Ky. Emps. Ret. Sys. v. Seven Counties Servs., Inc., Civil Action No. 3:15-cv-25-DJH

• Decision Date: 31 March 2016
• Docket Number: Civil Action No. 3:15-cv-25-DJH
• Citation: 550 B.R. 741
• Court: U.S. District Court — Western District of Kentucky
• Parties: Kentucky Employees Retirement System and the Board of Trustees of Kentucky Retirement Systems, Appellants/Cross-Appellees, v. Seven Counties Services, Inc., Appellee/Cross-Appellant.

550 B.R. 741

Kentucky Employees Retirement System and the Board of Trustees of Kentucky Retirement Systems, Appellants/Cross-Appellees

v.Seven Counties Services, Inc., Appellee/Cross-Appellant.

Civil Action No. 3:15-cv-25-DJH

United States District Court, W.D. Kentucky, Louisville Division.

Signed March 31, 2016

Daniel R. Swetnam, Tyson A. Crist, Victoria E. Powers, Ice Miller LLP, Columbus, OH, for Appellants/Cross-Appellees.

Charity B. Neukomm, David Cantor, James Edwin McGhee, III, Tyler R. Yeager, Seiller Waterman, LLC, Paul Joseph Hershberg, Gray & White, Philip C. Eschels, Bingham Greenebaum Doll LLP, Theodore T. Myre, Jr., Wyatt, Tarrant & Combs LLP, Louisville, KY, for Appellee/Cross-Appellant.

MEMORANDUM OPINION AND ORDER

David J. Hale

, Judge, United States District Court

Kentucky's largest public pension fund appeals a ruling of the United States Bankruptcy Court for the Western District of Kentucky, which permits a community mental health provider to withdraw from participation in the pension. For decades, Seven Counties Services, Inc., a private behavioral health services provider, paid into Kentucky Employees Retirement System, a public pension system. Starting in 2013, the burden became too great—Seven Counties could not afford to pay both its Kentucky Employee Retirement System contributions and continue to provide its services. So it filed for Chapter 11 bankruptcy relief. Its goal was to leave KERS; KERS tried to bar Seven Counties' exit. The bankruptcy court decided that Seven Counties qualified for Chapter 11 relief, that its relationship with KERS was based on contract, and that it could reject that contract with KERS. KERS has appealed the decision. KERS also proposes that this Court certify a question to Kentucky's highest court. Meanwhile, Seven Counties has filed what it calls a “protective cross-appeal” to suggest alternative reasons to uphold the decision below if the Court decides the bankruptcy court was wrong to find that the parties' relationship was contractual. After careful consideration, the Court concludes that a certification to the Kentucky Supreme Court is unnecessary. As well, the Court will deny KERS's appeal and uphold the bankruptcy court's decision with one correction to the bankruptcy court's factual conclusions.

I. FACTUAL BACKGROUND

There is only one significant objection¹ to the bankruptcy court's factual findings. The Court will correct that factual error, but it will otherwise rely on the factual findings of the court below. The following is a recitation of only those facts needed to understand the Court's decision. For a more detailed account, see the bankruptcy court's thorough and well-drafted fact section.

A. The Transition to Private Providers of Behavioral Health Services

Historically, the states treated the mentally ill. (Stayed Litigation Docket No. 6–1, PageID # 114)² Often, that meant that the states institutionalized their wards. This approach changed when President Kennedy signed the Community Mental Health Act in 1963. (Id. ) The CMHA gave federal funds to help create community-based mental health centers, now called “CMHCs.” Since then, the states have taken a less direct role in treating mental and behavioral health issues, and fewer people with these ailments have been institutionalized.

After the CMHA became law, Kentucky began planning how to coordinate “public and private efforts” to provide mental health services. (Id ., PageID # 120 (citing Ky. Exec. OR. 64-207 (Mar. 17, 1964))) It had a plan by 1966, when twenty non-profit corporations were organized “to provide community mental health services in Kentucky.” (Id. ) To become a CMHC in the state, an entity first had to be a non-profit incorporated under Chapter 273 of the Kentucky Revised Statutes and receive designation from the Kentucky Cabinet for Health and Family Services (the “Cabinet”). (Id. ) One of the first CMHCs to incorporate was Kentucky Region Eight Mental Health-Mental Retardation Board, Inc. (“Region Eight”). (Id ., PageID # 120-21) Region Eight, later renamed “River Region,” served the same counties—Jefferson and six surrounding counties—that Seven Counties now serves. (Id. ) Today, only fourteen CMHCs operate in Kentucky, with each serving a specific geographic area of Kentucky. (Id. ) Each one is a non-profit that is exempt from local, state, and federal income taxes. (Id. )

Remember, these newly created CMHCs took over services that had previously been provided by the state. (Id. ) Indeed, many people who went to work for the CMHCs had been employed by Kentucky state government, and they had earned credit towards their retirements through KERS. (Id. ) As the state shifted services from public to private behavioral health services providers, many state employees made the necessary move to private employment with the CMHCs. (Id. ) But this created a dilemma: The workers were reluctant to lose the benefits of state employment, including their pensions. (Id. ) And so, Governor Edward T. Breathitt signed Executive Order 66-378

in June 1966. (S.L.D.N. 6-1, PageID # 122) The order rolled all CMHC employees—not just those who had previously worked for state government—into the Kentucky Retirement System (the “System”).

Not all of the CMHCs wanted to participate in the System. (Id. ) Three of them created tax-sheltered annuity retirement programs instead. (Id. ) KERS sued those three CMHCs in Franklin Circuit Court to force their participation in the System, and the Franklin Circuit Court ruled for KERS. (Id ). But in 1974 when the case reached the Kentucky Court of Appeals (then Kentucky's highest court), see Ky. Region Eight v. Commonwealth , 507 S.W.2d 489 (Ky.Ct.1974)

, that court reversed the Franklin Circuit Court decision, deciding that the CMHCs did not have to participate in the system. (S.L.D.N. 6-1, PageID # 122) The Kentucky Court of Appeals' decision held that the CMHCs were not state agencies, their employees were not state workers, and the receipt of state grants or funds does not transform a private entity into a state agency. Ky. Region Eight , 507 S.W.2d at 490–91.

B. The Rise of Seven Counties

By 1978, River Region was struggling financially. (S.L.D.N. 6-1, PageID # 123) It tried to be adjudicated bankrupt. (Id. ) The Cabinet's predecessor inserted itself into the bankruptcy proceedings as an interested party, asking the bankruptcy court not to adjudicate River Region bankrupt because, if River Region were bankrupt, its services would stop. (Id. ) The state agreed to pay River Region's operating costs until August 1978, when the newly-formed Seven Counties could step in. (Id. )

Some River Region employees challenged the entity's right to be declared bankrupt. (Id. ) They argued that River Region was an alter ego and surrogate of the Commonwealth. (Id ., PageID # 124) But that argument failed. (Id. ) In January 1980, the bankruptcy court ruled that “River Region was not a state agency or instrumentality.” (Id. (citing Greenberg v. River Region Mental Health – Mental Retardation Board, Inc. (In re River Region Mental Health – Mental Retardation Board, Inc. ), slip op. at *4, Case No. 78–00193–L (Bankr.W.D.Ky. Jan. 8, 1980)) The bankruptcy court's decision was based on several conclusions: first, that Kentucky did not control River Region's affairs; next, that any money River Region got from the state was for “contracted-for-services”; and last, that River Region's public function alone did not make it a state actor. (Id. ) On appeal, this Court affirmed the Greenberg decision. (Id. (citing Greenberg v. River Region Mental Health-Mental Retardation Board, Inc. (In re River Region Mental Health – Mental Retardation Board, Inc. ), Case No. 80–0089–L(B) (W.D.Ky. Sept. 11, 1980) (Ballantine, J.))) Then in a per curiam opinion, the Sixth Circuit Court of Appeals affirmed Judge Ballantine's conclusion that River Region was not a state agency or instrumentality. See Halikas v. River Region Mental Health – Mental Retardation Board, Inc , Case No. 80–5433, 667 F.2d 1026 (6th Cir. Oct. 22, 1981)

.

Meanwhile, in June 1978, the Cabinet's predecessor decided to make Seven Counties the successor to River Region. (Id ., PageID # 126) The three entities—River Region, Seven Counties, and the Cabinet's predecessor—worked together closely during River Region's bankruptcy to keep mental health services available in the region. (Id. ) Seven Counties took over in August 1978. (Id ., PageID # 127) By 1982, River Region had ceased to exist as a corporate entity. (Id ., PageID # 126)

Today, Seven Counties provides behavioral health services to some 33,000 people in Jefferson and the six surrounding counties. (Id ., PageID # 114) It is a non-profit entity with “no shareholders or members.” (Id. ) All of its profits go to its maintenance. (Id. ) If it were ever to be dissolved, its governing documents stipulate that any remaining assets are to be distributed to charitable organizations. (Id. )

A board of directors runs Seven Counties. (See id ., PageID # 128) The Board's membership “is self-perpetuating, and the membership ... is determined by a majority vote of the Seven Counties Board of Directors.” (Id. ) When there is a vacancy, a “nominating committee,” which is made up of the Board's secretary and five other Board members the secretary appoints, presents possible new members to the Board. (Id. ) No representative of Kentucky state government has ever had “the power to select members of the [B]oard.” (Id ., PageID # 129) Likewise, the Board can, by majority vote, remove any member with or without cause, but no one outside the Board may remove a director. (Id. ) A representative of the Cabinet's Department for Behavioral Health, Development and Intellectual Disabilities³ attends the Board's meetings. The Department's representative is not, however, a Board member, nor does he have a vote. (Id ., PageID # 129-30) Indeed, the Department's recent representative, Lou Kurtz, acknowledged during the...