bankruptcy Code itself.

The question dividing the parties is whether the Code's abrogation of sovereign immunity “with respect to” § 544 allows a debtor in possession to bring a state-law fraudulent-transfer suit against the federal government—even though, outside of bankruptcy, sovereign immunity would bar a regular creditor from doing so. We find that § 106(a)(1) confers no such right.

B.

The Supreme Court has instructed that when it comes to questions of a federal agency's liability, we must undertake “two analytically distinct inquiries.” FDIC v. Meyer, 510 U.S. 471, 484, 114 S.Ct. 996, 127 L.Ed.2d 308 (1994) (internal quotation marks omitted). “The first inquiry is whether there has been a waiver of sovereign immunity.” Id. No issue there; all parties agree, based on § 106(a)(1), that there has been. But once this question is answered, “the second inquiry comes into play—that is, whether the source of substantive law upon which the claimant relies provides an avenue for relief.” Id. That question is the crux of this appeal: whether the source of substantive law upon which EAR relies—§ 544(b) and, derivatively, the Illinois Uniform Fraudulent Transfer Act—provides an avenue for relief against the IRS.

In answering it, EAR and the courts below lay claim to the statutory-interpretation high ground—the plain language of the text. They maintain that § 106(a)(1) is unambiguous: it states that the federal government's “sovereign immunity is abrogated ... with respect to,” among other provisions, § 544. Therefore, the argument goes, the United States cannot assert a sovereign immunity defense, in any form, to a § 544(b)(1) action.

This argument misses the point. The United States is not contesting the meaning of § 106(a). Its argument derives from the plain language of § 544(b). That provision, by its very terms, requires EAR to show that a creditor exists who could use a state's “applicable law” to recover the payment from the IRS. If no such...