Court Opinion

ID: 6883419
Source: CourtListenerOpinion
Date Created: 2022-07-23 21:21:51.231468+00
Date Added: 2024-06-11T16:05:39.009132
License: Public Domain

FRANK, Circuit Judge,
(dissenting).
There are two factual aspects of this case to which, I think, the majority has given insufficient attention:
(1) Prudence, the guarantor, itself is bankrupt. Its creditors are all general creditors, i.e., holders of certificates of several different issues (including the Zo-Gale issue) which Prudence had guaranteed, their claims all being based on the obligations of Prudence on those guarantees. Among the assets of the Prudence estate are the Zo-Gale certificates held by Prudence. The majority, by subordinating Prudence’s claim in the Amalgamated proceedings, is thus preferring the claims of one group of Prudence’s general creditors —the holders of the Zo-Gale certificates —to those of Prudence’s other general creditors, i.e., the holders of other certificates guaranteed by Prudence, by giving assets to the Zo-Gale holders which would otherwise be divided among all of Prudence’s general creditors.
(2) If the certificates which are the basis of Prudence’s claim against Amalgamated had not been repurchased from their holders by Prudence,1 or if certificates had been issued against the uncertificated interest here involved and had been sold to the public, the holders of those certificates could have proved them, in the reorganization of Amalgamated, on a parity with the Zo-Gale certificates which are now, in fact, so held by the public. It is only because of the fortuitous circumstances that Prudence, under conditions which no one even intimates were improper, repurchased *508the certificates, and failed to sell, of its own choice, the uncertificated interest, that the public holders of the Zo-Gale issue claim that they are entitled to a larger share of the available assets than they would have received if all the certificates were publicly owned.
Those facts are, to my mind, controlling: As the majority points out, the usual federal rule of bankruptcy administration would require that Amalgamated’s assets should be equitably distributed, without such a preference, among all claimants, Prudence2 as well as the public certificate holders. I am satisfied to take as my text the majority’s words: “The only departures made from the ordinary rule of equality are based on some very definite equity. * * * In the absence of such an equity, subordination is not a function of the bankruptcy court.” I search in vain both the record and the majority opinion to find any evidence of such an equity. I find, rather, that the preference is markedly inequitable. There is also the striking fact that the entire case for subordination rests upon the mere accidental repurchase of the certificates; because of this adventitious fact, subordination is a windfall to the other holders of the ZoGale certificates and the other creditors of Prudence — which, so far as appears, retained the uncertificated interest and repurchased the certificates solely as an investment, and held them in place of either cash or other securities — find the assets of Prudence depleted.
The only equity suggested by the majority opinion to justify the preference is that the companies are interconnected so that “it is only just that their mutual claims among each other should be subordinated until the claims of their customers have been satisfied.” I am unable to follow that reasoning. This is not at all a case of a parent company asserting a creditor claim against an insolvent subsidiary which it had organized or operated for its own benefit, as in Taylor v. Standard Gas & Electric Co., 306 U.S. 307, 59 S.Ct. 543, 83 L.Ed. 669 and related cases.3 There is no suggestion that Prudence interfered in the affairs of Zo-Gale Realty Company or mismanaged it; Prudence merely made Zo-Gale, an autonomous entity, a loan, receiving in return a bond and mortgage, some participation certificates in which Prudence guaranteed and sold to others.
The majority opinion makes an additional argument: Appellant, it says, “took with full notice of the situation” because the issue of subordination was reserved in the Zo-Gale reorganization proceedings. But that sort of notice is inefficacious to create equities, although it would preserve them if they already existed: Appellant represents the interests of Prudence’s creditors ; it was created long after they became creditors; they became creditors without any such notice; the notice to which the majority refers served merely to keep open for future decision the question, first raised in the Zo-Gale proceedings, of whether or not, because of facts previously occurring (including no such notice), there should be a subordination.
Since I am unable to find “some very definite equity” in favor of subordination —in the absence of which, as the majority opinion says, “subordination is not a function of the bankruptcy court” — I would follow the normal principle of bankruptcy administration, that “equality is equity.” So far as the New York rule applies to a situation where the guarantor is itself solvent, I regard it as both fair and practicable, and see no reason why the federal courts should not adopt it.4 But it becomes a totally different rule when, as here, the guarantor itself is a bankrupt; then the problem which confronts the federal courts is one of equitable distribution, under the Bankruptcy Act, of the insufficient proceeds of a guaranteed obligation among all the guanxmtor’s creditors, including the assignee of a portion of the guaranteed obligation.
The majority opinion seems to imply, however, that, under Erie R. Co. v. Tompkins, 304 U.S. 64, 58 S.Ct. 817, 82 L.Ed. *5091188, 114 A.L.R. 1487, we are not free to apply the rules generally applicable in federal bankruptcy decisions because subordination is required by the New York decisions as to the intention of the parties to such contracts. But I do not read the New York decisions as holding that subordination, in such a case as this, results from the actual intention of the parties. As I understand those decisions, they say that subordination is an equitable rule of administration in the distribution of the primary obligor’s assets among an insolvent guarantor and its assignee-creditors. The preference is granted even when, as in the case at bar, there is no evidence of any kind — in the verbiage of the contract or otherwise — that the parties had any actual intention to create or not to create one.5 Absent any evidence of such an intent, the New York Court, nevertheless, sustains such a preference as against the other creditors of the insolvent guarantor on the basis of what that Court calls “the existence of special equities” arising solely from the guaranty. Matter of Title & Mortgage Guaranty Co., 275 N.Y. 347, 355, 9 N.E. 2d 957, 960, 115 A.L.R. 35; Title Guarantee & Trust Co. v. Mortgage Commission, 273 N.Y. 415, 426, 7 N.E.2d 841; In re Union Guarantee & Mortgage Company, 285 N.Y. 337, 34 N.E.2d 345. Reference is also made to “the implied or actual intent of the parties”; Pink v. Thomas, 282 N.Y. 10, 15, 24 N.E.2d 724, 726; Granger v. Crouch, 86 N.Y. 494; “implied” is significantly differentiated from “actual” intent and thus means intent “implied in law”, i. e., not intent at all. And the same is true of the locution in some of the above cases as to a “presumption of intent” as distinguished from the “actual intent.” In Pink v. Thomas, supra, 282 N.Y. page 12, 24 N.E.2d page 725, the court states the basis of the rule thus: “Having guaranteed the payment of the certificates it would be highly inequitable to permit it [the guarantor] to step in and divert part of the security available to pay such certificate holders whom it had expressly guaranteed should be paid”; the guarantor may hold on a parity, if the contract clearly shows that the parties intended it; but “such an inequitable result could be accomplished if the language used was so clear and unmistakable that the courts would be compelled to give effect to the intent of the parties as expressed in the writing. Otherwise the equitable rule should prevail.”6 That is not the verbiage which the New York court would employ if it were determining that the parties had an actual intention, expressed in their contract, to create a preference; but it is verbiage appropriate in spelling out a rule of insolvency administration. And my brother judges concede that Erie R. Co. v. Tompkins does not require us to adopt such a rule.
A contrary argument (implied in the majority opinion here) runs thus: If a contract relating to the sale of a guaranteed obligation contains an express provision showing a clear intention to negate the New York subordination rule, such a provision is given effect by the New York courts; consequently the failure to insert such an express negating provision in the contract is the equivalent of intentionally inserting an express provision adopting the New York rule of administration of the guarantor’s insolvent estate; therefore, where, as here, no such negating clause was included, we are not substituting the New York rule of insolvency distribution for the federal bankruptcy rule, but are compelled to apply an actual provision of the contract which is implied in fact. That argument proves too much; it amounts to saying that parties to a contract are always to be deemed actually to intend to include in their contract any rule of law which they could, by contract, nullify, but which they do not. Such an argument, too, rests on a fiction; and fictions should be sparingly employed and never utilized to bring about unjust results. United States v. 1960 Bags of Coffee, 8 Cranch. 398, 415, 3 L.Ed. 602; Helvering v. Stockholms Bank, 293 U.S. 84, 92, 55 S.Ct. 50, 79 L.Ed. 211; Curry v. McCanless, 307 U.S. 357, 374, 59 S.Ct. 900, 83 L.Ed. 1339, 123 A.L.R. 162.
Even if the majority opinion were correct in suggesting that the New York courts have said that their rule is not one of insolvency administration, but one of interpretation of the intention of parties to this kind of contract, I would still dissent. For I cannot believe that what, *510by its nature, is a rule of administration of insolvent estates can be transformed into such a rule of interpretation — and that, therefore, it becomes binding on the federal courts — merely because of the label attached to the rule by the State Court. To illustrate: In applying the doctrine of Taylor v. Standard Gas & Electric Co., supra, the Supreme Court did not look to the decisions of the State Court. If the courts of that State were hostile to the rule of the Taylor case, and (taking a hint from the majority opinion in the instant case) were to say that it construes contracts made by creditors with a subsidiary corporation as showing an intention to exclude the rule of the Taylor case unless expressly contracted for, I doubt whether the Supreme Court would, simply on that account, refuse to apply that rule. In other words, I doubt whether Erie R. Co. v. Tompkins is so cannibalistic.
And my doubt is especially strong where the rule of the State Court is squarely contrary to the federal rule under the federal Bankruptcy statute and where federal jurisdiction is founded upon that statute. If the majority opinion is correct, Erie R. Co. v. Tompkins is likely soon to break up such uniformity of federal decisions as now exists relative to federal bankruptcy administration. What will then become of the provisions of the Constitution (art. 1, § 8, cl. 4) which authorizes Congress to enact “uniform Laws on the subject of Bankruptcies through the United States ?” Surely respect for States’ rights should not be carried that far. It has never been suggested that statutes enacted under the interstate commerce or admiralty clauses must be given varying applications responsive to divergent State decisions; yet those clauses of the Constitution, unlike that relating to bankruptcies, make no explicit mention of laws which are to be “uniform * * * throughout the United States.” Erie R. Co. v. Tompkins, according to some of the Justices who joined in it, repudiated the rule of Swift v. Tyson, 16 Pet. 1, 10 L. Ed. 865, because that rule, in so far as it permitted the federal courts to ignore State court decisions, was unconstitutional; but no one would venture to deny to Congress the power to provide that, generally, uniformity and not variety should govern in bankruptcy; and such congressional intention should be presumed in the light of the express wording of the bankruptcy clause.
Related considerations are pertinent with respect to the suggestion in the majority opinion that, even if we are free to ignore the New York rule, we should not do so, since, thereby, persons in similar circumstances, vis-a-vis an insolvent guarantor, will be treated differently by State and federal tribunals. Such an argument is self-defeating: No doubt uniformity between State and federal courts is desirable; but so is nationwide uniformity of bankruptcy administration; if the majority opinion assists in establishing the first of these, it helps to destroy the second. Where a paramount public policy does not demand it, I can see no reason for our going out of our way to transplant, from the State to the federal courts, a doctrine which is so curiously lacking in logic and fairness as the New York rule of automatic subordination.
Although not considered in the majority opinion, there is this further possible argument to sustain the preference: It might conceivably be argued that the rule of the New York court had the effect of creating an equitable lien in the Zo-Gale mortgage, in favor of the public certificate holders, i.e., that, in effect, the guaranty, from its inception, gave them a first lien on that mortgage. But the New York court nowhere suggests that its rule is to be taken as creating such an equitable lien; in all likelihood such a basis for the rule has not been advanced, because the existence of such a lien could not be reconciled with the fact that, under the New York decisions, the guarantor, with entire legality, could destroy the lien at any time, by merely selling the unissued or repurchased certificates, without the consent of the holders of the then outstanding publicly held certificates.7

 Or if they had again been resold, before the reorganization, to the public.

 Hereafter I shall, for convenience, treat the uncertificated portion of the mortgage as identical with the repurchased certificates; as the majority points out, Prudence was the true owner of both.

 Were the facts of this case such as to bring it within the general outlines of the rule of the Taylor case, supra, we would be obliged to consider the significance of the cautionary comments in Consolidated Rock Products Co. v. DuBois, March 3, 1941, 61 S.Ct. 675, 85 L.Ed. 982.

 In such a situation, the federal courts are bound by the decisions of the New York courts as to whether language in the contract has the effect of overcoming the New York rule as to subordination, for such decisions relate to the intention of the parties to the contract.

in some of the cases decided by the New York court, it found language in the contract showing an actual intention to create a preference. But in the case at bar there is not a vestige of such language.

 Italics added,

 Such a “lien” would not rise even to the dignity of an unrecorded chattel mortgage. It may also be noted, in passing, that the rights of the Trustees in bankruptcy of Prudence vested before Amalgamated went into bankruptcy.