Texas Anna Nicole Smith case continues to roil bankruptcy world

By Kimberly Atkins The Daily Record Newswire BOSTON -- Anna Nicole Smith has created a potentially major problem for litigants in bankruptcy proceedings. The battle between the late former model and reality star and the estate of her late oil tycoon husband resulted in a U.S. Supreme Court ruling last year that limits the ability of bankruptcy courts to issue final rulings on some state law issues. But because most estates and debts are creations of state law, stripping bankruptcy courts of the ability to rule in matters involving those types of assets and liabilities could lead to problems. "Every time you walk into bankruptcy court you will need to explain why the court can enter a final order" in every aspect of the case, said Stephen W. Sather, of counsel at Barron, Newburger & Sinsley in Austin, Texas, and author of "A Texas Bankruptcy Lawyer's Blog." The case of Stern v. Marshall stemmed from the claim by Smith that her late husband, billionaire Texas oil magnate J. Howard Marshall, promised her half of his estate during their brief marriage. But after his death, Smith was not mentioned in Marshall's will. That spurred a long-running legal battle between Smith and Marshall's son Pierce Marshall over the money. During the litigation, Smith filed for bankruptcy. Pierce Marshall filed a proof of claim against her in the bankruptcy court, alleging he should recover damages because Smith had defamed him. She then filed a counterclaim, arguing that Pierce had engaged in tortious interference with the gift she expected from her late husband -- specifically, half of his fortune at his death. The bankruptcy court ruled for Smith on her counterclaim, awarding her $450 million. Meanwhile, in a separate state probate proceeding, a Texas state court jury concluded that Smith had no claim on the estate and awarded the late tycoon's entire fortune to Pierce Marshall. The 9th Circuit ultimately held that the Texas state court verdict should stand, and that Smith should not receive the award from the bankruptcy court. After a protracted litigation battle that worked its way up to the Supreme Court twice, the Court affirmed the 9th Circuit in a 5-4 opinion. Chief Justice John G. Roberts wrote for the majority that it "is clear that the bankruptcy court in this case exercised the 'judicial power of the United States' in purporting to resolve and enter final judgment on a state common law claim," in violation of Article III. Because Smith's counterclaim did not fall within any of the "public rights" exceptions, the Court held, "the bankruptcy court below lacked the constitutional authority to enter a final judgment on a state law counterclaim that [was] not resolved in the process of ruling on a creditor's proof of claim." While the Court stated that the ruling in the case was narrow and tailored to the facts, bankruptcy litigators say it still sets up a problematic scenario for many bankruptcy litigants. There have always been limits on the authority of Article I courts, so the idea that bankruptcy judges may not be able to issue final rulings on all aspects of a case is not new. The difference is that before Stern, a bankruptcy judge may have been more willing to enter judgments on matters involved in a bankruptcy case because 28 U.S.C. §157(b)(2)(C) permits entry of a final judgment in a matter that is a "core proceeding" of the bankruptcy case. "If the parties didn't object ... judges [got] into a pattern of deciding things without much concern about jurisdiction," said Robert Somma, senior counsel at the Boston firm of Posternak, Blankstein & Lund who served as a federal bankruptcy judge in Massachusetts from 2005 to 2008. Even if there was some question of authority, the litigants were often "reluctant to evoke them because of all the complexity in the cases. Most lawyers wanted to get in and out as fast as they could," and bankruptcy court is always faster, Somma said. But now, in cases where the issue of authority under Article I is unclear, bankruptcy judges may be less willing to take a chance. "The Supreme Court kind of bypassed the issue of 'core proceeding'" in Stern, Sather said. As a result, bankruptcy courts in cases dealing with less-than-simple issues may opt to hear a case and file a report and recommendation rather than issuing a judgment. A federal district court can then review the report and recommendation, and either adopt the bankruptcy court's conclusions, issue its own ruling based on the record or even decide to hold a new trial. Since district courts' dockets are already full of other matters, any of these outcomes mean additional delay for bankruptcy litigants. To avoid this scenario, prudent bankruptcy attorneys should to take a hard look at their cases before the first filing. If the matter looks in large part like a bankruptcy proceeding dealing primarily with issues such as debt discharge and confirming plans, then the bankruptcy court's jurisdiction is likely strong enough to withstand scrutiny. "But the more the case looks like a 2-party lawsuit -- especially one dealing with issues under state law -- [ the more likely] the bankruptcy court could decide to hold a trial, [and] submit the [report and recommendation] to a district court," Sather said. In that case it would be preferable to choose your venue than having it chosen for you. "If you think [after filing in bankruptcy court] the district court is going to make you try the case over again -- which it would have the right to do -- you can file directly with the district court," Sather said. Or "you can go ahead and file in state court" if you have claims such as fraudulent transfer. Published: Mon, Sep 26, 2011