Just two days before Thanksgiving, in Sutton 58 Associates LLC v. Pilevsky, New York's Court of Appeals handed down a very significant - and suprising - split decision, holding that a plaintiff's state law claims for tortious interference aren't necessarily preempted (which is legalese for "stopped in their tracks, right out of the gate") once a defendant has filed for Federal Bankruptcy protection.

Admittedly, I (and many others - including a vigorous dissent by Judge Rivera) remain puzzled by this decision, because it goes against my assumptions and understanding of what the law on this subject was, namely, that once a defendant files for Bankruptcy protection, the plaintiffs/creditors' claims are stayed, or frozen, pending the outcome of the bankruptcy, because the bankruptcy filing trumps all other creditors' claims.

And that's by design, because the entire purpose behind the bankruptcy filing is to get the debtors out from under their overwhelming debt, and to get them a "fresh start."

What the Majority Said

Here are some excerpts from the majority's opinion, that allow a glimpse into their reasoning:

Plaintiff’s tortious interference claims—asserted against defendants who were not debtors in the bankruptcy proceedings and which are premised upon conduct that occurred prior to those proceedings—are peripheral to, and do not impugn, the bankruptcy process. Significantly, plaintiff seeks to sue non-debtor third parties for alleged wrongful conduct that occurred prior to, and separate from, the bankruptcy proceedings. The Bankruptcy Code, however, is overwhelmingly concerned with the debtor’s estate ...

The debtors in the bankruptcy proceedings—i.e., the borrowers—are unaffected by whether plaintiff prevails on its tort claims against defendants, and the state action has no impact on the borrowers’ ability to obtain a “fresh start” ... In other words, plaintiff’s allegations state a claim for tortious interference with contract, and the remedy for that tort will not affect the debtor’s estate ...Rather, plaintiff alleges that certain conduct engaged in by defendants—before the bankruptcy proceedings were even commenced—tortiously interfered with its contractual rights under various loan agreements ...Regardless of whether the borrowers filed for bankruptcy in good or bad faith (see generally 11 USC § 362 [d] [1]), “plaintiff may recover damages for tortious interference with contractual relations even if defendant[s] . . . w[ere] engaged in lawful behavior” to the extent that their conduct, as non-debtors, is not alleged to have been in violation of the Bankruptcy Code (NBT Bancorp v Fleet/Norstar Fin. Group, 87 NY2d 614, 621 [1996]). 

What the Dissent Said

Candidly, in my view, Judge Rivera's dissent - which gets right to the point, right out of the gate - had the better argument:

Plaintiff seeks to recover for damages allegedly caused by bankruptcies that it accuses defendants of facilitating solely to prevent recovery of collateral owed to plaintiff by one of the bankruptcy debtors. Plaintiff chose to forgo the array of federal remedies available to a creditor, like plaintiff, for such alleged misuse of the bankruptcy system. Plaintiff could have sought dismissal of the bankruptcy proceedings, relief from the automatic stay preventing plaintiff’s recovery of the collateral, foreclosure on the property, or sanctions against the debtors for their improper conduct. Instead, plaintiff took a different course and allowed the bankruptcy claims to proceed, causing the alleged damages to accrue, only to file this separate action in state court against defendants for tortious interference with contract to recover the same damages. But “no authorized proceeding in bankruptcy can be questioned in a state court or used as the basis for the assertion of a tort claim in state court against any defendant” (Astor Holdings, Inc. v Roski, 325 F Supp 2d 251, 262 [SD NY 2003] [emphasis in original] [citation omitted]). Therefore, the Appellate Division properly dismissed the state tort action. To put it bluntly, federal law preempts plaintiff’s workaround of the bankruptcy system.

The Upshot

It seems rather obvious that this decision will spawn a spate of State court claims for tortious interference against the individuals behind smaller corporations by creditors who wish to contest those debtors' bankruptcy filings. I'd be shocked if it didn't.

And, in all likelihood, it will force the courts to revisit this issue in the near future.

Jonathan Cooper
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Non-Compete, Trade Secret and School Negligence Lawyer
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