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COM THE WEEKLY NEWSPAPER FOR THE LEGAL PROFESSION
BANKRUPTCY LAW
Involuntary Proceedings
By Craig Rankin and Christopher Alliotts
A
s part of the Bankruptcy Abuse
Prevention and Consumer
Protection Act of 2005, Congress
made certain modifications to
§ 303 of the Bankruptcy Code, 11
U.S.C. 303. Section 303 sets forth the
requirements that petitioners must satisfy in
order to commence involuntary bankruptcy
proceedings and for the subject entity to be
adjudged a debtor for purposes of such
proceedings. This article considers the extent,
if any, to which the modifications to § 303
change existing law, as applied by the courts.
Under the prior version, § 303(b)(1)
provided in pertinent part that an involuntary
case is commenced by the filing of a petition by
three or more entities, each of which is a
holder of an unsecured claim against such
person “that is not contingent as to liability or
the subject of a bona fide dispute,” if the
amount of such claims aggregate the statutory
minimum, which is currently $12,300. (If the
putative debtor has fewer than 12 creditors,
excluding employees or insiders of the putative
debtor, one person may file.) The new law
changed § 303(b)(1) by adding “as to liability
or amount” after “bona fide dispute.”
The prior version of § 303(h)(1) provided
that, if an alleged debtor contests the filing of
the involuntary petition under § 303(b)(1), the
court, after trial, shall order relief against the
debtor only if it is generally not paying its debts
Craig Rankin is a partner at Los Angeles-based
bankruptcy boutique Levene, Neale, Bender,
Rankin & Brill. Christopher Alliotts is of
counsel to the Menlo Park, Calif., office of Los
Angeles-based SulmeyerKupetz.
MONDAY, JULY 18, 2005
as they become due “unless such debts are the
subject of a bona fide dispute.” Similar to
§ 303(b)(1), the new law changes
§ 303(h)(1) by adding “as to liability or
amount” after “bona fide dispute.”
Retroactive application will
not violate Constitution
As an initial matter, the new law provides
that these amendments shall take effect upon
enactment and shall apply with respect to cases
commenced “before, on and after such date.” In
other words, the amendments are supposed to
be applied retroactively. Retroactivity
instinctively raises questions of fairness;
however, the U.S. Supreme Court has held that
application of an intervening statute that
confers or ousts jurisdiction or changes
procedural rules in suits arising before its
enactment does not raise constitutional
concerns. Because § 303 is considered a
jurisdictional statute, coupled with the general
principles that bankruptcy relief is a privilege
and not a constitutional right, it is clear that
the retroactive application of these
amendments, even if they alter existing law,
will not violate the Constitution. See In re
BDC 56 LLC, 330 F.3d 111 (2d Cir. 2003).
Courts have distilled three substantive
requirements for an involuntary petition to be
valid under § 303: There must be at least three
petitioning creditors (only one if the debtor
has fewer than 12 creditors); each petitioning
creditor must hold unsecured claims against
the debtor not subject to bona fide dispute and
totaling at least $12,300; and the debtor is
generally not paying debts as they come due. In
re Focus Media Inc., 378 F.3d 916 (9th Cir.
2004); In re Amanat, 321 B.R. 30 (Bankr.
S.D.N.Y. 2005).
While the requirement to have at least
three petitioning creditors is straightforward
enough, creditors are often reluctant to join in
the filing of such a petition because, if the
involuntary petition is dismissed, they could be
facing severe consequences under § 303(i).
Further, there is the risk that a debtor could
successfully show that related entities should be
deemed to be one and the same creditor. Also,
creditors pushing for an involuntary filing
should be mindful of the prohibition in Rule
1003 of the Federal Rules of Bankruptcy
Procedure of assigning claims for the purpose of
commencing an involuntary case. See, e.g.,
Focus Media, supra.
The term “bona fide dispute” is not defined
in the Bankruptcy Code. While courts have
articulated different standards, they have
settled on one in recent years requiring that
there be “an objective basis for either a factual
or a legal dispute as to the validity of the debt.”
In other words, a bona fide dispute exists only
when “there are substantial factual or legal
questions that bear upon the debtor’s liability.”
In re Byrd, 357 F.3d 433 (4th Cir. 2004). Under
this standard, the petitioning creditors bear the
burden of a prima facie showing that no bona
fide dispute exists and, upon that showing, the
burden shifts to the debtor to demonstrate that
there is such a dispute.
Because the filing of an involuntary petition
may, under appropriate circumstances, be part
of valid collection efforts, courts have often
disagreed on the preclusive effect that state
court proceedings should have on the question
of whether a dispute satisfies th5 Tw2ee f93085 Some lowhetts, courts htakeed on tos peti tate