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Corporate Restructuring & Bankruptcy | MONDAY, JUNE 13, 2016 | S5
though the creditor has technically satisfied the statute. Under §305, a bankruptcy court may dismiss a bankruptcy case (involuntary and voluntary) or suspend all proceedings if “the interests of creditors and the debtor would be better served by such dismissal.”18 As set forth above, because bankruptcy courts do not wish to be perceived as col- lection agencies, an involuntary case which is essentially a two-party dispute may be dismissed for this reason under §305.19
An important exception that bankruptcy courts recognize to determine whether an involuntary petition should be dismissed either under §§303 or 305, is whether the petitioning creditor can demonstrate special circumstances, such as the ability to obtain relief in bankruptcy that it is not available
Under appropriate circumstanc- es an involuntary petition gives creditors a forum to expedite and maximize collection of
a debtor’s assets and make distributions on a cost-effective basis.
under nonbankruptcy law. For example, under §547 of the Bankruptcy Code, a trustee may generally recover a transfer made to a creditor on account of an antecedent debt within 90 days of a bankruptcy filing, com- monly referred to as a preferential transfer. This relief is unique to the Bankruptcy Code. As a result, bankruptcy courts have consis- tently entered orders for relief in involuntary bankruptcy proceedings when qualifying creditors, even a single one, seek the entry of an order for relief for these types of special circumstances as well as other bankruptcy related purposes.20
Until recently, the Bankruptcy Court applied the standards set forth in §§303 and 305 in an objective manner. However, a 2015 decision by the U.S. Court of Appeals for the Third Circuit injected additional hurdles for qualified creditors to satisfy in order to obtain an order for relief. In Forever Green, the court affirmed the dismissal of an involuntary petition even when the statutory requirements under §303 had been satisfied, based solely on a petitioning creditor’s bad faith. By going outside the statute and graft- ing this additional requirement, the court in Forever Green not only made it significantly more difficult for creditors to file involun- tary petitions, but created a deterrent for creditors seeking such relief in the future because dismissal of a petition on bad faith grounds may result in the imposition of stiff financial penalties.
Debtor Remedy Against Petitioning Creditor Upon Dismissal of an Involuntary Petition. When an involuntary petition is dis- missed under §303, there is a presumption that costs and attorney fees will be awarded in favor of the debtor. Courts apply a totality of the circumstances test when considering whether to award a debtor its costs and attor- ney fees upon the dismissal of an involuntary
petition. These factors include “(1) the merits of the involuntary petition; (2) the role of any improper conduct on the part of the alleged debtor; (3) the reasonableness of the actions taken by the petitioning creditors; and (4) the motivation and objectives behind the filing of the petition.”21
If the court finds that the petitioning creditor(s) acted in bad faith, as the Third Circuit concluded in Forever Green, the peti- tioning creditor(s) may also be liable for damages proximately caused by the filing or punitive damages.22 The Second Circuit has endorsed the application of four sepa- rate tests to determine bad faith.23 These tests are the: (1) “improper use” test; (2) the “improper purpose” test; (3) an objective reasonableness test; (4) and the standard set forth in Bankruptcy Rule 9011 (a rule which is almost identical to Federal Rule of Civil Procedure 11).
The Third Circuit in Forever Green adopted a broader and arguably more discretion- ary “totality of the circumstances” test to determine bad faith. Significantly, this is the same standard used to determine an award of attorney fees and costs under §303(i)(1), which does not require a finding of bad faith. Courts in the Second Circuit are not required to analyze the petitioner’s good faith to deter- mine whether to dismiss a bankruptcy case. However, in light of Forever Green, even credi- tors who satisfy §303 may think twice before filing an involuntary petition because of the potential monetary penalties.
Conclusion
Under appropriate circumstances an involuntary petition gives creditors a forum to expedite and maximize collection of a debtor’s assets and make distributions on a cost-effective basis. However, in light of the Forever Green decision, care should be given to all facts surrounding any potential filing to minimize the chance of dismissal or, even worse, a finding that the filing was made in bad faith.
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1. 11 U.S.C. §101 et seq.
2. 11 U.S.C. §303(b).
3. Chapter 7 is the liquidation chapter for individuals
and businesses. Chapter 11 is the reorganization chap- ter of the Bankruptcy Code. Involuntary petitions cannot be filed against not-for profit entities. U.S. Code Cong. & Admin. News 1978, pp. 5963, 6277, 5787, 5819 (“schools, churches, charitable organizations and foundations” are protected from involuntary petitions).
4. 11 U.S.C. §303(b). Qualified unsecured claims in- clude the undersecured portion of a secured debt. Para- dise Hotel Corp. v. Bank of Nova Scotia, 842 F.2d 47, 50 (3d Cir. 1988).
5. 11 U.S.C. §303(h). This requirement is excused if a custodian is appointed within 120 days of the filing of the petition. Id.
6. 11 U.S.C. §303(b)(1), (2). When counting qualifying creditors, employees, insiders (related entities) and re- cipients of transfers that may be recovered under the Bankruptcy Code are not counted.
7. 11 USC §303(h); FED. R. BANK. P. 1013(b).
8. Only an alleged debtor can contest the petition un- der §303 either by filing an answer or moving to dismiss the petition with the 21-day period. 11 U.S.C. §303(d); FED. R. BANKR. P. 1011(a), (b) &(c). If an answer is filed, the “court shall determine the issues of a contested peti- tion at the earliest practicable time and forthwith enter an order for relief, dismiss the petition, or enter any oth- er appropriate order.” FED. R. BANKR. P. 1013(a). Non- petitioning creditors may move to dismiss the petition pursuant to §707 of the Bankruptcy Code for “cause.”
9. Key Mech. Inc. v. BDC 56 LLC (In re BDC 56 LLC), 330 F.3d 111, 118 (2d Cir. 2003) (abrogated on other grounds by In re Zarnel, 619 F.3d 156, 2010 WL
3341428 (2d Cir. Aug. 26, 2010)). » Page S10