In re Gosnell Development Corp. of Arizona
| Decision Date | 11 June 1998 |
| Docket Number | Bankruptcy No. BR-97-10778 PHX-CGC. |
| Parties | In re GOSNELL DEVELOPMENT CORPORATION OF ARIZONA, Debtor. |
| Court | United States Bankruptcy Courts. Ninth Circuit. U.S. Bankruptcy Court — District of Arizona |
Michael W. Carmel, Michael W. Carmel, Ltd., Phoenix, AZ, for Debtor.
Chad L. Schexnayder, Jennings, Haug & Cunningham, Phoenix, AZ, for Fireman's Fund Insurance Co.
Terry A. Dake, Terry A. Dake, Ltd., Phoenix, AZ, for Louis A. Movitz, Trustee.
UNDER ADVISEMENT ORDER RE: JOINT MOTION FOR SUMMARY JUDGMENT RE: REPPEL STEEL, INC.'S SECURED CLAIM
The Trustee of Reppel Steel, Inc. ("Reppel") asserts a secured claim against this estate arising from his having 1) obtained a judgment against the Debtor Gosnell Development Corporation of Arizona, Inc. ("GDC" or "Debtor") in California state court and 2) filed a notice of lien against a judgment GDC recovered against Tokai Bank, Ltd., N.Y. Branch ("Tokai"). GDC and Fireman's Fund Insurance Company ("Fireman's Fund"), a creditor and GDC's former surety, have objected to the claim's secured status.1
GDC and Fireman's Fund have now filed a Joint Motion for Summary Judgment seeking a ruling that Reppel's lien against the Tokai judgment has zero value, thereby reducing Reppel to the status of an unsecured creditor. For the following reasons, this Court denies the motion.
The history of this case, lengthy and confusing as it may be, boils down to these essential facts. Debtor and Sam Stein entered into a construction contract in 1988 to build the Santa Monica Beach Hotel. Pursuant to the construction contract, Debtor posted a performance bond for $24 million issued by Fireman's Fund. The performance bond expressly incorporated the terms of the construction contract. Subsequently, Sam Stein transferred all rights in the construction contract to Santa Monica Beach Hotel, Ltd. ("SMBH"), who then replaced the original lender with Tokai and named Tokai a dual obligee on the performance bond rider.
Problems arose thereafter, with Debtor halting construction on several occasions due to lack of payment by SMBH. Debtor alleged that it resumed construction based on representations of Tokai that sufficient funds were available to pay for the completed and pending work, including additional work not initially contemplated by the parties. Unfortunately, problems persisted, and Debtor instituted arbitration proceedings against SMBH and Stein. SMBH counterclaimed. SMBH and Stein then filed Chapter 11 and Chapter 7 respectively. Debtor sought relief from the automatic stay to proceed with the arbitration proceedings. SMBH lacked sufficient funds to go forward, so Stein agreed to fund the arbitration in exchange for a first priority lien upon 50% of any recovery of SMBH against Debtor.
Nearly simultaneously, Tokai filed suit against SMBH and Debtor, among others, in Los Angeles Superior Court (Case No. BC 37078) to foreclose its deed of trust. Debtor counter claimed for fraudulent and negligent misrepresentations based on Tokai's representations to Debtor that there were sufficient funds available to fund the construction, thereby inducing Debtor back to work. The court issued an interlocutory award to Debtor for $365,484, plus prejudgment interest, against Tokai pending resolution of Tokai's claims against Debtor. Tokai subsequently abandoned its claims against Debtor when it reached a settlement with SMBH. The settlement, approved by the United States Bankruptcy Court for the Central District of California, granted Tokai a security interest in any monies the SMBH estate recovered from Debtor and Fireman's Fund in the arbitration proceedings, subject only to Sam Stein's prior 50% interest in those recoveries.
Three months later, the arbitration panel awarded SMBH nearly $47 million against Debtor and $24 million against Fireman's Fund. Debtor then assigned to Fireman's Fund its recovery against Tokai for $365,484.
All of these various proceedings and awards were subsequently consolidated into a comprehensive judgment in February 1997. The arbitration awards in favor of SMBH and against Debtor and Fireman's Fund were reduced to judgment in the amounts of $44 and $24 million respectively. Tokai was granted judgment against SMBH on its foreclosure and stop notice claims for $69 million. Tokai was also granted a security interest in SMBH's recovery against Debtor in the arbitration proceedings, subject to the Stein estate claim. Debtor's judgment against Tokai was entered in the amount $365,484, plus prejudgment interest, for a total of $511,411. Tokai was also granted a judgment against SMBH for this same amount.
Reppel's involvement in this matter arises out of a judgment it received in April, 1997, against Debtor for $186,708, plus interest, attorneys' fees, and costs for a total of $348,823. Within days of this judgment, Reppel filed a notice pursuant to § 708.410, et seq., of the California Civil Procedure Code, in the consolidated proceeding to acquire a lien against any recovery Debtor might receive from Tokai.
This is where the dispute arises. Debtor and Fireman's Fund claim that Tokai has the right to setoff its security interest in SMBH's recovery against Debtor against Debtor's judgment against Tokai. They also claim that Tokai, by virtue of its status as a dual obligee on the performance bond, is entitled to recoup its losses from Debtor's alleged breach of the construction contract. And, therefore, because Tokai has these setoff and recoupment rights that exceed Debtor's judgment against Tokai, the Movants argue that Reppel's lien on Debtor's judgment is worthless. Further, because Debtor assigned to Fireman's Fund its judgment against Tokai before Reppel filed its notice and allegedly acquired its lien, they claim that Debtor had no remaining interest in the Tokai judgment to which Reppel's lien could attach. Reppel disagrees and raises numerous arguments against Debtor and Fireman's Fund's claims.
This case stands the doctrines of setoff and recoupment on their heads. A brief discussion of setoff and recoupment illustrates why this is so. The Bankruptcy Code itself explicitly recognizes the applicability of setoff in the bankruptcy context. See Newbery Corp. v. Fireman's Fund Ins. Co., 95 F.3d 1392, 1398 (9th Cir.1996) (citing United States v. Arkison (In re Cascade Roads, Inc.), 34 F.3d 756, 763 (9th Cir.1994)). 11 U.S.C. § 553(a) provides:
Except as otherwise provided in this section and in sections 362 and 363 of this title, this title does not affect any right of a creditor to offset a mutual debt owing by such creditor to the debtor that arose before the commencement of the case under this title against a claim of such creditor against the debtor that arose before the commencement of the case. . . .
"Setoff has been used by creditors `as a defense in an action by the trustee for the recovery of money from the creditor.'" Id. ().
Recoupment, on the other hand, is a judicially recognized principle pursuant to which a defendant may respond to a plaintiff's claim with a countervailing claim arising out of the same transaction. In re California Canners and Growers, 62 B.R. 18, 19 (9th Cir. BAP 1986) (). Recoupment is often analogized to a counterclaim or affirmative defense. Id. at 22. It "is the setting up of a demand arising from the same transaction as the plaintiff's claim or cause of action, strictly for the purpose of abatement or reduction of such claim." Newbery, 95 F.3d at 1399 (quoting Collier P 553.03, at 553-15). In application, setoff and recoupment have created exceptions to the general rule that all unsecured creditors in bankruptcy will be treated alike in satisfaction of their claims. Id. at 1400 (quoting Ashland Petroleum Co. v. Appel (In re B & L Oil Co.), 782 F.2d 155, 157 (10th Cir.1986)). Setoff is allowed only in very narrow circumstances in bankruptcy, whereas a creditor may successfully raise recoupment as a defense where setoff is not permitted. California Canners, 62 B.R. at 19.
The language of both setoff and recoupment speak of the relationship between the debtor and creditor, and not third parties. Section 553 expressly states that a creditor does not lose its right to setoff a debt: it nowhere indicates that another party may assert the creditor's right of setoff on the creditor's behalf. Cases involving setoff also speak of the creditor's burden in proving the elements of setoff and the creditor's waiver of its setoff claim. Recoupment is also couched in terms of the creditor being able to show that it is not liable on the claim of the debtor's estate because it has a claim against the debtor arising from the same transaction. See Newbery, 95 F.3d at 1401. Neither doctrine indicates whether the debtor or another creditor may raise the defense of setoff or recoupment on behalf of another creditor.2
In practice, it is generally the creditor that raises setoff or recoupment as a defense to having to pay debtor's estate the full amount of the debt it owes debtor. In this case, however, the creditor with the alleged right of setoff and recoupment is absent from the proceedings. Instead, Debtor and Fireman's Fund raise the defenses of setoff and recoupment on behalf of Tokai arguing that Tokai does not owe the estate any money because it has the right to setoff against the estate, or recoup from the estate, monies that exceed the amount of the judgment Debtor has against Tokai. Therefore, they conclude, Reppel's interest in Debtor's judgment against Tokai is worthless. Not surprisingly, none of the parties cites any case, nor did this Court find any case, where these doctrines were applied in such a fashion. The question, therefore, of whether Debtor and Fireman's Fund have standing to raise these defenses is a...
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