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Second Circuit Rules Chapter 15 Foreign Debtor Must Have Domicile, Place of Business or Property in U.S.

In Drawbridge Special Opportunities Fund LP v. Barnet (In re Barnet), Case No. 13-612, 2013 Westlaw 6482499 (2d Cir. December 11, 2013), the United States Court of Appeals for the Second Circuit ruled that Bankruptcy Code Section 109(a) applies in a case under Chapter 15 of the Bankruptcy Code and requires that a foreign debtor have a domicile, a place of business or property within the United States.  This is likely to be a controversial decision.

Octaviar Administration Pty Ltd. was subject to liquidation proceeding in Australia. As part of an investigation thereunder, certain affiliates of Drawbridge Special Opportunities Fund LP were sued in Australia.  The Octaviar liquidators requested that a New York bankruptcy court recognize the liquidation as a foreign main proceeding under Chapter 15 for the apparent purpose of conducting discovery in the United States.  Drawbridge objected and argued that Octaviar was not eligible under Bankruptcy Code Section 109.

The bankruptcy court entered an order recognizing the liquidation proceedings, ruling that Bankruptcy Code Section 1502(1) determines whether a foreign debtor can be granted relief, not Section 109.  A direct appeal to the Second Circuit was certified and accepted.  The Second Circuit vacated the order, holding that the court should have applied Section 109(a).  There was no evidence that the debtor had a domicile, a place of business or property in the United States.

Chapter 15 provides for recognition of a foreign insolvency proceeding and relief in connection therewith.  A "foreign proceeding" is defined in Bankruptcy Code Section 101(23) as:
 

a collective judicial or administrative proceeding in a foreign country, including an interim proceeding, under a law relating to insolvency or adjustment of debt in which proceeding the assets and affairs of the debtor are subject to control or supervision by a foreign court, for the purpose of reorganization or liquidation.
A proceeding may be recognized as a "foreign main" or "foreign nonmain" proceeding, with corresponding forms of relief.  A foreign main proceeding is one pending in the country where the debtor's "center of main interests" is located.  A foreign nonmain proceeding is one pending in any county where the debtor has an "establishment" where the debtor carries out a nontransitory economic activity.

Section 109(a) provides that: "Notwithstanding any other provision of this section, only a person that resides or has a domicile, a place of business, or property in the United States, or a municipality, may be a debtor under this title." Section 103(a) provides that Chapter 1 (including Section 109(a)) applies in a case under Chapter 15.  By contrast with other chapters of the Bankruotcy Code, Chapter 15 provides its own definition of "debtor." Section 1502(1) defines a "debtor" as "an entity that is the subject of a foreign proceeding."

Nevertheless, the Second Circuit ruled that a "straightforward" interpretation of the statutes requires that a foreign debtor must qualify under Section 109 in order to obtain relief under Chapter 15.  Specifically, Section 103(a) expressly provides that Section 109(a) applies in Chapter 15.  The court rejected the debtor's argument that it qualifies as a debtor under the Australian Corporations Act and that the foreign representatives (not the debtor) were seeking recognition of the foreign proceeding.  Moreover, the court characterized the relief available under Bankruptcy Code Sections 1520 and 1521 as being "directed towards debtors."

The court also rejected the argument that, even if Octaviar were required to qualify as a debtor under the Bankruptcy Code, it need meet only the Chapter 15 definition of "debtor."  The court could not reconcile Section 1502 "with the explicit instruction in Section 103(a) to apply Chapter 1 to Chapter 15."  Moreover, Congress enacted Chapter 15 at the same time it amended Section 103 to provide that Chapter 1 applies in Chapter 15; the court found that this strongly supports the conclusion that lawmakers intended the requirements of Section 109 to apply.

The court also determined that the purpose of Chapter 15 is consistent with Section 109.  Specifically, Section 1501(a) provides that a purpose of Chapter 15 is "to provide effective mechanisms for dealing with cases of cross-border insolvency."  The international model law implemented by Chapter 15 does not include provisions similar to Section 109.  However, the Second Circuit concluded that the model law allows a country to modify or omit some of its provisions, and the model law does not outweigh the express language of Sections 103 and 109.

The court discussed 28 U.S.C. § 1410, which provides for venue in Chapter 15 cases even when the debtor does not have a place of business or assets in the United States.  However, the court found this statute to be "purely procedural" and concluded that it does not control over the more specific provisions of the Bankruptcy Code.

The holding in Barnet is unfortunate.  Section 103's very general language making Chapter 1 (with dozens of general provisions and definitions) applicable to other chapters of the Bankruptcy Code conflicts with the specific scheme established in Chapter 15.  Specifically, a foreign debtor is entitled to commence a Chapter 15 case ancillary to a foreign proceeding, in which case Section 1502 applies; a foreign debtor may also commence a plenary case under Chapter 7 or 11, in which case Section 1528 provides that the debtor must have assets in the United States.  It is unlikely that Congress intended to undo this scheme by importing Section 109 along with the rest of Chapter 1.  At least one court so far disagrees with Barnet.  See In re Bemarmara Consulting A.S., Case No. 13-13037 (Bankr. D. Del. December 17, 2013) (Section 109(a) does not apply in Chapter 15 because the foreign representative petitions the court for relief, not the debtor, and Section 1502 does not require the debtor to have assets).

Although it is tempting to minimize the impact of Barnet in light of relaxed standards for qualifying under Section 109 (see In re Global Ocean Carriers Ltd., 251 B.R. 31 (Bankr. D. Del. 2000)), the opinion is likely to impact foreign debtors without a presence in the United States seeking to conduct discovery under the flexible procedures available under Chapter 15.  Such debtors should carefully consider where to commence a Chapter 15 case and whether instead to seek discovery under traditional principles of international comity in enforcing foreign orders.

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