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From the Top in Brief: U.S. Supreme Court Bankruptcy Roundup

Appointment of PROMESA Financial Oversight Board Was Constitutional

In Financial Oversight and Management Board for Puerto Rico v. Aurelius Investment, LLC, No. 18-1334, 590 U.S. ___ (June 1, 2020), the Supreme Court rejected a constitutional challenge to Congress's scheme for addressing Puerto Rico's fiscal crisis. In response to that crisis, Congress enacted the Puerto Rico Oversight, Management, and Economic Stability Act ("PROMESA"). PROMESA created a Financial Oversight and Management Board ("Board") with seven voting members. PROMESA permitted President Obama to appoint one member of the Board. He chose six more from a list of candidates provided by Congressional leaders.

The Appointments Clause of the U.S. Constitution (Art. II, § 2, cl. 2) provides that the President "shall nominate, and by and with the Advice and Consent of the Senate, shall appoint … all … Officers of the United States …." Under PROMESA, Senate confirmation would have been required for any of the six additional members of the Board appointed by the President if they had not been on the list provided by Congressional leaders. Because they were on the list, the President appointed the entire Board without the advice and consent of the U.S. Senate.

In Article III of PROMESA, Congress authorized the Board to file debt-adjustment proceedings on behalf of Puerto Rico or its instrumentalities, to supervise and modify Puerto Rico's laws and budget, and to gather evidence and conduct investigations in support of these efforts. In May 2017, the Board filed debt-adjustment petitions in the U.S. District Court for the District of Puerto Rico on behalf of Puerto Rico and five of its instrumentalities. Both the district court and the Board had decided a number of matters in the cases when several creditors moved to dismiss on the ground that the Board members' selection violated the Appointments Clause's Senate confirmation requirements. The district court denied the motions, but the U.S. Court of Appeals for the First Circuit reversed. It ruled that the Board members' selection violated the Appointments Clause but concluded that any Board actions taken prior to its decision were valid under the "de facto officer" doctrine.

The Supreme Court reversed unanimously. Writing for the Court, Justice Breyer acknowledged that the Appointments Clause governs the appointment of all officers "of the United States," including such officers located in Puerto Rico. However, he noted, two provisions of the Constitution—Art. I, § 8, cl. 17 and Art. IV, § 3, cl. 2—"empower Congress to create local offices for the District of Columbia and for Puerto Rico and the Territories." According to Justice Breyer, these provisions "give Congress the power to legislate for those localities in ways 'that would exceed its powers, or at least would be very unusual' in other contexts."

In addition, Justice Breyer noted that the term "Officers of the United States" in the Appointments Clause has "never been understood to cover those whose powers and duties are primarily local in nature and derive from these two constitutional provisions." In this case, he explained, the Board's statutory responsibilities "consist of primarily local duties, namely, representing Puerto Rico in bankruptcy proceedings and supervising aspects of Puerto Rico's fiscal and budgetary policies." The court rulings relied upon by the court of appeals, in contrast, were inapposite because "[e]ach of the cases considered an Appointments Clause problem concerning the importance or significance of duties that were indisputably federal or national in nature."

The Court ultimately concluded that, although the "Appointments Clause applies to the appointment of officers of the United States with powers and duties in and in relation to Puerto Rico," the members of the Board "are not 'Officers of the United States.'" As a consequence, "the Appointments Clause does not dictate how the Board's members must be selected," and "the congressionally mandated process for selecting members of the [Board] does not violate that Clause."

Justice Thomas and Justice Sotomayor issued separate opinions concurring in the judgment.

Notable Denials of Certiorari

On May 26, 2020, the Court declined to review a ruling by the U.S. Court of Appeals for the Third Circuit in Opt-Out Lenders v. Millennium Lab Holdings II LLC (In re Millennium Lab Holdings II LLC), 945 F.3d 126 (3d Cir. Dec. 19, 2019), cert. denied sub nom. ISL Loan Trust v. Millennium Lab Holdings, No. 19-1152, 2020 WL 2621797 (U.S. May 26, 2020). In Millennium, the Third Circuit upheld a lower court decision confirming a chapter 11 plan including nonconsensual third-party releases. Although the Third Circuit did not give such releases its wholesale approval, it ruled that the bankruptcy court's order confirming the plan did not violate Article III of the U.S. Constitution. The Third Circuit also affirmed the lower courts' ruling that the appeal was "equitably moot" because, among other things, granting the requested relief would "scramble the plan," and any attempt to unwind the plan would likely be impossible. The circuits are split on the validity of nonconsensual third-party releases in chapter 11 plans. By contrast, every circuit that has considered the question has concluded that an appeal of a substantially consummated chapter 11 plan can be dismissed under the doctrine of equitable mootness.

On June 1, 2020, the Court denied a petition seeking review of a ruling by the U.S. Court of Appeals for the Second Circuit in In re Picard, Trustee for the Liquidation of Bernard L. Madoff Investment Securities LLC, 917 F.3d 85 (2d Cir. 2019), cert. denied sub nom. HSBC Holdings v. Picard, No. 19-277, 2020 WL 2814770 (U.S. June 1, 2020). In Madoff, the Second Circuit vacated a bankruptcy court order dismissing a trustee's litigation against various non-U.S. defendants to recover payments by a U.S. debtor that were allegedly avoidable because they were made with the intent to defraud creditors.

The bankruptcy court had ruled that the claims against these subsequent foreign transferees must be dismissed because section 550(a)(2) of the Bankruptcy Code, which provides for the recovery of avoided fraudulent transfers from subsequent transferees, does not apply extraterritorially, and because principles of international comity limited the provision's scope. In vacating the dismissal, the Second Circuit held that neither the "presumption against extraterritoriality" nor the doctrine of comity barred recovery because: (i) section 550(a)(2) works in tandem with section 548, which "focuses on the debtor's initial transfer of property"; (ii) the initial transfer occurred within the U.S., meaning that the case involved domestic, rather than foreign, application of section 550(a); and (iii) comity did not warrant dismissal of the recovery actions because the interest of the U.S. in applying the Bankruptcy Code's avoidance and recovery provisions "outweighs the interest of any foreign state."

Notably, however, because the Second Circuit found that the case involved a domestic application of section 550(a), it "express[ed] no opinion on whether § 550(a) clearly indicates its extraterritorial application." Thus, the ruling did not resolve the dispute (even among courts in the Second Circuit) over whether Congress intended the avoidance provisions of the Bankruptcy Code, including section 550(a), to apply extraterritorially.

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