Stern v. Marshall: A Jurisdictional Game Changer?

By Adam Lewis, Alexandra Steinberg Barrage, Vincent J. Novak, and Dina Kushner1

During her lifetime, Vickie Lynn Marshall, publicly known as Anna Nicole Smith ("Vickie"), was hardly a stranger to the prying eyes of the media. Today, the late Vickie is again the subject of media coverage, this time in the context of a fifteen-year legal saga that has twice reached the United States Supreme Court.

On June 23, 2011, the Court, in a 5-4 decision,2 held unconstitutional a provision of a bankruptcy jurisdiction statute that authorizes bankruptcy judges to hear and decide counterclaims by the estate against persons filing claims against the estate.3 Because bankruptcy judges, as judges created under Article I of the Constitution, do not have the protections of life tenure guaranteed by Article III of the Constitution, the Court affirmed the holding of the Ninth Circuit Court of Appeals and ruled that the bankruptcy court "lacked the constitutional authority to enter a final judgment on a state law counterclaim that is not resolved in the process of ruling on a creditor's proof of claim."4

The Court's decision effectively overturned an earlier bankruptcy court award to Vickie that at one point exceeded $400 million. Vickie had asserted that her husband's son, E. Pierce Marshall ("Pierce"), had wrongfully interfered with a gift Vickie expected from Pierce's father, the late octogenarian J. Howard Marshall II ("J. Howard").

Other than ending a protracted and high-profile legal dispute, what does the holding of Stern v. Marshall mean for debtors, creditors, bankruptcy courts, and bankruptcy practitioners? Is it a jurisdictional game changer with grave practical consequences, or is it a narrow ruling that fails as a practical matter to meaningfully change the extent of a bankruptcy court's power?

After describing the facts leading up to Stern—our modern-day Jarndyce5—we conclude that although there are equally sound arguments on both sides, the answer to this question depends largely on a number of potential actions by courts in the future. In the interim, practitioners ought to consider employing several strategies as means of addressing Stern's potential effects.

1. HISTORICAL BACKGROUND

   A. Texas Probate Proceeding

   The legal dispute at the heart of Stern v. Marshall began almost sixteen years ago, after Vickie's marriage to wealthy oil executive J. Howard. Vickie later learned that J. Howard had excluded her from both his living trust and his will (estimated to be worth in excess of $300 million). Vickie believed that J. Howard had intended to give her a substantial inter vivos gift, and that Pierce, who was an heir under his father's living trust, had, through undue influence and fraud, caused J. Howard to execute the estate planning documents that excluded Vickie.

   In April 1995, Vickie filed suit in Texas Probate Court (the "Probate Proceeding"), which had jurisdiction over (i) guardianship proceedings for J. Howard; (ii) issues involving the validity of J. Howard's final estate plan; and (iii) a tortious interference claim brought by Vickie against Pierce, which averred that Pierce had tortiously interfered with Vickie's right to recover from her husband's estate. Pierce then filed a defamation suit against Vickie and her two attorneys as part of the Probate Proceeding.6

   J. Howard died shortly thereafter, leaving nothing to Vickie and prompting a legal battle that would unfold across multiple legal forums for well over a decade.

   B. California Bankruptcy Proceeding

   In January 1996, while J. Howard's will was being probated in the Texas Probate Court, Vickie filed a chapter 11 bankruptcy petition (the "Bankruptcy Case") in the United States Bankruptcy Court for the Central District of California (the "Bankruptcy Court").7 Five months later, Pierce responded to Vickie's tortious interference claim in the Probate Proceeding by suing Vickie and her lawyers in the Bankruptcy Case (the "Defamation Claim").

   Because of the imposition of the automatic stay in the Bankruptcy Case, Pierce dismissed Vickie from his defamation suit in the Probate Proceeding. Instead, in May 1996, Pierce filed a complaint in the Bankruptcy Case to determine the dischargeability of any debt owed to Pierce based on earlier instances of alleged defamation.8 In sum, Pierce alleged that Vickie and her attorneys had made defamatory statements about Pierce and his family during the pendency of the Probate Proceeding.

   One month later, Pierce filed a proof of claim in the Bankruptcy Court seeking unliquidated damages arising from the alleged defamation, and attaching his earlier filed complaint. Vickie subsequently filed counterclaims against Pierce in the adversary proceeding, alleging, among other things, that Pierce had tortiously interfered with her rights to receive an inheritance or inter vivos gift from J. Howard's estate (the "Counterclaim").9

   On November 5, 1999, the Bankruptcy Court granted summary judgment for Vickie on Pierce's Defamation Claim.10 Following trial, the Bankruptcy Court also ruled in Vickie's favor on the Counterclaim. The Bankruptcy Court concluded that (i) by filing a proof of claim, Pierce had voluntarily submitted to the Bankruptcy Court's jurisdiction to enter a final judgment on the Counterclaim and (ii) the Counterclaim did not fall within the "probate exception" that would have barred its jurisdiction over such Counterclaim.11 Accordingly, the Bankruptcy Court ultimately awarded Vickie nearly $475 million in damages and entered a judgment against Pierce on December 29, 2000.12 Believing that the Bankruptcy Court's judgment (the "Bankruptcy Court Judgment") constituted a final judgment, Vickie withdrew her tortious interference claim in the Probate Proceeding.13 Shortly thereafter, Pierce appealed the Bankruptcy Court Judgment to the United States District Court for the Central District of California (the "District Court").

   Meanwhile, the Probate Proceeding—which was not stayed by the commencement of the Bankruptcy Case—continued. Following a five-month jury trial, in March 2001, a jury unanimously found that J. Howard's living trust and will were valid and that he had not been a victim of fraud or undue influence in preparing his estate plan.14 The Probate Court further found that J. Howard had not intended to give Vickie a gift from the assets that passed through his will or that were held in his living trust.15 Pursuant to the Probate Court's final judgment in favor of Pierce in December 2001 (the "Probate Court Judgment"), Vickie had no legal claim to J. Howard's sizable estate16—directly conflicting with the earlier-entered Bankruptcy Court Judgment.

   C. District Court Proceeding

   In his appeal of the Bankruptcy Court Judgment, Pierce challenged the Bankruptcy Court's jurisdiction to enter final judgment on Vickie's behalf on the Counterclaim. Pierce argued that the Bankruptcy Court did not have jurisdiction over the Counterclaim because (i) the probate exception to federal jurisdiction generally barred its jurisdiction; and (ii) the proceeding was not a "core proceeding" within the meaning of 28 U.S.C. § 157(b)(1), the statute providing a bankruptcy court with jurisdiction to hear a dispute and enter a final judgment. In this first stage of the appeal, the District Court agreed that the dispute was...