Technology Lending Partners, LLC v. San Patricio County Community Action Agency

IN THE UNITED STATES COURT OF APPEALS
FOR THE FIFTH CIRCUIT United States Court of Appeals
Fifth Circuit

FILED
July 14, 2009

No. 08-40517 Charles R. Fulbruge III
Clerk

In The Matter Of: SAN PATRICIO COUNTY COMMUNITY ACTION
AGENCY
Debtor

-----------------------------------------

TECHNOLOGY LENDING PARTNERS LLC; NUECES FINANCIAL
CORPORATION

Appellants
v.

SAN PATRICIO COUNTY COMMUNITY ACTION AGENCY; TRUSTEE
MICHAEL B SCHMIDT; TEXAS ATTORNEY GENERAL, as Protector for
Public Interests in Charity; IRVING RONDON; MAYRA RONDON; LUPITA
PAIZ; GUSTAVO GALLARDO PINO; CESAR R NAVARRETTE; P&N AUTO
SALES; TERRY SIMPSON; NINA TREVINO; SARA CRUZ; CHRIS
VARGAS; WALTER HILL; ET AL

Appellees

Appeal from the United States District Court
for the Southern District of Texas

Before JOLLY, PRADO, and SOUTHWICK, Circuit Judges.
Leslie H. Southwick, Circuit Judge:
Technology Lending Partners LLC and Nueces Financial Corporation (“the
Lenders”) appeal the district court’s dismissal of their appeal of the bankruptcy
 No. 08-40517

court’s approval of a settlement order. The Lenders argue that the district court
improperly applied the doctrine of equitable mootness to dismiss. Because the
case was resolved on this threshold mootness issue, the district court was never
called upon to decide whether the Lenders’ state-law tort claims were part of the
bankruptcy estate. We agree that equitable mootness should not have been
applied to the appeal to district dourt. Consequently, we REVERSE and
REMAND to the district court for further proceedings.
I. BACKGROUND
San Patricio County Community Action Agency (“the Debtor”) was a
nonprofit organization, which received money from the state of Texas and the
federal government to facilitate its charitable activities. A portion of this money
was used to purchase passenger vans.
Lupita Paiz operated as an officer or director of the Debtor. Paiz, on behalf
of the Debtor, entered into a transaction with the Lenders. The Lenders agreed
to purchase the vans from the Debtor and then lease the vans back for the
Debtor’s continued use. This transaction permitted a loan of operating funds
and the receipt of title to the vehicles as security. Paiz represented to the
Lenders that the Debtor had the legal right to enter into this transaction. She
signed a bill of sale on behalf of the Debtor.
This litigation exists because the loan of money by the state and federal
governments to purchase the vans prohibited the Debtor from entering into a
contract affecting the government’s interest in the property. The Lenders
contend that Paiz later admitted that she was unaware that she did not have the
authority to sell the vans and declared that she would not have sold the vans
had she known of the restrictions.
When the Debtor was unable to make lease payments on the vans, the
Lenders were unable to claim the vans as security. Government restrictions on
the transfer of title left the Lenders unsecured. Therefore, in 2005, the Lenders

2
 No. 08-40517

each filed separate state-law tort suits in Texas state court against Paiz in her
individual capacity. Each suit alleged negligent misrepresentation on the part
of Paiz. However, the Lenders limited the recovery they sought from Paiz to the
proceeds from the Debtor’s directors and officers insurance policy.
It is undisputed that the policy, which was issued by St. Paul Fire and
Marine Insurance Company and provided $1 million in benefits, would cover
relevant claims against Paiz in addition to claims against the Debtor. There is
no issue in this appeal as to what kinds of claims the policy covered. The policy
language stated that it covered a “wrongful act” by the Debtor and by other
insureds. “Wrongful Act” is broadly defined in the policy, but we assume that
the policy was not one simply to pay debts. We make these observations, despite
that the policy is not directly in issue, because part of the background
explanation by the district court for its holding was that the Lenders had no
greater claim to insurance proceeds than would any of the other creditors. That
would be so only if the policy covered all debts of the insured. If that were the
nature of the coverage, and with claims in bankruptcy of about $2.6 million, it
does not seem quite plausible that a settlement would be reached of only
$650,000 on a $1 million policy. That concern, though, does not affect the result.
Paiz declared personal bankruptcy. The Lenders sought and received an
order lifting the stay in Paiz’s bankruptcy, which allowed the Lenders to proceed
with their state court negligent misrepresentation actions.
The Debtor then filed its own Chapter 7 bankruptcy petition in March
2005. Michael Schmidt was appointed as the bankruptcy trustee. An audit by
the U.S. Department of Health and Human Services in 2004 determined that the
Debtor had overspent its grant funding by more than $550,000. In January
2007, just before the Lenders’ state court trials were to begin, Schmidt
intervened in both actions. Over the Lenders’ opposition, he removed them to
bankruptcy court. Schmidt had previously brought actions on behalf of the

3
 No. 08-40517

Debtor against the Debtor’s officers and directors for alleged mismanagement.
Schmidt and the Texas Attorney General also both brought actions against the
Debtor itself. Eventually, over the Lenders’ objection, six adversary proceedings,
including Schmidt’s suits, the Texas Attorney General’s suit, and both of the
Lenders’ suits, were consolidated in bankruptcy court in June 2007.
Schmidt, as trustee, moved in the bankruptcy court to appoint himself as
special counsel to represent the bankruptcy estate in proceedings involving the
Debtor and its officers, directors, and employees. The bankruptcy court granted
the motion, which included a contingency fee schedule for Schmidt of a third of
all money collected from settlement prior to trial, 45% of all money collected
after trial, and half of all money collected after appeal.
Schmidt negotiated a settlement agreement with St. Paul, which was
reached after mediation but before trial. In May 2007, the bankruptcy court
approved the settlement agreement, holding that St. Paul would pay $650,000
of the $1 million available under the policy in exchange for the dismissal with
prejudice of all claims against the policy. That dismissal included both of the
Lenders’ claims, which they had initially filed in state court. The bankruptcy
court found that all of the proceeds of the Debtor’s relevant insurance policy
were part of the bankruptcy estate. The Lenders unsuccessfully opposed the
settlement agreement. Their motion to stay the order approving the settlement
agreement was denied.
With the settlement agreement approved, Schmidt next filed a motion for
approval of an interim distribution agreement for the settlement proceeds. The
bankruptcy court granted the motion. It approved a distribution agreement that
gave $325,000, or half of the settlement, plus out-of-pocket expenses to Schmidt;
more than $150,000 to the Texas Attorney General; and eventually left
$118,961.06 to be distributed pro rata among approximately 50 unsecured
creditors, including the Lenders. The Lenders filed a motion to stay the interim

4
 No. 08-40517

distribution agreement, but they did not post a bond. The motion was denied in
August 2007, and the funds were distributed.
The Lenders appealed the following orders to the district court: (1) the
Order Consolidating all the Adversary Proceedings, (2) the Order Approving the
Settlement Agreement, (3) the Order Denying Lenders’ Motion for Stay of Order
Approving Settlement Agreement, (4) the Order Granting Motion for Approval
of Interim Distribution Agreement for Settlement Proceeds, and (5) the Order
Denying Motion for Stay of Order Approving Interim Distribution and Denying
Stay of Dismissal of Consolidated Adversaries. The parties fully briefed the
merits issues before the district court, and then one month later Schmidt filed
a separate motion to dismiss the appeal as equitably moot. In March 2008, the
district court granted Schmidt’s motion. Though the district court mentioned
the merits issues, its analysis concentrated solely on the issue of equitable
mootness. In granting the motion to dismiss, the court explained, “it would be
inequitable and futile to consider the merits of Appellants’ appeals.”
This appeal followed.
II. DISCUSSION
On this appeal, we act as the second appellate court to review the acts of
the bankruptcy court. Consequently, we apply the same standard of review to
the bankruptcy court’s ruling as did the district court. We provide no deference
to legal conclusions and analyze them anew. On the other hand, clear error
must be shown before we would reverse a finding of fact. Mixed questions of law
and fact that may be in the case receive de novo review. In re Seven Seas
Petroleum, Inc., 522 F.3d 575, 583 (5th Cir. 2008).
The controlling holding by the district court was that the appeal was
equitably moot by the time it arrived. That is a legal determination subject to
de novo review. In re GWI PCS 1 Inc., 230 F.3d 788, 799-800 (5th Cir. 2000).

5
 No. 08-40517

The doctrine of equitable mootness is designed “to address equitable
concerns unique to bankruptcy proceedings.” In re Manges, 29 F.3d 1034, 1038
(5th Cir. 1994). It is not an Article III inquiry into whether a case or controversy
exists, but rather “a recognition by the appellate courts that there is a point
beyond which they cannot order fundamental changes in reorganization actions.”
Id. at 1039. “An appeal is equitably moot when a plan of reorganization has
been so substantially consummated that a court cannot order effective relief
even though a live dispute remains among some parties to the bankruptcy case.”
In re Hilal, 534 F.3d 498, 500 (5th Cir. 2008). Both of the latter two statements
of principle refer to plans of reorganizations. Such plans maintain a debtor in
operation and may result in substantial changes in ownership, management,
and business relations. New contracts may be entered, such as new
arrangements with suppliers and others. All of that and more result in
expectation interests that courts are loath to upset.
Whether the doctrine has much if any relevance to a bankruptcy under a
Chapter 7 liquidation, as this one, is a threshold issue. “Equitable mootness
normally arises where a Chapter 11 reorganization plan is at issue.” In re
Grimland, Inc., 243 F.3d 228, 231 n.4 (5th Cir. 2001). The doctrine responds “to
the particular problems presented by the consummation of plans of
reorganization under Chapter 11.” Id. at 231. Indeed, equitable mootness is
often defined in relation to reorganization plans. See, e.g., In re Hilal, 534 F.3d
at 500; In re Berryman Prods., Inc., 159 F.3d 941, 944 (5th Cir. 1998); In re
Manges, 29 F.3d at 1039; 13B C HARLES A LAN W RIGHT, A RTHUR R. M ILLER &
E DWARD H. C OOPER, F EDERAL P RACTICE AND P ROCEDURE § 3533.2.3 (3d ed. 2008).
But see In re Pequeno, 246 F. App’x 274 (5th Cir. 2007) (finding equitable
mootness in a Chapter 7 proceeding in an unpublished and therefore non-
precedential opinion).

6
 No. 08-40517

It is certainly arguable that equitable mootness has no application to an
appeal in a Chapter 7 liquidation. Yet, there is no reason to make such a
comprehensive statement here. Instead, we find that under traditional equitable
mootness analysis, this case is not moot.
We start with some standard qualifiers to equitable mootness.
“Substantial consummation of a reorganization plan is a momentous event, but
it does not necessarily make it impossible or inequitable for an appellate court
to grant effective relief.” In re Manges, 29 F.3d at 1042-43 (internal quotation
marks and citation omitted). Further, “equitable mootness need not foreclose an
appeal from aspects of Chapter 11 plan confirmation that solely concern
professional compensation and releases.” In re Hilal, 534 F.3d at 501; see In re
SI Restructuring, Inc., 542 F.3d 131, 136-37 (5th Cir. 2008) (holding that a
challenge to the disbursement of attorney’s fees was not equitably moot).
Whatever else may be equitably moot, the Lenders’ claim to have a portion of
Schmidt’s attorney’s fees disgorged seems beyond the reach of the doctrine.
We examine three factors in the usual equitable mootness assessment: “(1)
whether a stay has been obtained, (2) whether the plan has been ‘substantially
consummated,’ and (3) whether the relief requested would affect either the
rights of parties not before the court or the success of the plan.” In re Manges,
29 F.3d at 1039. “The ultimate question to be decided is whether the Court can
grant relief without undermining the plan and, thereby, affecting third parties.”
In re SI Restructuring, Inc., 542 F.3d at 136. In this case, the first two factors
are not at issue, at least factually. The Lenders did not obtain a stay. The
settlement has mostly and perhaps entirely been paid, but whether that is the
equivalent of “substantially consummated” can be deferred.
The remaining factor is whether the relief requested would affect the
success of the plan or the rights of parties not before the court. The relief that
the Lenders would receive from a finding that their state-law claims should not

7
 No. 08-40517

have been removed to bankruptcy court would be a restarting of their
proceedings against Paiz in state court. Were the Lenders to be successful in
those claims, then Paiz could make a claim on benefits payable under the
insurance policy. Everyone affected has been involved in these bankruptcy
proceedings as creditors, trustee, or as a non-party insurance company entering
a settlement with the specific purpose of having it approved by the court.
This case involves the payment of money to parties who were before the
bankruptcy court, with three-quarters of the settlement being paid to either
Schmidt or the state of Texas. We realize that the money paid to the state was
then to be given to a comparable charity or charities. Still, we do not find that
fact to create a hardship in this case sufficient to outweigh the general right of
dissatisfied litigants to have a review of their appellate issues.
Indeed, we find little difference in the equities in this case from those in
general civil appeals in which a money judgment was entered, but no stay was
obtained. There is a provision for seeking a stay of a judgment in appeals in
such cases. Fed. R. App. P. 8(a). If there is no stay, a money judgment involving
multiple parties may be paid prior to a ruling on the appeal. If informed of those
payments, we do not consider dismissing the appeal with a statement that
equity now prevents us from reviewing the merits. That is true even though in
some cases, the money would not be recoverable if the judgment were reversed.
The principal entity who loses pro tanto is the appellant who did not get the stay
and cannot recover all of the payments already made. It has never been the law
that failure to get the stay moots the appeal.
We are aware that settlement agreements can play an important role in
improving the odds for the overall success of a bankruptcy plan. See, e.g., In re
Hilal, 226 F. App’x 381 (5th Cir. 2007); In re Morningside Mobile Home RV Park,
32 F. App’x 130 (5th Cir. 2002); In re U.S. Brass Corp., 169 F.3d 957 (5th Cir.
1999). In those cases, the settlement agreements and releases were part of a

8
 No. 08-40517

larger plan of reorganization. In one case, we found that a dispute in a Chapter
7 bankruptcy between two parties over a surcharge order was not equitably moot
because reversing the order would simply require one party to repay the other.
In re Grimland, 243 F.3d at 232. There are more parties involved in this case,
but not a different principle. There is no reorganization plan here that has been
put into effect and would need to be unraveled. If the settlement agreement in
this case eventually were set aside, money received under the interim
disbursement order would need to be repaid. Some of the creditors may be
financially unable to repay. That difficulty is not of the same nature or
magnitude as the undoing of a complicated plan of reorganization.
Equitable mootness is, to be redundant, an equitable doctrine. On these
facts, even if the doctrine has some legal relevance to Chapter 7 liquidations, we
do not apply it. Equity much more strongly lies with the parties who raise a
legitimate argument that their claims were not properly part of the bankruptcy
estate in the first place. That claim should be reviewed absent stronger
equitable mootness arguments than we have seen here.
The district court never reached the summary judgment issues on whether
the Lenders’ claims were part of the estate. Instead, the appeal was simply
dismissed on motion. The only order being reviewed today concerns equitable
mootness. We go no further than to conclude that the doctrine does not apply.
We REVERSE and REMAND for further proceedings.

9