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IN THIS ISSUE:

Wellness on Bankruptcy Court

Jurisdiction: Practically

Speaking, Silence Can Mean

Consent 1

By Richard K. Milin and YitzhakGreenberg

No Fraud without a

Representation? 10

Randy Haines

Recent Decisions from the

Appellate Courts 14

Alexandra E. DuganJay Watkins

WELLNESS ON BANKRUPTCY COURT

JURISDICTION: PRACTICALLY SPEAKING,

SILENCE CAN MEAN CONSENT

By Richard K. Milin* and Yitzhak Greenberg**

Four years ago, in Stern v. Marshall,1 the Supreme Courtcreated great consternation by restricting bankruptcy courtjurisdiction to issue �nal judgments. The Court promised,however, that its decision “would not meaningfully chang[e]the division of labor” between the bankruptcy and districtcourts.2 The Court took a �rst step toward making good onthat promise in its 2014 decision in Executive Bene�ts Insur-ance Agency v. Arkison (In re Bellingham Insurance Agency),3

also known as “Bellingham,” by holding unanimously thatbankruptcy courts can issue proposed �ndings of fact andconclusions of law even when they lack jurisdiction to issue�nal judgments. Under Arkison, bankruptcy courts can issuejudgments as they always have, and if they lack jurisdictionto issue the judgments as �nal, the district court can simplyreview the judgments de novo.

In June 2015, in Wellness International Network, Ltd. v.Sharif,4 the Supreme Court took a further step towardpreserving bankruptcy court power to adjudicate: it held thatparties can consent to a bankruptcy court’s issuance of �nal

*Richard K. Milin is of counsel at DiConza Traurig Kadish LLP, wherehis practice focuses on bankruptcy and commercial litigation. He can bereached at [email protected].

**Yitzhak Greenberg is of counsel with Bronstein, Gewirtz & Gross-man, LLC, a litigation boutique in New York City. His practice is focusedon all aspects of bankruptcy, including the representation of both debtorsand creditors. He can be reached at [email protected].

May 2015 Issue 5

Monthly Analysis of Important Issues and Recent Developments in Bankruptcy Law

NORTON BANKRUPTCY LAW ADVISER

Editor in Chief: Hon. William L. Norton, Jr., United States Bankruptcy Judge (1971-1985), Gainesville, GeorgiaManaging Editor: Hon. Keith M. Lundin, United States Bankruptcy Judge, Nashville, TN

Mat #41674606

judgment even if the court otherwise lackedthe power to do so. As in Arkison, the Court’sreasoning in Wellness seems sensible, practicaland even inescapable. It may seem obviousthat parties can consent to bankruptcy courtissuance of �nal judgment; after all, they canconsent to resolve their dispute by arbitrationor even by a mutual friend. Yet Wellness, un-like Arkison, was far from unanimous: threeJustices dissented, and one concurred only inpart. Further, the Supreme Court’s four opin-ions in Wellness demonstrate that very signi�-cant questions about Stern’s rationale andimplications remain undecided. These ques-tions threaten the Court’s e�orts to bepractical.

The Wellness Decision and Its Rationale

Richard Sharif contracted with WellnessInternational to distribute health and nutri-

tion products.5 He later sued Wellness, butignored discovery requests, and ended up li-able for a default judgment plus more than$650,000 in sanctions. Sharif then �led aChapter 7 petition. Wellness alleged that hehad concealed assets during discovery in hisbankruptcy case and commenced an adversaryproceeding to object to the discharge of hisdebts. Sharif admitted that Wellness’s proceed-ing was “core” under 11 U.S.C.A. § 157, butagain evaded discovery, and again a defaultjudgment was entered against him. Un-daunted, Sharif appealed to the district court.6

Before Sharif �led his appellate brief, theSupreme Court decided Stern. It was monthslater, however, after brie�ng had closed, thatSharif �rst raised a jurisdictional objection.He sought to �le a supplemental brief arguingthat the judgment against him should beconsidered only a “report andrecommendation.” The district court rejectedSharif’s request as untimely.7 The SeventhCircuit reversed, however, holding that Sternobjections cannot be waived because theyimplicate “structural” separation of powersconcerns under Article III of the Constitution.8

The Seventh Circuit reasoned that Stern hadalready identi�ed the Supreme Court’s struc-tural concerns about bankruptcy courts’ adju-dication of common law claims, and noted thatthe Sixth Circuit had previously held thatStern objections are not waivable because ofthose concerns.9 The Seventh Circuit also ruledthat Wellness’s claim that a trust was Sharif’salter ego was a “Stern claim”—“core” under 28U.S.C.A. § 157, but not for purposes of ArticleIII—for which Sharif was entitled to adjudica-tion by an Article III court.10

The Supreme Court reversed. In a majorityopinion written by Justice Sotomayor,11 theCourt found the issues in Wellness easy toresolve: It held, based on “clear” precedent,that “Article III is not violated when the par-ties knowingly and voluntarily consent to

NORTON BANKRUPTCY LAW ADVISERMAY 2015 | ISSUE 5

Managing Editors:Hon. Keith M. Lundin, United States Bankruptcy Judge,

Nashville, TennesseeHon. Randolph J. Haines, United States Bankruptcy Judge

(2000-2014), Phoenix, ArizonaHon. William H. Brown, United States Bankruptcy Judge (1987-

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adjudication by a bankruptcy judge.”12 “Adjudi-cation by consent,” the Court reasoned, “isnothing new.”13 ‘‘ ‘[D]uring the early years ofthe Republic, federal courts, . . . , regularlyreferred adjudication of entire disputes to non-Article III referees’ ’’ when the litigantsconsented.14 Further, the Court held in Com-modity Futures Trading Commission v.Schor,15 that rights to constitutionally man-dated procedures are waivable unless theyimplicate a “structural principle” such as theseparation of powers. The Court found no such“structural principle” in Wellness, because “al-lowing Article I adjudicators to decide claimssubmitted to them by consent does not o�endthe separation of powers so long as Article IIIcourts retain supervisory authority over theprocess.”16

The Court next held that Article III courtsdo retain the necessary “supervisoryauthority.” The Court looked at this issue“practically,” focusing on four key factors ithad identi�ed in Schor: (1) ‘‘ ‘the extent towhich the essential attributes of judicial powerare reserved to Article III courts’ ’’; (2) theextent to which the non-Article III adjudicator‘‘ ‘exercises the range of jurisdiction and pow-ers normally vested only in Article III courts’ ’’;(3) the ‘‘ ‘origins and importance of the right tobe adjudicated’ ’’; and (4) ‘‘ ‘the concerns thatdrove Congress to depart from the require-ments of Article III.’ ’’17

Applying these factors, the Court noted thatbankruptcy judges, like magistrate judges, “areappointed and subject to removal by ArticleIIII judges, . . . serve as judicial o�cers of theUnited States district court . . . and collec-tively constitute a unit of the district court.”18

Also, “bankruptcy courts hear matters solelyon a district court’s reference . . . which thedistrict court may withdraw sua sponte or atthe request of a party.”19 As a result, “bank-ruptcy courts possess no free-�oating author-ity to decide claims traditionally heard by

Article III courts”; their power is limited to ‘‘ ‘anarrow class of common law claims as anincident to the [bankruptcy courts’] primary,and unchallenged, adjudicative function.’ ’’20

Moreover, “there is no indication that Congressgave bankruptcy courts the ability to decideStern claims in an e�ort to aggrandize itself orhumble the Judiciary.”21 “So long as [bank-ruptcy] judges are subject to control by theArticle III courts,” the Court concluded, “theirwork poses no threat to the separation ofpowers.” Indeed, “it is no exaggeration to saythat without the distinguished service of thesejudicial colleagues”—the bankruptcy and mag-istrate judges—“the work of the federal courtsystem would grind nearly to a halt.”22

Having presented its own practical,precedent-based analysis, the Court turned tothe central point in Chief Justice Roberts’dissent. The Court made clear that it was notholding, as Justice Roberts feared, that indi-vidual consent can cure a constitutionalviolation. Rather, consent means that there isno violation to cure: “[W]e do not rely onSharif’s consent to ‘cur[e]’ a violation of ArticleIII. His consent shows, in part, why no suchviolation occurred.”23 The Court even gentlymocked the dissent’s dark warnings and “omi-nous predictions” with a humorous if some-what inelegant allusion to Robert Frost: “Tohear the principal dissent tell it, the world willend not in �re, or ice, but in a bankruptcycourt.”24 The Court’s response was apt:

Adjudication based on litigant consent hasbeen a consistent feature of the federal courtsystem since its inception. Rea�rming thatunremarkable fact, we are con�dent, poses nogreat threat to anyone’s birthrights, constitu-tional or otherwise.25

In the �nal sections of its opinion, the Courtaddressed the question whether Sharif had, infact, impliedly consented to bankruptcy courtadjudication. The Court’s discussion, in whichJustice Alito did not join, was very brief, andits rationale was again both practical and

NORTON BANKRUPTCY LAW ADVISER MAY 2015 | ISSUE 5

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heavily based on precedent. In Roell v. With-row,26 the Court stated, it had already heldthat litigants could consent to adjudication bya magistrate judge “by actions rather thanwords.” Because any di�erent rule would be“in great tension with” Roell, “the impliedconsent standard articulated in Roell suppliesthe appropriate rule for . . . bankruptcycourts.”27 Further, the Court added, this stan-dard has “pragmatic virtues—increasing judi-cial e�ciency and checking gamesmanship.”28

Next, the Court provided a test for determin-ing whether implied consent is “knowing andvoluntary”: “Roell makes clear that the key in-quiry is whether ‘the litigant or counsel wasmade aware of the need for consent and theright to refuse it, and still voluntarily ap-peared to try the case’ before the non-ArticleIII adjudicator.”29 Because this test askswhether a litigant “was made aware” insteadof “was aware,” it is not obviously reconcilablewith the requirement that consent must be“knowing.” However, the Court o�ered a par-tial solution—it noted that it has proposedamendments to the Federal Rules of Bank-ruptcy Procedure that will require parties tostate expressly whether or not they consent to�nal decision by a bankruptcy court.30

Finally, the Court remanded the questionwhether Sharif himself knowingly and volun-tarily consented, noting that it “would requirea deeply factbound analysis” and “provide littleguidance to litigants or the lower courts.”31 Inconclusion, the Court restated its holding, thistime limited to Stern claims and omittingexpress reference to knowing and voluntaryconsent: “The Court holds that Article IIIpermits bankruptcy courts to decide Sternclaims submitted to them by consent.”32

The Wellness Concurrence and Dissents

Justice Alito concurred in part and concurredin the judgment. He joined in the Court’sopinion “insofar as it holds that a bankruptcy

judge’s resolution of a Stern claim with theconsent of the parties does not violate ArticleIII,” stating that the Court “faithfully applies”Schor. However, Justice Alito would not havedecided whether consent may be implied. Hepointed out that Bankruptcy Rule 7012(b)requires “express consent” to entry of �naljudgments by bankruptcy courts in non-coreproceedings, and that the Court has not de-cided “whether a Stern claim should be treatedas a non-core or core claim for purposes of thebankruptcy rules.”33 Further, Justice Alitostated that, according to the Seventh Circuit,Sharif “forfeited any Stern objection by failingto present that argument properly in thecourts below” rather than waiving it byconsent.34 In his view, “Stern vindicates ArticleIII, but that does not mean that Stern argu-ments are exempt from ordinary principles ofappellate procedure.”35

Chief Justice Roberts, joined by JusticesScalia and Thomas, would have resolved thecase by ruling that Wellness’s claim “thatSharif’s bankruptcy estate contained assets hepurportedly held in trust”—provided “that nothird party asserted a substantial adverseclaim to those assets”—is not a Stern claim: it“stems from the bankruptcy itself” rather thanfrom “traditional actions at common law” andis therefore within the adjudicatory power ofthe bankruptcy courts.36 Chief Justice Robertsargued that, “[a]t its most basic level, bank-ruptcy is ‘an adjudication of interests claimedin a res.’ ’’37 Wellness merely “asked the Bank-ruptcy Court to declare that assets held bySharif are part of that res” and “[d]e�ningwhat constitutes the estate is the necessarystarting point of every bankruptcy; a court can-not divide up the estate without �rst knowingwhat’s in it.”38 Accordingly, the Chief Justicestated, determining what is property ‘‘ ‘towhich the [debtor] may be entitled, either inlaw or equity, in any manner whatsoever’ . . .is peculiarly a bankruptcy power.”39

The Chief Justice also relied on the fact that



the 1898 Bankruptcy Act permitted “bank-ruptcy referees to exercise summary jurisdic-tion to determine whether property in theactual or constructive possession of a debtorshould come within the estate, at least whenno third party asserted more than a ‘merelycolorable’ claim to the property.”40 In his view,Wellness’s alter ego claim was more like deci-sions within referees’ summary jurisdictionthan like a fraudulent conveyance claim,“which this Court has implied must be adjudi-cated by an Article III court.” The distinction,the Chief Justice explained, is that “[a] fraud-ulent conveyance claim seeks assets in thehands of a third party, while an alter ego claimtargets only the debtor’s ‘second self.’ ’’41

Consequently, Wellness’s claim “falls withinthe narrow historical exception that permits anon-Article III adjudicator.”42

Chief Justice Roberts, now joined solely byJustice Scalia, went on to explain why, ifWellness’s alter ego claim were a Stern claim,he would not hold that “private parties mayconsent to an Article III violation.” In his view,the Court “lets down its guard” by relying on“pragmatic grounds” to permit a constitutionalviolation; as in the case of the line-item veto,“[a] branch’s consent to a diminution of itsconstitutional powers . . . does not mitigatethe harm or cure the wrong.”43 Moreover, “[i]fa branch of the Federal Government may notconsent to a violation of the separation of pow-ers, surely a private litigant may not doso”44—it is well established that litigant con-sent cannot create federal jurisdiction. TheChief Justice also pointed out that, in Sternitself, the Court concluded that allowing bank-ruptcy courts to adjudicate Stern claims would‘‘ ‘impermissibly threaten the institutional in-tegrity of the Judicial Branch’ ’’ and thatdistrict courts’ control of bankruptcy courtsdoes not remedy this threat. The Chief Justicedid not, however, o�er a direct response to themajority’s argument that, when litigantsconsent, there is no constitutional violation toremedy.45

Justice Thomas authored his own lengthydissent “to highlight a few questions touchingon the consent issue that merit closer atten-tion” and to “highlight the complexity of the is-sues the majority simply brushes past,” suchas “whether a violation has actuallyoccurred.”46 His dissent o�ers valuable insightsinto his own thinking and into the key consti-tutional distinction between “public” and“private” rights; he suggests, for example, thatconsent can in e�ect convert private rights intopublic rights. Because no other Justice joinedin Justice Thomas’s dissent, however, andbecause his reasoning is both inconclusive andabstract, his dissent is likely to be of limitedsigni�cance in future litigation. Ironically, byhighlighting just how complicated the issuespresented in Wellness can be, Justice Thomas’sdissent can be read as an unintentional en-dorsement of the majority’s pragmaticapproach.47

The Implications and Limits of the Wellness

Decision

Perhaps the greatest puzzle of Wellness maybe why the Court found the case to be so dif-�cult—in spite of Justice Sotomayor’s claimsto the contrary. In a world where arbitrationis favored and litigants can consent to havetheir legal disputes resolved on television, whyshould there be any problem with agreeing tohave cases resolved by a bankruptcy court?The Supreme Court’s four widely di�eringopinions suggest three main answers.

1. Consent to constitutional violations

First, although all nine Justices embracedthe principle that individual consent cannotremedy constitutional violations, they couldnot agree on a rationale that would allow par-ties to consent to bankruptcy court adjudica-tion without allowing consent to violations ofArticle III. The Justices’ concern to limit thee�ects of consent is understandable: it wouldtheoretically be possible for Congress to under-mine the Court system, without admitting any



desire to “aggrandize itself,” by providinglitigants with powerful incentives to waivetheir rights to Article III courts “voluntarily.”For example, Congress could underfund theArticle III courts without reducing federaljudges’ salaries, or could require seeminglysensible procedures—such as early neutralevaluation—which would force litigants toincur signi�cant additional costs and delays asthe price of a hearing before an Article IIIjudge. Further, Chief Justice Roberts had goodreason to be alarmed by the Court majority’sstatement that:

Congress could choose to rest the full shareof the Judiciary’s labor on the shoulders ofArticle III judges. But doing so would require asubstantial increase in the number of districtjudgeships. Instead, Congress has supple-mented the capacity of district courts throughthe able assistance of bankruptcy judges. Solong as those judges are subject to control bythe Article III courts, their work poses nothreats to the separation of powers.48

To Justice Roberts, this passage must haveseemed the thin edge of a very large wedge,because the Court majority seems blithely tocountenance what may be the greatest con-gressional threat to Article III Courts’independence: using budgetary constraints asan excuse to keep the number of judges lowwhile making Article I alternatives increas-ingly attractive. This threat, moreover, is notpolitically neutral: litigants’ ability to consentto adjudication before magistrate and bank-ruptcy judges relieves some of the politicalpressure on Congress to approve court nomi-nees proposed by a president from an opposingparty, or at a minimum, allows congressmento play for time. Thus, Congress could conceiv-ably use the mechanism of litigant consent toassist it in manipulating or weakening theArticle III courts.

Nevertheless, the Justices could not agreeon a test for when consent eliminates, andwhen it might purport to remedy, a violation

of Article III. The majority argued that Sharif’sconsent eliminated any constitutional viola-tion because his right to an Article III adjudi-cation was a “personal” right—but it did notexplain what makes a right “personal” or whywaiving such a right does not endanger theseparation of powers.49 Nothing seems more“personal” than the right to be free from crueland unusual punishment, for example, yet pre-sumably consenting to it could not make it con-sistent with the constitution.

Chief Justice Roberts did not even attemptto determine when consent might eliminaterather than remedy a constitutional violation,and concluded instead that parties cannotconsent to bankruptcy court jurisdiction. Forthe Chief Justice, the controlling principle wasthat “[a] ‘lack of federal jurisdiction cannot bewaived or be overcome by an agreement of theparties.’ ’’50 Yet this principle seems plainlyinapplicable—parties who consent to adjudica-tion by a bankruptcy judge do not thereby cre-ate federal jurisdiction any more than theywould if they consented to adjudication by aneighbor.

In contrast, Justice Thomas devotes much ofhis opinion to a historical and philosophicaldisquisition on the “complexity” of the ques-tion whether consent eliminates Article IIIviolations, but his answer is both merely tenta-tive and abstruse. He concludes that—maybe—consent converts “private” rights requiringArticle III adjudication into “public” rights thatdo not. But this suggestion seems too broad, inthat it would allow consent to negate suchconstitutional violations as cruel and unusualpunishment.

A simpler solution suggests itself: The Courtmight have ruled that the right to an ArticleIII adjudication is “personal” because it pro-tects a personal choice; it allows citizens to actor refrain from acting in a particular way, likethe rights to try their cases before juries, torefrain from testifying at their criminal trials,



to consent to or refuse billeting of soldiers orsearches of their homes, or to express theirreligion. Irrespective of whether a citizenchooses to exercise or to waive rights of thissort, the citizen’s free choice itself exercisesthe right and eliminates any constitutionalviolation. In contrast, when rights do notprotect personal choice, such as the rights tobe free from cruel and unusual punishment,denials of equal protection, takings of privateproperty or state establishments of religion,consent cannot eliminate the constitutionalviolation—the citizen is merely a passivevictim who can consent, at most, to waive aremedy for the violation.

This distinction no doubt needs re�nement,but it appears consistent with the Court’sidenti�cation of waivable “personal” rights. Ata minimum, if the Court had devoted more at-tention to determining when consent elimi-nates rather than excuses constitutional viola-tions, they might have come closer to aunanimous decision in Wellness. They alsomight have focused on an issue that seems atleast as important to protecting the separationof powers as the four “structural” factors theCourt majority addressed: whether Congressplaced undue burdens on the right to choosean Article III judge when it permitted, but tookno steps to encourage, adjudication by bank-ruptcy judges. Because Congress imposed noundue burdens, costs or delays on Article IIIadjudication, Wellness seems unlikely to en-danger the separation of powers.

2. Implied consent

The second reason why the Court found thequestions in Wellness di�cult is the Justices’ambivalence toward implied consent. If merelyimplied consent can deprive litigants of theright to an Article III adjudication, thenrequiring consent cannot reliably protect theArticle III courts. Yet, as the Court majoritynotes, never to recognize implied consentwould encourage gamesmanship by litigants

who can plausibly deny having known of theirrights. Also, as Judge Alito pointed out, Bank-ruptcy Rule 7012 requires “express consent” tobankruptcy court adjudication of non-coreproceedings, and the Court has not yet decidedwhether Stern claims are “non-core” for pur-poses of the Rule.

Given these complexities, only �ve Justiceswere willing to endorse implied consent inWellness even in principle, and they providedno guidance as to when a litigant has been“made aware” of his or her rights su�cientlyto be deemed actually aware of those rights.As a result, lawyers must exercise consider-able diligence to preserve rights that aremerely arguable under current case law, andto argue, for reasons suggested above, that anyinvoluntary waiver resulted from an undueburden on litigants’ rights. Also, it seems bothlikely and bene�cial that courts will increas-ingly rely on procedural rules requiring ex-press consent or imposing forfeitures ratherthan engaging in subjective, factually intensiveinquiries concerning implied consent.

3. Identi�cation of “Stern” claims

A third reason why the Court found Well-ness di�cult is its (understandable) disagree-ment or uncertainty concerning exactly whatconstitutes a Stern claim. The Court majoritysimply assumed that the alter ego claim inWellness was a Stern claim, but the three dis-senters determined that it “likely” was not,51

and Chief Justice Roberts’ analysis on theirbehalf is a good example of why Stern seemsdestined to continue to create a great deal ofconsternation.

Even to reach his less than de�nitive conclu-sion that Wellness’s alter ego claim “likely”was not a Stern claim, Chief Justice Robertswas required to examine Blackstone’s Com-mentaries, the American bankruptcy statutesof 1800 and 1898 and numerous SupremeCourt precedents stretching back to 1902.



Based on this history, Justice Roberts con-cluded that “[i]dentifying property that consti-tutes the estate has long been a central featureof bankruptcy adjudication,” and gatheringtogether “all the estate, real and personal, ofevery nature and description to which the[debtor] may be entitled, either in law orequity, in any manner whatsoever” is “pecu-liarly a bankruptcy power.”52 Yet the ChiefJustice also indicates, without expressly stat-ing, that this “peculiarly bankruptcy power”does not extend to situations in which a “thirdparty assert[s] a substantial adverse claim” tothe estate’s assets.53 Further, he assumes thatfraudulent conveyance claims “must be adjudi-cated by an Article III court,” though he statesthat the Court has only “implied” this view todate and does not express a de�nitive view ofhis own.54

Thus, notwithstanding the Chief Justice’sassertions that determining what constitutesproperty of the estate is a peculiarly bank-ruptcy power, his logic dictates the exactopposite: pulling property into a bankruptcyestate, with the exception of the rare alter egoclaim, almost always implicates substantialadverse claims of third parties. Consequently,potentially every attempt to recover prefer-ences, fraudulent conveyances, post-petitiontransfers, or property in the possession ofindividuals or entities who have seto� claims(as banks often do) would seem to requireArticle III adjudication unless the party in pos-session of the debtor’s property consents tobankruptcy court adjudication either expresslyor by implication. Further, debtors such asSharif can deprive the bankruptcy courts of ju-risdiction to issue �nal judgment simply by be-ing careful when they create their phonytrusts—if they name their spouses, their chil-dren or anyone else as a bene�ciary, thenamed bene�ciary may well have a substantialadverse claim. Thus, Chief Justice Robertsimplies that bankruptcy courts will have arelatively free hand in the future only in

distributing property that is already in debt-ors’ estates—in gathering the property of theestate, they will be severely constrained. Still,the Supreme Court majority has not yet madeits views known on this di�cult question.

Conclusion

Despite the Supreme Court’s assurances inStern, Arkison and Wellness that it will notmake “meaningful” changes in the division oflabor between the bankruptcy and districtcourts, the Court’s jurisprudence—at least asthe Chief Justice presents it—may proveotherwise. After Stern, a very large bankruptcy“megacase” may quickly prove unwieldy, asthousands of avoidance actions and other at-tempts to gather estate assets—actions thatwere left to the bankruptcy court in the daysof Enron and Worldcom—become subject to denovo review. At a minimum, defendants arelikely to be in a stronger position, becausedebtors cannot easily a�ord de novo review ofthe scores of actions that they typically arerequired to bring, or at least threaten, in theprocess of gathering estate assets. The bank-ruptcy process itself seems likely to be bur-dened as a result. It remains possible, however,that the “practical” analysis the Court em-ployed in Arkison and Wellness will prevail,and that the Supreme Court will �nd a way topreserve the essence of the constitutional rightto an Article III adjudication while still en-abling the courts, both Article III and ArticleI, to do their jobs. In doing so, the Court mayeven rely on the eminently �exible doctrine ofimplied consent.

ENDNOTES:1Stern v. Marshall, ——— U.S. ———, 131 S.

Ct. 2594, 180 L. Ed. 2d 475 (2011).2Stern v. Marshall, 131 S. Ct. at 2620.3Executive Bene�ts Ins. Agency v. Arkison

(In re Bellingham Ins. Agency), ——— U.S. ———,134 S. Ct. 2165, 189 L. Ed. 2d 83 (2014).

4Wellness Int’l Network, Ltd. v. Sharif, ———



U.S. ———, 135 S. Ct. 1932 (2015).5Wellness Int’l Network, Ltd. v. Sharif, 135

S. Ct. at 1940.6Wellness Int’l Network, Ltd. v. Sharif, 135



F.3d 751 (7th Cir. 2013).9Wellness Int’l Network, Ltd. v. Sharif, 135

S. Ct. at 1941-42.10Wellness Int’l Network, Ltd. v. Sharif, 135

S. Ct. at 1942.11Justice Sotomayor was joined by Justices

Kennedy, Ginsburg, Breyer and Kagan; JusticeAlito joined in part, �ling a separate opinionconcurring in part and concurring in judgment.

12Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1939.


14Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1942 (citations omitted).

15Commodity Futures Trading Comm’n v.Schor, 478 U.S. 833, 106 S. Ct. 3245, 92 L. Ed.2d 675 (1986).


17Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1944 (quoting Commodity FuturesTrading Comm’n v. Schor, 478 U.S. at 851).

18Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1944-45 (citations and internal cita-tions omitted).

19Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1945 (internal citations omitted).

20Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1945 (quoting Commodity FuturesTrading Comm’n v. Schor, 478 U.S. at 855).


22Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1939-40 (footnote omitted).

23Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1945 n.10.



26Roell v. Withrow, 538 U.S. 580, 123 S. Ct.1696, 155 L. Ed. 2d 775 (2003).



29Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1948 (quoting Roell v. Withrow, 538U.S. at 590)

30Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1948 & n.13.



33Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1949 (Alito, J., concurring).

34Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1949 (Alito, J., concurring).

35Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1949-50 (Alito, J., concurring).

36Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1950 (Roberts, C.J., dissenting).

37Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1955-56 (Roberts, C.J., dissenting)(quoting Katchen v. Landy, 382 U.S. 323, 329,86 S. Ct. 467, 15 L. Ed. 2d 391 (1966)).



40Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1953 (Roberts, C.J., dissenting) (quot-ing Mueller v. Nugent, 184 U.S. 1, 15, 22 S.Ct. 269, 46 L. Ed. 405 (1902)).



43Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1950, 1955 (Roberts, C.J., dissenting).


45Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1956-59 (Roberts, C.J., dissenting).

46Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1961 (Thomas, J., dissenting).

47Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1961-69 (Thomas, J., dissenting).




49Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1943-44.

50Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1956 (Roberts, C.J., dissenting) (quot-ing Mitchell v. Maurer, 293 U.S. 237, 244, 55S. Ct. 162, 79 L. Ed. 338 (1934)).

51Chief Justice Roberts states that “ArticleIII likely poses no barrier to the BankruptcyCourt’s resolution of Wellness’s claim,” appar-ently because the presence of “a ‘substantialadverse’ claim.” Wellness Int’l Network, Ltd.v. Sharif, 135 S. Ct. at 1952-53 (Robert, C.J.,dissenting) (emphasis added).

52Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1952 (Roberts, C.J., dissenting) (cita-tions omitted).

53Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1953 (Roberts, C.J., dissenting) (cita-tions omitted).

54Wellness Int’l Network, Ltd. v. Sharif, 135S. Ct. at 1953-54 (Roberts, C.J., dissenting)(citations omitted).

NO FRAUD WITHOUT A

REPRESENTATION?

Randy HainesChief Bankruptcy Judge (retired)Phoenix, Arizona

In Husky Int’l Electronics, Inc. v. Ritz (In reRitz),1 the Fifth Circuit recently held that no“actual fraud” is made nondischargeable by§ 523(a)(2) unless it is accomplished by a mis-representation on which the creditor relies:“[W]e conclude that a representation is a nec-essary prerequisite for a showing of ‘actualfraud’ under Section 523(a)(2)(A).”2 In so hold-ing, the Fifth Circuit adopted a surprisinglyconstricted view of the kinds of fraud that theBankruptcy Code makes nondischargeable,created a circuit split with the Seventh Cir-cuit’s holding in McClellan v. Cantrell,3 ignoredfour centuries of bankruptcy law, and misap-plied statutory interpretation and legislativehistory.

The creditor, Husky International Electron-

ics, Inc., had sold electronic components oncredit to Chrysalis Manufacturing Corp. untilalmost $164,000 was owed and past due.Daniel Ritz owned and controlled Chrysalis.During six months while Chrysalis operatedbut was not paying its debts as they came due,Ritz transferred over a million dollars ofChrysalis’ funds to various entities that hecontrolled, for which Chrysalis did not receiveany reasonably equivalent value.

Husky sued Ritz to hold him personally li-able for the $164,000 corporate debt. Ritz �ledChapter 7. In his Chapter 7 case, Huskyobjected to the discharge of its debt on groundsof § 523(a)(2), (a)(4) and (a)(6). After trial, thebankruptcy court concluded that Ritz hadorchestrated the transfers of Chrysalis’ fundswithout reasonably equivalent value, thatHusky had su�ered at least $164,000 in dam-ages because of those transfers, and that Ritzwas not a credible witness due to his contra-dictory and evasive testimony. Yet the courtheld that Ritz’s personal liability could bedischarged under § 523(a)(2) because he nevermade a misrepresentation to Husky on whichHusky had relied. On appeal, the district courtconcluded that although there was su�cientcircumstantial evidence to �nd that Ritz hadacted with actual intent to hinder, delay ordefraud Husky, there was no actual fraudunder § 523(a)(2) in the absence of amisrepresentation. The Fifth Circuit a�rmed.

The Fifth Circuit held there can be no non-dischargeable “actual fraud” under § 523(a)(2)in the absence of a misrepresentation and cred-itor reliance. In doing so it primarily relied onthe Supreme Court’s rationale in Field v.Mans,4 and rejected in toto Judge Posner’ssubsequent analysis of Field in McClellan.5

Field, of course, dealt only with the level ofreliance required when the fraud alleged for§ 523(a)(2) purposes consists of amisrepresentation: “In this case we considerthe level of a creditor’s reliance on a fraudu-



lent misrepresentation necessary to [make adebt nondischargeable]. While the Court of Ap-peals followed a rule requiring reasonable reli-ance on the statement, we hold the standardto be the less demanding one of justi�ablereliance[.]”6 From this narrow consideration ofthe requisite level of reliance on an allegedmisrepresentation, it is quite a stretch toconclude that the same opinion also held thatthe only kinds of frauds cognizable under§ 523(a)(2) are misrepresentations. Nonrepre-sentational fraudulent conduct was never atissue in Field. It is hard to conceive how thedecision in Field could be read to express anyview on that other subject; it would have beendictum at best if it did.

The Fifth Circuit opinion in Ritz never sug-gests that Field actually addressed nonrepre-sentional frauds. The closest Ritz came to suchan analysis was to suggest that Field hadrelied on the Restatement of Torts (Second)dealing with “fraudulent misrepresentation,”noting that it required actual and justi�ablereliance: “Although not directly addressing theissue, the Court throughout its opinion in Fieldappeared to assume that a false representa-tion is necessary to establish ‘actual fraud.’. . . [Both the Restatement (Second) of Tortsand Prosser’s Law of Torts] indicate that a rep-resentation is a necessary prerequisite [of an‘actual fraud’].”7

Ritz e�ectively holds that there can be no“actual fraud” without a misrepresentation.This is a dramatic narrowing of at least a fourhundred year old common law concept of fraud.According to Lord Coke, the Star Chamberconcluded in Twyne’s Case that there is “actualfraud” inherent in a conveyance of assets withintent to hinder, delay or defraud creditorseven when there has been no representationor misrepresentation: “And it was resolved bySir Thomas Egerton, Lord Keeper of the GreatSeal, and by the Chief Justice Popham andAnderson, and the whole Court of Star Cham-ber, that this gift was fraudulent, within

the statute of 13 Eliz.”8 But the Fifth Circuitwas explicit that it was rejecting this historicconcept of fraud: “Husky has pointed to noauthority, and we are not aware of any, sug-gesting that the common law meaning of‘actual fraud’ . . . [in 1978] encompassedfraudulent transfers of the type at issue here.”9

Hypertechnically, perhaps, it could be ar-gued that Twyne’s Case did not establish anycommon law meaning of actual fraud becauseit was merely an interpretation of the Statuteof Elizabeth, a statutory interpretation, notcommon law. But the Supreme Court hasrepeatedly held that the “Statute of Elizabethwas declaratory of the common law”,10 andmore recently that fraudulent transfer actionsare common law actions.11

It is particularly surprising that the FifthCircuit panel could make this error of histori-cal common law despite actually considering,and rejecting, Judge Posner’s superb analysisin the McClellan opinion. McClellan dealt withalmost exactly the same fact pattern: a credi-tor who was not paid for selling machinery toMr. Cantrell sought to enjoin his furthertransfer of the machinery, but before theinjunction was issued he transferred themachinery to his sister for no consideration,and she sold it for $160,000.12 When she �ledbankruptcy, the issue was whether the cred-itor’s claim against her was dischargeable. Thebankruptcy court dismissed the nondischarge-ability complaint because the Supreme Court“recently sco�ed at the idea that a debt couldbe nondischargeable under the fraud exceptionof § 523(a)(2)(A) without a showing of materialmisrepresentation and reliance on thestatement.”13 The Seventh Circuit reversedbecause “nothing in the Supreme Court’sopinion [in Field] suggests that misrepresenta-tion is the only type of fraud that can give riseto a debt that is not dischargeable under§ 523(a)(3)(A). No other type of fraud was al-leged in [Field] or discussed in the opinion.”14



The McClellan opinion went on to note that“by distinguishing between ‘a false representa-tion’ and ‘actual fraud,’ the statute[§ 523(a)(2)(A)] makes clear that actual fraudis broader than misrepresentation. . . . Nolearned inquiry into the history of fraud is nec-essary to establish that it is not limited tomisrepresentations and misleadingomissions.”15 Of course if that “learned inquiry”were undertaken it would start with Twyne’sCase, establishing that a transfer of assetswith intent to hinder, delay or defraud credi-tors is a type of fraud recognized by the com-mon law. Indeed, it is the essence of the “bustout” scheme that led to England’s establish-ment of both the death penalty for fraudulentdebtors and the discharge for honest debtors.16

It does not require any representation ormisrepresentation.

It is a rather strong “plain meaning” argu-ment that § 523(a)(2)’s reference both to “afalse representation” and to “actual fraud”implies that “actual fraud” must mean some-thing more than “a false representation.” Tothis argument the Fifth Circuit’s opinionrather lamely responded that the canonagainst surplusage is not dispositive butmerely a guide that can be overcome by otherindications of congressional intent.17 For evi-dence of this contrary congressional intent, theopinion references Collier’s comment that theaddition of “actual fraud” to § 523(a)(2) in the1978 code “was intended to codify case law . . .which interpreted ‘fraud’ to mean actual orpositive fraud rather than fraud implied bylaw.”18

In this respect the Fifth Circuit’s legislativehistory is factually wrong, as well as Collier’scomment if it meant what the Fifth Circuitsays. Clearly, of course, use of the word “ac-tual” was intended to exclude constructivefraud, as the Congressional Record Statementsaccompanying the Reform Act of 1978 madeclear.19 But that does not explain why “actual

fraud” was added to the predecessor of§ 523(a)(2)(A). The predecessor was Bank-ruptcy Act § 17a(2), which made nondischarge-able “liabilities for obtaining money or prop-erty by false pretenses or falserepresentations.” It did not reference “fraud”at all, and it is di�cult to believe that anycourt would have concluded that “false repre-sentations” could have included constructivefraud. So, although the Code’s addition of“actual fraud” was clearly not intended to addconstructive fraud, what was it intended toadd to § 523(a)(2)? Nothing in either the FifthCircuit or the Seventh Circuit opinion suggestswhat must have been intended: the SeventhCircuit assumes something must have beenintended; the Fifth Circuit assumes no addi-tion must have been intended, only alimitation.

The answer is not hard to �nd. Under Bank-ruptcy Act § 17a, “fraud” was referenced onlyin § 17a(4), the predecessor to § 523(a)(4). Thatsection rendered nondischargeable debts “cre-ated by his fraud, embezzlement, misappropri-ation or defalcation while acting as an o�ceror in any �duciary capacity.” It was the 1973Bankruptcy Commission that �rst proposedmoving the “standard of ‘fraud’ . . . to a moreappropriate location in clause 2.”20 Thus, theCommission’s intent was not to narrow thekind of fraud made nondischargeable, butrather to broaden it by removing it from thecontext of “embezzlement, misappropriation ordefalcation while acting as an o�cer or in any�duciary capacity,” as Act § 17a(4) had read.

Even if the Commission’s report is notregarded as reliable legislative history, itshould be su�cient to refute the Fifth Circuit’sconclusion that the legislative intent was toadd mere surplusage to “misrepresentation.”Indeed, the incontrovertible fact that “fraud”was moved from § 17a(4) to § 523(a)(2) impliesthat Congress intended to accomplish some-thing by making that change, and that “fraud”in § 523(a)(2) should reference the same kind



of frauds as it had in § 17a(4) so long as it wasactual and not constructive. If it was notintended to encompass the kind of intention-ally fraudulent transfers by Ritz, and likethose of Pitkin and by Pierce to Twyne, thenwhat kind of nonrepresentational actual fraudswas is it intended to include? Nothing in theFifth Circuit opinion suggests what could havebeen intended.

Perhaps a better argument against the ap-plication of § 523(a)(2) is that it applies only todebts for money “obtained by” actual fraud.Ritz could have argued that the debt to Huskywas not obtained by fraud, but was merely adebt arising from his corporation’s purchase ofgoods on credit. But on that argument JudgePosner’s analysis in McClellan is also veryprecise. The allegedly nondischargeable debtin McClellan was not that of Mr. Cantrell butrather that of his sister. Similarly in Ritz, thedebt at issue was not the debt of ChrysalisManufacturing, but rather the personal debtof Ritz. Just like in McClellan, the “originaldebt arose from a loan, but is not the debt atissue here. The debt at issue here is the debtthat [Ritz] incurred . . . by committing a fraudagainst [the creditor]. Because it was an actualfraud, the debt that it gave rise to is notdischargeable.”21

The Ritz opinion creates a circuit split andis demonstrably wrong. Perhaps this is a goodcase for the Fifth Circuit’s unique procedurefor sua sponte panel reconsideration.22

Author’s Note:

After this article went to press, the FirstCircuit issued an opinion contrary to the FifthCircuit's holding in Ritz, and concurring withthe Seventh Circuit's holding in McClellan thatparticipation in an actual fraudulent transfercan render a debt nondischargeable under sec-tion 523(a)(2) without a misrepresentation. Itcontains good analysis based not only on thetext, history and structure of the Bankruptcy

Code and Act but also on the Restatement(Second) of Torts section 871 which identi�es atype of fraud that is broader thanmisrepresentation. The case is Sauer Inc. v.Lawson (In re Lawson), No. 14-2058, 2015 WL3982395 (1st Cir. July 1, 2015).

ENDNOTES:

1Husky Int’l Elecs., Inc. v. Ritz (In re Ritz),787 F.3d 312 (5th Cir. 2015).

2In re Ritz, 787 F.3d at 321.3McClellan v. Cantrell, 217 F.3d 890 (7th

Cir. 2000).4Field v. Mans, 516 U.S. 59, 116 S. Ct. 437,

133 L. Ed. 2d 351 (1995).5McClellan v. Cantrell, 217 F.3d at 892

(“Actually Field has nothing to do with thiscase. The fraud there took the form of a mis-representation, and the only issue was thenature of the reliance that a plainti� mustshow to prove fraud in such as case.”).

6Field v. Mans, 516 U.S. at 62, 116 S. Ct.at 439.

7In re Ritz, 787 F.3d at 318.8Twyne’s Case, 3 Co. Rep. 806, 76 Eng. Rep.

809 (Star Chamber 1601) (emphasis added).9In re Ritz, 787 F.3d at 319.10Sumner v. Hicks, 67 U.S. (2 Black) 532,

534, 17 L. Ed. 355 (1862) (“The Statute of Eliz-abeth was declaratory of the common law. Inthe absence of such legislation the commonlaw would have accomplished the sameresults.”). See also Coder v. Arts, 213 U.S. 223,29 S. Ct. 436, 53 L. Ed. 772 (1909) (“This formof expression [intent to hinder, delay, ordefraud creditors] is familiar to the law offraudulent conveyances, and was used at thecommon law, and in the statute of Elizabeth. . . . [I]n [Act] § 67e, transfers fraudulentunder the well-recognized principles of thecommon law and the statute of Elizabeth areinvalidated.”) (emphasis added).

11See, e.g., Stern v. Marshall, ——— U.S.———, 131 S. Ct. 2594, 2614, 180 L. Ed. 2d 475(2011) (“[In Gran�nanciera,] [w]e reasonedthat fraudulent conveyance suits were ‘quint-essentially suits at common law[.]”); Gran�-nanciera, S.A. v. Nordberg, 492 U.S. 33, 56,109 S. Ct. 2782, 106 L. Ed. 2d 26 (1989)(“There can be little doubt that fraudulent



conveyance actions by bankruptcy trustees. . . are quintessentially suits at commonlaw[.]”).

12McClellan v. Cantrell, 217 F.3d at 892.13McClellan v. Cantrell, 217 F.3d at 892.14McClellan v. Cantrell, 217 F.3d at 892.15McClellan v. Cantrell, 217 F.3d at 893.16Emily Kadens, The Pitkin A�air: A Study

of Fraud in Early English Bankruptcy, 84 Am.Bankr. L.J. 483 (2010).

17In re Ritz, 787 F.3d at 320.18In re Ritz, 787 F.3d at 320 (quoting Alan

N. Resnick & Henry J. Sommer, Collier onBankruptcy ¶ 523.08[01][e] (16th ed. 2014)).

19“Subparagraph (A) is intended to codifycurrent case law. [See,] e.g., Neal v. Clark, 95U.S. (5 Otto) 704, 24 L. Ed. 586 (1877), whichinterprets ‘fraud’ to mean actual or positivefraud rather than fraud implied in law.” 124Cong. Rec. H11095-96 (daily ed. Sept. 28,1978); S17412 (daily ed. Oct. 6, 1978) (remarksof Rep. Edwards and Sen. DeConcini).

20Report of the Commission of the Bank-ruptcy Laws of the United States, H.R. Doc.93-137, at 139 (1973).

21McClellan v. Cantrell, 217 F.3d at 895.22See, e.g., Smith v. Associates Comm.

Corp. (In re Clark Pipe & Supply Co.), 893 F.2d693, 695 (5th Cir. 1990) (“Treating the sugges-tion for rehearing en banc �led in this case byAssociates Commercial Corporation . . . , as apetition for panel rehearing, we hereby grantthe petition for rehearing. After re-examiningthe evidence in this case and the applicablelaw, we conclude that our prior opinion was inerror. We therefore withdraw our prior opinionand substitute the following.”).

RECENT DECISIONS FROM THE

APPELLATE COURTS

Alexandra E. Dugan

Jay WatkinsBradley Arant Boult Cummings, LLP

Nashville, TNBirmingham, AL

FIFTH CIRCUIT

Cantu v. Schmidt (In re Cantu), 784 F.3d253 (5th Cir. 2015). The estate su�ered injuryprior to conversion from Chapter 11 to Chapter7 caused by counsel’s failure to timely requestuse of cash collateral, failure to schedule as-sets and failure to submit a con�rmable plan.The estate was entitled to all malpracticesettlement funds because the proper methodfor determining whether the cause of actionbelongs to the estate or the debtor under § 541is the accrual approach.

Buescher v. First United Bank & Trust (Inre Buescher), 783 F.3d 302 (5th Cir. 2015).Bankruptcy court did not err in denying dis-charge of both husband and wife. Husband’sguaranty of business loan gave lender an inrem claim against all community propertyunder Texas law giving lender standing under11 U.S.C.A. § 727(c)(1) as creditor of wife toobject to wife’s discharge under § 727(a)(3).Creditor was under no obligation to seekdiscovery directly from debtors and couldprevail on discharge complaint based on discov-ery obtained from trustee.

Barron & Newburger, P.C. v. Texas Skyline,Ltd. (In re Woerner), 783 F.3d 266 (5th Cir.2015) (en banc). Overruling Andrews & KurthL.L.P. v. Family Snacks, Inc. (In re Pro-SnaxDistributors, Inc.), 157 F.3d 414 (5th Cir.1998), prospective, “reasonably likely to bene-�t the estate” standard applies to determineawards of attorney fees under § 330.

SEVENTH CIRCUIT

Sullivan v. Glenn, 782 F.3d 378 (7th Cir.2015). Debtors’ agent’s fraud will not beimputed to debtors for purposes of nondis-chargeability under § 523(a)(2)(A) unless ‘‘ ‘itis accompanied by proof which demonstratesor justi�es an inference that the debtor knewor should have known of the fraud.’ ’’ More-



over, creditor was in as good a position as thedebtors to have detected the fraud by perform-ing due diligence.

NINTH CIRCUIT

Pensco Trust Co. v. Tristar Esperanza Props.,LLC (In re Tristar Esperanza Props., LLC),782 F.3d 492 (9th Cir. 2015). Claim based onstate court judgment arising from minoritymembership interest in debtor is subject tomandatory subordination because the claim is“for damages arising from the purchase orsale” of “a security of the debtor” under§ 510(b).

TENTH CIRCUIT

Davis v. Pham (In re Nguyen), 783 F.3d 769(10th Cir. 2015). Chapter 7 debtor’s transfer ofbare legal title to real property to sister lessthan two years prior to bankruptcy �ling wasnot avoidable under § 548(a)(1)(B). UnderKansas law, the transfer resulted in a trustcomparable to joint tenancies. Debtor held onlybare legal title to the real property, an interestthat could not be avoided under § 548(a)(1)(B).



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