Federal Deposit Insurance Corporation v. Veluchamy et al
Filing
12
MEMORANDUM Opinion and Order. Signed by the Honorable Sharon Johnson Coleman on 10/21/2014.(rm, )
UNITED STATES DISTRICT COURT
FOR THE NORTHERN DISTRICT OF ILLINOIS
EASTERN DIVISION
FEDERAL DEPOSIT INSURANCE,
CORPORATION,
as Receiver for Mutual Bank,
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Plaintiff,
v.
PARAMESWARI VELUCHAMY and
PETHINAIDU VELUCHAMY,
Defendants.
12-cv-7496
Judge Sharon Johnson Coleman
MEMORANDUM OPINION AND ORDER
In July 2009, an Illinois state agency closed Mutual Bank and appointed the Federal
Deposit Insurance Corporation as receiver. Various federal lawsuits resulted from Mutual
Bank’s closing. In one suit, the FDIC sued multiple former directors of the bank, including
Parameswari and Pethinaidu Veluchamy, alleging that the directors breached their fiduciary duty
by grossly mismanaging bank assets. Additionally, the FDIC also sued the Veluchamys in
federal bankruptcy court, alleging that the FDIC’s claims against the Veluchamys are
nondischargeable debts. The FDIC now moves this court to withdraw the bankruptcy matter
from bankruptcy court. Because the FDIC shows good cause for a withdrawal, the court grants
the motion.
Background
The facts of the underlying matter are more fully set forth in the district court’s opinion in
FDIC v. Mahajan, No. 11 C 7590, 2012 WL 3061852 (N.D. Ill. July 26, 2012) (Kendall, J.). In
short, however, the FDIC, as receiver, alleged that the former directors and officers of Mutual
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Bank unwisely approved twelve risky loans that resulted in over $100 million in losses for the
bank, that they approved unlawful dividends of more than $10 million, and that they diverted the
bank’s assets for personal use. On October 25, 2012, the FDIC asserted multiple counts against
the defendants in district court, including for negligence, gross negligence, breach of fiduciary
duty, breach of loyalty, and wasting of corporate assets. 1 On July 26, 2012, the district court
dismissed certain counts, but the case remains pending against the defendants. Discovery and
settlement discussions are currently underway before a magistrate judge.
On August 17, 2012, the FDIC, acting as receiver for Mutual Bank, initiated an adversary
proceeding against the Veluchamys in bankruptcy court. The FDIC sought a finding that about
$92 million of its claims against the Veluchamys constituted nondischargeable debts under
federal bankruptcy law. In particular, the FDIC alleged that these debts were nondischargeable
under § 523(a)(4) of the bankruptcy code because the Veluchamys debts arose from “fraud or
delfalcation while acting in a fiduciary capacity.” The FDIC subsequently moved the bankruptcy
court to withdraw the adversary proceeding from bankruptcy court to district court. On
September 18, 2014, the clerk of the bankruptcy court transmitted the FDIC’s motion to the
district court, pursuant to Rule 5011 of the Federal Rule of Bankruptcy Procedure. The
adversary proceeding also remains pending in bankruptcy court as FDIC v. Veluchamy, No. 121281.
The parties offer alternative proposals for how the litigation should proceed. The FDIC,
as receiver, prefers that both cases proceed in district court. The Veluchamys prefer that this
court deny the withdrawal motion, that the adversary proceeding remain before the bankruptcy
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The FDIC did not name the Veluchamys as defendants in its original complaint because of the
Veluchamys Chapter 7 petition in bankruptcy court. After the bankruptcy court permitted the
FDIC to proceed in district court against the Veluchamys, the FDIC filed an amended complaint.
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court, and that the bankruptcy court stay the adversary proceeding while the parties continue to
litigate the issue of the Veluchamys’ underlying liability in district court. They propose that if
the district court suit resolves in their favor, then the bankruptcy court should dismiss the
adversary proceeding; if the district court finds the Veluchamys liable, then the bankruptcy court
matter should proceed in order to determine dischargeability.
Legal Standard
Federal law allows district courts to “refer” “proceedings arising under title 11 or arising
in or related to a case under title 11” to specialized bankruptcy judges. 28 U.S.C. § 157(a); see
N.D. Ill. IOP 15(a); Exec. Benefits Ins. Agency v. Arkison, 134 S. Ct. 2165, 2171 (2014). A
district court, however, “may withdraw, in whole or in part, any case or proceeding [referred to a
bankruptcy judge], on its own motion or timely motion of any party, for cause shown.” § 157(d).
Neither federal law nor the Supreme Court has clarified what constitutes “cause” for
withdrawing a matter. Nor has the Seventh Circuit. In 1989, the Seventh Circuit noted the
“paucity of judicial opinions construing this provision,” In re Powelson, 878 F.2d 976, 979 (7th
Cir. 1989); twenty-five years later, the paucity persists. 2 The decision whether to grant
withdrawal remains within the discretion of the district court. That is, the text of § 157(d)
indicates that even if “cause” for withdrawal is shown, a district court is not compelled to
2
This may be, in part, because district-court orders withdrawing matters from bankruptcy court
are “interlocutory and thus unreviewable until after a judgment has been issued.” Good v. VoestAlpine Indus., Inc., 398 F.3d 918, 924 (7th Cir. 2005); see Caldwall-Baker Co. v. Parsons, 392
F.3d 886, 888 (7th Cir. 2004) (“No court of appeals has engaged in appellate review of an order
either granting or denying withdrawal of a reference.”) (listing cases); accord In re McGaughey,
24 F.3d 904, 908 (7th Cir. 1994). The Seventh Circuit, however, has interpreted § 157(d)’s
“mandatory withdrawal” clause. See In re Vicars Ins. Agency, Inc., 86 F.3d 949, 953–54 (7th
Cir. 1996).
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withdraw. See 1-3 Collier on Bankruptcy P 3.04(1)(b) (16th ed. 2014) (“Even if cause exists . . .
there is no mandate that the reference must be withdrawn.”).
The FDIC, citing one opinion from this district, asserts that district courts “generally”
consider six factors when deciding whether cause exists to withdraw a proceeding from
bankruptcy court: 1) the core or non-core nature of the proceeding; 2) judicial economy and
convenience; 3) uniformity and efficiency in bankruptcy administration; 4) forum shopping and
confusion; 5) conservation of debtor and creditor resources; and 6) a party’s jury-trial request, if
any. Pl. Mot. 5, ECF No. 1, p. ID # 5 (quoting In re Emerald Casino, Inc., 467 B.R. 128, 135
(N.D. Ill. 2012)). This six-factor standard, however, derives from no precedential opinion of this
circuit. 3 The Veluchamys rely on another opinion from this district, which quotes from In re
Clark to suggest that the FDIC “must” establish that withdrawal “is narrowly tailored to serve”
“a higher interest than that recognized by Congress.” In re Clark, No. 95 C 2773, 1995 WL
495951, at *3 (N.D. Ill. Aug. 17, 1995). It appears that this quote is derived an Eastern District
of Michigan decision which inadvertently cited to a standard for closing courtrooms during voir
dire in criminal cases. The perpetuation of the citation error will not continue in this case. This
standard, too, is not the law of this circuit. A review of relevant case law, in this circuit and
others, indicates that district courts may simply consider any relevant factor when deciding
whether to withdraw a matter from bankruptcy court.
3
The citation chain indicates that the standard derives, ultimately, from a 1985 Fifth Circuit
opinion in which the court, in acknowledged dicta, offered “general principles” to guide district
courts “in determining whether to refer or withdraw the reference.” Holland Am. Ins. Co. v.
Succession of Roy, 777 F.2d 992, 998 (5th Cir. 1985) (Jones, J.). The Second Circuit has
adopted a similar standard. See In re Orion Pictures Corp., 4 F.3d 1095, 1101 (2d Cir. 1993).
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Discussion
First, the court places particular weight on whether the matter before the bankruptcy court
is a “typical core proceeding,” one in which the bankruptcy judge has constitutional authority to
enter a final judgment, or a “non-core” proceeding. Exec. Benefits, 134 S. Ct. at 173. Federal
law distinguishes between two kinds of proceedings in bankruptcy court: “core” and “non-core”
proceedings. § 157. Rather than defining “core,” § 157 provides sixteen examples of core
proceedings. § 157(b)(2). Relevant here, a core proceeding is a “determination[n] as to the
dischargeability of particular debts.” § 157(b)(2)(H). Here, the parties agree that the bankruptcy
matter is a core proceeding. Federal law envisions that core proceedings, generally, belong in
bankruptcy court, where that court has statutory authority to “enter final judgment on the [core]
claim.” Exec. Benefits, 134 S. Ct. at 2172.
But there is an important distinction. In 2011, in Stern v. Marshall, the Supreme Court
held that certain claims can be “core” within the meaning of federal law and yet not be ones over
which bankruptcy judges have Article III authority to enter final judgments. Stern v. Marshall,
131 S. Ct. 2594, 2611 (2011); see Exec. Benefits, 134 S. Ct. at 2172–73. The Supreme Court
now refers to such claims as “Stern claims.” Exec. Benefits, 134 S. Ct. at 2172. The Supreme
Court has offered only a few examples of Stern claims. The claim at issue in Stern itself was a
common-law counterclaim for tortious interference brought by a bankrupt against a creditor to
the estate. Stern, 131 S. Ct. at 2601. Because § 157(b)(2)(c) lists “counterclaims by the estate
against persons filing claims against the estate” as a “core” proceeding, the bankruptcy court in
Stern had statutory authority to enter a final judgment, but the Supreme Court held that it did not
have constitutional authority to do so. Id. at 2611. Similarly, this last summer, in Executive
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Benefits, the Court “assume[d] without deciding” that fraudulent-conveyance claims brought by
a Chapter 7 trustee against the debtor were Stern claims. Exec. Benefits, 134 S. Ct. at 2174.
The Supreme Court used the term “typical core proceeding,” in contrast to Stern claims,
to refer to matters that are both “core” within the meaning of § 157 and constitutionally may be
“adjudicated to final judgment by the bankruptcy court.” Id. at 2172–73. After Stern, when a
district court assesses the nature of a case before the bankruptcy court in order to decide whether
to grant withdrawal, it is imperative to distinguish between “typical core proceedings” and other
kinds of claims. The parties suggest that the relevant factor for the court to consider is simply
whether a matter is core or non-core. But, as explained above, a matter can be core and still not
constitutionally subject to final authority before the bankruptcy court.
The Second Circuit, at least prior to Stern, regarded the core/non-core distinction as “the
most important” factor in a withdrawal analysis. In re Burger Boys, Inc., 94 F.3d 755, 762 (2d
Cir. 1996); accord In re Orion Pictures Corp., 4 F.3d 1095, 1101 (2d Cir. 1993). After Stern,
several courts in that circuit have reinterpreted this factor to focus on whether the bankruptcy
court has final adjudicative authority over a matter. See, e.g., In re Arbco Capital Mgmt., 479
B.R. 254, 262 (S.D.N.Y. 2012); In re Lehman Bros. Holdings Inc., 400 B.R. 179, 188 (S.D.N.Y.
2012). In a rigorous opinion analyzing the impact of Stern on withdrawal motions, one court
explained that “the relevant inquiry” post-Stern is solely “whether a matter is core or non-core,
but whether the bankruptcy court has the authority to finally adjudicate the matter.” Arbco, 479
B.R. at 262 (Oetken, J.); accord 1-3 Collier on Bankruptcy P 3.04(1)(b) (stating that a sole
emphasis on the core/non-core distinction “may have little utility in a post-Stern world”). This
court agrees. Although this circuit, even before Stern, never placed superlative weight on the
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core/non-core distinction, 4 the court agrees that this factor, as reinterpreted post-Stern, merits
particular consideration. In other words, in the language of Executive Benefits, courts must now
distinguish among “typical core proceedings,” Stern claims, and non-core claims. Here, neither
party suggests that the FDIC’s core claims for nondischargeability findings are Stern claims.
And there is no reason to think a claim for a nondischargeability determination under § 523(a)(4)
is such a claim. The court finds that the bankruptcy matter at issue is a “typical core proceeding”
and that this weighs against withdrawal.
Second, the Veluchamys argue that the complexity of the dischargeability determination
also weighs against withdrawal. They claim that, in this case, the determination turns on whether
their actions constitute “defalcation by a fiduciary” under § 523(a)(4). They argue that this is a
question of law best left for the bankruptcy court. See Defs. Resp. 6–7, p. ID # 45–46. They
also argue that withdrawal would send this “complex legal determination” to a jury, which would
prejudice the Veluchamys and “inevitably cause confusion.” Id. at 7, p. ID # 46. This argument
fails for two reasons. To the extent that the dischargeability determination does present a
question of law, a court—whether a bankruptcy court or a district court—will resolve it; juries do
not decide questions of law. Additionally, although the dischargeability determination may be
complex, juries frequently grapple with and resolve complex questions. The assumption that a
jury is competent to resolve the issues before it is a feature of our judicial system. The
complexity of the issue weighs neither in favor of nor against withdrawal.
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The Veluchamys cite an opinion of this district stating otherwise. Defs. Resp. 8, p. ID # 47
(quoting In re Comdisco, Inc., No. 04 C 5570, 2004 WL 2674398, at *2 (N.D. Ill. Oct. 15,
2004)). In re Comdisco cites In re Sevko, Inc., 143 B.R. 114, 117 (N.D. Ill. 1992). Nothing in In
re Sevko suggests that the core or non-core nature of a proceeding is the “most important” factor
for withdrawal. In fact, In re Sevko does not even suggest that this factor merits any special
weight.
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The FDIC contends that the parallel nature of both proceedings supports withdrawal. It
notes that both lawsuits “share factual allegations, similar legal theories, and the same parties,”
but this alone carries little weight. It is not uncommon for a single set of facts to produce
litigation before multiple judicial tribunals, even when bankruptcy is partly at issue. See Good v.
Voest-Alpine Indus., Inc., 398 F.3d 918, 927 (7th Cir. 2005) (permitting a state-law claim to
proceed in state court while a bankruptcy action proceeds in federal court “is not particularly
unusual or onerous”). Here, however, labeling the dual lawsuits as “parallel” insufficiently
describes the state of the litigation. The adversary proceeding in bankruptcy court remains at a
preliminary stage. The district-court lawsuit, in contrast, has progressed considerably since
filing and is at an advanced stage. The district court has issued orders almost monthly for three
years, and it has also issued four signed opinions in the case. Discovery has been ongoing for a
year-and-a-half. The district court has great familiarity with this matter, whereas the bankruptcy
has almost none. In In re Chateaugay Corp., a case that the Veluchamys cite in opposition to
withdrawal, the district court denied a withdrawal motion in part because the bankruptcy court’s
“mastery of both the facts and law relating to [the plaintiff’s] protracted reorganization [would]
allow it to digest the materials and resolve th[e] dispute more efficiently than would a court
completely new to the case.” 193 B.R. 669, 677 (S.D.N.Y. 1996). Here, the same consideration
cuts the other way: the district court’s mastery of the facts allows it to resolve the matter more
efficiently.
Additionally, the court also considers the opinion of the bankruptcy court as to whether
the district court should withdraw a matter. See In re Vicars Ins. Agency, Inc., 96 F.3d 949, 954
(7th Cir. 1996) (“Some bankruptcy courts . . . make recommendations to the district court as to
whether” the latter should grant a withdrawal motion.). Here, the bankruptcy court’s position is
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clear. On October 30, 2012, at an oral hearing, the bankruptcy court told the parties: “What I
would suggest is that in any briefing before the district court, you state that it is the position of
this court that withdrawal of the reference would be a very useful thing to avoid unnecessary
expense to the parties.” Tr. 15, Defs. Resp., Ex. B, ECF No. 8-2, p. ID # 64. The bankruptcy
court emphasized: “I hope you both agree that it ought to be withdrawn and that you can submit
that immediately.” Id. at 16, p. ID # 65. The position of the bankruptcy court carries particular
weight for the same reason that core proceedings generally belong in bankruptcy court: the
bankruptcy court has special familiarity with bankruptcy laws and procedures. The bankruptcy
court in this case determined that the optimal outcome would be for the dischargeability
determination to occur in district court.
Concerns about issue preclusion and judicial economy underlay the bankruptcy court’s
position. The bankruptcy court explained that if this court were to deny the withdrawal motion,
the bankruptcy court would delay its dischargeability finding until the district court determined
liability.
And then we’d have to have argument here about the extent to which findings that
were made in the district court proceeding had a collateral estoppel effect on the
issues that I would have to determine in deciding the question of dischargeability.
And if there was not complete collateral estoppel, we’d be in a situation of calling
the same witnesses back to address the question of intent that might be left open.
So having all of the matters involved in the same proceeding would probably be
very much in the parties’ best interest.
Id. at 16–17, p. ID # 65–66. The Veluchamys disagree, arguing that concerns about preclusion
are “premature” because “they are not able to thoroughly analyze the extent to which factual
findings” in the district court would merit preclusion effect in the bankruptcy court. Defs. Resp.
12, p. ID # 51. This court agrees with the bankruptcy court’s position: the possibility that the
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bankruptcy court would need briefing and argument on the preclusion issue unnecessarily
complicates this case and undermines, rather than promotes, judicial economy.
Conlusion
The bankruptcy lawsuit between the FDIC, as receiver, and the Veluchamys is a “typical
core proceeding” that a bankruptcy court ordinarily should hear. But, in this case, the district
court’s in-depth knowledge of the case, the bankruptcy court’s recommendation, and legitimate
concerns about issue preclusion all weigh in favor of withdrawal. The court finds that
withdrawal is appropriate and grants the motion of the FDIC, as receiver. 5
_____________________________
SHARON JOHNSON COLEMAN
United States District Judge
DATED: October 21, 2014
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The FDIC states that if this court grants the withdrawal motion, it will move to consolidate the
adversary proceeding and the liability lawsuit. The FDIC may, if it chooses, file such a motion
before the district judge presiding over the underlying case.
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