First Nat. Bank in Houston, Texas v. Lake , 199 F.2d 524 ( 1953 )

PARKER, Chief Judge.

This is an appeal in the Chapter X Bankruptcy Reorganization proceedings of the Petrol Terminal Corporation and its subsidiaries, including Petrol California Marketers, Inc. The reorganization proceedings are pending in the United States District Court for the District of Maryland and that court has entered an order enjoining the First National Bank in Houston, Texas, and others from prosecuting a suit in the United States District Court for the Southern District of Texas relating to collateral pledged by the debtor to secure an indebtedness due the bank. The appeal before us is taken from the refusal of the court below to dissolve this injunctive order.

The facts are that on July 3, 1951, a petition for the reorganization of the debt- or corporation was approved by the court below and a trustee was appointed for the corporation’s affairs pursuant to the provisions of Chapter X of the Bankruptcy Act, 11 U.S.C.A. •.§ 501 et seq. It had been indebted to the First National Bank of Houston in the stun of $1,100,000, but . this indebtedness had been reduced to $445,000 by payments made, $395,000 of which the trustee contends were preferential. In addition to making these payments, debtor pledged with., the bank, as additional collateral for the balance due, all of the stock which it held in two of its subsidiary corporations involved in the reorganization and all of its right, title and interest under contracts with the California Oil Company entitling it to money payments from that company. The trustee conducted an investigation with respect to the payments made by the debtor corporation to the bank and the assignments made as collateral security, and on February 13, 1952 filed a report with respect thereto as follows:

“The Houston Bank loaned Marketers, (one of the subsidiaries in reorganization) between November 24, 1950, and January 12, 1951, $1,100,000.00 on collateral of alleged accounts receivable due from customers who denied liability thereon. The unpaid balance on such loan is about $440,000.00, plus interest and attorneys’- fees. The Bank received payments aggregating $395, 000.00 between February 27 and April 12, 1951. The Bank further took as security for its remaining claim against Marketers on April 18, 1951, an assignment of Terminal’s (not Marketers) stock interest in Automotive and Lehigh. It obtained likewise, on May 29, 1951, the same day on which bankruptcy proceedings were filed against Terminal, an assignment of commissions payable to Marketers over a period of years, by Calso (known as the Merit-Meadville contracts), which it is estimated will aggregate some $250,000.00 The officers and counsel of the Bank were examined under the provisions of Section 21 sub. a of the Bankruptcy Act and the evidence strongly indicates that the Bank had sufficient knowledge of facts prior to February 27, 1951, the first date of payment above mentioned, indicating the insolvency of Terminal and Marketers, so as to make all of the payments aggregating $395,000.00 and likewise the transfers for additional security ' above mentioned, voidable preferences under the Bankruptcy Act.”

On March 26, 1952 the bank instituted in the Southern District of Texas the suit against the trustee asking that the claim of the trustee with respect to the collateral pledged and the cloud cast thereby on the bank’s right, title and interest therein be set aside and removed. This was the suit prosecution of which was enjoined by the court below. The contention of the bank is that the trustee can establish a preferential transfer with respect to the payments and collateral only by a plenary suit brought against the bank in the district of its residence and that, the trustee not having instituted such suit, the bank is entitled to have the court which would have had jurisdiction thereof render a declaratory judgment in its favor with respect to the property held by it as collateral. In other words, the position of the bank is that, having been charged by the reorganization trustee with having been guilty of accepting a preference with respect to the property of debtor pledged with it as collateral security, it is entitled to take the determination of that question away from the reorganization court by filing in the district of its residence a suit for a declaratory judgment as to its interest in the collateral and by making the trustee of the reorganization court, without his consent, a party to the suit so instituted. We do not think that the jurisdiction of the reorganization court over the property and indebtedness of debtor can be interfered with in this way. The question involved in the case is not whether the reorganization court in a Chapter X proceeding has summary jurisdiction of a suit to recover property claimed adversely by the holder thereof; but whether a secured creditor may, through the device of asking a declaratory judgment, take away the jurisdiction of the reorganization court over the property of the debtor pledged as security and may likewise take away from that court the jurisdiction to determine the amount of secured and unsecured debts of the creditor entitled to share in any plan of reorganization that the court may approve. We think it clear that this question should be answered in the negative.

The reorganization court is given jurisdiction over the property of the debtor “wherever located”. 11 U.S.C.A. § 511. And this jurisdiction extends over property of the debtor pledged as collateral security for debts as well as other property belonging to him. Continental Illinois National Bank & Trust Co. v. Chicago Rock Island & Pacific Ry. Co., 294 U.S. 648, 675, 55 S.Ct. 595, 79 L.Ed. 1110; Reconstruction Finance Corp. v. Kaplan, 1 Cir., 185 F.2d 791; In re Prudence-Bonds Corp., 2 Cir., 77 F.2d 328; Gerdes on Corporate Reorganization, sec. 855. The court is likewise given jurisdiction to allow claims of creditors and, with respect to secured claims, “to determine summarily the value of the security and classify as unsecured the amount in excess of such value”. 11 U.S.C.A. §§ 596 and 597. It is given power, also, upon confirmation of a plan of reorganization to order distribution of the debtor’s assets among creditors and stockholders, whether they have filed proofs of claim with the court or not. 11 U.S.C.A. § 624. And in order that it may not be hindered or interfered with in the discharge of its duties by proceedings in other courts, it is given express power to' “enjoin or stay until final decree the commencement or continuation of a suit against the debtor or its trustee or any act or proceeding to enforce a lien upon the property of the debtor”. 11 U.S. C.A. § 516(4). Upon approval of the petition for reorganization, therefore, the enforcement of the bank’s rights with respect to the property of debtor held as collateral was a matter within the exclusive jurisdiction of the reorganization court, as that court had exclusive jurisdiction over the property .pledged as well as over the classification of the indebtedness secured thereby. It was for that court, and not some other court, to say whether or not the pledge was valid and in what amount the debt should share in the plan of reorganization as a secured debt and in what amount as an unsecured debt. In determining these questions it necessarily had to decide whether or not the pledge was void on the ground of being preferential in contravention of the bankruptcy act.

To permit the Texas court to determine the question of preference, and consequently the validity of the pledge, would deprive the reorganization court of the right to determine what part of the debt was secured and what part unsecured. Furthermore, since the determination of the questions relating to preference would be res judicata binding upon the reorganization court, the determination by the Texas court would limit the power of the reorganization court to- make proper setoffs of alleged preferential payments against any indebtedness which the bank might attempt to prove. And, most important of all, since the establishment of the validity of the pledge would fix the lien of the pledge on the property, this would take from the reorganization court power to determine the status of that property. This is of the greatest importance here, since the shares of stock pledged were shares in subsidiary corporations which were being reorganized in the proceeding presently before the court. It is clear that secured creditors may not have adjudicated by an outside court and thus remove from the control of the reorganization court matters of which the latter is expressly given exclusive jurisdiction by the statute. The purpose of Chapter X is to force secured creditors to come into the plan of reorganization worked out in the reorganization court, and this purpose would be largely thwarted if- they could have questions affecting their security decided by other coprts through the simple device of asking a declaratory judgment.

It is argued that the statute giving the reorganization court power to enjo-in proceedings in other courts extends only to such suits “as will affect directly the debtors’ property.” The decision of the Texas court, however, “will affect directly” the debtor’s property. A decision that the pledge of securities was valid and not preferential wotild fix on the property as a matter of law a lien for the entire debt for which the pledge was made and would disable the reorganization court from making any different adjudication with respect to the status of that property, a large part of which consisted of shares of stock in subsidiary corporations involved in the reorganization. The language o-f the statute, however, is not limited to- the staying of suits which “will affect directly the debtor’s property”, and it has been expressly held that the prosecution of a suit to recover damages may be enjoined. Foust v. Munson S. S. Lines, 299 U.S. 77, 83, 57 S.Ct. 90, 81 L.Ed. 49. See also In re Pitman & Brown Co., D.C. 38 F.Supp. 587. Clearly the reorganization court can and should enjoin the prosecution of any suit which would take from it the decision of any question which it has the duty to decide in connection with the reorganization or which would hamper it in any way in exercising the power imposed upon it by Chapter X, since any effective exercise o-f the power of reorganization requires that proceedings relating thereto be confined to a single court.- “It is contemplated that adverse action by secured, as well as unsecured, creditors may be restrained, that the debtor or its trustee may be protected against harassing or interfering actions in other courts, and that where necessary and desirable the adjudication of claims against the debtor may b-e confined to the reorganization court.” 6 Collier on Bankruptcy 14th ed. page 735-736. “In Chapter X proceedings the district judge has discretion to stay all suits against the debtor. 11 U.S. C.A. § 516(4). We can upset the stay only if discretion was abused”. Drincup Vendors v. Fountain Machine, 2 Cir., 134 F.2d 823. See also Foust v. Munson S. S. Lines, 299 U.S. 77, 57 S.Ct. 90, 81 L.Ed. 49; Matter of Michigan Brewing Co., D.C., 24 F.Supp. 430, affirmed Conlon v. Michigan Brewing Co., 6 Cir., 101 F.2d 1007; Mack v. Pacific S. S. Lines, Ltd., 9 Cir., 94 F.2d 95. A suit in rem is a suit against the debt- or within the inhibition of 11 U.S.C.A. § 516(4). 6 Collier on Bankruptcy 14th ed. 739.

There is nothing to the contrary in the decision of this court in Warder v. Brady, 4 Cir., 115 F.2d 89, 95. That case decided merely that the reorganization court was without summary jurisdiction of a suit by the trustee to recover property adversely held where there was a dispute as to title. Nothing said in the case suggests that the court was without jurisdiction over property of the debtor pledged as collateral security or without jurisdiction to enjoin proceedings in other courts which would interfere with its control of that property or the allowance of claims based upon indebtedness secured by it. The court, speaking through' Judge Soper, pointed out the difference between the power of the court in a reorganization proceeding and its power in straight bankruptcy over property which had been pledged as security. After referring to cases which had arisen in ordinary bankruptcy procedure, the court said:

“These cases related to ordinary bankruptcy procedure, and are not conclusive here. The bankruptcy court in reorganization proceedings under § 77B, 11 U.S.C.A. § 207, had, and under Ch. X of the 1938 Act now has a wider control, that comprehends not only property of the debtor in his actual or constructive possession, but also property of the debtor in the hands of lien holders. The formulation of a plan of reorganization contemplates a readjustment of secured as well as unsecured debts, and so the summary power of the court extends to all of the debtor’s property that can be affected by a plan, whether or not the property is in his possession. Thus in Continental [Illinois National] Bank & Trust Co. v. [Chicago] Rock Island [& P.] Ry. [Co.] 294 U.S. 648, 55 S.Ct. 595, 79 L.Ed. 1110, in a proceeding for the reorganization of a railroad under § 77, 11 U.S.C.A. § 205, the court granted an injunction in a summary proceeding against certain banks which held the bonds of the railroad as collateral * * * during the pendency of the procedure. The propriety of a summary rather than a- plenary proceeding was sustained because an adverse claim to the property was not involved.” (Italics supplied.)

In Cuyahoga Finance Co., 6 Cir., 136 F.2d 18, 20, which is directly in point here, the court held that its power was not limited to enjoining a pledgee creditor from selling pledged assets in his possession, but that it -had power to determine his claim and allow setoffs against it, although he had not filed it in the proceeding. The court said: ■

“The vital question on this appeal is whether the jurisdiction of the court ceases after restraining a pledgee creditor from disposing of the pledged assets in his possession without the consent of the court or whether such jurisdiction extends to determine set-offs of the debtor without the consent of the creditor. It is settled law that upon the filing of a petition under chapter 10 of the Bankruptcy Act, all property in which the debtor has, or may claim, an interest passes under the control of the Bankruptcy Court, and upon approval of the petition, title vests in the trustee or the debtor in possession as of the date of the filing of the petition. 11 U.S.C.A. § 557, 52 Stat. 888; Gross v. Irving Trust Company, 289 U.S. 342, 344, 53 S.Ct. 605, 77 L.Ed. 1243, 90 A.L.R. 1215; Isaacs v. Hobbs Tic & Timber Company, 282 U.S. 734, 737, 51 S.Ct. 270, 75 L.Ed. 645. The jurisdiction of the court is not limited to the administration of the property which admittedly belongs to the debtor, but also extends to the determination of the question of title. Ex parte Baldwin, 291 U.S. 610, 54 S.Ct. 551, 78 L.Ed. 1020. To this end the Bankruptcy Court may enjoin creditors collaterally secured from selling or disposing of such collateral without the consent of the court and may make all orders necessary to prevent hindrance or delay in the preparation and consummation of the plan of reorganization. Continental Illinois Nat. Bank & Trust Co. v. Chicago, Rock Island & P. Railway [Co.,] 294 U.S. 648, 676, 55 S.Ct. 595, 79 L.Ed. 1110.

* * * * * *

“The Act places under the jurisdiction of the court all the tangible and intangible assets of the corporation whether or not in its possession so that in a single action, it may adjust conflicting claims. A distinct purpose of the amendment to the Bankruptcy Act was to subject the administration of the corporation, during the period of reorganization or rehabilitation, to the control of tribunals clothed with authority and charged with the duty to proceed to consummation of a plan or reorganization in a summary way.

“In order that the corporation may be quickly rehabilitated, time being in many instances the essence of the proceedings, the court has broad powers to bring into the action all of these who may have claims on the corporate assets. In re Burton Coal Company, 7 Cir., 126 F.2d 447.”

Duda v. Sterling Mfg. Co., 8 Cir., 178 F.2d 428, 433, 14 A.L.R.2d 899, relied on by appellant, involved a suit by reorganization trustees in the reorganization court on a claim against a third person. In holding that the summary jurisdiction of the reorganization court did not extend to such a claim, the Court of Appeals of the 8th Circuit expressly distinguished it from the case involved in Cuyahoga Finance Co., supra (which we think is controlling here) in the following language:

“In re Cuyahoga Finance Co., 6 Cir., 136 F.2d 18, does hold that in Chapter X proceedings the bankruptcy court has jurisdiction to determine, in summary proceedings, setoffs against the debtor’s obligations to a pledgee creditor which, having possession of the pledged assets, declines to file a claim or otherwise consent to the jurisdiction of the court. The action, however, was one in equity brought by the trustees for the preservation of property belonging to the bankrupt estate pledged to secure a debt of the bankrupt against which the bankrupt claimed setoffs. The jurisdiction of the bankruptcy court in Chapter X-proceedings to protect and preserve the property of the bankrupt estate was not in question and could not be questioned. The determination of the net amount of the bankrupt’s debt to the pledgee chargeable to the pledged collateral was a necessary incident in an action for the preservation of the bankrupt estate over which the court had jurisdiction. Having jurisdiction as a court of equity of a proceeding for the protection of the property of the bankrupt estate, without which it was impossible for reorganization to proceed, the court necessarily had the power and the duty to determine all other issues incident to the main action and necessary to its final determination. See the. discussion of this case in In re International Power Securities Corp., supra, 3 Cir., 170 F.2d [399] at page 403. Unlike the causes of action involved in the present proceeding, the Cuyahoga case was not an action at law to enforce an alleged debt owing the bankrupt which the debtor denied or an action at law to recover property held adversely to the bankrupt under a claim of ownership.”

The comprehensive power given the reorganization court over property of the debtor which had been pledged or mortgaged was thus stated by Judge Magruder speaking for the Court of Appeals of the First Circuit in Reconstruction Finance Corporation v. Kaplan, supra, [185 F.2d 795], viz:

“Section 77(a), like § 111 of Chapter X, vests in the reorganization court ‘exclusive jurisdiction of the debtor and its property wherever located’. Under this broad language, the Supreme Court declined to recognize any distinction between the power of the court to control pledged collateral of the debtor and property subject to mortgage. ‘So far as constitutional power is concerned, there is no difference between an injunction restraining the enforcement of a real estate mortgage and one restraining the enforcement of a pledge by the sale of collateral security. Such differences as exist affect not the power but the propriety of its exercise — that is to say, the discretion of the court.’ [Continental Illinois National Bank & Trust Co., v. Rock Island & P. Co.] 294 U. S. at page 677, 55 S.Ct. at page 606. It is true that in the Rock Island case, the Court merely issued an injunction and did not direct that the pledged collateral be turned over to the reorganization trustee. But this, we think, was not from lack of power in the Court to supplant the possession of a secured creditor, if, in its sound discretion, it deemed that possession by the trustee would best serve the purposes of the reorganisation proceeding. The power to displace a mortgagee in possession is undoubted. This result was reached in Grand Boulevard Inv. Co. v. Strauss, 8 Cir., 1935, 78 F.2d 180, under the broad grant of jurisdiction in § 77B, without the aid of any specific provision such as is now found in the second sentence of § 257 of Chapter X.” (Italics supplied.)

See also In re Franklin Garden Apartments, 2 Cir., 124 F.2d 451, 454; John Hancock Mutual Life Ins. Co. v. Casey, 1 Cir., 134 F.2d 162, 163, for the power of the reorganization court over mortgaged property. It is true that the case of mortgaged property is expressly covered by § 257 of the act, 11 U.S.C.A. § 657, which was necessary because, under the laws, of a number of states, title to mortgaged property is vested in the mortgagee. The inclusion of such a provision makes clear, however, the intention of Congress that the reorganization court shall exercise summary jurisdiction over all property in which the debtor has an interest including that which has been transferred as security for indebtedness.

The principles here applicable are well stated in Collier on Bankruptcy 14th ed.- vol. 6 pp. 578-585, as follows:

“In corporate reorganization, as in ordinary bankruptcy, the court dearly has summary jurisdiction over all matters of administration beginning with the filing of the petition and ending with the entry of the final decree— matters such as the proof and allowance or disallowance of claims, classification of creditors and stockholders, approval of compromises, appointment of receivers and trustees, approval and confirmation of the plan, examination and investigation of the debtor, determination of fees and allowances, and the like. This jurisdiction is exclusive and may not be surrendered or delegated to other courts, subject to the proposition that the reorganization court may, in the exercise of a sound discretion and at times must, permit the liquidation of claims in a nonbankruptcy forum.

“But this is only part of the picture. Inevitably disputes or controversies will arise in the course of the proceedings between the trustee or debtor in possession and others concerning property claimed to be a part of the estate. In ordinary bankruptcy, generally speaking, where the controversy is one concerning property in the actual or ‘constructive possession of the bankruptcy court, that court may adjudicate summarily all rights and claims pertaining thereto. The reorganization court may do likewise. This jurisdiction exists under § 2, sub. a (7) of the Act as well as § 111, together with the inherent right in all courts to protect their possession, and as previously stated is not affected by the provisions of § 23. As to property within its actual or constructive possession, the reorganization court may try questions of title, determine the amount and validity of liens, issue turnover orders, adjudicate petitions of reclamation, and enjoin proceedings that interfere with the administration of the estate or which are directed towards the debtor’s property. Once the court acquires possession, the jurisdiction to determine all conflicting claims will remain, and there can be no interference with such possession upon the part of any -other court, except by way of review or appeal, or by permission of the bankruptcy court-that the claim be determined in a nonbankruptcy forum.

“In ordinary bankruptcy, however, the exercise of' the powers just enumerated is circumscribed by the actual or constructive possession of the debt- or’s property. Where the controversy is one involving property in the actual or constructive possession of a third-person asserting a bona fide adverse claim, whether of title or of lien, the 'bankruptcy court has no jurisdiction to determine summarily that person’s claim, unless that person consents thereto. Absent consent, the holder of the property is entitled to have the controversy litigated by a plenary suit in the proper forum. Here we are faced with the question: does this restriction govern in corporate reorganization ? The authoritative answer seems to be that it does, with, however, some modifications. These modifications are better -understood if we consider for a -moment the nature of corporate reorganization.

“In a reorganization proceeding the claims of secured as well as unsecured claims are dealt with. The plan may modify or alter the legal rights of all or any class of creditors, secured of unsecured. Creditors such as mortgagees, indenture trustees or other necessary parties may be compelled to execute and delivér any instruments necessary to convey away their interest in the property. The property so transferred will be free and clear of all claims and liens, except as expressly provided for in the plan. And upon consummation of the -plan, the debtor may be discharged from all its debts and liabilities. It is, therefore, gen-really vital to the success of a reorganization that all the debtor’s property 'be included,- that the continuation of the debtor’s business be not unduly hampered by dissipation of the property to particular creditors, or by the separate administration of ' the estate in numerous forums.”

It will be noted that only where property is adversely claimed by a third person does Collier conclude that a plenary suit, as in ordinary bankruptcy, is necessary to reach it and this is true only with some modifications which are explained in the last paragraph above quoted. The cases cited by Collier as showing the extent to which the ordinary bankruptcy rule is followed are not cases where property of the debtor has been pledged and is held by the pledgee merely as security for a debt, but cases in which the trustee has attempted to recover in a summary proceeding in the reorganization court on a debt owing by a third person, or to recover in such a proceeding property held by a third person under claim of absolute ownership. Thus, the question involved in Matter of Standard Gas & Electric Co., 3 Cir., 119 F.2d 658, was whether there was summary jurisdiction in the reorganization court to entertain an action on a debt owing a third person to debtor in reorganization. In holding that there was not, the court carefully distinguished the case from those holding that there was summary jurisdiction over property of the debtor held by a mortgagee or pledgee. In-the case of In re Mt. Forest Fur Farms of America, 6 Cir., 122 F.2d 232, the -question related not to the power of the -court over property of debtor pledged as collateral, but over mineral rights held by a third person under a claim of ownership. Thompson v. Terminal Shares, 8 Cir., 104 F.2d 1, held merely that a reorganization court did not have summary jurisdiction in a suit to recover a debt and have it declared an, equitable lien on property which was claimed to 'have been fraudulently sold. All of these cases recognized the distinction between a suit relating to property of the debtor and a suit seeking to recover a debt or to recover property adversely claimed by a third .person.

Appellant fails to distinguish between the power of the reorganization -court over property of the debtor which has been pledged as collateral security and which is held by the creditor merely as security for a debt and its power over property which is claimed adversely to the debt- or by one who is in possession asserting absolute ownership. It is clear that the reorganization court m-ay not exercise summary jurisdiction in the latter case but may exercise it in the former, and in the former case may protect its jurisdiction by proper use of its injunctive power. That was-what was done by the court below in this case.

Grave questions arise as to whether the trustee could be sued in the Texas suit without statutory authority and without the consent of the court that appointed him, -and also whether the sharés of stock and contracts had such situs in Texas as to authorize an action in rem in that state with regard thereto. We need not decide these questions, however, since we think there can be no doubt of the power of the court below to enjoin the prosecution of the Texas suit even if it was properly instituted.

For the reasons stated, the judgment appealed from will be affirmed.

Affirmed.