State of North Dakota v. Susan Bala

• Court: United States Bankruptcy Appellate Panel for the Eighth Circuit
• Decided: September 16, 2020
• Docket: 20-6002
• Status: Published

Opinion

United States Bankruptcy Appellate Panel For the Eighth Circuit ___________________________

No. 20-6002 ___________________________

In re: Racing Services, Inc.

Debtor

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State of North Dakota, ex rel. Wayne Stenehjem, Attorney General

Claimant - Appellant

v.

Susan Bala; Kip M. Kaler, Trustee

Objectors - Appellees ____________

Appeal from United States Bankruptcy Court for the District of North Dakota - Fargo ____________

Submitted: August 7, 2020 Filed: September 16, 2020 ____________

Before NAIL, SHODEEN and DOW, Bankruptcy Judges. ____________

Dow, Bankruptcy Judge The subject of this case is a claim filed by the State of North Dakota, ex rel. Wayne Stenehjem, Attorney General (the “State”) in its purported representative capacity on behalf of eligible nonprofit organizations and as assignee of Team Makers (the “Claim”). Susan Bala (“Bala”), a creditor and sole equity holder of Racing Services, Inc. (the “Debtor”), objected to the Claim as did the Chapter 7 Trustee (the “Trustee”). The Bankruptcy Court denied the State’s claim filed on behalf of unnamed charities for lack of standing, and denied the State’s claim on behalf of Team Makers on the equitable doctrine of laches. The State appealed. For the reasons that follow, we affirm in part, and reverse and remand in part.

STANDARD OF REVIEW

A bankruptcy court’s legal conclusions are subject to de novo review. Fisette

v. Keller (In re Fisette), 455 B.R. 177, 180 (8th Cir. BAP 2011). Here we review de

novo the Bankruptcy Court’s legal conclusions on the issue of the State’s standing,

and the availability of laches as a matter of law. Dalton v. NPC Intl, Inc., 932 F.3d

693, 695 (8th Cir. 2019)(citations omitted).1

1 The Debtor posits that appellate courts review a trial court’s determination of laches for abuse of discretion, citing Brown-Mitchell v. K.C. Power & Light Co., 267 F.3d 825, 827 (8th Cir. 2001). However, in that case, the court of appeals reviewed the district court’s application of laches to the facts. In contrast, the question here is the availability of laches as a matter of law. See In re Estate of Rios, 2008 WL 986043, *2 (N. Mar. I. April 4, 2008)(“[w]e review de novo whether laches is available as a matter of law and for an abuse of discretion the [trial] court’s decision whether to apply laches to the facts.”)(citations omitted)).

2 FACTUAL BACKGROUND

This case has a long and complex history that has made its way through

several courts. While a detailed recitation of the facts is not necessary for this ruling,

an abbreviated version of the factual and procedural history is warranted. 2

The Debtor operated a pari-mutuel horse racing technology and service

business in North Dakota. It filed its Chapter 11 petition on February 3, 2004. The

case was converted to Chapter 7 months later. The major controversy is rooted in a

ruling by the District Court, ten years into the case, that the State was not authorized

to collect taxes under North Dakota law on account of wagering. As a result, the

State owed the Debtor’s bankruptcy estate millions of dollars for taxes improperly

collected. The parties eventually settled; the State paid the estate over $15 million.

Other creditors then asserted new claims for a piece of the large cash infusion. The

Bankruptcy Court sustained the objections to these claims (other than one of Bala’s

claims) after a multiple-day trial.

The State filed a new proof of claim over a month after the Bankruptcy Court

issued its ruling on the other claims. Its Claim was made “as Representative for the

benefit of eligible nonprofit organizations” under the doctrine of parens patriae.

2 The following cases provide the background in more detail: In re Racing Services, Inc., 482 B.R. 276 (Bankr. D.N.D. 2012); In re Racing Services, Inc., 595 B.R. 334 (Bankr. D.N.D. 2018). 3 The only charity listed by name, however, was Team Makers. Acknowledging that

the majority of (if not the only) account wagering activity was conducted through

Team Makers, the State subsequently entered into a Consent and Assignment

Agreement (the “Consent Agreement”) with Team Makers for the express purpose

of eliminating any question regarding its ability to pursue the Claim against the

Debtor’s estate for the charity’s benefit. Bala and the Trustee objected to the Claim

on the grounds that the State lacked standing, the Claim lacked merit, and the Claim

was untimely. PW Enterprises, Inc. (“PWE”), a major creditor, filed a brief in

support of the State’s Claim.

After an evidentiary hearing on the claim objection (the “Evidentiary

Hearing”), the Bankruptcy Court denied the State’s Claim for lack of standing. It

focused on the State’s failure to establish 1) that a substantial segment of the

population was injured, and 2) that the Claim belonged to anyone other than Team

Makers, and if there were indeed any other identifiable charities that were involved,

that they were incapable of bringing an action on their own. The Bankruptcy Court

also held that while the State may have standing to represent Team Makers by virtue

of the Consent Agreement, the Team Makers Claim was barred by laches.

4 DISCUSSION

Parens Patriae Authority

The concept of parens patriae creates a right for a state to sue to prevent or

repair harm to quasi-sovereign interests. Hawaii v. Standard Oil Co. of Cal., 405

U.S. 251, 258 (1972). To have parens patriea standing, a state must prove two

elements: a quasi-sovereign interest distinct from that of a particular party, and

injury to a substantial segment of the state’s population. Alfred L. Snapp & Sons,

Inc. v. Puerto Rico, ex rel. Barez, 458 U.S. 592, 607 (1982); Lynch v. Nat’l

Prescription Adm’rs, Inc., 787 F.3d 868, 872 (8th Cir. 2015). Regarding the first

element, a state’s mere assertion of quasi-sovereign interests is not sufficient to grant

parens patriae standing if the relief sought is limited to monetary damages for

injuries suffered to individual parties; such an award will not compensate the state

for any harm done to its quasi-sovereign interest. See Snapp, 458 U.S. at 602; People

of State of N.Y. by Abrams v. Seneci, 817 F.2d 1015, 1017 (2d Cir. 1987). Regarding

the second element, there is no specific number of persons who must be affected for

a state to invoke the doctrine, but “more must be alleged than injury to an identifiable

group of individual residents.” Snapp, 458 U.S. at 607.

The State dedicates a substantial amount of its briefing to cases and statutes

supporting the position that the State’s authority to regulate gaming activities and to

5 oversee charitable organizations for the benefit of the public is broad, and that it has

a quasi-sovereign interest in protecting the integrity of the system. 3 While that

position may have merit, it does not speak to the question that the State must address,

and that the Bankruptcy Court asked directly at the Evidentiary Hearing: How is the

State’s interest distinct from Team Makers? The State failed to demonstrate a quasi-

sovereign interest distinct from the Team Makers Claim, a necessary element to

establish parens patriae standing. It sought monetary damages for one private

charitable organization rather than compensation for any damage done to its quasi-

sovereign interest in protecting the public from inappropriate gaming activities.

Therefore, we affirm the Bankruptcy Court’s holding that the State lacked parens

patriae authority in this case.

Even if the State had established the first element of parens patriae standing,

it did not establish the second: injury to a substantial segment of North Dakota’s

population. When questioned on this point by the Bankruptcy Court at the

Evidentiary Hearing, the State responded that the substantial population was North

3 At the Evidentiary Hearing (and in its briefing), the State relied heavily on cases in which the Attorney General intervened because of concerns as to how charitable trusts were operating. The Bankruptcy Court made the distinction, however, that Team Makers is a private charity with its own interests as opposed to a charitable trust. In addition, the majority of the cases and statutes on which the State relies address interests that are not in issue here (e.g., to prevent private corporations from exercising an unauthorized power, to protect any gifts or legacies intended for public purposes, to recover for antitrust offenses). 6 Dakota State University (“NDSU”), the “sports,” the “kids going to college.” The

Bankruptcy Court pointed out that the State was not representing NDSU, but Team

Makers, and it did not see how Team Makers represented a substantial segment of

North Dakota’s population. This exchange followed:

State: Well, it may be a factual matter. … Court: No, I’m talking about as a matter of factual proof, I’m driving home with this case submitted to me and you’re saying that might be a factual matter; saying, well, I didn’t see the facts to support it so you haven’t shown that as a factual matter. Am I wrong? State: No. Evidentiary Hearing Transcript, page 65, lines 6-18.

The State argued further that the indirect effects of the injury must be

considered as well in determining whether the State has alleged injury to a

sufficiently substantial segment of its population, citing Snapp, 458 U.S. at 607.

However, the record is devoid of evidence establishing the “indirect effects” to

which the State refers. The State offered only one witness at the Evidentiary

Hearing, an attorney representing PWE. (It is noteworthy that the State did not call

a representative of Team Makers or of NDSU to testify.) That witness produced no

evidence that any charitable organizations other than Team Makers was affected by

the account wagering at the relevant time. The State produced no other evidence

regarding the specific injury incurred by NDSU, nor did it demonstrate the substance

7 or magnitude of the “indirect effects” of the injury allegedly caused by the Debtor.

We therefore concur with the Bankruptcy Court’s finding that the State failed to

show the requisite injury to a substantial segment of North Dakota’s population, and

affirm its ruling that the State did not have parens patriae standing to file a claim on

behalf of Team Makers and other charities.

Laches

The Bankruptcy Court ruled that to the extent the State had authority to assert

Team Makers’ Claim by virtue of the Consent Agreement, it was nonetheless barred

by laches, and therefore denied. Laches is an equitable defense based on the maxim

that equity aids the vigilant, not those who sleep on their rights. In re Jemal, 496

B.R. 697, 703 (Bankr. E.D.N.Y. 2013). It applies when a claimant inexcusably

delays in asserting its claim and thereby unduly prejudices the party against whom

the claim ultimately is asserted. Roederer v. J. Garcia Carrion, S.A., 569 F. 3d 855,

858-59 (8th Cir. 2009)(citations omitted). To successfully assert laches as a defense,

a defendant must prove three elements: 1) a delay in asserting a right or claim; 2)

that the delay was inexcusable; and 3) undue prejudice to the party against whom

the claim is asserted. Id.

At the Evidentiary Hearing, the State did not dispute that there was a delay,

nor did it dispute that Bala was prejudiced. It claimed that the delay was excusable

8 because many things had changed through the course of the litigation. In addition,

the State asserted that the cause of the prejudice was the Bankruptcy Court’s earlier

ruling.

The first time the State argued that laches could not apply in Chapter 7 cases

was in this appeal. Bala asserts that the State should not be permitted to raise this

new issue since it was not raised before the Bankruptcy Court, citing cases holding

that this would be inherently unjust. See Singleton v. Wulff, 428 U.S. 106, 120

(1976); Stafford v. Ford Motor Co., 790 F.2d 702, 706 (8th Cir. 1986). 4 The matter

of what questions may be taken up and resolved for the first time on appeal is one

left primarily to the discretion of the courts of appeal, to be exercised on the facts of

individual cases. Id. (citations omitted). An appellate court is justified in resolving

an issue not passed on below when, for example, the proper resolution is beyond any

doubt or where injustice might otherwise result. Id. (citations omitted). Another

exception to the general rule cited by Bala is when the argument involves a purely

legal issue as to which no additional evidence or argument would affect the outcome.

Weitz Co. v. Lloyd’s of London, 574 F.3d 885, 891(8th Cir. 2009)(citations omitted).

4 At oral argument, Bala argued that the State had the opportunity to raise its arguments regarding laches in the Bankruptcy Court, but did not. The record does not support that assertion. According to the docket sheet, the State filed its pretrial brief on May 10, the day by which they were due. Bala filed hers on May 24, six days before the hearing – that was the first time she raised the laches defense. 9 Bala conceded at oral argument that no factual issues are involved in this

context. The State’s argument that laches cannot apply to Chapter 7 cases is a purely

legal question. We conclude that the State did not waive its right to raise this issue,

and exercise our discretion to consider it in this appeal.

Section 726 provides in part:

(1)Except as provided in section 510 of this title, property of the estate shall be distributed — … (2) in payment of any allowed unsecured claim … proof of which is — … (C) tardily filed under section 501(a) of this title, if — (i) the creditor that holds such claim did not have notice or actual knowledge of the case in time for timely filing of a proof of such claim under section 501(a) of this title; and (ii) proof of such claim is filed in time to permit payment of such claim; (3) third, in payment of any allowed unsecured claim proof of which is tardily filed under section 501(a) of this title, other than a claim of the kind specified in paragraph (2)(C) of this subsection; … (6) sixth, to the debtor.

11 U.S.C. §726(a).

The State contends that laches does not apply to tardily-filed claims that are

filed in time to permit distribution under §726(a). In other words, since the Trustee

has not made his final distribution in the Debtor’s case, the State’s Claim was filed

in time to permit payment; pursuant to §726(a)(3), laches cannot apply. It relies on

three cases to support its position: In re Jemal, 496 B.R. 697 (Bankr. E.D.N.Y.

10 2013), In re Feldman, 261 B.R. 568 (Bankr. E.D.N.Y. 2001), and Columbia Ribbon

& Carbon Mfg. Co., 54 B.R. 714 (Bankr. S.D.N.Y. 1985). Bala distinguishes these

cases on the grounds that each of them focuses on the fact that the claimant did not

have notice or knowledge of the bankruptcy proceeding, so the holdings were

governed by §726(a)(2)(C), not §726(a)(3). Since the State has been a known

creditor from the inception of the Debtor’s bankruptcy, Bala asserts, cases relying

on §726(a)(2) are not relevant.

Courts have held that regardless of whether tardily-filed unsecured claims are

classified under §726(a)(2) or (a)(3), they are entitled to distribution from the estate,

and are to be paid prior to the trustee making any distribution to the debtor. See,

e.g., In re Houser, 242 B.R. 406, 407 (Bankr. S.D. Ohio 1999); Perry v. First

Citizens Fed. Credit Union, 304 B.R. 14, 21 (D. Mass. 2004), aff'd, In re Perry, 391

F.3d 282 (1st Cir. 2004).

Bala also contends that courts have applied laches to disallow claims in

Chapter 7 cases, relying on In re Wilson, 96 B.R. 257 (9th Cir. BAP 1988), and In

re Cmehil, 43 B.R. 404 (Bankr. N.D. Ohio 1984). However, the Cmehil court does

not even mention §726(a). The court in Wilson acknowledges §726(a)(3), but bases

its ruling on how the amendment of Rule 3002(c) in 1996 effectively removed the

11 bankruptcy court’s discretion whether to extend the time permitted for creditors to

file late claims in a Chapter 7. Neither case is relevant.

Further, Bala cites several cases in which courts applied laches to disallow

claims in Chapter 11 and Chapter 13 cases. Given that §726 applies only to Chapter

7, these cases are inapposite.

By enacting §726(a)(2)(C), Congress intended to permit distribution to late

filed claims of known creditors so long as the claims are filed in time to permit the

distribution. Jemal, 496 B.R. at 704, citing In re Feldman, 261 B.R. 568, 579

(Bankr. E.D.N.Y. 2001). Because the statutory scheme for claims allowance and

priority in Chapter 7 cases is expressly set forth in the Bankruptcy Code it would be

improper for a court to employ the doctrine of laches to modify that scheme. See

Jemal, 496 B.R. at 704. As the Supreme Court stated in United States v. Mack,

“Laches is not a defense to an action filed within the applicable statute of

limitations.” Mack, 295 U.S. 480, 489 (1935). One of the principal reasons for this

rule is that “separation of powers principles dictate that federal courts not apply

laches to bar a federal statutory claim that is timely filed under an express federal

statute of limitations.” Jemal, 496 B.R. at 703 (citing Ivani Contracting Corp. v.

City of New York, 103 F.3d 257, 259 (2d Cir. 1997). The application of laches is

inconsistent with the language of §726 and its underlying policy.

12 The State also argues that the Bankruptcy Court erred in disallowing its

tardily-filed claim, citing §502(b).5 Under that provision of the Bankruptcy Code, a

claim shall be allowed unless it falls within one of its nine exceptions. In re Dove-

Nation, 318 B.R. 147, 153 (8th Cir. BAP 2004). Pursuant to §502(b)(9), a tardily-

filed claim in a Chapter 7 case is not subject to disallowance so long as it meets the

requirements of either §§726(a)(1), (2), or (3). 11 U.S.C. §502(b)(9). The court in

In re Stalf, 252 B.R. 168 (Bankr. E.D. Mo. 2000), articulated the exception to the

exception this way:

In a Chapter 7 case, a proof of claim is deemed allowed unless a party in interest objects. If an objection is made, the Court shall allow the claim except to the extent that the proof of claim was not timely filed; except that if not timely filed, it may yet be allowed to the extent that it was tardily filed as permitted under §726(a)…. Id. at 169 (citations omitted). The State takes the position that its Claim, though

tardily-filed, should not have been disallowed because, under §502(b)(9), it was filed

within the limitations set forth in §726(a)(3) (i.e., before a final distribution).

In response, Bala argues that while a tardily-filed claim may not be disallowed

based on its tardiness under §502(b)(9), a court could disallow it under §502(b)(1)

which provides for disallowance if “such claim is unenforceable against the debtor

and property of the debtor, under any agreement or applicable law for a reason other

5 Bala did not challenge our consideration of this issue on the grounds that it was not raised in the Bankruptcy Court. 13 than because such claim is contingent or unmatured.” 11 U.S.C. §502(b)(1). Bala

attempts to “fit” its objection to the State’s claim into §502(b)(1) by characterizing

laches as a defense under North Dakota law. We do not find this argument

persuasive.

A plain reading of §502(b) suggests that the bankruptcy court should

determine whether a creditor’s claim is enforceable against the debtor as of the date

the bankruptcy petition was filed. In re Flanagan, 503 F. 3d 171, 179 (2d Cir. 2007).

The fact that laches is a recognized defense in North Dakota, as Bala contends, does

not render the Claim unenforceable against the Debtor under “applicable law” as

contemplated by §502(b)(1). By definition, the laches defense was not available as

of the date the Debtor’s petition was filed.

Because we have decided that laches is not available as a matter of law to

tardily-filed claims in a Chapter 7 case as long as they are filed in time to permit

distribution under §726(a), there is no need to address the State’s separate argument

that §502(b) does not provide for the disallowance of claims based on issues of post-

petition enforceability.

For the foregoing reasons, we affirm the Bankruptcy Court’s ruling that the

State’s Claim as filed on behalf of Team Makers and unnamed charities is denied

for lack of standing under parens patriae. While we agree with the Bankruptcy

14 Court that finality is a very important interest, particularly in a case of this duration,

we conclude that laches does not apply to tardily-filed claims that are filed in time

to permit distribution under §726(a). We therefore reverse the Bankruptcy Court’s

ruling that the Team Maker Claim assigned to the State was barred by laches, and

remand the case to the Bankruptcy Court for reconsideration of the Claim and any

other objections thereto.

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