Sword Line, Inc. v. Industrial Commissioner of State of New York

212 F.2d 865, 1954 U.S. App. LEXIS 3994

• Court: Court of Appeals for the Second Circuit
• Decided: April 27, 1954
• Docket: 132, Docket 22860
• Status: Published

Opinions

CLARK, Circuit Judge.

It is conceded, as it must be in the light of relevant Supreme Court decisions, that bankrupt estates cannot be directly used to pay post-bankruptcy interest on claims against the bankrupt for unpaid taxes. This was settled for ordinary bankruptcy by the leading case of City of New York v. Saper, 336 U.S. 328, 69 S.Ct. 554, 93 L.Ed. 710; for proceedings in reorganization by United States v. Edens, 342 U.S. 912, 72 S.Ct. 357, 96 L.Ed. 682, affirming 4 Cir., 189 F.2d 876; for proceedings by way of arrangement by United States v. General Engineering & Mfg. Co., supra, 342 U.S. 912, 72 S.Ct. 358, 96 L.Ed. 682, affirming 8 Cir., 188 F.2d 80, and see Commonwealth of Massachusetts v. Thompson, 1 Cir., 190 F.2d 10, certiorari denied 342 U.S. 918, 72 S.Ct. 364, 96 L.Ed. 686; and even for a general assignment under N. Y. Debtor & Creditor Law by United States v. Bloom, 342 U.S. 912, 72 S.Ct. 357, 96 L.Ed. 682, affirming Pavone Textile Corp. v. Bloom, 302 N.Y. 206, 97 N.E.2d 755. This appeal raises the question whether, notwithstanding this current of authority, such interest may nevertheless be collected by direct action against a debtor after confirmation of its arrangement in Chapter XI proceedings.

It is the position of the State of New York, vigorously asserted here and elsewhere, that such collection may be made by using the ordinary remedies available against solvent debtors.¹ And this view appears to have been substantially the view of the district court in reversing the decision of the referee in bankruptcy for the debtor, although it did refrain from a final adjudication.² But since a plan of arrangement recognizing the insolvency of this bankrupt has been confirmed and payments made to carry it out, the issue is before us and must be decided. Particularly in the case of a reorganized or “arranged” corporation such as this is it clear that the State’s position calls for payment of interest before the debtor can go ahead with its activities. That is, the Supreme Court rulings cannot then accomplish what they seem intended to do; on the contrary, they will lead in actuality to simpler and harsher collection of the tax interest than if ordered through the medium of reorganization or arrangement. We do not believe that all this history and decision can really have been intended to produce so pyrrhic a result.

The basis of the State’s claim rests upon the provisions in the Bankruptcy Act for priority and nondischargeability of tax claims and the complete assimilation of post-bankruptcy interest to the taxes themselves. Thus § 371 of the Act, 11 U.S.C. § 771, provides that the confirmation of an arrangement shall not discharge debts not dischargeable under § 17, 11 U.S.C. § 35, while § 17 excepts from discharge debts as “are due as a tax levied by the United States, or any State, county, district, or municipality.”³ In § 354 as now amended, 11 U.S.C. § 755, it is provided that, when an order in an arrangement proceeding is entered directing that bankruptcy be proceeded with, “only claims for taxes legally due and owing to the United States or any State or any subdivision thereof at the time of the filing of the original petition under this title,” together with the ordinary provable claims, § 63, 11 U.S.C. § 103, “shall be allowed.”⁴ Since there is nothing in the Act which specifically covers either the allowance or the nondischargeability of interest on taxes, such a claim if based affirmatively on the statute must be brought within the terms here cited to gain the special immunity claimed. But the language is not apt for the purpose— thus such interest is hardly a tax “legally due and owing” at the time of the filing of the petition; and the history of the status of such claims and their treatment judicially is persuasive to the contrary. Nor can the State rest on the statute’s silence and the assumption that claims survive unless expressly cut off. For we think the contrary true under the scheme of the Act.

Before the matter was settled by the ruling in the Saper case there had been sharp differences of view among federal judges and commentators on the issue— a situation not unnatural in view of the absence of statutory mandate. Without pausing here for a full citation of opposing authorities, we may refer to the able decision in favor of allowance of interest in Davie v. Green, 1 Cir., 133 F.2d 451, which persuaded two of our colleagues, Carter v. United States, 2 Cir., 168 F.2d 272, and was relied on by the dissenting justice in the Saper case, 336 U.S. 328, at page 341, 69 S.Ct. 554, 93 L.Ed. 710. Our opposing decision in Saper v. City of New York, 2 Cir., 168 F.2d 268, produced a conflict in and among circuits which led to the Supreme Court review settling the issue, City of New York v. Saper, supra, 336 U.S. 328, 69 S.Ct. 554, 555, 93 L.Ed. 710.

The approach to the issue of Justice Jackson, speaking for the Court in this decisive case, is instructive. First is his initial statement of the problem: “The ultimate issue in these three cases is whether tax claims against a bankrupt bear interest until the date of bankruptcy, as held by the court below, or until payment, as previously held by another Court of Appeals.” (Italics here and later supplied.) He continues: “More than forty years ago Mr. Justice Holmes wrote for this Court that the rule stopping interest at bankruptcy had then been followed for more than a century and a half. He said the rule was not a matter of legislative command or statutory construction but, rather, a fundamental principle of the English bankruptcy system which we copied.” Then after finding logical implications to the same effect in § 63, sub. a(l) and (5), 11 U.S.C. § 103, sub. a(l) and (5), and § 57, sub. j, 11 U.S.C. § 93, sub. j — the latter dealing specifically with debts owed the United States or any state or subdivision thereof — he continues: “Moreover, there is no interest except that which accrues according to law — it is exactly such interest that the ‘fundamental principle’ cuts off as of bankruptcy. Section 57, sub. n, 11 U.S.C. § 93, sub. n, requires governmental claims to be proved in the same manner and within the same time as other debts and only for cause shown may a reasonable extension be granted. Tax claims are treated the same as other debts except for the fourth priority of payment, § 64, sub. a, 11 U.S.C. § 104, sub. a, and the provision making taxes nondischargeable, § 17, 11 U.S.C. § 35. But each of these sections is silent as to interest.” Then he makes an extended analysis of the case authority and later amendments of the Bankruptcy Act to state: “The Court of Appeals concluded that by the 1926 amendment and the Chandler Act, Congress assimilated taxes to other debts for all purposes, including denial of post-bankruptcy interest. We think this is a sound and logical interpretation of the Act after those amendments to §§ 64, sub. a, and 57, sub. n.” 336 U.S. 328, at pages 329, 330, 331, 332, 337, 338, 69 S.Ct. at pages 555, 556, 559.

So conclusive did this reasoning and decision seem to us that recently when the State of New York again made a like contention to us, we rejected it, citing particularly the last quotation made above. In State of New York v. Feinberg, 2 Cir., 204 F.2d 502, 503, Judge Kaufman approved a plan of reorganization of Huyler’s, Inc., which granted the State on bonds issued for unpaid unemployment taxes only such interest as other bondholders of like class were to receive, not the 9 per cent per annum provided for this tax by New York law. It is obvious that we could not properly have affirmed the approval of the plan, which made no provision for the contingency, if the law would permit the State to make later collection of the additional amount. But in fact we referred to the principle that even governmental priorities were “fully discharged upon consummation of the final plan of reorganization”; said that “it would seem anomalous that sometime later there might be a revivification of priorities once terminated”; and held the matter settled in favor of the power exercised by the trial judge under the Saper ruling that Congress had assimilated taxes to other debts “ 'for all purposes, including denial of post-bankruptcy interest.’ ” And see also Pavone Textile Corp. v. Bloom, supra, 302 N.Y. 206, at page 211, 97 N.E.2d 755, making a like analysis of both federal and New York statutes.

The argument to the contrary appears, so far as we understand it, to be based upon the assumed premise that interest is merely “suspended” during the period of bankruptcy and, not being specifically denominated as discharged, therefore revives after termination of proceedings. This is a large premise, with a generous and uncompelled, if not surprising, conclusion. Thus stated the difficulty appears to be only semantic and, if the reasons of policy and history are as strong as the Supreme Court has indicated, should yield to semantic remedies. And it is little compliment to the Supreme Court, whose skillful and persuasive rationale in the Saper case met and surmounted the major issue, to hold that it would be balked by this limited and already indicated subordinate step, so much so, indeed, as to nullify for all practical effect its prior carefully considered holding.

The holding that interest is only suspended is a deduction from two stated “exceptions” to the English rule cited approvingly in the Saper case, 336 U.S. 328, at page 330, note 7, 69 S.Ct. 554, at page 555, viz., (1) that if the alleged bankrupt proved solvent, creditors received post-bankruptcy interest before any surplus reverted to the debtor; and (2) that if securities held by a creditor as collateral produced interest or dividends during bankruptcy, these amounts were applied to post-bankruptcy interest. These exceptions, be it noted, were general, without peculiar application to tax claims. The first exception was applied (without resort to the rationale of interest as “suspended”) in Johnson v. Norris, 5 Cir., 190 F. 459, appeal dismissed Norris v. Johnson, 232 U.S. 715, 34 S.Ct. 330, 58 L.Ed. 811, and in American Iron & Steel Mfg. Co. v. Seaboard Air Line Ry., 233 U.S. 261, 267, 34 S.Ct. 502, 505, 58 L.Ed. 949, a receivership case, where the Court said: “For, manifestly, the law does not contemplate that either the debtor or the trustees can, by securing the appointment of receiver, stop the running of interest on claims of the highest dignity.” See for a late acute discussion In re Macomb Trailer Coach, 6 Cir., 200 F.2d 611, certiorari denied McInnis, Trustee v. Weeks, 345 U.S. 958, 73 S.Ct. 940, 97 L.Ed. 1378, noted in 27 J.N.A.Ref.Bankr. 122, supporting a third exception, namely where the value of the security is more than sufficient to pay both the principal and interest thereon to date of payment of the claim secured thereby. Since the Supreme Court has not yet settled the extent and nature of these suggested exceptions, it may be premature to base an extended argument upon their existence ; in pursuance of an overriding policy the Court may ultimately think it not desirable to allow any at all. Nevertheless we do not perceive real difficulty in accepting them if the Court so desires. But in that case these further suggestions seem in point.

To denominate uncollectible interest as merely suspended seems of itself a solecism. It reminds of Dean Ames’ classic statement: “An immortal right to bring an eternally prohibited action is a metaphysical subtlety that the pres-ent writer cannot pretend to understand.” Lectures on Legal History 199 (1913). But, however it be denominated, of course the fact, rather than the label, controls. And the reiterated fact 'throughout the cases, and the basis of -the extensive rationale, is — as we have seen by the quotations above — that interest ceases upon bankruptcy in the general and usual instances noted and unless the bankruptcy bar proves eventually nonexistent by reason of the actual solvency of the debtor.⁵ The discretionary control of a court over interest not based on a contract is traditional. See Redfield v. Ystalyfera Iron Co., 110 U.S. 174, 176, 3 S.Ct. 570, 28 L.Ed. 109; Redfield v. Bartels, 139 U.S. 694, 701, 11 S.Ct. 683, 35 L.Ed. 310. And this is but a response to both policy and federal statutory control. Particularly when it appears that failure thus clearly to carry the logic of the policy announced by the Court to its natural conclusion is effectually to deny realistic operation of the policy itself, do we feel that the outcome here stated is that intended by the Court.

The decision below denying this effect to the arrangement proceedings is therefore error. While injunction against state proceedings is undesirable, it is nevertheless recognized as necessary where preservation of federal dispositions in bankruptcy and protection and enforcement of federal decrees in legal rehabilitation of corporations are necessary. Ciavarella v. Salituri, 2 Cir., 153 F.2d 343; Evans v. Dearborn Machinery Movers Co., 6 Cir., 200 F.2d 125; Local Loan Co. v. Hunt, 292 U.S. 234, 54 S.Ct. 695, 78 L.Ed. 1230, 93 A.L.R. 195; and see also Halpert v. Engine Air Service, 2 Cir., 212 F.2d 860. It may be that on remand of this action, injunctive relief will no longer be necessary; but if it is shown to be, then the district court has power to act.

' Reversed and remanded for proceedings in accordance with this opinion.

1 . This is made most clear not only by respondent’s specific contentions herein, but also by his citation to us, as correct and authoritative, of a decision by a referee in the Unemployment Insurance Referee Section of the State Department of Labor-Case No. E2340-53R, Starrett Television Corp. — holding an employer liable for interest on unpaid taxes during the pendency of arrangement proceedings in reliance on Judge Ryan’s decision in this case.

2 . In view of this and of the fact that respondent has not appealed from the order expunging the warrant from the state judgment docket, it may be suggested that injunctive relief now is premature. But the expunging of the direct holding by the referee in bankruptcy which would have settled the question, the absence now of any adequate protection for the plan of arrangement, and the direct threat of steps to collect, see note 1 supra, convince us that action is now necessary. -

3 . The provisions of § 226, 11 U.S.C.A. § 626, applying to reorganization proceedings, are somewhat differently framed, being to the effect that the property dealt with by the plan is free and clear of creditors’ claims, and there is no specific exception for claims allowable under § 17, 11 U.S.C.A. § 35. But there is nowhere any suggestion that reorganization proceedings should be treated differently from those in ordinary bankruptcy or of arrangement; and, as we have seen, the Sapor rule actually developed in a case of ordinary bankruptcy. Of course a differentiation between these proceedings would be most unfair and inequitable, and the rationale developed later in this opinion avoids necessity for any attempt to make it.

4 . The corresponding section of Chapter X, S 238, sub. 3, 11 U.S.C.A. § 638, suh. 3, as amended, is identical in the language quoted.

5 . This is discussed as one interpretation of the Court’s Saper opinion in a Note, 58 Yale L.J. 982, 992, before the later re-enforcing decisions — although the writer appears to presume in favor of the alternative accepted below.