Christopher Hamilton v. Elite of Los Angeles, Inc.

Opinion

FILED NOT FOR PUBLICATION MAR 16 2020 UNITED STATES COURT OF APPEALS MOLLY C. DWYER, CLERK U.S. COURT OF APPEALS

FOR THE NINTH CIRCUIT

In re: CHRISTOPHER JOHN No. 18-60043 HAMILTON; ELIZABETH LEIGH TESOLIN, BAP No. 17-1273

Debtors, MEMORANDUM* ------------------------------

CHRISTOPHER JOHN HAMILTON; ELIZABETH LEIGH TESOLIN,

Appellants,

v.

ELITE OF LOS ANGELES, INC.; SAN DIEGO TESTING SERVICES, INC.,

Appellees.

Appeal from the Ninth Circuit Bankruptcy Appellate Panel Lafferty III, Spraker, and Kurtz, Bankruptcy Judges, Presiding

Argued and Submitted February 6, 2020 Pasadena, California

* This disposition is not appropriate for publication and is not precedent except as provided by Ninth Circuit Rule 36-3. Before: BOGGS,** IKUTA, and CHRISTEN, Circuit Judges.

Appellants Christopher Hamilton and Elizabeth Tesolin obtained

confirmation of their Sixth Amended Chapter 11 Plan of Reorganization over the

objection of appellees Elite of Los Angeles, Inc. and San Diego Testing Services,

Inc. (Elite). Elite appealed the bankruptcy court’s plan confirmation order to the

Bankruptcy Appellate Panel, which reversed based on its conclusion that the Plan

did not satisfy all statutory confirmation requirements and included an

impermissible collection injunction. See Elite of L.A., Inc. v. Hamilton (In re

Hamilton), No. SC-17-1273-LSKu, 2018 WL 3637905 (B.A.P. 9th Cir. July 31,

2018). Hamilton and Tesolin now appeal from the BAP order. We have

jurisdiction pursuant to 28 U.S.C. §158(d)(1), review the BAP’s decision de novo,

and apply the same standard of review that the BAP applied to the bankruptcy

court’s ruling. In re Molasky, 843 F.3d 1179, 1183 (9th Cir. 2016). We affirm the

BAP’s order reversing the bankruptcy court’s plan confirmation order.

1. The bankruptcy court approved the Plan provision that enjoined creditors

from collecting nondischargeable debt during the Plan period, including Elite’s

** The Honorable Danny J. Boggs, United States Circuit Judge for the U.S. Court of Appeals for the Sixth Circuit, sitting by designation. 2 nondischargeable judgment against Hamilton.1 The bankruptcy court relied on two

cases that held a court may exercise its equitable powers pursuant to 11 U.S.C. §

105(a) to approve a Chapter 11 plan that enjoins collection of nondischargeable

debt without running afoul of 11 U.S.C. § 1141(d)(2). See Computer Task Group,

Inc. v. Brotby (In re Brotby), 303 B.R. 177, 190 (9th Cir. BAP 2003); In re

Mercado, 124 B.R. 799, 801 (Bankr. C.D. Cal. 1991).

Hamilton similarly relies on Brotby and Mercado on appeal, but both cases

are distinguishable. In both, the plans contemplated that nondischargeable claims

would be paid in full. See Brotby, 303 B.R. at 190; Mercado, 124 B.R. at 801.

Here, there was no finding or record evidence that Hamilton will be able to pay

Elite’s nondischargeable judgment during the Plan term or thereafter. In fact, it is

undisputed that the nondischargeable debt will significantly increase, to over $3

million, by the end of the Plan period. We know of no case in which our court (or

1 After Hamilton left his job at Elite, a jury found Hamilton liable for breach of fiduciary duty, breach of duty of loyalty, intentional interference with prospective economic advantage, trade secret misappropriation, and punitive damages. In re Hamilton, 584 B.R. 310, 315 (B.A.P. 9th Cir. 2018). Hamilton and Tesolin filed their Chapter 11 petition after the state court entered a large judgment in Elite’s favor. We later affirmed the bankruptcy court’s determination that the judgment was nondischargeable under 11 U.S.C. § 523(a)(6) because of Hamilton’s willful and malicious conduct. See In re Hamilton, 785 F. App’x 438, 439 (9th Cir. 2019). 3 the BAP) has approved a collection injunction in such circumstances.2 Hamilton

and Tesolin also suggest the collection injunction is severable from the Plan, but

the bankruptcy court determined that its inclusion was necessary for the Plan’s

success.

2. Section 1129(a)(11) requires a finding by the bankruptcy court that plan

confirmation “is not likely to be followed by liquidation, or the need for further

financial reorganization, of the debtor.” 11 U.S.C. § 1129(a)(11). To satisfy this

section, known as the “feasibility requirement,” the debtor must demonstrate that

the plan “has a reasonable probability of success.” First Southern Nat’l Bank v.

Sunnyslope Hous. Ltd. P’ship (In re Sunnyslope Hous. Ltd. P’ship), 859 F.3d 637,

646–47 (9th Cir. 2017) (en banc) (quoting In re Acequia, Inc., 787 F.2d 1352, 1364

(9th Cir. 1986)). “A bankruptcy court’s finding of feasibility is reviewed for abuse

of discretion.” Id. at 647.

The record does not support the bankruptcy court’s finding that the Plan was

not likely to be followed by liquidation or further financial reorganization.

Because of the accruing interest on Elite’s nondischargeable judgment, Hamilton

2 The dissent relies on Copeland v. Fink (In re Copeland), 742 F.3d 811 (8th Cir. 2014). But in that case, the Eighth Circuit assumed that the nondischargeable debt would be “paid in full regardless of the plan implemented in bankruptcy.” Id. at 815 (emphasis in original). 4 will owe more to Elite at the end of the Plan period than at the beginning, and his

work life expectancy will be five years shorter. The bankruptcy court’s summary

finding that Hamilton and Tesolin will be able to make the required payments

under the Plan does not alone sustain a feasibility finding, and that court did not

address whether they will need to seek liquidation or further reorganization at the

end of the Plan period. Accordingly, we conclude that the bankruptcy court abused

its discretion by determining that the Plan was feasible within the meaning of §

1129(a)(11).

3. Elite argues that Hamilton has improperly used Chapter 11 to delay

enforcement of its nondischargeable judgment while he runs Hamilton College

Consulting (HCC), a competitor business owned by his mother. Hamilton receives

an annual salary of $199,000 and has incurred professional fees in excess of $2

million, which HCC has agreed to pay.

Section 1129(a)(3) requires that a plan be “proposed in good faith and not by

any means forbidden by law” in order to be confirmed. 11 U.S.C. § 1129(a)(3). A

plan is proposed in good faith if it achieves a result consistent with the purposes of

the Bankruptcy Code. Platinum Capital, Inc. v. Sylmar Plaza, L.P. (In re Sylmar

Plaza, L.P.), 314 F.3d 1070, 1074 (9th Cir. 2002). The primary purposes of

Chapter 11 are to rehabilitate the debtor and maximize the value of the estate.

5 Sunnyslope, 859 F.3d at 645. The good-faith determination is based on the totality

of the circumstances. Sylmar Plaza, 314 F.3d at 1074. The proposed Plan fails to

meet these objectives. It is not feasible, it appears likely that Hamilton will be

unable to pay the ballooning nondischargeable debt at the end of the Plan period,

there are unresolved issues concerning Hamilton’s degree of control over HCC,

and there is no evidence that Hamilton made a demand for indemnification from

HCC to pay Elite’s judgment.3 Accordingly, we conclude that the bankruptcy

court clearly erred by finding that the Plan was proposed in good faith, as required

by § 1129(a)(3).

4. A bankruptcy court may confirm a Chapter 11 plan over the objections of

an impaired creditor if the plan is “fair and equitable” to each creditor class

pursuant to 11 U.S.C. § 1129(b)(1). Zachary v. California Bank & Tr., 811 F.3d

1191, 1194 (9th Cir. 2016). To be fair and equitable, the plan must satisfy either

the “absolute priority rule,” codified at § 1129(b)(2)(B)(ii), see Zachary, 811 F.3d

at 1193–94, or an exception to the rule known as the “new value corollary,” Liberty

Nat’l Enters. v. Ambanc La Mesa Ltd. Pshp. (In re Ambanc La Mesa Ltd. P’ship),

115 F.3d 650, 654 (9th Cir. 1997). To satisfy the new value corollary, the debtor

must offer new value under the Plan. Id. Here, because the Plan provided that

3 See Cal. Civ. Code § 2778(1). 6 Hamilton and Tesolin would retain any nonexempt and unencumbered equity in a

rental property they own, the bankruptcy court required that the Plan satisfy the

new value corollary. Hamilton responded by securing a commitment from HCC to

contribute, on the Plan’s effective date, $200,000 in cash for administrative

expenses and a $380,000 promissory note to cover the balance of professional fees.

The bankruptcy court found that HCC’s pledged contribution provided new value

and met the other criteria for the new value corollary.

Because HCC was already paying Hamilton’s and Tesolin’s professional

fees pursuant to an indemnity agreement with Hamilton at the time HCC secured

the effective date contribution, we conclude that the bankruptcy court erred by

finding that HCC’s contribution was new.

The BAP’s order reversing the bankruptcy court’s plan confirmation order is

AFFIRMED.

7 FILED Hamilton v. Elite of Los Angeles, Inc., 18-60043 MAR 16 2020 IKUTA, Circuit Judge, dissenting: MOLLY C. DWYER, CLERK U.S. COURT OF APPEALS

Christopher Hamilton and Elizabeth Tesolin (referred to here collectively as

Hamilton) owe Elite of Los Angeles, Inc. and San Diego Testing Services, Inc.

(Elite) over $2 million. The bankruptcy court confirmed a plan under which all

unsecured creditors, including Elite, would receive a pro rata share of their debt

over a five-year period. At the end of the plan term, a large portion of Elite’s debt

would remain. Because Elite’s debt is nondischargeable, Hamilton will have to

continue to pay it, likely for the rest of his life. The majority reverses the

bankruptcy court’s determination based solely on its own assessment of the

equities. Because the Code bars Elite from pursuing collection efforts until the end

of the plan, the bankruptcy court did not abuse its discretion in approving the

plan’s collection injunction against Elite. Moreover, the bankruptcy court did not

clearly err in determining that the plan is feasible and was proposed in good faith.

Because I would affirm the bankruptcy court, I dissent.1

1 We review the bankruptcy court’s rulings independently, In re Salazar, 430 F.3d 992, 994 (9th Cir. 2005), and give no deference to the decision of the Bankruptcy Appellate Panel, In re Kadjevich, 220 F.3d 1016, 1019 (9th Cir. 2000). We review the bankruptcy court’s conclusions of law de novo, In re Salazar, 430 F.3d at 994, its factual findings for clear error, Id., and its confirmation of a reorganization plan for abuse of discretion, In re Marshall, 721 F.3d 1032, 1045 (9th Cir. 2013). I

The bankruptcy court did not abuse its discretion in approving the plan’s

collection injunction, which precludes Elite from collecting its nondischargeable

debt during the life of the plan, because the Code itself precludes Elite from doing

so.

Under § 362 of the Code, the filing of a petition under Chapter 11 “operates

as a stay, applicable to all entities, of . . . the enforcement, against the debtor or

against property of the estate, of a judgment obtained before the commencement of

the case under this title.” 11 U.S.C. § 362(a)(2). This automatic stay “continues

until . . . the time a discharge is granted or denied.” § 362(c)(2)(C). By default,

“the confirmation of a plan . . . discharges the debtor from any debt that arose

before the date of such confirmation” and is dischargeable. § 1141(d)(1)(A).

Individual debtors are governed by a different provision. In 2005, Congress

enacted the Bankruptcy Abuse Prevention and Consumer Protection Act

(BAPCPA), which amended § 1141 to include the following provision: “In a case

in which the debtor is an individual . . . confirmation of the plan does not discharge

any debt provided for in the plan until the court grants a discharge on completion

of all payments under the plan.” Pub. L. No. 109–8, 119 Stat. 23 (2005) (codified

at 11 U.S.C. § 1141(d)(5)(A). In sum, when an individual debtor files a petition

2 under Chapter 11, the automatic stay under § 362(a) continues until “the court

grants a discharge on completion of all payments under the plan.”

§ 1141(d)(5)(A). Put differently, the stay continues until the plan ends. Because

Hamilton is an individual, § 362 bars Elite from enforcing the pre-petition

judgment against him until the “completion of all payments under the plan.”

§ 1141(d)(5)(A).

No court has yet addressed how the BAPCPA changed the duration of the

automatic stay for individual debtors. So Hamilton included a provision in the

plan that would prevent Elite from enforcing the pre-petition judgment during the

plan period. This so-called collection injunction is functionally equivalent to the

Code’s automatic stay, as amended by the BAPCPA.

The majority disapproves of the collection injunction because “there was no

finding or record evidence that Hamilton will be able to pay Elite’s

nondischargeable judgment during the Plan term or thereafter.” Maj. Op. at 3. But

the Code does not require full payment of nondischargeable debt during the life of

a plan. Instead, a “debtor need only formulate a plan which pays the

nondischargeable debts pro rata with other unsecured creditors during the life of

the plan.” In re Copeland, 742 F.3d 811, 814 (8th Cir. 2014) (alterations and

citation omitted). Indeed, “it is hardly remarkable that a nondischargeable debt

3 may remain after a debtor has emerged from bankruptcy; that is precisely what

‘nondischargeable’ means.”2 Id.

Given the BAPCPA, the collection injunction is unnecessary. But because

the collection injunction does the work of the Code’s automatic stay, and nothing

more, the bankruptcy court did not abuse its discretion in approving it.

II

Nor did the bankruptcy court clearly err in concluding that the plan was

feasible. As the Code explains the feasibility requirement, a “court shall confirm a

plan only if . . . [c]onfirmation of the plan is not likely to be followed by the

liquidation, or the need for further financial reorganization, of the debtor or any

successor to the debtor under the plan, unless such liquidation or reorganization is

proposed in the plan.” 11 U.S.C. § 1129(a)(11). The feasibility analysis is focused

on the debtor’s ability to fulfill its obligations under the plan. See, e.g., In re Loop

2 The majority attempts to distinguish Copeland on the ground that the Eighth Circuit assumed that the nondischargeable debt would be “paid in full regardless of the plan implemented in bankruptcy.” Maj. Op. at 4 n.2. But the Eighth Circuit does not explain its basis for this assumption; it could have reasonably concluded that the holders of nondischargeable debt would be paid in full regardless of the plan because the debt was nondischargeable, just as in this case. More significant, Copeland refused to allow the debtors to prioritize payment of nondischargeable debt over payment to unsecured creditors, the approach the bankruptcy court approved—and the majority disapproves—in this case. See In re Copeland, 742 F.3d at 814–15.

4 76, LLC 465 B.R. 525, 544 (B.A.P. 9th Cir. 2012). Though it is not entirely clear

what “liquidation or reorganization” means as applied to individual debtors, it is

generally agreed that a debtor must demonstrate that the plan has a “reasonable

probability of success.” In re Acequia, Inc., 787 F.2d 1352, 1364 (9th Cir. 1986).

Here, the bankruptcy court determined that Hamilton could make the

payments under the confirmed plan. Neither Elite nor the majority disagree.

Nevertheless, the majority holds that the bankruptcy court abused its discretion

because Hamilton “will owe more to Elite at the end of the Plan period than at the

beginning” and the court “did not address whether [Hamilton] will need to seek

liquidation or further reorganization at the end of the Plan period.” Maj. Op. at 5.

This ruling is erroneous, because feasibility does not hinge on whether a debtor

will be able to make certain payments after the plan has ended. Instead, feasibility

turns on the debtor’s ability to live up to the terms of the plan. See In re Loop 76,

LLC, 465 B.R. at 544.

There is no dispute that Elite’s nondischargeable debt will grow during the

plan period due to the accrual of interest. But under the Code, that fact has no

bearing on feasibility. The district court did not clearly err.

III

Finally, the bankruptcy court did not clearly err in concluding that the plan

5 was proposed in good faith. See 11 U.S.C. § 1129(a)(3) (providing that a

reorganization plan must have been “proposed in good faith and not by any means

forbidden by law”). The good faith determination is based on the totality of the

circumstances, and the requirement is satisfied when the plan “achieves a result

consistent with the objectives and purposes of the Code.” In re Sylmar Plaza, L.P.,

314 F.3d 1070, 1074 (9th Cir. 2002). “While the protection of creditors’ interests

is an important purpose under Chapter 11, the Supreme Court has made clear that

successful debtor reorganization and maximization of the value of the estate are the

primary purposes.” In re Sunnyslope Hous. Ltd. P’ship, 859 F.3d 637, 645 (9th

Cir. 2017) (en banc) (alteration omitted) (quoting In re Bonner Mall P’ship, 2 F.3d

899, 916 (9th Cir. 1993), abrogated on other grounds by Bullard v. Blue Hills

Bank, 575 U.S. 496 (2015)). The mere fact “that a debtor proposes a plan in which

it avails itself of an applicable Code provision does not constitute evidence of bad

faith.” In re Sylmar Plaza, 314 F.3d at 1075 (alteration and citation omitted).

There must be more.

There is no evidence that Hamilton submitted the plan in bad faith. Nothing

in the Code or our precedent suggests that a debtor proposes a plan in bad faith

merely because the debtor will only partially pay an unsecured creditor’s

nondischargeable debt during the life of a plan, and the debt will increase due to

6 the accrual of interest. Here, under the confirmed plan, Hamilton will be free of all

dischargeable debt in five years, and from that point on will be able to allocate

available funds to paying off Elite’s debt. The bankruptcy court determined that

this strategy was an efficient and legitimate way to resolve the outstanding debt of

Hamilton’s creditors. This factual determination is not clearly erroneous.3

***

The majority implies that Hamilton is a bad actor, and therefore was not

entitled to have his plan confirmed. The majority notes that in Elite’s state court

action against Hamilton, the jury awarded Elite punitive damages, and that in

bankruptcy proceedings, Elite’s state award was deemed nondischargeable due to

“Hamilton’s willful and malicious conduct.” The majority also seems to accept

Elite’s argument that Hamilton improperly used Chapter 11 to delay payment

“while he runs Hamilton College Consulting (HCC), a competitor business.” Maj.

Op. at 3 n.1, 5.

Debtors who failed to cure their debts would face harsh punishment in

3 I would remand with respect to the bankruptcy court’s determination that the plan satisfied the new value corollary rule. Although Hamilton previously informed the bankruptcy court that he would retain “at least $66,000 in equity in the Pasadena Property,” it is unclear what the projected value of the Pasadena Property will be in five years. Therefore, we cannot determine whether the $200,000 contribution is “reasonably equivalent” to Hamilton’s retained equity interest. In re Ambanc La Mesa Ltd. P’ship, 115 F.3d 650, 654 (9th Cir. 1997).

7 earlier times. If this were ancient Rome, a debtor could be cut into pieces and

distributed among the creditors. See 2 W. Blackstone, Commentaries on the Laws

of England 472 (1766). Were this 13th century England, a debtor could be

imprisoned. Sturges v. Crowninshield, 17 U.S. 122, 140–41 (1819). But today in

our country, all debtors may avail themselves of the Bankruptcy Code, bad actors

included. While Elite’s nondischargeable debt is sizeable, the Code provides relief

even for debtors who carry a near insurmountable amount of debt. I dissent.