Opinion ID: 199934
Heading Depth: 2
Heading Rank: 2

Heading: Scope of the hearing

Text: 34 The government's first argument is that the bankruptcy court exceeded the scope of a hearing on a motion to lift the automatic stay by permanently foreclosing the government's right of setoff. Section 362(d)(1) provides that the bankruptcy court shall grant relief from the stay for cause, including the lack of adequate protection of an interest in property of such party in interest. 11 U.S.C. § 362(d)(1) (2000). The government cites Grella, in which this court held that the grant of a motion to lift the stay did not preclude the trustee in that case from later contesting the validity of the claim or asserting a counterclaim. 42 F.3d at 32-33. The government also argues that at least some of the issues decided by the bankruptcy court required it to make findings of fact, and that the court erred by deciding those issues after a nonevidentiary hearing. The government maintains that, given an opportunity, it could present evidence that would undermine the bankruptcy court's reasoning — for example, the court's conclusion that Fleet in fact relied to its detriment on the government's failure to assert its setoff right. 5 35 The government is generally correct that a hearing on a motion to lift the stay is not the proper time or place for the determination of many substantive rights. As this court said in Grella, the question for the bankruptcy court at such a hearing is generally whether the creditor's claim to the estate's property is colorable, not whether the creditor can ultimately recover in light of all relevant legal issues. 42 F.3d at 32-34. 36 That does not mean, however, that such a hearing is necessarily an inappropriate time to consider issues of waiver. A claim that has clearly been waived is no longer colorable. See id. at 35 ([T]he court may consider any defenses or counterclaims that bear on whether [a colorable claim] exists.). Further, in some cases the question of waiver will be clear from the record as a matter of law or from undisputed facts. In other cases, that question will require the bankruptcy court to take evidence, which it did not do in this case. We consider the bankruptcy court's ruling here from that perspective: if the government has clearly, on the record or on undisputed facts, waived its setoff rights as a matter of law so as to deprive it of even a colorable claim to setoff, then the bankruptcy court was correct to conclude that those rights no longer entitled the government to move for a lift of the stay. But if waiver was unclear from the record, or if a disputed fact could possibly make a difference, then the bankruptcy court erred. 37 We apply a similar analysis to the question of priority. In order to obtain relief from the stay, the government was required to show cause for relief, in addition to its colorable claim on property of the estate. The cause the government invoked was the lack of adequate protection of an interest in property under § 362(d)(1). If as of the time of the hearing Fleet indisputably had rights senior to the government's in the contested receivables, and if Calore's debt to Fleet equaled or exceeded the value of those receivables, then the bankruptcy court correctly denied the motion to lift the stay. This would be so not because the government lacked a colorable claim but because the government's security interest would have no value and the government would be entitled to no protection of that interest. See Superior Paint Mfg. Co. v. Lopez-Soto ( In re Lopez-Soto ), 764 F.2d 23, 26 (1st Cir.1985) ([V]alueless junior secured positions or unsecured deficiency claims will not be entitled to adequate protection. (quoting 2 Collier on Bankruptcy ¶ 362.07, at 362-53 (L. King et al. eds., 15th ed.1985)) (internal quotation marks omitted)). If we reject the bankruptcy court's grounds for finding waiver, then we must consider whether the bankruptcy court was correct when it concluded that, as a matter of law, Fleet's interest took priority over the government's. This question is distinct from the question whether a court might rearrange the priorities of the interests under, for example, the doctrine of equitable subordination, which the bankruptcy court acknowledged required a full adversary proceeding. Calore Express, 199 B.R. at 434. 38 There is, however, another ground on which the bankruptcy court rested its judgment, and which Fleet has argued to us. That ground is the discretion of the bankruptcy court to grant or deny setoff. See Cumberland Glass Mfg. Co. v. De Witt, 237 U.S. 447, 455, 35 S.Ct. 636, 59 L.Ed. 1042 (1915) (The matter [of setoff] is placed within the control of the bankruptcy court, which exercises its discretion in these cases on the general principles of equity.). In exercising that discretion, the bankruptcy court wrote: 39 Allowing the United States to benefit from a setoff in the instant case would constitute an abuse of this Court's discretion and a perversion of its equitable powers. The United States's attempt at ambush by silence is unconscionable and will not be permitted. The venerable maxim, he who seeks equity must do equity, precludes the relief the United States requests. 40 Calore Express, 199 B.R. at 433 (footnote omitted). 41 It is not clear that the bankruptcy court had the equitable discretion it purported to exercise. The government has argued to us that setoff is in fact a legal rather than equitable doctrine and that the bankruptcy court exceeded whatever narrow discretion it might have possessed. See N.J. Nat'l Bank v. Gutterman (In re Applied Logic Corp. ), 576 F.2d 952, 957-58 (2d Cir.1978) (Friendly, J.) (The rule allowing setoff, both before and after bankruptcy, is not one that courts are free to ignore when they think application would be `unjust.'); see also Cumberland Glass, 237 U.S. at 455, 35 S.Ct. 636 (While the operation of this privilege of set-off has the effect to pay one creditor more than another, it is a provision based upon the generally recognized right of mutual debtors, which has been enacted as part of the bankruptcy act, and when relied upon should be enforced by the court.). 42 The Supreme Court has recently reminded the federal courts that the discretion of a bankruptcy judge is circumscribed by the Bankruptcy Code and by the underlying substantive law. See Raleigh v. Ill. Dep't of Revenue, 530 U.S. 15, 24-25, 120 S.Ct. 1951, 147 L.Ed.2d 13 (2000) (Bankruptcy courts are not authorized in the name of equity to make wholesale substitution of underlying law controlling the validity of creditors' entitlements, but are limited to what the Bankruptcy Code itself provides.); id. at 25, 120 S.Ct. 1951 (citing United States v. Reorganized CF & I Fabricators of Utah, Inc., 518 U.S. 213, 228-229, 116 S.Ct. 2106, 135 L.Ed.2d 506 (1996), and United States v. Noland, 517 U.S. 535, 543, 116 S.Ct. 1524, 134 L.Ed.2d 748 (1996)). Of course, to the extent that Fleet argues that the underlying law of setoff is discretionary, these recent cases do not control the outcome here. These cases may, however, represent a relevant shift from the easy appellate acceptance of broad discretion exercised by bankruptcy judges reflected in the language from Cumberland Glass on which Fleet relies. 43 Assuming in Fleet's favor that a bankruptcy court may properly exercise some discretion over whether to permit setoff, it must make that decision on all the facts of the case. The bankruptcy court's irritation with the government's attorney is understandable; nonetheless, its approach is difficult to reconcile with a summary hearing and impossible to reconcile with a nonevidentiary one. In this case, the government plausibly argues that its attorney did not act in bad faith by remaining silent on June 17 and that Fleet did not actually rely on the government's silence at any time in the proceedings, whether on June 17 or earlier. 6 Both questions are relevant to the equities of this case, and both depend on disputed factual questions such as the actual knowledge and motives of individuals, rather than on undisputed facts or on the record. The bankruptcy court took evidence on neither. Its decision to deny setoff as a matter of equity is not sustainable on the current record. 44 Thus, the remainder of our analysis focuses on two narrow questions: whether, on the record and on the undisputed facts, the government waived its right of setoff in this case as a matter of law; and whether, within the same framework, Fleet's lien takes priority over the government's setoff rights.