886 F.3d 473
5th Cir.2018Background
- Nineteen Delaware LLCs (Debtor TICs) owned tenancy-in-common interests in a San Antonio student housing project (The Reserve); Woodlark was the asset/property manager and UTSA was an LLC that held a TIC interest and was affiliated with Woodlark’s owner.
- Governing documents included a Declaration, an Asset Management Agreement (AMA), and a Call Agreement; UTSA signed the Declaration and AMA but did not sign the Call Agreement.
- Woodlark issued multiple cash calls when the project underperformed; many TICs did not pay, Woodlark exercised Call Rights, and UTSA (alone) elected to buy defaulting TIC interests per Woodlark’s notice.
- Several TICs sued Woodlark in state court for breach of fiduciary duty, negligence, and breach of contract; litigation was removed to bankruptcy when 19 TICs filed Chapter 11.
- The bankruptcy court authorized sale under 11 U.S.C. § 363(h) to Arris for $33.5M, held net proceeds in escrow, then (after trial) (a) disallowed most of Woodlark’s claims except cash advances (~$410k) and (b) reduced UTSA’s distributive share from 21.17% to 3.14% based on UTSA’s not signing the Call Agreement and equitable concerns; district court affirmed.
- On appeal to the Fifth Circuit: the court reversed the reduction of UTSA’s share (holding § 363(j) requires distribution according to state-law ownership interests and UTSA was entitled to 21.17%) but affirmed forfeiture of Woodlark’s fees and reduction of its proofs of claim to actual cash advances.
Issues
| Issue | Debtor TICs' / Plaintiff's Argument | Woodlark & UTSA / Defendant's Argument | Held |
|---|---|---|---|
| Whether UTSA’s distributive share of § 363(h) sale proceeds can be reduced from 21.17% to 3.14% | Trustee/debtors: equitable relief (constructive trust) justified reduction because UTSA (via Woodlark) acquired interests through Woodlark’s fiduciary breach | Appellants: § 363(j) mandates distribution according to co-owners’ interests at time of sale; UTSA held 21.17% and is entitled to that share | Reversed: UTSA entitled to 21.17% under § 363(j); constructive-trust reduction reversed for procedural and Code-based reasons |
| Whether bankruptcy court properly disallowed most of Woodlark’s claims (leaving only cash advances) based on breach of fiduciary duty and fee forfeiture | Debtor TICs: Woodlark breached fiduciary duties (unnecessary cash calls, flawed appraisal, self-dealing) and equitable forfeiture of fees is proper without proof of actual damages | Woodlark: burden improperly shifted, findings unsupported, no proof of injury or benefit so fees should be allowed | Affirmed: court properly applied presumption of unfairness, findings not clearly erroneous, and Texas law permits fee forfeiture without proof of actual damages |
Key Cases Cited
- Butner v. United States, 440 U.S. 48 (property interests defined by state law governs bankruptcy treatment)
- Meinhard v. Salmon, 164 N.E. 545 (fiduciary duty requires high standard of loyalty)
- In re Haber Oil Co., 12 F.3d 426 (5th Cir.) (bankruptcy courts must observe adversary-proceeding protections before imposing constructive trusts)
- Burrow v. Arce, 997 S.W.2d 229 (Tex.) (equitable fee forfeiture in fiduciary breach; actual damages not required for forfeiture)
- Navigant Consulting, Inc. v. Wilkinson, 508 F.3d 277 (5th Cir.) (presumption of unfairness shifts burden to fiduciary in certain transactions)