If a negotiated settlement agreement occurs in bankruptcy litigation, the Rules of Bankruptcy Procedure require the trustee to notify creditors and others of the proposed settlement. The bankruptcy court then holds a hearing and approves or denies the proposed resolution. While it is possible to contest a court-approved settlement agreement in a bankruptcy case by appealing the bankruptcy court’s decision, review is subject to specific limitations. The applicable rules in Minnesota are clear.
In 2015, the United States Court of Appeals for the Eighth Circuit reviewed a bankruptcy litigation settlement agreement approved by the Minnesota Bankruptcy Court. In the decision, the Eighth Circuit Court articulated the principles that a reviewing court applies when considering bankruptcy court approval of a settlement agreement.
The case of Ritchie Capital Management LLC v. Kelley, 785 F.3d 273 (8th Cir. 2015), arose out of bankruptcy litigation related to a fraudulent $3.65 billion Ponzi scheme carried out by Thomas Petters. The scheme resulted in a 50-year prison sentence for Petters, as well as numerous civil disputes and a web of complex litigation, including actions arising a Chapter 11 bankruptcy case filed by Douglas Kelley as the receiver for businesses owned by Petters. The bankruptcy court appointed Kelley as the bankruptcy trustee.
In the bankruptcy case, the trustee commenced an adversary proceeding against Ritchie Capital and other investors in the fraudulent scheme as creditors of the bankruptcy petitioner. The trustee sought to recover funds paid to the defendants on the basis that they constituted fraudulent and preferential transfers. The action was one of more than 200 similar lawsuits brought by the trustee, seeking to recover billions of dollars.
During the proceeding, the trustee reached a settlement with some of the creditors. Ritchie Capital agreed with the settlement but not the resulting allocation of proceeds. The bankruptcy court approved the settlement agreement and allocation, notwithstanding Ritchie Capital’s objection to the allocation asserted in the hearing. Ritchie and others appealed the bankruptcy court’s order to the district court, which affirmed the bankruptcy court’s decision. An appeal to the Eighth Circuit followed, alleging that the bankruptcy court abused its discretion in approving the agreement and the resulting allocation of proceeds.
The Eighth Circuit decision begins discussion of the substance of the appeal by noting that in reviewing a bankruptcy court decision, the Court of Appeals sits as a second reviewing court required to apply the same standard as the district court did. The standard of review established in previous court decisions is that a bankruptcy court’s settlement agreement approval will only be set aside if there is plain error or abuse of discretion.
Citing and quoting from previous cases, the Court stated that abuse of discretion occurs if the bankruptcy court decision “relies upon a clearly erroneous finding of fact or fails to apply the proper legal standard.” The question is not whether the settlement is “the best result obtainable,” but “whether the settlement is fair and equitable and in the best interests of the estate.” The reviewing court only needs to “ensure that the settlement does not fall below the lowest point in the range of reasonableness.”
The Court then reiterated the established standards for a reviewing court to use in assessing the reasonableness of a settlement. Those standards are: 1) probability of success in the litigation; 2) potential collection difficulties, 3) complexity, expense, inconvenience, and delay of the litigation; and 4) the creditors’ paramount interest.
The decision then meticulously reviews each claim of the appellants in light of the facts in the case and the established standards. The Court of Appeals found no abuse of discretion by the bankruptcy court and affirmed the decision of the district court, upholding the bankruptcy court’s approval of the settlement agreement and the resulting allocation.
Compromises and settlement agreements often occur in the context of an adversary proceeding or contested matter in a bankruptcy case. Rule 9019 of the Bankruptcy Rules of Procedure requires the trustee to notify creditors and others of any proposed compromise or settlement. Following a hearing, the bankruptcy court determines whether to approve or deny the proposed settlement.
The decision in the Ritchie Capital v. Kelley case and the established standards discussed therein make it very clear how a creditor or other party should pursue objections to a proposed settlement. The best strategy for contesting the settlement is to assert the objections before the bankruptcy court by presenting a thorough, vigorous case for the objections in the hearing on the agreement. Although Ritchie Capital was not successful in its objections at the bankruptcy court level, that stage of the proceedings provides the most advantageous opportunity for arguing objections.
While a bankruptcy court’s approval of a settlement can be appealed to the district court and then to the court of appeals, the standards on review are well-established and stringent. Overturning bankruptcy court approval of a settlement agreement on review requires demonstrating that the bankruptcy court abused its discretion by relying on a patently erroneous fact or a faulty legal standard. If the settlement is reasonable, fair and equitable, and in the interest of the bankruptcy estate, a reviewing court will not overturn approval of a settlement agreement by the bankruptcy court.
To challenge a proposed agreement in bankruptcy court or on appeal, representation by an experienced bankruptcy litigation attorney is absolutely essential. A creditor or other party with objections to a proposed settlement should consult legal counsel at the earliest possible time. Waiting until after the bankruptcy court approves a settlement agreement significantly diminishes the likelihood of success in a challenge to the provisions of the settlement agreement.
At Dave Burns Law Office, I represent clients in all types of adversary proceedings in the United States Bankruptcy Courts in Minneapolis and St. Paul. Bankruptcy litigation is a primary focus of my practice. If you consider filing objections to a proposed settlement agreement in bankruptcy litigation or require representation in an adversary proceeding or contested matter in a bankruptcy case, I welcome you to contact me at (612) 677-8351 or by sending an email to me at firstname.lastname@example.org. I am available to meet with clients in both Minneapolis and St. Paul and welcome inquiries from clients and referring attorneys throughout the State of Minnesota.
The Dave Burns Law Office hopes you find this article helpful. But please do not rely on it as legal advice. The law changes regularly and the outcome of any legal matter depends on its unique circumstances. View full disclaimer