The 1st U.S. Circuit Court of Appeals has determined that two corporate executives of a bankrupt hospital could not bring a claim in U.S. Bankruptcy Court for severance payments.

The 1st Circuit upheld a U.S. District Court judge’s ruling that subject matter jurisdiction was lacking over the executives’ post-confirmation claims for severance payments against the purchaser of the hospital’s assets.

“In short, [the executives’] claims do not fit into the narrow category of matters that ‘have no existence outside of the bankruptcy,’ … or that ‘could only arise in the context of a bankruptcy,’” Judge Kermit V. Lipez wrote for the unanimous three-judge 1st Circuit panel.

The 18-page decision is Gupta, et al. v. Quincy Medical Center.

Leah L. Miraldi of Providence was counsel for the executives. Chicago attorney Jonathan W. Young represented the purchaser of the hospital’s assets.

Asset sale

Appellants Apurv Gupta and Victor Munger were senior executives at Quincy Medical Center.

On June 30, 2011, the debtors — Quincy Medical Center Inc., QMC ED Physicians Inc. and Quincy Physician Corp. — signed an asset purchase agreement whereby they agreed to sell substantially all of their assets to Steward Family Hospital Inc.

One day later, the debtors filed voluntary petitions under Chapter 11 of the Bankruptcy Code, as well as a “sale motion’ under sections 363 and 365 of the Bankruptcy Code, seeking Bankruptcy Court approval of the asset purchase agreement.

On Sept. 26, 2011, the bankruptcy judge issued a “sale order” approving the asset purchase agreement as requested in the sale motion. The sale closed on Oct. 1, 2011.

Six days later, the debtors filed a proposed Chapter 11 plan of reorganization. The bankruptcy judge thereafter confirmed the plan.

The sale order, the plan and the confirmation order contained provisions stating that the Bankruptcy Court retained jurisdiction over any disputes arising under them.

The appellant executives received letters from the debtors on Oct. 7 stating that their employment was terminated effective the day the sale closed, Oct. 1, 2011. The appellants subsequently sought severance pay from the debtors by filing motions in the Bankruptcy Court for allowance of administrative expenses against the debtors.

The judge found a basis for subject matter jurisdiction to hear the claims against Steward, which had purchased the debtors’ assets. The judge relied on the retention of jurisdiction provisions in the sale order and the plan, ultimately finding Steward liable to the executives under the asset purchase agreement for their severance pay.

Steward then appealed.

On appeal, U.S. District Court Judge Rya W. Zobel concluded that the Bankruptcy Court lacked subject matter jurisdiction over the executives’ claims.

Specifically, she found that their claims against Steward fell outside the Bankruptcy Court’s statutorily granted jurisdiction. Zobel therefore vacated the judgments against Steward and remanded with instructions to dismiss the executives’ claims.

“In short, [the executives’] claims do not fit into the narrow category of matters that ‘have no existence outside of the bankruptcy,’ … or that ‘could only arise in the context of a bankruptcy.’”

— 1st Circuit Judge Kermit V. Lipez

No ‘arising in’ jurisdiction

The Bankruptcy Code, 28 U.S.C. §1334(b), establishes federal jurisdiction over “proceedings arising under title 11, or arising in or related to cases under title 11.”

Thus, “in order for Appellants’ severance claims to fall within 28 U.S.C. §1334’s statutory grant of jurisdiction, the claims must ‘arise under,’ ‘arise in,’ or ‘relate to’ a case under title 11,” Lipez wrote.

Proceedings “aris[e] under title 11” when the Bankruptcy Code itself creates the cause of action, said Lipez, adding that “[w]e have defined ‘arising in’ proceedings generally as ‘those that are not based on any right expressly created by title 11, but nevertheless, would have no existence outside of the bankruptcy.’”

By contrast, “related to” proceedings are those “which ‘potentially have some effect on the bankruptcy estate, such as altering debtor’s rights, liabilities, options, or freedom of action, or otherwise have an impact upon the handling and administration of the bankrupt estate,’” he explained.

The Bankruptcy Court judge concluded that jurisdiction existed solely on the basis of the retention of jurisdiction provisions in the sale order and the plan, which the 1st Circuit called an erroneous approach.

“[A] bankruptcy court may not ‘retain’ jurisdiction it never had — i.e., over matters that do not fall within §1334’s statutory grant,” Lipez stated.

The executives insisted, however, that their claims against Steward “arise in” a bankruptcy case because the asset purchase agreement was approved by the bankruptcy judge.

“This argument misapprehends the relevant law,” Lipez said, pointing out that 1st Circuit caselaw makes clear that for “arising in” jurisdiction to apply, the relevant proceeding must have no existence outside of the bankruptcy.

“[T]he fundamental question is whether the proceeding by its nature, not its particular factual circumstance, could arise only in the context of a bankruptcy case,” Lipez said.

“In other words, it is not enough that Appellants’ claims arose in the context of a bankruptcy case or even that those claims exist only because Debtors (Appellants’ former employer) declared bankruptcy; rather, ‘arising in’ jurisdiction exists only if Appellants’ claims are the type of claims that can only exist in a bankruptcy case,” he added.

The bankruptcy judge’s mere approval of the debtors’ sale of assets to Steward did not automatically create jurisdiction over all future contract disputes somehow related to the asset purchase agreement, Lipez said, adding that the appellants failed to identify any provision of the sale order itself or any related questions of bankruptcy law underlying their claims that would require interpretation by the Bankruptcy Court.

A court deciding the executives’ claims on the merits would need to perform only a state law breach-of-contract analysis, he said.

“Hence, the bankruptcy court did not possess ‘arising in’ jurisdiction over Appellants’ claims,” Lipez wrote.