MAXON ENGINEERING SERVICES INC and G&G Developers Corp. ("G&G")

OCR transcription for search; preserved printed pages are authoritative

Nr

nN oO & Ww

10

1i

13

14

15

16

17

18

19

20

21

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

AUTHENTICATED
U.S. GOVERNMENT
INFORMATION

GPO

Document Page 1 of 29

UNITED STATES DISTRICT COURT
DISTRICT OF PUERTO RICO

PUERTO RICO ELECTRIC POWER

AUTHORITY,
Civil No. 06-1538 (JAF)
A 1 t ; aan
ppeliant, (Consolidated with Civil No. 06-
1597 (JAF), and Civil No. 06-
Vv. 1598 (JAF) )
MAXON ENGINEERING SERVICES, (Bankr. No. 04-4781 (SEK))

INC., et al.

Appellees.

OPINION AND ORDER

Before the court are three consolidated bankruptcy appeals
brought by the Puerto Rico Electric Power Authority (“PREPA”) .

Docket Document Nos. 4, 31, 36... The first appeal challenges the

bankruptcy court’s initial decision finding that PREPA violated the
automatic stay provision of the Bankruptcy Code, 11 U.S.C. § 362

(2007). Docket Document No. 4; (Case No. 06-1538, Apps. 2, 6).’

PREPA’s second appeal challenges the bankruptcy court’s denial of its

L
motion for relief from the automatic stay. Docket Document No. 31;

(Case No. 06-1597, App. 2). PREPA’s third appeal challenges the

bankruptcy court’s denial of its motion to dismiss, which was filed

> All citations to the docket refer to Case No. 06-1538, the
lead case in these consolidated appeals.

2 wn

Citations in the form “Case No. , App. [or Ex.] refer
+o documents contained in the record on appeal for each of the three
cases in the consolidated appeals.

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

10

11

12

13

14

15

16

17

18

19

20

21

22

23

Document Page 2 of 29

Civil No. 06-1538 (JAF) -2-

in a related adversary proceeding. Docket Document No. 36; (Case

No. 06-1598, Ex. 2). These three cases were consolidated because they
involve common questions of law or fact, as well as the same parties.

Docket Document Nos. 9, 11. For the reasons stated below, we affirm

the bankruptcy court’s findings in all three appeals, with the
exception of the issue of qualified immunity in PREPA’s third appeal,

Docket Document No. 36, which we remand to the bankruptcy court.

I.

Factual and Procedural Synopsis

Unless indicated otherwise, we derive the following factual and

procedural background from the parties’ filings and the record on

appeal. Docket Document Nos. 4, 12, 13, 18, 23, 29, 31, 35, 36.
Before Debtor Maxon Engineering Services, Inc. (“Maxon”) filed
its bankruptcy petition (“pre-petition period”), it had performed
work on several of PREPA’s projects. During the course of this
business relationship, Maxon assigned its right to payment to Banco
Bilbao Vizcaya Argentaria (“BBVA”). PREPA agreed to the assignment
in writing such that PREPA was supposed to make all checks payable to
both Maxon and BBVA, rather than to Maxon alone. However, PREPA
failed to abide by this protocol on several occasions and, instead,
issued checks payable only to Maxon (“PREPA’s pre-petition mistake”).
Maxon received and cashed these checks without forwarding the money

to BBVA.

10

il

12

13

14

15

16

1?

19

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 3 of 29

Civil No. 06-1538 (JAF) -3-

After Maxon filed its bankruptcy petition on May 5, 2004 (“post-
petition period”), PREPA continued to use Maxon’s services. From
February 10, 2005, through August 4, 2005, Maxon submitted nineteen
invoices to PREPA for the services and equipment that it had provided
to PREPA. During that time period - on March 15, 2005 - BBVA
demanded over $2 Million from PREPA to recover the funds that it had
not received because of PREPA’s pre-petition mistake. Following
BBVA’s demand, PREPA instituted an administrative hold on the payment
of the funds that it owed to Maxon for its post-petition work (“post-
petition funds”), asserting that it was necessary to withhold the
funds until it was able to determine whether it had a claim and/or
possible setoff rights against Maxon. Specifically, PREPA wanted to
determine if it had the right to setoff the post-petition funds that
it owed to Maxon against the money that it owed to BBVA, since that
money had been inadvertently sent to and deposited by Maxon. PREPA
informed Maxon’s counsel of the administrative hold on August 23,
2005.

On August 24, 2005, Maxon filed a motion requesting a turnover
of $573,091.98 in post-petition money that had been withheld by PREPA
(“Turnover Motion”), and alleging that PREPA’s administrative hold
violated the automatic stay under 11 U.S.C. §$ 362 (2007). The
automatic stay is triggered as soon as a debtor files a bankruptcy

petition. Masterson v. Berkeley Fed. Bank & Trust, FSB (In re

Masterson), 189 B.R. 250, 251 (Bankr. R.I. 1995) (citing 11 U.S.C.

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

10

11

12

13

20

21

22

23

24

Document Page 4 of 29

Civil No. 06-1538 (JAF) -4-

§ 362). It is “designed to freeze the status quo at the outset of
bankruptcy proceedings, by precluding and nullifying most post-
petition judicial and extrajudicial actions and proceedings against
the Debtor or affecting property in which the Debtor or the Debtor’s
estate has a legal, equitable or possessory interest.” Id. (internal
quotations omitted). Pursuant to the automatic stay, a creditor is
barred from using post-petition funds to setoff pre-petition claims

that it has against the debtor. § 362(a) (7); see also In re Holden,

258 B.R. 323, 327 (D. Vt. 2000); In re Ruiz, 146 B.R. 877, 879

(Bankr. S.D. Fla. 1992).

On September 13, 2005, the court found that it could not decide
Maxon’s turnover request on a motion because such matters can only be
decided in an adversary proceeding, which Maxon subsequently
initiated. However, the court agreed with Maxon that PREPA had
violated the automatic stay because its administrative hold was an
impermissible attempt to setoff post-petition funds against pre-
petition claims. PREPA moved for reconsideration but its motion was
denied. Now, in its first appeal, PREPA urges us to reverse the
findings of the bankruptcy court, asserting that it did not violate
the automatic stay and, therefore, the bankruptcy court’s findings
are wrong as matter of law.

PREPA’s second appeal challenges the bankruptcy court’s
November 21, 2005 Memorandum Opinion, denying its motion for relief

from the automatic stay. Finally, PREPA’s third appeal challenges

No

an

~]

10

il

12

13

14

15

16

1?

18

19

21

22

23

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 5 of 29

Civil No. 06-1538 (JAF) -5-

the bankruptcy court’s denial of its motion to dismiss Maxon’s
adversary proceeding against PREPA. Maxon had filed this proceeding
on September 8, 2005, seeking, inter alia, damages for PREPA’s
violation of the automatic stay.

On July 14, 2006, PREPA moved to consolidate the three appeals,
asserting that all three appeals involve common questions of law or

fact and involve the same parties. Docket Document No. 9. We granted

PREPA’s motion on July 27, 200€. Docket Document No. li. Trustee-

Appellee opposed all three of PREPA’s appeals. Docket Document

Nos. 13, 23, 29, 35. PREPA replied to each of Trustee-Appellee’s

opposition briefs. Docket Document No. 18, 31, 36.
Il.
Standard

In reviewing the bankruptcy court’s decision, “[fjindings of
fact, whether based on oral or documentary evidence, shall not be set
aside urless clearly erroneous, and due regard shall be given to the
opportunity of the bankruptcy court to judge the credibility of the
witness.” Fed. R. Baxsr. P. 8013 (2007). However, we consider the

bankruptcy court’s conclusions of law de novo. Palmacci v. Umpierrez,

121 F.3d 781, 785 (lst Cir. 1997).
III.
Analysis

A. PREPA’s First Appeal, Case No. 06-1538

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

15

16

17

18

19

21

22

24

Document Page 6 of 29

Civil No. 06-1538 (CAF) -6-

On September 13, 2005, the bankruptcy court denied Maxon’s
Turnover Motion, finding that a request for outstanding payments

cannot be brought as a motion; rather, such a request must be filed

as a separate adversary action. (Case No. 06-1538, App. 6); FED. R.
Baxke. P. 7001 (2007) (stating that an action “to recover money or
property” must be decided in an adversary proceeding).

Notwithstanding the court’s denial of Maxon’s Turnover Motion, it
found that PREPA’s administrative hold violated the automatic stay
because it had no right to setoff post-petition funds against pre-
petition claims. (Case No. 06-1538, App. 6.) PREPA filed a motion
for reconsideration, but the court denied it on November 21, 2005.
(Case No. 06-1538, App. 2.) PREPA asserts that the court erred
because, as with Maxon’s turnover request, Maxon’s request that the
court enforce the automatic stay and, concomitantly, determine
whether PREPA has setoff rights can only be made in an adversary
proceeding, not by motion. Alternatively, PREPA argues that, even if
the court could make such determinations on a motion, it erred by
failing to hold an evidentiary hearing to fully flesh out the issues;
and it incorrectly concluded that PREPA had no right to setoff and
that its administrative hold violated the automatic stay.

1. Whether PREPA’s Due Process Rights Were Violated

PREPA alleges that the bankruptcy court violated its due process
rights by determining that PREPA violated the automatic stay and had

no setoff rights on a motion rather than in an adversary proceeding.

10

11

12

13

14

15

16

17

18

19

20

21

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 7 of 29

Civil No. 06-1538 (JAF) -7-

Docket Document Nos. 4, 18. According to PREPA, the Bankruptcy Code

requires all determinations regarding a party’s “interest in
property,” which includes setoff rights, to be decided in an

adversary proceeding. Docket Document No. 18 (citing Fep. R. Bankr.

P. 7001). By deciding whether PREPA violated the automatic stay
and/or had setoff rights on a motion, the bankruptcy court denied
PREPA the opportunity to have an evidentiary hearing and other due
process protections that accompany an adversary proceeding. Id.
“The automatic stay is among the most basic of debtor
protections under bankruptcy law. It is intended to give the debtor
breathing room by stopping all collection efforts, all harassment and

all foreclosure actions.” Rijos v. Vizcaya (In re Rijos), 263 B.R.

382, 389 (lst Cir. 2001) (internal quotations omitted). Pursuant to
the automatic stay, a creditor such as PREPA is prohibited from using
post-petition funds to setoff pre-petition claims that it has against
the debtor. 11 U.S.C. § 362 (a) (7).

Although we have not found a case that contains the exact facts
that we are faced with today - where a debtor moved to enforce the
automatic stay outside of an adversary proceeding, alleging that the
creditor had attempted an impermissible setoff - we find that the

bankruptcy court had the authority to enforce the automatic stay on

16

11

12

13

14

15

16

17

18

13

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 8 of 29

Civil No. 06-1538 (JAF) -8-

the debtor’s motion and did not need to wait until the matter is
presented in an adversary proceeding to do so.*

First, we note that, in cases in which debtors have moved to
enforce the automatic stay for reasons other than a creditor’s
attempted impermissible setoff, courts found that they had the
authority to decide a motion alleging a violation of the automatic

stay. See, e.g., In re Dunning, 269 B.R. 357, 367 (Bankr. N.D. Ohio

2001) (stating that neither the Bankruptcy Code nor the Rules require
an adversary proceeding for a violation of the automatic stay and,
thus, the court could decide the matter on the debtor’s motion); In

re LTV Steel Co., 264 B.R. 455, 462-63 (Bankr. N.D. Ohio 2001)

(finding that the thrust of debtors’ motion was to enforce the
automatic stay and, therefore, it was appropriate to bring the issue
before the court by motion).

Next, we are further convinced that our decision is correct by
the fact that courts are permitted to determine a creditor’s petition
for relief from the automatic stay on a motion, even when a
determination of the creditor’s setoff rights is necessary to decide

the motion. See In re Ruiz, 146 B.R. 877, 878-79 (Bankr. S.D. Fla.

> We note that it may not always be appropriate to decide issues
such as setoff rights on a motion. In more complex cases, it may be
necessary to decide such issues in an adversary proceeding. See Biggs
v. Stovin (In re Luz Int’l), 219 B.R. 837, 843 (9th Cir. 1983)

(“While an adversary proceeding is not required for every motion for
relief from stay, in this particular case the setoff motion required
adjudication of complex financial arrangements and underwriting
agreements.”).

10

11

13

14

15

16

17

18

19

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 9 of 29

Civil No. 06-1538 (JAF) -9-

1992) (determining, upon creditor’s motion for relief from the
automatic stay, that creditor had “no right of setoff”’); Fep. R. BANKR.
P. 4001 (2007) (authorizing creditors to move for relief from the
automatic stay). If a court is permitted to decide whether a creditor
has setoff rights upon a motion for relief from the automatic stay,
we fail to see why we would not be able to decide the same issue on
debtor’s motion to enforce the automatic stay.

PREPA disagrees with this conclusion but has failed to cite to
any cases in support of its contention that setoff rights and alleged
violations of the automatic stay cannot be decided on a debtor’s
motion.

2. Whether An Evidentiary Hearing Should Have Been Held

In the alternative, PREPA asserts that, even if the bankruptcy
acted within its authority in finding that PREPA violated the
automatic stay on a motion, it should have, at the very least, held
an evidentiary hearing before making its final decision. Docket

Document No. 4. We disagree with this argument as well. Bankruptcy

Rule 9014, which governs motions brought in bankruptcy proceedings,
states that, where relief is requested by motion, “reasonable notice
and opportunity for hearing shall be afforded the party against whom
relief is sought.” See Fep. R. BANKR. P. 9014 (2007). However, an
“opportunity for hearing” does not mean that an actual hearing is

required for each motion. See Flynn v. Eley (In re Colorado Mt.

Cellars), 226 B.R. 244, 246 (D. Colo. 1998); cf. Prebor v. Collins

10

11

12

13

15

16

17

18

19

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 10 of 29

Civil No. 06-1538 (JAF) -10-

(In re I Don’t Trust), 143 F.3d 1, 3 (ist Cir. 1998) (stating that,

although the Bankruptcy Code required “‘notice to the parties in

interest and. . . a hearing’” before a fee award could be made, it
did not mean that an actual “hearing - much less an evidentiary
hearing - is .. . required in every instance” (citing 11 U.S.C.
§ 330(a) (1) (A))). An evidentiary hearing is particularly unnecessary

“where a judge is familiar with the facts in dispute,” and the
parties have not requested a hearing. Flynn, 226 B.R. at 246-47.
During the course of the proceedings before the bankruptcy
court, PREPA challenged the court’s authority to enforce the
automatic stay and determine PREPA’S setoff rights outside of an
adversary proceeding but it did not, in the alternative, request that
the court hold an evidentiary hearing on Maxon’s motion. (See Case
No. 06-1538, Apps. 5, 7, 9, 10.) Secondly, the transcript shows that
the judge was familiar with the facts at issue and requested
additional documentary evidence, including a copy of the assignment

agreement, to more fully review the facts of the case. (See id.,

App. 3 (Tr., Sept. 29, 2005) (documenting extensive oral argument
before judge.))

Lastly, the material facts that the bankruptcy court relied on
in making its determination are undisputed. PREPA has admitted that:
(1) the contracts entered into between PREPA and Maxon were pre-
petition; (2) Maxon executed the assignment of its PREPA payments to

BBVA pre-petition; (3) PREPA agreed to the assignment pre-petition;

10

1l

12

13

14

15

16

17

18

19

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 11 of 29

Civil No. 06-1538 (JAF) -ll1-

(4) PREPA issued pre-petition checks that were made out only to Maxon
and not to both Maxon and BBVA, as required by the assignment
agreement; (5) Maxon continued to work for PREPA post-petition;
(6) BBVA demanded all outstanding payments from PREPA post-petition;
and (7) PREPA placed an administrative hold on post-petition payments
that it owed to Maxon, and, therefore, has not paid Maxon for its

post-petition work. (See id., Apps. 2, 6); Docket Document No. 4.

Based on all of the aforementioned reasons, we find that the
bankruptcy court was not required to hold an evidentiary hearing.

3. Whether PREPA Had A Right To Setoff

The bankruptcy court found that PREPA did not have a colorable
right to setoff because it was attempting to use post-petition funds
to setoff pre-petition claims, which is prohibited by the automatic
Stay. (Case No. 06-1538, App. 2, 6); 11 U.S.C. § 362(a) (7). To reach
this decision, the bankruptcy court needed to make two
determinations: (1) that the funds that PREPA was withholding from
Maxon were for services and equipment that Maxon had provided to
PREPA post-petition, and (2) that PREPA’s claim against Maxon arose
pre-petition. The first inquiry was simple because, based on the
parties’ briefs that were submitted to the bankruptcy court, it was
undisputed that PREPA’s administrative hold applied to post-petition
funds. (Case No. 06-1538, App. 6.)

With regard to the second inquiry, the bankruptcy court’s

analysis was more extensive. The court first noted that section

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

10

1i

12

14

15

16

18

19

20

21

22

23

24

Document Page 12 of 29

Civil No. 06-1538 (JAF) -12-

101(5) of the Bankruptcy Code states that a “claim” includes a “right
to payment, whether or not such a right is reduced to judgment,
liquidated, unliquidated, fixed, contingent, matured, unmatured,
disputed, undisputed, legal, equitable, secured, or unsecured.” 11
U.S.C. § 101(5) (2007). This expansive approach to determining when
a claim arises “puts all creditors on equal footing, and allows the
debtor a fresh start by resolving, in one forum, all claims based on

pre-petition conduct.” L.F. Rothschild & Co. v. Angier, 84 B.R. 274,

277 (D. Mass. 1988); see also In re Hemingway Transp., 954 F.2d 1, 8

(lst Cir. 1992) (stating that Congress deliberately adopted an
expansive definition of a claim to “permit the broadest possible
relief in the bankruptcy court” (internal quotations omitted)). The
definition of a claim turns on the existence of a “right to payment,”
put this term is not defined within the statute. Therefore, as the
bankruptcy court explained, courts usually apply one of three
different tests to determine whether a claim arises pre-petition.
(Case No. 06-1538, App. 2.) In this particular case, the court
applied all three and found that PREPA’s claim arose pre-petition
under each test. {(Id.)

The three tests include (1) the conduct test, (2) the pre-
petition relationship test, and (3) the fair contemplation test.

(Id., App. 2.); see also Roberds, Inc. v. Lumbermen’s Mut. Cas. Co.

(In re Roberds, Inc.), 285 B.R. 651, 657 (Bankr. S.D. Ohio) (applying

the same three tests). The conduct test focuses on “the time when

fea
©

12

13

14

15

16

17

18

193

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 13 of 29

Civil No. 06-1538 (JAF) -13-

the acts giving rise to the alleged liability were performed.” In re

Jonns-Manville Corp., 57 B.R. 680, 690 (Bankr. S.D.N.Y. 1986). Thus,

within the context of a federal bankruptcy case, a court may find
that a claim arose pre-petition even if, under state law, it would
not have been cognizable until after the bankruptcy petition was
filed. Id. Under the pre-petition relationship test, a court will
need to determine whether some pre-petition relationship existed,

such as “privity, contact, impact or hidden harm.” In re Piper

Aircraft Corp., 162 B.R. 619, 627 (Bankr. S.D. Fla. 1994). The fair

contemplation test looks to see whether the relationship that existed
between the creditor and the debtor pre-petition was such that the

creditor could fairly contemplate that a claim would arise. See Il

re Nat’l Gypsum Co., 139 B.R. 337, 407-9 (Bankr. N.D. Tex. 1992).

Upon a close review of the bankruptcy court’s analysis, (Case
No. 06-1538, App. 2), we find that it correctly applied each of the
three tests to find that PREPA’s claim arose pre-petition. It is
uncontested that the contracts at issue between PREPA and Maxon and
the assignments were agreed to pre-petition. Moreover, the checks
that PREPA incorrectly issued to Maxon’s name alone were disbursed
pre-petition as well. (See Case No. 06-1538, Apps. 5, 6.) Thus, the

conduct test is satisfied because all of the acts that gave rise to

PREPA’s claim against Maxon arose pre-petition. See Roberds, Inc.,

285 B.R. at 657 (finding that the conduct test was satisfied because

“almost all of the conduct relating to the claim . . . [occurred]

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

10

il

12

13

14

15

16

17

18

19

20

21

22

23

Document Page 14 of 29

Civil No. 0€-1538 (JAF) -14-

pre-petition” and, therefore, creditor had no setoff rights).
Moreover, during the pre-petition period Maxon established a
relationship with PREPA that would have allowed PREPA to fairly
contemplate the possibility of future liability, which satisfies both
the pre-petition relationship test and the fair contemplation test.
Id. (finding that the claim arose pre-petition under the pre-petition
relationship and fair contemplation tests). Thus, the bankruptcy
court correctly found that PREPA’s claim arose pre-petition under all
three tests.

PRFPA asserts that the bankruptcy court misapplied the three

tests for when a claim arose. Docket Document No. 4. Without

providing legal support, PREPA argues that the court should have
limited its analysis to “whether the claimant had pre-petition
knowledge and awareness of his claim or whether the creditor knew or
should have known about his claim.” Id. PREPA alleges that it did
not know nor should it have known that it had a claim against Maxon
pre-petition. Id. According to PREPA, Maxon and BBVA never informed
PREPA during the pre-petition period that it had been issuing the
checks incorrectly or that BBVA had not received all of its payments
from PREPA. Id. Therefore, it was not until the post-petition
period when BBVA demanded payment from PREPA that PREPA became aware
of the fact that it had a claim against Maxon for monies that PREPA

owed to BBVA. Id.

10

11

12

16€

17

18

19

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 15 of 29

Civil No. 06-1538 (JAF) -15-

We find PREPA’s arguments to be unpersuasive. PREPA was the one
that issued the checks incorrectly. According to the assignment
contracts, which PREPA assented to, PREPA should have made all of the
checks payable to both Maxon and BBVA, yet it was negligent in
disbursing these checks and, on a number of occasions, made the
checks payable to only Maxon. The disbursement of these checks were
in PREPA’s control, and all of these acts took place pre-petition.
Therefore, as the bankruptcy court stated, even if PREPA was unaware
of its claim against Maxon pre-petition, it certainly should have
anticipated some liability for its repeated mistaken actions. (Case
No. 06-1538, App. 2.)

PREPA further asserts that the court should have applied Puerto
Rico law under which a claim arises pre-petition only if the creditor
was aware of the injury pre-petition and was, therefore, able to

assert a claim against the debtor at that time. Docket Document

No. 4. However, PREPA has not cited to any case law stating that a
bankruptcy court is required to apply state law to determine whether
a claim arises pre-petition. By contrast, our survey of relevant

case law points to the opposite conclusion, that state law is not

controlling in determining when a claim arises. See, e.g., In re

Hemingway Transp., 954 F.2d at 8 n.9 (refusing to accept the minority

approach to determining when a claim arises, which reguires courts to
look to non-bankruptcy state law, because it fails to “accord full

breadth to the term ‘claim’” which Congress intended to be defined

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

10

11

12

18

19

20

21

22
23
24
25

26

Document Page 16 of 29

Civil No. 06-1538 (JAF) -16-

broadly); L.F. Rothschild & Co. v. Angier, 84 B.R. at 276 (“Relying

on Congress’ expansive definition of ‘claim,’ courts have applied

automatic stays to post-petition claims arising out of the
debtor’s pre-petition conduct, even when the debtor’s cause of action
was not mature under state law until after the bankruptcy filing.”
(listing cases from numerous jurisdictions that applied similar
analysis)).

Accordingly, we agree with the bankruptcy court’s finding that
PREPA’s claim against Maxon arose pre-petition and that PREPA was
attempting an impermissible setoff because it was trying to setoff
post-petition funds against a pre-petition claim. As such, we affirm
the bankruptcy court’s finding that PREPA had no setoff rights.

4. Whether PREPA’s Administrative Hold Violated The Automatic
Stay

PREPA asserts, in the alternative, that even if its claim
against Maxon arose pre-petition, PREPA’s administrative hold did not
violate the automatic stay because (1) a temporary hold is permitted

under Citizens Bank of Md. v. Strumpf, 516 U.S. 16 (1995), since it

is not a fully executed setoff; and (2) the automatic stay can only
be violated if the frozen post-petition monies were property of the
debtor’s estate, which they were not.

(a) Whether Strumpf Applies To PREPA’s Administrative
Hold

PREPA asserts that if the bankruptcy court had correctly applied

Strumpf, it would have found that PREPA’s administrative hold did not

18

19

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 17 of 29

Civil No. 06-1538 (JAF) -17-

violate the automatic stay because it was temporary in nature and a

setoff was never fully executed. Docket Document No. 4. According

to PREPA, it never fully executed the three steps necessary to
effectuate a setoff, which are: “‘(i) a decision to effectuate a
setoff, (ii) some action accomplishing the setoff, and (iii) a
recording of the setoff.’” Id. (quoting Strumpf, 516 U.S. at 19).
We disagree and find that the bankruptcy court correctly concluded
that Strumpf does not apply. (See Case No. 06-1538, App. 2, 6.)
The Strumpf Court determined that a creditor may, in order to
protect its setoff rights, temporarily withhold payment of a debt
that it owes to the debtor in bankruptcy without violating the
automatic stay. Strumpf, 516 U.S. at 17, 19-20. The creditor in
Strumpf instituted a temporary administrative hold as means to
protect its setoff rights while it sought relief from the automatic
stay. Id. at 19. Notably, the creditor in Strumpf filed a motion
for relief from the automatic stay within five days after initiating
the hold. Id. at 18. Strumpf does not apply to the case at hand
because, unlike the creditor in Strumpf, (1) PREPA waited to file
such a motion for relief from the automatic stay until after the
bankruptcy court found that PREPA’s administrative hold violated the
automatic stay; and (2) PREPA had no colorable right to a setoff and,
therefore, nothing to protect with its administrative hold.
Therefore, the bankruptcy court did not err in finding that PREPA’s

administrative hold violated the automatic stay.

10

1i

12

14

15

16

17

18

19

20

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 18 of 29

Civil No. 06-1538 (JAF) -18-

(b) Whether The Frozen Post-Petition Funds Were Property
of The Debtor’s Estate

The bankruptcy court found that PREPA’s administrative hold,
which froze post-petition funds owed to Maxon, violated the automatic
stay which prohibits “any act to obtain possession of property of the
estate or of property from the estate or to exercise control over
property of the estate.” 11 U.S.C. § 362(a) (3). A debtor’s estate
is “created by the filing of a petition and comprises property of the
debtor ‘wherever located and by whomever held,’ including (among
other things) ‘ali legal or equitable interests of the debtor in

property as of the commencement of the case.” United States Vv.

Inslaw, Inc., 932 F.2d 1467, 1471 (D.C. Cir. 1991) (quoting 11 U.S.C.

§ 541 (a) (1)).

PREPA first argues that the bankruptcy court should have applied
Strumpf to find that the post-petition funds that were subject to
PREPA’s administrative hold were not property of the debtor’s estate.

Docket Document No. 4. It asserts that “funds owed to a debtor in

bankruptcy [merely] .. . constitute a promise by the owing creditor
to pay the debt” and, therefore, are not property of the debtor’s
estate. Id. Because we have already distinguished Strumpf from this
case and found that it does not apply, see supra section A(4) (i), we
will move on to PREPA’s next two arguments.

PREPA next alleges that assets whose title are in dispute are

not property of the estate. Docket Document No. 4 (citing Inslaw,

ho

10

11

12

13

14

15

16

18

19

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 19 of 29

Civil No. 06-1538 (JAF) -19-
Inc., 932 F.2d at 1467, 1472 (D.C. Cir. 1991)). This argument fails
as well because the money owed to Maxon is not in dispute. Maxon

provided services and equipment in accordance with its contract with
PREPA, and PREPA never contested the fact Maxon is entitled to
payment for its work. Therefore, we find that PREPA does not qualify
for this exception to the automatic stay.

Finally, and with little explanation, PREPA also asserts that
the funds at issue are public funds and are, therefore, not
considered part of the estate until they are actually paid to the

person to whom the monies are owed. Docket Document No. 4. PREPA

cites to City of Springfield v. Ostrander (In re LAN Tamers, Inc.),

329 F.3d 204, 212 (ist Cir. 2003), in support of its contention,
which is a case that analyzes § 541(d) of the Bankruptcy Code. 11
u.s.c. § 541(d) (2007). The court found that § 541(d) “excludes
property from the estate where the bankrupt entity is only a delivery
vehicle and lacks any equitable interest in the property it
delivers.” 329 F.3d at 210. However, PREPA has failed to articulate,
and we do not understand, how § 54i(d) is applicable to the case

before us. See United States v. Zannino, 895 F.2d 1, 17 (lst Cir.

1990) (“It is not enough merely to mention a possible argument in the
most skeletal way, leaving the court to do counsel’s work, create the
ossature for the argument, and put flesh on its bones.”).

Accordingly, we find that the bankruptcy court did not err in finding

that the post-petition monies that PREPA froze were property of

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

1¢

11

12

14

15

16

17

18

19

20

21

22

23

Document Page 20 of 29

Civil No. 06-1538 (JAF) -20-

Maxon’s estate. Thus, the bankruptcy court did not err in finding
that PREPA’s administrative hold violated the automatic stay.

B. PREPA’s Second Appeal, Case No. 06-1597

On September 16, 2005, PREPA moved for relief from the automatic
stay, asserting that it had a colorable right to setoff the post-
petition funds that it owed to Maxon against its claim against Maxon
because creditors were permitted to setoff post-petition funds
against post-petition claims. (Case No. 06-1597, App. 6.) Section
362(d) (1) of the bankruptcy Code provides relief from the stay “for
cause.” 11 U.S.C. § 362(d) (1). On November 21, 2005, the bankruptcy
court issued a Memorandum Opinion denying PREPA’s motion. (Case
No. 06-1597, App. 2.) The court based its decision on an earlier
opinion in which it had found that PREPA had no setoff rights because
PREPA’s claim against Maxon arose pre-petition, anda creditor cannot
use post-petition funds to setoff pre-petition claims. (Id. (citing
Case No. 06-1538, Apps. 2, €.))

On appeal, PREPA asserts that the bankruptcy court erred, as a
matter of law, by (1) finding that PREPA’s administrative hold
violated the automatic stay; (2) determining that PREPA had no setoff
rights by motion rather than in an adversary proceeding; (3) finding
that PREPA’S claim against Maxon arose pre-petition; and
(4) determining that PREPA’s administrative hold constituted a

setoff. Docket Document No. 31.

10

11

12

13

14

15

16

i7

18

19

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 21 of 29

Civil No. 06-1538 (JAF) -21-

We will not address these arguments because they were fully
discussed in the previous section, see supra section A(1)-(4), and
PREPA has not presented any new arguments that would change any of
our analysis.

Cc. PREPA’s Third Appeal, Case No. 06-1598

On September 8, 2005, Maxon filed an adversary proceeding
against PREPA, demanding, inter alia, damages for PREPA’s violation
of the automatic stay pursuant to federal law, 11 U.S.C. § 105
(2007); and damages against PREPA’s Executive Director, Edwin Rivera
Serrano, for authorizing the administrative hold, pursuant to Article
1802 of the Puerto Rico Civil Code, 31 L.P.R.A. § 5141 (2004). (Case
No. 06-1598, Ex. 10.) On September 23, 2005, PREPA moved to dismiss
Maxon’s complaint, alleging, inter alia, that no damages could be
awarded because PREPA’s administrative hold did not violate the
automatic stay. (Case No. 06-1598, Ex. 7.) On November 21, 2005,
the bankruptcy court denied PREPA’s motion to dismiss, relying on its
previous finding that PREPA’s administrative hold violated the
automatic stay. (Case No. 06-1598, Ex. 2 (citing Case No. 06-1538,
Apps. 2, 6.))

PREPA appeals, arguing that the bankruptcy court erred in
(1) failing to treat PREPA’s motion to dismiss as a summary judgment
after it considered evidence outside the pleadings; (2) finding that
Rivera, PREPA’s Executive Director, was not protected under the

doctrine of qualified immunity; and (3) relying on its previous

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

10

il

12
13

15

16

1?

18

19

20

21

23

24

Document Page 22 of 29

Civil No. 06-1538 (JAF) -22-

finding that PREPA’s administrative hold violated the automatic stay
because (a) the court snould not have made such a finding outside of
an adversary proceeding, (b) pursuant to the Supreme Court’s decision

in Citizens Bank of Md. Vv. Strumpf, 516 U.S. 16 (1995),

administrative holds of the PREPA variety are not violative of the
automatic stay, and (c) PREPA’s claim against Maxon arose post-
petition and a creditor may setoff post-petition funds against post-

petition claims. Docket Document No. 36. We will limit our

discussion to PREPA’s first two arguments because we previously

rejected all of PREPA’s remaining arguments that relate to its

violation of the automatic stay. See supra section A(1)-(4).
1. Whether The Bankruptcy Court Erred By Not Converting

PREPA’ s Motion to Dismiss To A Motion For Summary Judgment

Rule 12(b) (6) of the Federal Rules of Civil Procedure states in
pertinent part that, if “matters outside the pleading are presented
to and not excluded by the court, the motion shall be treated as one
for summary judgment.” FED. R. Civ. P. 12(b) (6). PREPA asserts that
the bankruptcy court should have converted PREPA’s Rule 12(b) (6)
motion to dismiss to a motion for summary judgment (“mandatory
conversion”) because PREPA’sS motion presented several “matters
outside the pleading,” which allegedly were not excluded by the

court. Docket Document No. 36.

PREPA’s assertion is misplaced. PREPA asserts that it raised

several “matters outside the pleading,” including: (1) Rivera’s

12

13

14

15

16

17

18

19

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 23 of 29

Civil No. 06-1538 (JAF) -23-

affirmative defense of qualified immunity; (2) PREPA’s argument that
Maxon failed to detail actual damages in its complaint; (3) PREPA’s
“legal and factual discussion” as to why its administrative hold did
not violate the automatic stay; and (4) PREPA’s “legal and factual
discussion as to why officers, directors, or shareholders of Maxon
could not bring an action against PREPA for alleged damages suffered
by them.” Id. However, PREPA’s argument fails because these
“matters” are merely legal arguments that PREPA raised in its motion
to dismiss.

In addition, PREPA concedes that it did not submit any documents

in support of its motion to dismiss. Docket Document No. 36. PREPA

contests this point, citing to Gibb v. Scott, 958 F.2d 814, 816 (8th

Cir. 1992), in support of its argument that a mandatory conversion
does not require the movant to affix additional documents or evidence

to its motion. Docket Document No. 36. However, the reverse was

true in Gibb, where the Eighth Circuit found that the district court
should have employed a mandatory conversion because it relied on
matters outside the pleadings, including an employment contract, and
additional factual allegation concerning the scope and terms of

plaintiff’s employment. ee 958 F.2d at 816; see also In re Maclure,

59 B.R. 109, 111 (Bankr. D.R.I. 1986) (finding that party’s submission

of an affidavit required mandatory conversion); In re Inforex, Inc.,

26 B.R. 515, 520 (Bankr. D. Mass. 1983) (deciding that mandatory

conversion was warranted because the court considered matters outside

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

15

16

17
18

19

20

21

22

24

Document Page 24 of 29

Civil No. 06-1538 (JAF) -24-

the pleadings, including debtor’s Plan of Reorganization, its Order
of Confirmation, and a complaint from an a different proceeding).
In this case, PREPA has not presented evidence that was either

beyond the scope or in support of the pleadings. See Gibb, 958 F.2d

at 816 (stating that a mandatory conversion is required only if the
parties present additional evidence that “provides substantiation for
and does not merely reiterate what is said in the pleadings”).
Instead, PREPA merely presented legal arguments in support of its
motion to dismiss. This is insufficient to warrant a mandatory
conversion. Moreover, our review of the bankruptcy court’s
November 21, 2005, Memorandum Opinion, denying PREPA’s motion to
dismiss did not reveal any reliance on matters outside the pleadings.
(See Case No. 06-1598, Ex. 2.)

Accordingly, we find that the bankruptcy did not err in deciding
not to convert PREPA’s motion to dismiss to a motion for summary
judgment.

2. Whether The Bankruptcy Court Erred In Finding That PREPA’s
Executive Director Was Not Protected By Qualified Immunity

PREPA asserts that the bankruptcy court erred in failing to

grant qualified immunity for Rivera. Docket Document No. 36.

Trustee-Appellee opposes, asserting that the bankruptcy court decided

all matters correctly. Docket Document NO. 35.

“Qualified immunity serves not only as a defense to liability

but also as ‘an entitlement not to stand trial or face the other

11

12

13

14

15

16

20

21

22

23

24

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

Document Page 25 of 29

Civil No. 06-1538 (JAF) -25-

a

burdens of litigation.’’ Cox v. Hainey, 391 F.3d 25, 29 (lst Cir.

2004) (quoting Mitchell v. Forsyth, 472 U.S. 511, 526 (1985)). A

three-part test is used to determine whether an official is entitled
to qualified immunity: (1) “whether plaintiff’s allegations, if true,
establish a constitutional [or statutory] violation; (2) whether that
right was clearly established at the time of the alleged violation;
and (3) whether a similarly situated reasonable official would have
understood that the challenged action violation the constitutional

[or statutory] right at issue.” Mihos v. Swift, 358 F.3d 91, 101-2

(lst Cir. 2004).

However, the bankruptcy court did not engage in such analysis.
(See Case No. 06-1598, Ex. 2.) Rather, the court tested the
sufficiency of Maxon’s damages claim against Rivera without reaching
the issue of qualified immunity. (Id.) It is unclear why the court
failed te reach the issue of qualified immunity after PREPA raised it
in its motion to dismiss (Case No. 06-1598, Ex. 7), and Maxon, in its
opposition brief (Case No. 06-1598, Ex. 6), responded to and fully
briefed the issue as well.

Therefore, we remand the issue of qualified immunity to the
bankruptcy court for further findings.

Iv.
Conclusion

For the foregoing reasons, we AFFIRM the bankruptcy court’s

rulings, and DENY PREPA’s first two appeals in Case Nos. 06-1597 and

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main

10

11

4
+

4

Document Page 26 of 29

Civil No. 06-1538 (JAF) -26-

06-1538, Docket Document Nos. 4, 31. With regard to PREPA’s third

appeal in Case No. 06-1598, Docket Document No. 36, we AFFIRM the

bankruptcy court’s rulings on all matters with one exception: The
question of whether PREPA’s Executive Director, Edwin Rivera Serrano,
is protected from suit by qualified immunity. Because the bankruptcy
court cid not address the issue of qualified immunity in its

November 21, 2005, Memorandum. Opinion, we REMAND this issue for

further findings.
IT IS SO ORDERED.
San Juan, Puerto Rico, this 10° day of May, 2007.
S/José Antonio Fusté

JOSE ANTONIO FUSTE
Chief U.S. District Judge

Certified to be a true & exact copy of the document, ;
or, an authorized electronic dockei eniry on file
FRANCES RIOS DE MORAN, CLERK

U.S. District Court for the

Djstrict of Puerto Rico
By: ~—

uty Clerk

5/57

CAMEO#-DIVBI-MGFDisfiot €dur6 Gor Hike Deslcodd Pueinking Display Receiph2 = Destagmaief 2
Document Page 27 of 29

MIME-Version:1.0

From:ord_docketing€prd.uscourts.gcv

To:prd_docketing@pord.uscourts.gov

Boc:PRD JAF@ord.uscourts.gov, analluf@prtc.net, condecarmen@microjuris.com, fullana2@ao
Message-Id:<1166138@ord.uscourts.gov>

Subtect:Activity in Case 3:0€-cv-01598-JAF Puerto Rico Power Authority v. Maxon Engi

Content-Type: text/html

***NOTE TO PUBLIC ACCESS USERS*** You may view the filed documents once without
charge. To avoid later charges, download a copy of each document during this first viewing.

United States District Court
District of Puerto Rico

Notice of Electronic Filing

The following transaction was received from ni, entered on 5/11/2007 at 3:18 PM AST and filed on
5/11/2007

Case Name: Puerto Rico Power Authority v. Maxon Engineering Services, Inc.
Case Number: 3:06-cv-1598
Filer:

Document Number: 15

Docket Text:

COPY OF OPINION AND ORDER affirming the bankruptcy court's rulings and denying PREPA's first
two appeals in Case No. 06-1597 and 06-1538. With regard to PREPA's third appeal in Case No. 06-
1598, the bankruptcy court's rulings are affirmed on all matters with one exception as stated herein. The
issue of qualified immunity is remanded to the bankruptcy court for further findings.. Signed by Judge
Jose A Fuste on 5/10/07. (ni, )

The following document(s) are associated with this transaction:

Document description: Main Document

Original filename:n/a

Electronic document Stamp:

[STAMP dcecfStamp_ID=1051795991 [Date=5/1 1/2007] [FileNumber=1166136-0
] [9785ed3ec1614db905a0941 11195b69cc77c5a8e8ae27bef349030567ea8219765f
3a7 7acf2ac63e7a68996aa9bf446be5e455c10b1 fflc6167c87dbc0Se7bfl J]
3:06-cv-1598 Notice will be electronically mailed to:

Carmen D. Conde-Torres condecarmen@microjuris.com,

Isabel M. Fullana analluf@prtc.net, fullana2@aol.com

Pamela D. Gonzalez-Robinson _ licenciadapg@yahoo.com, robertocorretjer@prtc.net

Raul Gonzalez-Toro rgtlaw@prtc.net, rgonzaleztoro@yahoo.com

https://156.120.12.161/cgi-bin/DisplayReceipt.pl?533712342646508-L_521_0-1 05/15/2007

CasECF 04AVEL-MGCFDisiecéedikO Gor the DBmtOST Pua Ras ODisplay Reedipb2 Desgegvlaiaf 2
Document Page 28 of 29

3:06-cv-1598 Notice will be delivered by other means to:

US Trustee

Edificio Ochoa

500 Tanca Street, Ste.301
San Juan, PR 00901-1922

https://156.120.12.161/cgi-bin/DisplayReceipt.p1?533712342646508-L_521_ 0-1 05/15/2007

Case:04-04781-MCF7 Doc#:1166 Filed:05/10/07 Entered:05/18/07 13:47:52 Desc: Main
Document Page 29 of 29

UNITED STATES GOVERNMENT

memorandum
DATE : May 15,2007
TO : Wilma Jaime 3
Chief Deputy Clerk & gow
U.S. Bankruptcy Court me , a
eo “ a 7 oN
FROM : — Lidetsis Egéle Eo tr 2, Oo
Operations ager ae s
- US. District Court cae 2
AGED
KB

SUBJECT: CIVIL NO. 06-1598 (JAF)
Lead Case No. 06-1538 (JAF)

BANKRUPTCY CASE NO. 04-4781 (SEK)

Pursuant to Judgment of Chief Judge Jose A. Fuste entered in the above-entitled case on
May 11", 2007, we enclose the following:

1. Certified copy of Opinion and Order filed on May 11", 2007 remanding the issue of
qualified immunity to the bankruptcy court for further proceedings. (docket #15).

2. Certified copy of Judgment filed on May 11", 2007, affirming the bankruptcy court’s
rulings and remanding the issue of qualified immunity to the bankruptcy court for
further proceedings (docket #16).

3. Certified copy of docket sheets (Member and Lead Case).

Kindly acknowledge receipt on the copy attached herewith.

Encs.