In re: Nevada Fire Safe Council, Non-Profit Corporation

• Court: United States Bankruptcy Appellate Panel for the Ninth Circuit
• Decided: December 21, 2017
• Docket: NV-16-1304-LTiF
• Status: Unpublished

Opinion

FILED DEC 21 2017 1 NOT FOR PUBLICATION SUSAN M. SPRAUL, CLERK U.S. BKCY. APP. PANEL 2 OF THE NINTH CIRCUIT

3 UNITED STATES BANKRUPTCY APPELLATE PANEL OF THE NINTH CIRCUIT 4 5 In re: ) BAP No. NV-16-1304-LTiF ) 6 NEVADA FIRE SAFE COUNCIL, ) Bk. No. 3:12-bk-52625-BTB NON-PROFIT CORPORATION, ) 7 ) Debtor. ) 8 ______________________________) ) 9 CROSS CHECK SERVICES, LLC, ) ) 10 Appellant, ) ) 11 v. ) M E M O R A N D U M* ) 12 ALLEN M. DUTRA, Chapter 7 ) Trustee; NEVADA FIRE SAFE ) 13 COUNCIL, NON-PROFIT ) CORPORATION; LAKE TAHOE FIRE ) 14 PROTECTION DISTRICT; TAHOE ) DOUGLAS FIRE PROTECTION ) 15 DISTRICT; MEEKS BAY FIRE ) PROTECTION DISTRICT; LAKE ) 16 VALLEY FIRE PROTECTION ) DISTRICT; NORTH TAHOE FIRE ) 17 PROTECTION DISTRICT; FRANK ) CODY; U.S. DEPARTMENT OF ) 18 JUSTICE, ) ) 19 Appellees. ) ______________________________) 20 Argued and Submitted on December 1, 2017 21 at Reno, Nevada 22 Filed - December 21, 2017 23 Appeal from the United States Bankruptcy Court for the District of Nevada 24 Honorable Bruce T. Beesley, Bankruptcy Judge, Presiding 25 26 * This disposition is not appropriate for publication. 27 Although it may be cited for whatever persuasive value it may have (see Fed. R. App. P. 32.1), it has no precedential value. 28 See 9th Cir. BAP Rule 8024-1. 1 _________________________ 2 Appearances: John G. Downing argued for Appellant; Michael Lehners argued for Appellee Allen M. Dutra; Alicia 3 Hunt argued for Appellee United States Department of Justice. 4 _________________________ 5 Before: LAFFERTY, TIGHE,** and FARIS, Bankruptcy Judges. 6 7 The chapter 71 trustee moved for approval of a settlement 8 with the United States resolving disputes over federal grant 9 funds to be used by the Debtor to pay third party vendors for 10 work performed pursuant to the grants. The settlement released 11 approximately $9.6 million in contingent and unliquidated claims 12 asserted by the United States and required the United States to 13 pay more than $2 million to the trustee. Of that amount, 14 approximately $1.4 million represented grant funds due vendors 15 for work performed pursuant to the grants and was not property of 16 the estate. Those funds were to be used to pay those vendors’ 17 claims in full pursuant to an agreed-upon schedule. The 18 remaining funds, which were deemed to be estate funds, were to be 19 distributed pro rata, after deducting administrative expenses, to 20 those creditors asserting unsecured claims against the estate. 21 Appellant was among those vendors to be paid pro rata rather 22 than scheduled for payment pursuant to a specifically approved 23 grant. Appellant objected to the settlement, arguing that it was 24 ** Hon. Maureen A. Tighe, U.S. Bankruptcy Judge for the 25 Central District of California, sitting by designation. 26 1 Unless specified otherwise, all chapter and section 27 references are to the Bankruptcy Code, 11 U.S.C. §§ 101-1532. “Rule” references are to the Federal Rules of Bankruptcy 28 Procedure.

-2- 1 not fair and equitable because it violated the Bankruptcy Code’s 2 priority scheme. The bankruptcy court overruled Appellant’s 3 objection and approved the settlement, finding that it was fair 4 and in the best interests of all creditors. We AFFIRM. 5 FACTS 6 Nevada Fire Safe Council (“Fire Safe”) is a 26 U.S.C. 7 § 501(c)(3) nonprofit corporation, established in 1999. Fire 8 Safe assists communities in creating defensible space within and 9 around those communities to protect them from wildfire 10 destruction. 11 Fire Safe entered into nine financial assistance (grant) 12 agreements with the Bureau of Land Management (“BLM”) and two 13 with the U.S. Forest Service (“USFS”), each of which required 14 Fire Safe to conduct fuels reduction work (e.g., thinning trees 15 and removing underbrush) in the Lake Tahoe region. Fire Safe 16 contracted with third-party vendors to perform the fuels 17 reduction tasks. In order for vendors to be paid from grant 18 monies, Fire Safe was required to submit documentation to the 19 appropriate federal agency – USFS or BLM – for approval. 20 In 2011, the U.S. Department of Agriculture’s Office of the 21 Inspector General (“OIG”) audited Fire Safe. OIG found that Fire 22 Safe had not properly accounted for its grant funds, had 23 commingled grant monies with its own funds, and had used grant 24 funds to pay unauthorized expenses. As a result, all grant funds 25 were frozen. 26 Fire Safe filed for chapter 7 relief on November 18, 2012. 27 Appellee Allen M. Dutra was appointed chapter 7 trustee (the 28 “Trustee”). The United States Department of Justice (“DOJ”)

-3- 1 filed two proofs of claim, one on behalf of USFS for 2 $5,735,265.23 and the other on behalf of BLM for $3,958,795.18. 3 The claims reflected the “contingent and unliquidated liability 4 of the Debtor” to USFS and BLM for payments made to third-party 5 vendors that were potentially unallowable, primarily due to 6 insufficient documentation.2 7 Claims were also filed by vendors, including Appellant Cross 8 Check Services, LLC (“Cross Check”). Cross Check filed an 9 unsecured claim for $249,954.52 based on an arbitration award it 10 obtained for breach of contract. The principal amount of the 11 award ($169,844) represented amounts Fire Safe had refused to pay 12 for extra fuels reduction work performed by Cross Check after 13 Fire Safe’s project manager, without first obtaining agency 14 authority, had assured Cross Check it would be paid.3 15 In the course of administering the estate, the Trustee took 16 the position that, notwithstanding DOJ’s proofs of claim, Fire 17 Safe had utilized third-party vendors to provide goods and 18 services for the benefit of both USFS and BLM in excess of grant 19 monies paid to Fire Safe, such that the estate had offsetting 20 21 2 The parties did not include DOJ’s proofs of claim in their 22 excerpts of record. We have therefore exercised our discretion to examine the docket and imaged papers in the underlying 23 bankruptcy case. See Woods & Erickson, LLP v. Leonard (In re AVI, Inc.), 389 B.R. 721, 725 n.2 (9th Cir. BAP 2008); 24 Atwood v. Chase Manhattan Mortg. Co. (In re Atwood), 293 B.R. 227, 233 n.9 (9th Cir. BAP 2003). 25 3 26 The final arbitration award was entered postpetition after the court approved the Trustee’s and Cross Check’s stipulation to 27 lift the stay to permit Cross Check to pursue a final judgment in the arbitration and to present its claim to Fire Safe’s insurance 28 company (but not to seek collection against estate assets).

-4- 1 claims against those entities. DOJ took the position that if 2 litigation were pursued, it would need to be filed in the Court 3 of Federal Claims in Washington, D.C. Because there was no money 4 in the estate to pursue litigation in the District of Columbia, 5 the Trustee continued negotiating with DOJ, and the parties 6 eventually reached a settlement. 7 On April 15, 2016, the Trustee filed a motion to approve 8 compromise (the “Motion”). The settlement called for the United 9 States to pay $2,025,906.00 to the Trustee, of which 10 $1,412,902.04 was designated the “Grant Sub-Recipient Fund” and 11 was to be used to pay only specified sub-recipients that had 12 performed work relating to unpaid claims allowable under the 13 grants (“Schedule A Sub-Recipients”). The Schedule A Sub- 14 Recipients were to be paid the lesser of the amount demanded in 15 their proof of claim or the amount listed on Schedule A to the 16 settlement agreement. The remaining $613,003.06, designated as 17 the “Estate Fund,” represented reimbursement to the estate and 18 was to be used by the Trustee to pay allowed bankruptcy claims 19 pro rata in order of priority. The settlement provided that the 20 Trustee’s statutory commission and allowed attorney’s fees of up 21 to $40,000 would be paid from the Estate Fund, with the 22 commission based upon all amounts distributed to creditors, 23 including Schedule A Sub-Recipients. The settlement included 24 mutual releases. 25 The list of Schedule A Sub-Recipients and the amounts they 26 were to be paid was generated by USFS and BLM based on their 27 review and analysis of documents and records turned over by the 28 Trustee and certain third parties. Conclusions as to the amounts

-5- 1 due each sub-recipient were based on the relevant grant 2 agreement, claims submitted to USFS and BLM from Fire Safe, and 3 documentation of work performed. Cross Check was not among the 4 Schedule A Sub-Recipients. 5 Several parties, including Cross Check, filed oppositions to 6 the Motion.4 The bankruptcy court held status conferences and 7 continued the hearing on the Motion several times to give the 8 objecting creditors time to communicate with DOJ regarding the 9 amounts allocated (or not) to them on Schedule A. During that 10 period, Cross Check submitted invoices and other documentation to 11 DOJ in an attempt to have its claim allowed as a Schedule A 12 claim. The DOJ responded to Cross Check with a letter dated 13 July 22, 2016 (the “July 22, 2016 Letter”), explaining that 14 (i) Fire Safe had never submitted any documentation for 15 reimbursement of Cross Check’s claim, and (ii) in any event, 16 Cross Check’s claim would not have been allowable even if Fire 17 Safe had submitted documentation because Fire Safe’s claims 18 relating to work performed by Cross Check had been “paid in 19 excess of the amounts that were determined to be allowable after 20 review by the agencies . . . .” According to the spreadsheet 21 attached to the July 22, 2016 Letter, the largest portion of the 22 claim that was disallowed represented cost overruns that had not 23 4 24 Those parties included Appellees North Lake Tahoe Fire Protection District, Tahoe Douglas Fire Protection District, 25 Meeks Bay Fire Protection District, Lake Valley Fire Protection 26 District, North Tahoe Fire Protection District (collectively, the “Fire Protection Districts”), and Frank James Cody. In this 27 appeal, the Fire Protection Districts filed a joinder to the Trustee’s brief requesting that the Panel affirm the bankruptcy 28 court’s approval of the settlement.

-6- 1 been pre-approved by a federal program manager. The spreadsheet 2 also indicated that reimbursement for interest, attorney’s fees, 3 and arbitration costs was not allowable under the grant terms. 4 By the August 29, 2016 final hearing on the Motion, the only 5 remaining objecting creditor was Cross Check; eight other 6 creditors had sent letters to the Trustee – in response to the 7 Trustee’s request for input – indicating their support for the 8 compromise. After hearing argument, the bankruptcy court granted 9 the Motion, making the following oral findings: 10 [T]here is no money in this estate except for the United States providing a little over 2 million in this 11 on some conditions, that the people . . . who Fire Safe processed properly are getting their full claims, in 12 essence. The people that Fire Safe didn’t process properly are getting a portion of the $613,000 that is 13 part of what the government is giving. 14 I don’t think that if there was litigation concerning this there would be any better result. I 15 think it would cost tens of thousands, if not hundreds of thousands of dollars to litigate this. So I do 16 think it’s in compliance with [Rule] 9019 as interpreted by In re A&C Properties. And I'm going to 17 approve . . . the stipulation. 18 I think that the trustee and his counsel have done a very good job here. This was a no-asset case when it 19 started and it’s paying a significant amount to many of the creditors and it’s paying a . . . a not 20 insignificant amount to creditors who were, in effect, cheated by [Fire Safe]. 21 . . . I do think it’s a fair settlement. I do 22 think it’s in the best interest of the creditors. 23 Hr’g Tr. (August 29, 2016) at 42:23-43:22 (emphasis added). 24 The bankruptcy court entered written findings of fact and 25 conclusions of law and an order granting the motion on 26 September 22, 2016. Cross Check timely appealed. 27 JURISDICTION 28 The bankruptcy court had jurisdiction pursuant to 28 U.S.C.

-7- 1 §§ 1334 and 157(b)(2)(A). We have jurisdiction under 28 U.S.C. 2 § 158. 3 ISSUE 4 Whether the bankruptcy court abused its discretion in 5 granting the Trustee’s motion to approve compromise. 6 STANDARD OF REVIEW 7 We review the bankruptcy court’s order approving a trustee’s 8 application to compromise controversy for abuse of discretion. 9 Martin v. Kane (In re A & C Props.), 784 F.2d 1377, 1380 (9th 10 Cir. 1986). A bankruptcy court abuses its discretion if it 11 applies the wrong legal standard, misapplies the correct legal 12 standard, or if its actual findings are clearly erroneous. 13 TrafficSchool.com, Inc. v. Edriver Inc., 653 F.3d 820, 832 (9th 14 Cir. 2011). 15 DISCUSSION 16 A. Standard for Approval of a Settlement 17 Before approving a compromise, the bankruptcy court must 18 find that it is fair and equitable. In re A & C Props., 784 F.2d 19 at 1381. 20 In determining the fairness, reasonableness and adequacy of a proposed settlement agreement, the court 21 must consider: (a) [t]he probability of success in the litigation; (b) the difficulties, if any, to be 22 encountered in the matter of collection; (c) the complexity of the litigation involved, and the expense, 23 inconvenience and delay necessarily attending it; (d) the paramount interest of the creditors and a 24 proper deference to their reasonable views in the premises. 25 26 Id. 27 These factors “should be considered as a whole to determine 28 whether the settlement compares favorably with the expected

-8- 1 rewards of litigation. . . . A trustee seeking approval of a 2 settlement is not required to prove it would have been impossible 3 to obtain a superior result by trying the case.” Greif & Co. v. 4 Shapiro (In re W. Funding Inc.), 550 B.R. 841, 851-52 (9th Cir. 5 BAP 2016). 6 B. The bankruptcy court’s findings were sufficient to support approval of the settlement. 7 8 The bankruptcy court found that the settlement was fair. As 9 to the A & C Properties factors, the bankruptcy court found that 10 there would have been no difficulty with collection if the 11 Trustee prevailed in a lawsuit but that the lawsuit would have 12 been “somewhat complex” because of regulations and audit 13 requirements. The bankruptcy court also found that the 14 settlement was in the best interests of all creditors “because 15 payment of $613,003.96 to the estate was conditioned upon having 16 the Trustee pay $1,412,902.04 to the Schedule “A” Sub-Recipients. 17 If that condition is not met, then creditors receive nothing.” 18 The bankruptcy court, however, crossed out the proposed 19 conclusion of law stating that the Trustee would not have had a 20 high probability of success in litigation because the grant funds 21 were not property of the estate. 22 Cross Check does not challenge the bankruptcy court’s 23 findings and conclusions but argues that they are insufficient to 24 support approval of the settlement. Cross Check asserts that the 25 bankruptcy court did not find the settlement to be fair and 26 equitable. This is incorrect: the bankruptcy court expressly 27 found that the settlement was fair – although this finding was 28 not incorporated into its written findings – and implicitly found

-9- 1 it was equitable in finding that it was in the best interests of 2 all creditors. 3 Cross Check argues, however, that the bankruptcy court’s 4 refusal to make a finding regarding the probability of success in 5 litigation is fatal to the approval of the settlement. This 6 argument is not persuasive. While A & C Properties states that 7 the bankruptcy court “must” consider the factors listed above, 8 including the probability of success in the litigation, it does 9 not require an explicit finding as to each factor. In fact, in 10 A & C Properties, the Ninth Circuit Court of Appeals affirmed the 11 bankruptcy court’s approval of the settlement at issue despite 12 finding that the bankruptcy court’s findings were “rather 13 general.” 784 F.2d at 1383. The Court of Appeals concluded that 14 the record supported approval of the settlement because it showed 15 that the bankruptcy judge “was informed and had apprised himself 16 of all facts necessary to make an intelligent and independent 17 judgment that the compromise was fair and equitable[,]” and that 18 there was “clear support in the record for our affirming the 19 findings of fact with respect to the approval of the compromise.” 20 Id. Finding that the evidence supporting the compromise was 21 thorough and comprehensive, the bankruptcy court was familiar 22 with the entire record, had addressed the creditors’ objections, 23 and “held directly, expressly or by necessary implication, on 24 every substantial point of contention,” the Court of Appeals held 25 that the bankruptcy court did not abuse its discretion in 26 approving the compromise. Id. at 1384. 27 The same can be said here. Despite the lack of an explicit 28 finding regarding the probability of success in litigation, the

-10- 1 record as a whole supports the bankruptcy court’s ultimate 2 conclusion that the settlement was fair and in the best interests 3 of creditors. Cross Check does not dispute the bankruptcy 4 court’s findings that the litigation would be expensive, that the 5 estate had no assets to fund such litigation, and that the 6 settlement would provide a better outcome for creditors than 7 could be obtained through litigation (except for the unequal 8 distribution issue discussed below). Given that there was no 9 money in the estate to fund complex litigation in Washington, 10 D.C., and Trustee’s counsel’s representation that the settlement 11 resulted in a recovery that was $400,000 greater than what the 12 Trustee had initially expected to receive, a finding regarding 13 the probability of success in the litigation would have added 14 nothing of substance. Overall, the record supported the 15 conclusion that the settlement compared “favorably with the 16 expected rewards of litigation.” In re W. Funding, Inc., 17 550 B.R. at 852. 18 Cross Check also contends that it was “denied due process” 19 because DOJ refused to review the merits of its claim for the 20 sole reason that Fire Safe did not submit invoices on Cross 21 Check’s behalf. Based on the terms of the grants, DOJ would have 22 been within its rights to deny the claim solely on this basis. 23 Moreover, Cross Check’s contention is not supported by the 24 record: the July 22, 2016 Letter made clear that Cross Check’s 25 claim would not have been approved even if Fire Safe had 26 submitted the invoices on its behalf because none of the amounts 27 claimed were allowable under the grants. Moreover, the 28 bankruptcy court found, and Cross Check does not dispute, that:

-11- 1 The creditors of the Debtor did not have any contract, express or implied in fact, with the United States. As 2 such, no creditor has the right to directly sue the United States or any of its agencies, officers or 3 employees in connection with Fire Safe’s grants or work performed for Fire Safe. 4 5 Because the United States’ only contracts were with Fire Safe, 6 DOJ had no duties to Cross Check. In its reply brief, Cross 7 Check concedes that it could not assert any rights against the 8 United States, but seems to argue that the Trustee could have 9 successfully litigated the issue on behalf of Fire Safe. Even if 10 that were true, Cross Check has not shown that the bankruptcy 11 court erred in finding that the settlement was in the best 12 interests of all creditors given the costs associated with 13 litigation.5 14 C. The settlement does not violate the Bankruptcy Code’s priority scheme. 15 16 The settlement had the effect of reducing – by a significant 17 amount – the total claims against the estate and bringing 18 $613,000 into an administratively insolvent estate. Without the 19 Settlement, creditors who were not entitled to distributions of 20 grant funds stood to receive nothing. Cross Check does not 21 22 5 Notably, the only relief requested by Cross Check in this 23 appeal is for the Panel to vacate the order approving the settlement and remand to require the bankruptcy court to 24 condition the settlement on a pro rata distribution of all the funds among all creditors. This relief seems inconsistent with 25 an argument that the bankruptcy court’s findings were either 26 erroneous or insufficient to support approval of the settlement; if the Panel were to so hold, the appropriate remedy would be to 27 reverse outright, reverse and remand, or vacate and remand. Further, the funds allocation is a term of the settlement, and we 28 lack power to rewrite the settlement on appeal.

-12- 1 dispute any of these points, but takes the position that the 2 Settlement is not equitable because creditors who are not 3 Schedule A Sub-Recipients will receive approximately 33 percent6 4 of their claims while Schedule A Sub-Recipients will be paid in 5 full. Cross Check contends that because of this unequal 6 distribution, the settlement is contrary to the Bankruptcy Code’s 7 priority scheme, citing Motorola, Inc. v. Official Committee of 8 Unsecured Creditors (In re Iridium Operating LLC), 478 F.3d 452 9 (2d Cir. 2007). In that case, the Second Circuit Court of 10 Appeals remanded an order approving a settlement so the 11 bankruptcy court could assess the justification for distribution 12 of funds to junior creditors in violation of the priority rules. 13 Id. at 465-66. The issue in Iridium Operating, however, was the 14 distribution of estate funds. That case is thus distinguishable. 15 Here, the bankruptcy court found: 16 that the funds allocated to the Schedule “A” Sub- Recipients are not property of the bankruptcy estate 17 under section 541(a) because the Debtor lacked any beneficial or equitable interest in these grant funds 18 and its use of the funds was limited to budgeted and allowed uses defined and controlled by its grants and 19 applicable federal statutes, regulations and agency policies. 20 21 (Emphasis added). 22 Cross Check has never disputed, either in the bankruptcy 23 court or in this appeal, that the funds to be distributed to 24 Schedule A Sub-Recipients were not property of the bankruptcy 25 estate. The bankruptcy court’s finding that the funds were not 26 27 6 In its reply brief, Cross Check suggests that the actual 28 distribution will be closer to 17 percent.

-13- 1 property of the estate was correct. In general, where a 2 governmental agency awards grant funds to a private nonprofit 3 community service organization but maintains control over how 4 those funds are spent, the nonprofit organization acts merely as 5 a conduit and does not obtain any interest in the funds such that 6 the funds become property of the estate if the organization files 7 a bankruptcy case. See Springfield v. Ostrander (In re LAN 8 Tamers, Inc.), 329 F.3d 204 (1st Cir. 2003); Westmoreland Human 9 Opportunities, Inc. v. Walsh, 246 F.3d 233 (3d Cir. 2001); 10 In re Joliet-Will Cty. Cmty. Action Agency, 847 F.2d 430 (7th 11 Cir. 1988). In this case, it is undisputed that the terms of the 12 federal grants and the applicable federal regulations severely 13 restricted Fire Safe’s use of grant funds such that those funds 14 did not become property of the estate. 15 The Bankruptcy Code’s priority distribution rules apply only 16 to property of the estate. See § 726 (setting forth priority 17 scheme for distributions of property of the estate). Because the 18 $1.4 million allocated to Schedule A Sub-Recipients was not 19 property of the estate, there was no requirement that those funds 20 be distributed pro rata. Under the settlement, the $613,000 21 deemed to be property of the estate is to be distributed pro 22 rata; thus the settlement is in compliance with the Bankruptcy 23 Code. 24 CONCLUSION 25 For the reasons explained above, the bankruptcy court did 26 not abuse its discretion in granting the Trustee’s Motion. We 27 therefore AFFIRM. 28

-14-