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Federal Deposit Insurance Corp. v. Veluchamy

United States District Court, N.D. Illinois, Eastern Division

October 21, 2014

FEDERAL DEPOSIT INSURANCE CORPORATION, as Receiver for Mutual Bank, Plaintiff,



In July 2009, an Illinois state agency closed Mutual Bank and appointed the Federal Deposit Insurance Corporation as receiver. Various federal lawsuits resulted from Mutual Bank's closing. In one suit, the FDIC sued multiple former directors of the bank, including Parameswari and Pethinaidu Veluchamy, alleging that the directors breached their fiduciary duty by grossly mismanaging bank assets. Additionally, the FDIC also sued the Veluchamys in federal bankruptcy court, alleging that the FDIC's claims against the Veluchamys are nondischargeable debts. The FDIC now moves this court to withdraw the bankruptcy matter from bankruptcy court. Because the FDIC shows good cause for a withdrawal, the court grants the motion.


The facts of the underlying matter are more fully set forth in the district court's opinion in FDIC v. Mahajan, No. 11 C 7590, 2012 WL 3061852 (N.D. Ill. July 26, 2012) (Kendall, J.). In short, however, the FDIC, as receiver, alleged that the former directors and officers of Mutual Bank unwisely approved twelve risky loans that resulted in over $100 million in losses for the bank, that they approved unlawful dividends of more than $10 million, and that they diverted the bank's assets for personal use. On October 25, 2012, the FDIC asserted multiple counts against the defendants in district court, including for negligence, gross negligence, breach of fiduciary duty, breach of loyalty, and wasting of corporate assets.[1] On July 26, 2012, the district court dismissed certain counts, but the case remains pending against the defendants. Discovery and settlement discussions are currently underway before a magistrate judge.

On August 17, 2012, the FDIC, acting as receiver for Mutual Bank, initiated an adversary proceeding against the Veluchamys in bankruptcy court. The FDIC sought a finding that about $92 million of its claims against the Veluchamys constituted nondischargeable debts under federal bankruptcy law. In particular, the FDIC alleged that these debts were nondischargeable under § 523(a)(4) of the bankruptcy code because the Veluchamys debts arose from "fraud or delfalcation while acting in a fiduciary capacity." The FDIC subsequently moved the bankruptcy court to withdraw the adversary proceeding from bankruptcy court to district court. On September 18, 2014, the clerk of the bankruptcy court transmitted the FDIC's motion to the district court, pursuant to Rule 5011 of the Federal Rule of Bankruptcy Procedure. The adversary proceeding also remains pending in bankruptcy court as FDIC v. Veluchamy, No. 12-1281.

The parties offer alternative proposals for how the litigation should proceed. The FDIC, as receiver, prefers that both cases proceed in district court. The Veluchamys prefer that this court deny the withdrawal motion, that the adversary proceeding remain before the bankruptcy court, and that the bankruptcy court stay the adversary proceeding while the parties continue to litigate the issue of the Veluchamys' underlying liability in district court. They propose that if the district court suit resolves in their favor, then the bankruptcy court should dismiss the adversary proceeding; if the district court finds the Veluchamys liable, then the bankruptcy court matter should proceed in order to determine dischargeability.

Legal Standard

Federal law allows district courts to "refer" "proceedings arising under title 11 or arising in or related to a case under title 11" to specialized bankruptcy judges. 28 U.S.C. § 157(a); see N.D.Ill. IOP 15(a); Exec. Benefits Ins. Agency v. Arkison, 134 S.Ct. 2165, 2171 (2014). A district court, however, "may withdraw, in whole or in part, any case or proceeding [referred to a bankruptcy judge], on its own motion or timely motion of any party, for cause shown." § 157(d). Neither federal law nor the Supreme Court has clarified what constitutes "cause" for withdrawing a matter. Nor has the Seventh Circuit. In 1989, the Seventh Circuit noted the "paucity of judicial opinions construing this provision, " In re Powelson, 878 F.2d 976, 979 (7th Cir. 1989); twenty-five years later, the paucity persists.[2] The decision whether to grant withdrawal remains within the discretion of the district court. That is, the text of § 157(d) indicates that even if "cause" for withdrawal is shown, a district court is not compelled to withdraw. See 1-3 Collier on Bankruptcy P 3.04(1)(b) (16th ed. 2014) ("Even if cause exists... there is no mandate that the reference must be withdrawn.").

The FDIC, citing one opinion from this district, asserts that district courts "generally" consider six factors when deciding whether cause exists to withdraw a proceeding from bankruptcy court: 1) the core or non-core nature of the proceeding; 2) judicial economy and convenience; 3) uniformity and efficiency in bankruptcy administration; 4) forum shopping and confusion; 5) conservation of debtor and creditor resources; and 6) a party's jury-trial request, if any. Pl. Mot. 5, ECF No. 1, p. ID # 5 (quoting In re Emerald Casino, Inc., 467 B.R. 128, 135 (N.D. Ill. 2012)). This six-factor standard, however, derives from no precedential opinion of this circuit.[3] The Veluchamys rely on another opinion from this district, which quotes from In re Clark to suggest that the FDIC "must" establish that withdrawal "is narrowly tailored to serve" "a higher interest than that recognized by Congress." In re Clark, No. 95 C 2773, 1995 WL 495951, at *3 (N.D. Ill. Aug. 17, 1995). It appears that this quote is derived an Eastern District of Michigan decision which inadvertently cited to a standard for closing courtrooms during voir dire in criminal cases. The perpetuation of the citation error will not continue in this case. This standard, too, is not the law of this circuit. A review of relevant case law, in this circuit and others, indicates that district courts may simply consider any relevant factor when deciding whether to withdraw a matter from bankruptcy court.


First, the court places particular weight on whether the matter before the bankruptcy court is a "typical core proceeding, " one in which the bankruptcy judge has constitutional authority to enter a final judgment, or a "non-core" proceeding. Exec. Benefits, 134 S.Ct. at 173. Federal law distinguishes between two kinds of proceedings in bankruptcy court: "core" and "non-core" proceedings. § 157. Rather than defining "core, " § 157 provides sixteen examples of core proceedings. § 157(b)(2). Relevant here, a core proceeding is a "determination[n] as to the dischargeability of particular debts." § 157(b)(2)(H). Here, the parties agree that the bankruptcy matter is a core proceeding. Federal law envisions that core proceedings, generally, belong in bankruptcy court, where that court has statutory authority to "enter final judgment on the [core] claim." Exec. Benefits, 134 S.Ct. at 2172.

But there is an important distinction. In 2011, in Stern v. Marshall, the Supreme Court held that certain claims can be "core" within the meaning of federal law and yet not be ones over which bankruptcy judges have Article III authority to enter final judgments. Stern v. Marshall, 131 S.Ct. 2594, 2611 (2011); see Exec. Benefits, 134 S.Ct. at 2172-73. The Supreme Court now refers to such claims as " Stern claims." Exec. Benefits, 134 S.Ct. at 2172. The Supreme Court has offered only a few examples of Stern claims. The claim at issue in Stern itself was a common-law counterclaim for tortious interference brought by a bankrupt against a creditor to the estate. Stern, 131 S.Ct. at 2601. Because § 157(b)(2)(c) lists "counterclaims by the estate against persons filing claims against the estate" as a "core" proceeding, the bankruptcy court in Stern had statutory authority to enter a final judgment, but the Supreme Court held that it did not have constitutional authority to do so. Id. at 2611. Similarly, this last summer, in Executive Benefits, the Court "assume[d] without deciding" that fraudulent-conveyance claims brought by a Chapter 7 trustee against the debtor were Stern claims. Exec. Benefits, 134 S.Ct. at 2174.

The Supreme Court used the term "typical core proceeding, " in contrast to Stern claims, to refer to matters that are both "core" within the meaning of § 157 and constitutionally may be "adjudicated to final judgment by the bankruptcy court." Id. at 2172-73. After Stern, when a district court assesses the nature of a case before the bankruptcy court in order to decide whether to grant withdrawal, it is imperative to distinguish between "typical core proceedings" and other kinds of claims. The parties suggest that the relevant factor for the court to consider is simply whether a matter is core or non-core. But, as explained above, a matter can be core and still not constitutionally subject to final authority before the bankruptcy court.

The Second Circuit, at least prior to Stern, regarded the core/non-core distinction as "the most important" factor in a withdrawal analysis. In re Burger Boys, Inc., 94 F.3d 755, 762 (2d Cir. 1996); accord In re Orion Pictures Corp., 4 F.3d 1095, 1101 (2d Cir. 1993). After Stern, several courts in that circuit have reinterpreted this factor to focus on whether the bankruptcy court has final adjudicative authority over a matter. See, e.g., In re Arbco Capital Mgmt., 479 B.R. 254, 262 (S.D.N.Y. 2012); In re Lehman Bros. Holdings Inc., 400 B.R. 179, 188 (S.D.N.Y. 2012). In a rigorous opinion analyzing the impact of Stern on withdrawal motions, one court explained that "the relevant inquiry" post- Stern is solely "whether a matter is core or non-core, but whether the bankruptcy court has the authority to finally adjudicate the matter." Arbco, 479 B.R. at 262 (Oetken, J.); accord 1-3 Collier on Bankruptcy P 3.04(1)(b) (stating that a sole emphasis on the core/non-core distinction "may have little utility in a post- Stern world"). This court agrees. Although this circuit, even before Stern, never placed superlative weight on the core/non-core distinction, [4] the court agrees that this factor, as reinterpreted post- Stern, merits particular consideration. In other words, in the language of Executive Benefits, courts must now distinguish among "typical core proceedings, " Stern claims, and ...

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