Se Prop. Holdings, LLC v. Stewart (In re Stewart)

• Decision Date: 03 May 2017
• Docket Number: ADV No. 16–1117–JDL,Case No. 15–12215–JDL Jointly Administered
• Parties: IN RE: David A. STEWART and Terry P. Stewart, Debtors. SE Property Holdings, LLC, Plaintiff, v. David A. Stewart, Terry P. Stewart, et al., Defendants, Kirkpatrick Bank, Intervenor.
• Court: U.S. Bankruptcy Court — Western District of Oklahoma

571 B.R. 460

IN RE: David A. STEWART and Terry P. Stewart, Debtors.SE Property Holdings, LLC, Plaintiff,

v. David A. Stewart, Terry P. Stewart, et al., Defendants,Kirkpatrick Bank, Intervenor.

Case No. 15–12215–JDL Jointly Administered

ADV No. 16–1117–JDL

United States Bankruptcy Court, W.D. Oklahoma.

Signed May 3, 2017

Joshua D. Burns, William H. Hoch, Christopher M. Staine, Crowe & Dunlevy PC, Mark B. Toffoli, Andrews Davis, Oklahoma City, OK, Richard M. Gaal, McDowell, Knight, Roedder & Sledge, Mobile, AL, for Plaintiff.

Ruston C. Welch, Welch Law Firm, P.C., Oklahoma City, OK, for Defendants.

MEMORANDUM OPINION AND ORDER GRANTING MOTION TO DISMISS

Janice D. Loyd, U.S. Bankruptcy Judge

I. Introduction

This matter comes on for consideration upon the Motion to Dismiss and Brief in Support filed by Intervenor, Kirkpatrick Bank ("Kirkpatrick"), on January 29, 2017 (the "Motion ") [Doc. 104], the Response to Motion to Dismiss and Brief in Support filed by SE Property Holdings, LLC ("SEPH") on February 13, 2017 ("Response ") [Doc. 118], the Reply filed by Kirkpatrick on March 5, 2017 (the "Reply ") [Doc. 130], and SEPH's Sur–Reply Brief Addressing Article III Jurisdiction Issue filed April 13, 2017 [Doc. 140].

David A. Stewart and Terry P. Stewart (individually and collectively referred to as the "Stewarts") are the debtors in these related cases which are jointly administered. By this adversary proceeding SEPH seeks to add nine (9) non-debtor entities (the "Non–Debtors") to the cases relying upon the theory of substantive consolidation. These are nine (9) entities in which Stewart acts in a managerial capacity, holds, or at one time held, an interest, or in the case of a Trust held an interest in the trust res.¹ By its Motion , Kirkpatrick argues that the Complaint should be dismissed pursuant to Federal Rule of Civil Procedure 12(b)(6) for failure to state a claim because substantive consolidation is not an appropriate cause of action against non-debtor entities. Kirkpatrick contends that (1) the Court cannot invoke its equitable powers under 11 U.S.C. § 105 to establish jurisdiction over a non-debtor entity not in bankruptcy, (2) SEPH as a non-creditor of the Non–Debtors does not have standing to force their assets into Stewarts' bankruptcy estate and (3) SEPH's failure to join indispensable parties, i.e. creditors of the Non–Debtors, constitutes a denial of due process to such creditors compelling dismissal.²

In response to Kirkpatrick's Motion, SEPH contends that (1) substantive consolidation is within the equitable powers of the court under § 105³ where the assets of management of the Non–Debtors are so intermingled that the Non–Debtors are to be regarded as the alter ego of the Stewarts, (2) that an individual creditor, not only the Chapter 7 trustee, has standing to bring the Non–Debtors before the Court to effectuate a consolidation, (3) that Oklahoma law providing for a "charging order" to recover the interest of a limited liability company member does not prohibit a creditor's remedy of substantive consolidation for the "pooling" of the assets of the alleged alter ego entity and (4) at this early stage of the adversary proceeding creditors of the Non–Debtors are not indispensable parties requiring dismissal of the case. Pursuant to Federal Rule of Bankruptcy Procedure 7052, the Court makes the following findings of fact and conclusions of law which support its determination that Kirkpatrick's Motion should be granted.

II. Jurisdiction

The Court has jurisdiction over this proceeding under 28 U.S.C. §§ 157 (a) and 1334 (b). This is a core proceeding under 28 U.S.C. § 157(b)(2)(A) and (O). The jurisdiction of the bankruptcy courts as set forth in 28 U.S.C. § 1334, which provides, in pertinent part, that "the district courts shall have original jurisdiction but not exclusive jurisdiction of all civil proceedings arising under title 11, or arising in or related to cases under title 11". 28 U.S.C. § 1334(b). Title 28 U.S.C. § 157(b) provides that "[b]ankruptcy judges may hear and determine all cases arising under title 11 and all core proceedings arising under title 11, or arising in a case under title 11, referred under subsection (a) of this section, and may enter appropriate orders and judgments, subject to review under section 158 of this title." Venue of this adversary proceeding in this district is proper under 28 U.S.C. § 1409(a).

In both its Reply to Response [Doc. 130] and Response to Motion of SEPH to File Sur–Reply [Doc. 133] Kirkpatrick has challenged the Article III jurisdiction of this Court to enter a final order on substantive consolidation under Stern v. Marshall , 564 U.S. 462, 131 S.Ct. 2594, 180 L.Ed.2d 475 (2011). Whether the bankruptcy court should exercise its discretion under § 105(a) to permit substantive consolidation is an open question, but such exercise does not invoke Article III/ Stern v. Marshall implications.

This action is not based upon state law carrying a right to a jury trial, but is simply a creation of bankruptcy law. In re Owner Management Service, LLC Trustee Corps, 530 B.R. 711, 721–722 (Bankr. C.D. Cal. 2015) (Substantive consolidation was not affected by Stern and remains a core proceeding that can be adjudicated by a bankruptcy judge .... Substantive consolidation does not exist outside the context of a bankruptcy proceeding.); In re Petters Co., Inc ., 550 B.R. 438, 447, n. 18 (Bankr. D. Minn. 2016)"[Substantive Consolidation] was created and developed entirely on considerations of equity; it is applied only in bankruptcy cases; and it is used exclusively to support the administrative function of bankruptcy .... Hence, the absurdity of the notion that a motion for substantive consolidation is a ‘ Stern proceeding’ not subject to final disposition of the order of a bankruptcy judge absent consent of the parties."); In re Gladstone , 513 B.R. 149, 158 (Bankr. S.D. Fla. 2014). This Court has jurisdiction to hear and enter a final order in this case.

III. Background⁴

On September 30, 2014 (the "Petition Date"), SEPH filed Involuntary Petitions for Relief under Chapter 7 of the Bankruptcy Code against the Stewarts in the United States Bankruptcy Court for the Southern District of Alabama. On March 18, 2015, the Alabama Bankruptcy Court entered orders for relief under Chapter 7 of the Bankruptcy Code. On June 12, 2015, the Alabama Bankruptcy Court granted the Stewarts' motion to transfer the bankruptcy cases to this court. On July 21, 2015, the Stewart cases were jointly administratively, but not substantively, consolidated by this Court.

In a matter related to the present Motion before the Court, on November 3, 2015, the Stewarts filed their Motion for Order Directing Trustee to Abandon Personal Property by which they sought to have the trustee abandon all of the Stewarts' units or membership interests of all types now owned or hereafter acquired in three (3) of the Non–Debtor entities involved in the present motion, namely: Raven Resources, LLC, an Oklahoma LLC; Oklamiss Investments, LLC, and Shimmering Sands Development Company, LLC. The Stewarts asserted that both of them, David and Terry, each hold a 1% interest in Oklamiss Investments, LLC, which in turn owns a 99% interest in Raven Resources, LLC. Mr. Stewart owns a 1% interest in Raven Resources, LLC, and a 50% interest in Shimmering Sands Development Company, LLC. The Stewarts acknowledged that one or both of them had conveyed their respective interests in Oklamiss Investments, LLC, to their three adult children by assignment dated in October 2011, nearly 3 years before the filing of the Involuntary Bankruptcy Petition by SEPH. The Stewarts also alleged that notwithstanding their lack, or de minimis, ownership of those Non–Debtors, those entities were subject to such debt that there was no equity in the Non–Debtor entities. Therefore, the Stewarts argued that any interest they held was of such inconsequential value or burdensome to the estate that it should be abandoned.

The Chapter 7 Trustee and SEPH objected to Stewarts' Motion to Order the Trustee to Abandon Property [Doc. 220]. The Trustee's position was that the Stewarts' disposition of their interests in the numerous limited liability companies and corporations were extremely complicated (pointing out that initial discovery had produced over 16,000 pages of documents), the transfers of the Stewarts' interests raised serious questions as to whether the same constituted avoidable fraudulent transfers and that the Trustee had not had sufficient time to properly evaluate the nature of the Stewarts' interests in the Non–Debtor entities.

The Trustee therefore requested that the Stewarts' Motion to Abandon be denied. Similarly, SEPH objected to the Motion to Abandon on several grounds including that the Trustee be afforded a reasonable time to consider abandonment; that the abandonment sought by the Stewarts would prevent the estate from recovering fraudulent transfers under §§ 544 and 548 in the event the Trustee or SEPH eventually conclude there were grounds for bringing such an action. [Doc. 221].

After conducting an evidentiary hearing on Stewarts' Motion to Order the Trustee to Abandon, which lasted four days, comprised 814 pages of transcript, included the testimony of five witnesses and allowed into evidence sixty-seven exhibits [Docs. 268 and 270], the Court entered its findings of fact and conclusions of law supporting its Order Denying Debtor's Motion for Order Directing Trustee to Abandon Personal Property on the grounds that the Stewarts had not brought forth sufficient evidence to establish that the membership interest in the various LLC's in question were burdensome to the estate precluding abandonment at this time and for the further reason to allow further investigation by the Trustee of Stewarts' affairs with regard to numerous transactions and entities, including the Non–Debtors. [Doc's. 353 and 328]. On January 5, 2016, the Trustee filed an adversary...