The Federal Arbitration Act (“FAA”) provides that arbitration agreements “shall be valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract.”  9 U.S.C. §2.  The FAA further provides that the court, “upon being satisfied that the issue involved in such suit or proceeding is referable to arbitration under such an agreement, shall on application of one of the parties stay the trial of the action until such arbitration has been had in accordance with the terms of the agreement * * * *.  9 U.S.C. §3.  Further, the Supreme Court determined that federal statutory claims can be appropriate for arbitration, noting:

In determining whether statutory claims may be arbitrated, we first ask whether the parties agreed to submit their claims to arbitration, and then ask whether Congress has evinced an intention to preclude a waiver of judicial remedies for the statutory rights at issue.

See, Alabama v. Randolph, 531 U.S. 79, 90 (2000).

In Shearson/American Express, Inc. v. McMahon, 482 U.S. 220, 226-27 (1987), the Supreme Court provided additional guidance, stating:

Like any statutory directive, the Arbitration Act’s mandate may be overridden by a contrary congressional command.  The burden is on the party opposing arbitration, however, to show that Congress intended to preclude a waiver of judicial remedies for the statutory rights at issue * * * *.  If Congress did intend to limit or prohibit waiver of a judicial forum for a particular claim, such an intent will be deducible from the statute’s text or legislative history or from an inherent conflict between arbitration and the statute’s underlying purposes.

Therefore, McMahon requires a showing that Congress intended to preclude a waiver of judicial remedies for the statutory rights at issue, and it places the burden of proof on the party opposing enforcement of the arbitration clause.

In both In re CGE Ford Height, L.L.C., 208 B.R. 825 (Bankr. D.Del. 1997), and In re Hydro Action, Inc., 266 B.R. 638 (Bankr. E.D.Tex. 2001), stand for the proposition that if a proceeding is non-core, the court has no authority to deny enforcement of an arbitration clause.  In contrast, if the underlying proceeding was core, then the court does have authority to deny enforcement of such a clause.  However, in this latter scenario, the court “must carefully determine whether any underlying purpose of the Bankruptcy Code could be adversely affected by enforcing the arbitration clause.”

The Third Circuit revisited this issue in In re Mintze, 434 F.3d 222 (3rd Cir.2006).  In this case, the debtor and American General Consumer Discount Company (“American General”) entered into a loan agreement.  The debtor subsequently filed a Chapter 13 petition.  After American General filed a proof of claim, the debtor filed a complaint seeking to enforce an alleged pre-petition rescission of the loan agreement.  American General filed a motion to compel arbitration, which the bankruptcy court denied.  The lender appealed, claiming that the court did not have the discretion to deny enforcement of the arbitration agreement.

Mintze noted that the core/non-core distinction did not affect whether a bankruptcy court has discretion to deny enforcement of an arbitration agreement.  Rather, “it merely determines whether the Bankruptcy Court has jurisdiction to make a full adjudication.” Id. at 229.  To overcome the presumption that an arbitration agreement is enforceable, a party must establish a Congressional intent to create an exception to the FAA’s mandate with respect to the party’s statutory claims.  Congressional intent could be discerned in one of three ways: (1) the statute’s text, (2) the statute’s legislative history, or (3) “an inherent conflict between arbitration and the statute’s underlying purposes.” Id.

Mintze found no evidence of Congressional intent to avoid the FAA either in the statutory text or the legislative history of the Bankruptcy Code (the “Code”).  Therefore, the bankruptcy court was left to determine whether there was an inherent conflict between arbitration and the Code.  In this regard, the court stated:

The statutory claims that Mintze has raised are based on TILA and several federal and state consumer protection laws.  Mintze has failed to raise any statutory claims that were created by the Bankruptcy Code.  With no bankruptcy issue to be decided by the Bankruptcy Court, we cannot find inherent conflict between arbitration of the Mintze federal and state consumer protection issues and the underlying purposes of the Bankruptcy Code.

In In re Try The World, Inc., 2021 WL 3502607 (Bankr. S.D.N.Y. August 9, 2021), the court described the type of core proceedings that might be impacted by an arbitration clause.  This case involved an eleven count adversary proceeding.  In general terms, the trustee sought to avoid and preserve the transfers under an asset purchase agreement as fraudulent transfers under state law and the Bankruptcy Code, and to recover the acquired assets or their value from the defendant.  Alternatively, the trustee sought to recover damages occasioned by the defendant’s alleged breach of the APA and to recover damages based on the defendant’s alleged unjust enrichment through its use of the acquired assets after the APA closed.  The APA included an Arbitration Clause pursuant to which the parties agreed that “all disputes, controversies, or claims arising out of or relating to this Agreement or a breach thereof shall be submitted to and finally resolved by arbitration under the rules of the American Arbitration Association * * * then in effect.”

The court started its analysis by noting that it must determine whether discrete claims can be arbitrated “on a claim-by-claim basis.” Id. at *7.  In this regard, an important aspect of the analysis is consideration of whether the claims that the trustee is asserting belong to the debtor or to estate’s creditors.  In other words, as the statutory successor to the debtor, and the estate representative, the Trustee is not simply the successor in interest to the debtor: he represents the interest of all creditors of the debtor’s bankruptcy estate.  Id.  As such, the trustee will stand in the shoes of the debtor and may bring any suit that the debtor could have brought prepetition.  Id.  When a trustee sues in this capacity, his rights are limited to the same extent as the debtor’s under applicable nonbankruptcy law.  “Consequently, because a trustee is bound by a debtor’s agreement to arbitrate claims, the ‘[c]laims that are derivative of [the debtor’s] rights may by subject to arbitration.’”  In contrast, if a trustee is asserting claims that belong to the creditors – like fraudulent transfer claims in this case, – the trustee is not bound by an arbitration clause and cannot be compelled to arbitrate those claims.  Id.

Further, as recognized in Mintze, the court stated that in considering whether a claim is subject to an otherwise enforceable arbitration clause, the court should focus on two factors: (i) whether the claim arises in a core or non-core proceeding, and (ii) if the claim is core, whether any underlying purpose of the Bankruptcy Code would be adversely affected by enforcing the arbitration clause.  Here, the court noted that not all “core” proceedings are the same.  There are “procedurally core” claims and “substantively core” claims.

Procedurally core claims are typically “garden variety pre-petition contract disputes dubbed core because of how the dispute arises or gets resolved.”  “[N]on-core claims against a creditor may turn into core claims after the creditor files a proof of claim since an adversary proceeding against such a creditor would affect the allowance or disallowance of the creditor’s claim.  * * * If an otherwise non-core claim aris[es] out of the same transaction as the creditor’s proof of claim, or the adjudication of the claim * * * require[s] consideration of the issues raised by the proof of claim * * * such that the two are logically connected, the claim is core.”  Objections to proofs of claim and counterclaims asserted by the estate are representative of procedurally core claims.  “The arbitration of a procedurally core dispute rarely conflicts with any policy of the Bankruptcy Code unless the resolution of the dispute fundamentally and directly affects a core bankruptcy function.”

In contrast, substantively core claims are typically not based upon the parties’ prepetition relationship, but instead “involve rights created under the Bankruptcy Code.”  These claims often are not subject to a contractual arbitration clause as parties likely did not agree to arbitrate them.  But even if they are covered, “it is more likely that arbitration will conflict with the policy of the Bankruptcy Code that created the right in dispute.”

In In re Paul, 399 B.R. 81, 108 (Bankr. D.Mass. 2008), the court stated that it must look to the underlying nature of the proceeding and determine whether the proceeding derives exclusively from the provisions of the Code and, if so, whether arbitration would conflict with the purpose of the Code.  If such a conflict exists, the court has the discretion to refuse to compel arbitration.  Here the issue involved the avoidance of claims, brought under Sections 544(b)(1), 547, 548, 549 and 550 of the Code.  First, the court noted that the avoidance rights at issue “are unique rights given to bankruptcy trustees on behalf of creditors of the estate and are not available to debtors outside the bankruptcy court.” Id. at 109.  As to Bankruptcy Code Section 544(b)(1), this section allows the trustee to assert on behalf of all creditors of the estate state law fraudulent transfer claims.  “As such, the claims are proceedings derived exclusively from the Bankruptcy Code.” Id. The court held that an inherent conflict existed as “arbitration will not serve the goal of centralized resolution of purely bankruptcy issues, the need to protect creditors from piecemeal litigation, and the undisputed power of a bankruptcy court to enforce its own orders.” Id.

The court then dealt with the trustee’s claim for equitable subordination under Section 510(c).

The Trustee’s claim for equitable subordination also arises exclusively under the Bankruptcy Code and is unique to bankruptcy proceedings.  With respect to the second part of the In re Nat’l Gypsum Co. analysis, I find that arbitration of this claim inherently conflicts with all the previously mentioned purposes of the Bankruptcy Code.  An arbitrator could not subordinate Heritage’s claim against the Debtors’ estates under 11 U.S.C. §510(c) without effecting the rights of other creditors.  As such, the determination of the priority of claims is solely a function of the bankruptcy courts and cannot be arbitrated.


Finally, Paul dealt with an objection to a claim under Section 502(b).  The court noted that the trustee’s objection to the claim, although partly sounding in contract, was clearly a proceeding derived exclusively from the provisions of the Code.  While the core/non-core distinction was not determinative, resolving a disputed claim is listed as a core matter under 28 U.S.C. §157(b)(2)(B).  Second, arbitration of the trustee’s objection to claim proceedings, which includes the determination of contract claims, would contravene the Code’s purpose of providing a central forum for the resolution of claims.  The court noted since other claims have been filed in the case, arbitration of these claims would require the trustee to resolve claims in multiple forums.  Id. at 111.  In denying the request for arbitration, the court also noted that resolution of these remaining counts in the bankruptcy court would also serve the purpose of expeditiously and equitably distributing the Debtor’s assets.  Id.

In re Payton Const. Corp., 399, B.R. 352 (Bankr.D.Mass.2009), Zurich American Insurance Company filed an application for allowance and payment of an administrative expense claim under one of its policies.  Zurich explained that the amounts represented unpaid premiums for a 2007 policy which provided coverage for the post-petition period.  In opposition to this administrative claim, the trustee asserted a right of set off.  In responding, the court first discussed the analysis provided in In re National Gypsum, 118 F.3d 1056 (5th Cir.1997), which can be summarized as follows: Bankruptcy courts lack discretion to refuse to compel the arbitration of matters not involving “core” bankruptcy proceedings under 28 USC §157(b), and even when the proceeding is core, the bankruptcy court may decline to enforce and otherwise applicable arbitration agreement only when (a) the underlying nature of the proceeding derives exclusively from the provisions of the Code (not from prepetition legal or equitable rights debtor) and (b) the arbitration of the proceeding would conflict with the purpose of the Code.

Payton suggested that this test had two problems.  First, the Supreme Court stated in McMahon that where there exists an inherent conflict between arbitration and a statute’s underlying purposes, then the arbitration should not be compelled.  The court noted that under the National Gypsum test, however, such an inherent conflict would not be enough to avert arbitration.  Arbitration would still be required, despite this inherit conflict, if the underlying action did not arise under the Code itself, as opposed to non-bankruptcy law.  The arising-under requirement is extraneous to the Supreme Court’s own prescription and would serve to require arbitration even where, under McMahon, a court discerns a Congressional intent to preclude a waiver of judicial remedies.  Therefore, according to Payton, the core/non-core status of a particular proceeding is not a dispositive indicator of whether arbitration would conflict with the purposes of the Code.  Id. at 362-63.

A bankruptcy case is a centralized and collective proceeding for which a special court and special rules were created.  These exist to facilitate the expeditious and relatively inexpensive resolution of all matters relating to a particular bankruptcy case, so as to make reorganization possible, enhance a debtor’s fresh start, and, where applicable, maximize value or expedite recovery for creditors.  In view of the unique and collective nature of bankruptcy cases, of the creation of the special forum for adjudication of matters in bankruptcy, and of the establishment of an elaborate body of rules for adjudication of bankruptcy­ related proceedings in the Bankruptcy Court, there arises a presumption that Congress intended for the Bankruptcy Court to be the principal and usual, if not exclusive, forum for most matters in bankruptcy, and that it should be available to debtors, creditors, and the estate representatives for bankruptcy purposes.

Id. at 363.

Payton noted that the administrative claim and turn over demand were ordinary, every day bankruptcy matters well within the scope of matters that Congress intended the bankruptcy courts would manage.  Therefore, the enforcement of the arbitration agreement as to present matters would force a trustee to litigate these matters in distant form and under unfamiliar rules, at appreciable expense to the estate with considerable delay.  Id. at 364.  The request for arbitration, therefore, was denied.

In In re Relativity Fashion, LLC, 696 Fed.Appx. 26 (2nd Cir. 2017), Netflix, Inc. appealed from a judgment of the district court, which affirmed an order of the United States Bankruptcy Court granting debtor Relativity Media, LLC’s Section 1142(b) motion to enforce its Chapter 11 reorganization plan and denying Netflix’s motion to compel arbitration.  On appeal, Netflix contended that the parties’ 2010 licensing agreement, as amended by two contracts assigning royalty payments to third-party lenders, authorized it to distribute two of Relativity’s films through its video-streaming service before those films were released in theaters.  Netflix also appealed the bankruptcy court’s denial of its motion to compel arbitration.

The Second Circuit stated that a bankruptcy court may retain jurisdiction over a core proceeding in spite of a mandatory arbitration provision if, in the exercise of its discretion, it concludes that any underlying purpose of the Bankruptcy Code would be adversely affected by enforcing [the] arbitration clause.  The court stated that relevant considerations include the goal of centralized resolution of pure bankruptcy issues, the need to protect creditors and reorganizing debtors from piecemeal litigation, and the undisputed power of a bankruptcy court to enforce its own orders.  Id. at 30.  In affirming the lower court’s decision, it stated:

Here, the bankruptcy court carefully weighed the “competing bankruptcy interests and arbitration interests” and concluded that granting Netflix’s motion to compel arbitration would permit a “collateral attack” on the “factual findings and distributions of property” underlying the confirmed Plan, which would cause “key” aspects of the Plan to “collapse[ ].”  Such a finding was not clearly erroneous, particularly in light of credited hearing testimony that permitting Netflix to stream films prior to their theatrical release dates would dramatically reduce box-office revenues integral to the Plan.  Thus, we identify no error in its denial of Netflix’s motion to compel arbitration.  Id. at 30.

In In re Anderson, 884 F.3d 382 (2nd Cir. 2018), a Chapter 7 debtor filed a putative class action to recover for a credit card issuer’s alleged violation of the discharge injunction under Section 524(a)(2) of the Bankruptcy Code in continuing to report, as “charged off,” credit card debt that had been discharged in bankruptcy.  Issuer moved to stay the proceeding and initiate arbitration in accordance with an arbitration clause in the debtor’s cardholder agreement with the bank.

The court stated started by noting that the FAA establishes a federal policy favoring arbitration.  This preference, however, is not absolute.  It noted that like any statutory directive, the Arbitration Act’s mandate may be overridden by a contrary congressional command.  Id. at 388.  The court noted that such Congressional intent may be discerned through the text of the statute, legislative history, or from an inherent conflict between arbitration and the statute’s underlying purposes.  Focusing on the third basis for disregarding arbitration, the court then stated:

In order to determine whether enforcement of an arbitration agreement would present an inherent conflict with the Bankruptcy Code, we must engage in a particularized inquiry into the nature of the claim and the facts of the specific bankruptcy.  The objectives of the Bankruptcy Code relevant to this inquiry include the goal of centralized resolution of purely bankruptcy issues, the need to protect creditors and reorganizing debtors from piecemeal litigation, and the undisputed power of a bankruptcy court to enforce its own orders.

Id. at 389 (quoting MBNA America Bank, N.A. v. Hill, 436 F.3d 104, 108 (2nd Cir. 2006).

The court held that under the facts of the instant case, the FAA did not compel arbitration.  It stated that it was well established that the discharge is the foundation upon which all other portions of the Bankruptcy Code are built.  Id. at 389.  It stated that “[t]he “fresh start” is only possible if the discharge injunction crafted by Congress and issued by the bankruptcy court is fully heeded by creditors and prevents their further collection efforts.  Violations of the injunction damage the foundation on which the debtor’s fresh start is built.” Id.  The court’s conclusion, was as follows: “because 1) the discharge injunction is integral to the bankruptcy court’s ability to provide debtors with the fresh start that is the very purpose of the Code; 2) the claim regards an ongoing bankruptcy matter that requires continuing court supervision; and 3) the equitable powers of the bankruptcy court to enforce its own injunctions are central to the structure of the Code.” Id. at 390.  The fact that Anderson’s claim comes in the form of a putative class action does not undermine this conclusion.


Matthew T. Gensburg
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