Small Business Adm’n v. McClellan

PETITIONER:Small Business Adm’n
RESPONDENT:McClellan
LOCATION:Circuit Court of Montgomery County

DOCKET NO.: 42
DECIDED BY: Warren Court (1958-1962)
LOWER COURT: United States Court of Appeals for the Tenth Circuit

CITATION: 364 US 446 (1960)
ARGUED: Nov 09, 1960 / Nov 10, 1960
DECIDED: Dec 05, 1960

Facts of the case

Question

  • Oral Argument – November 10, 1960
  • Audio Transcription for Oral Argument – November 10, 1960 in Small Business Adm’n v. McClellan

    Audio Transcription for Oral Argument – November 09, 1960 in Small Business Adm’n v. McClellan

    Earl Warren:

    Number 42, Small Business Administration, Petitioner, versus G. M. McClellan, Trustee.

    Mr. Hollander.

    Morton Hollander:

    May it please the Court.

    This case arises out of a vague bankruptcy proceeding.

    It’s here on certiorari to the Court of Appeals for the Tenth Circuit.

    The petitioner is the Small Business Administration which is here challenging the denial by the court below of a statutory right explicitly conferred upon the Government by the Congress more than 160 years ago, the claim of priority in the distribution of the assets of the estate of an insolvent debtor.

    The priority actually was written into the statute purposes far back as 1797.

    That is one of the two principal statutes with which we are here concerned.

    We set forth the text of that statute on page 3 of our brief.

    It provides — it provides in — in very broad unequivocal terms that whenever any person indebted the United States is insolvent, the debts due to the United States shall first be satisfied.

    The other pivotal statute with which this case is concerned is the Bankruptcy Act’s priority provisions themselves.

    Now in the Bankruptcy Act, the Congress has carried over this right of priority under the 1797 statute and actually converted it into a fifth class priority in a bankruptcy proceeding.

    It is that fifth class priority, the Small Business Administration claims it is entitled to in this case and it is that fifth class priority that was denied to the Small Business Administration by the courts below.

    I would like briefly to review the facts out of which this controversy emerges.

    In the — in November of 1956, Byquist, the bankrupt in this case, a small wholesaler of electronic supplies and radio equipment, needed additional working capital.

    He solicited the aid of both the Small Business Administration and a local bank, a private bank, the Brookville State Bank of Kansas.

    He filed applications with them under the Small Business Administration Act for a loan of $20,000.

    The bank took the position that it wasn’t ready to extend the full $20,000 credit to him but that if the United States Government would participate with the bank, the Brookville State Bank and advanced $15,000 of the entire $20,000 loan sought by Byquist, the bank would add the additional $5000 and the $20,000 loan could be extended to Mr. Byquist.

    The bank took this matter up with the Small Business Administration.

    The Small Business Administration agreed to enter into a participation agreement with the bank so that the United States would advance 75% of the loan or $15,000 with the bank advancing the remaining $5,000.

    At the time the United States entered into this — to the Small Business Administration — entered into this participation agreement with the bank and notified Mr. Byquist directly that his application has been approved.

    In the participation agreement, and I would like to invite Your Honors attention to page 5 of our brief because this is one of the crucial provisions in the participation agreement upon which the Court of Appeals seize in order to justify its forfeiture of this long standing priority dated back in 1797.

    The — on page 5, we set forth two of — in quotes, two of the provisions of the participation agreement.

    The first one, paragraph 12, points out in effect that whenever any collection is made under the loan from the borrower, the proceeds are to be shared proportionately with both lenders, and that is three-fourths of each collection has to go to the United States and the remaining one-fourth to the bank.

    Paragraph 14, the particular paragraph that the Court of Appeals relied on, also points out that — in the event that there should be a loss under the loan.

    The loss should be shared in proportion to the investment of the United States in the one hand and the bank on the other.

    In other words, if there’s a loss, United States gets stock to the extent of three-fourths of its interest and the bank only to the extent of its 25% interest.

    (Inaudible)

    Morton Hollander:

    The Government did not reduce its claim, Your Honor.

    I will get to that.

    Morton Hollander:

    I’ll get to that in just one minute.

    (Inaudible)

    Morton Hollander:

    The — the Government — what happened was this.

    The — the — in order to answer Your Honors question, I’ll have to explain exactly what happened with the — with the amount in the loan.

    No, I think it’s crucial.

    I think — I think Your Honors question actually is crucial to the Government’s position in this case.

    As soon as — as soon as the bank had agreed with the United States, United States agreed to supply $15,000.

    United States sent its check drawn on the United States Treasury for $15,000 to the Brookville Bank.

    Brookville Bank took the proceeds of that check, added $5,000 of its own money to it and made out a check to Byquist for $20,000, getting in exchange Byquist’s note for $20,000, made out payable to the bank.

    About a year elapsed Byquist repaid about $4000 of the outstanding note, $3000 going to the United States, and $1000 going to the bank.

    And he was thrown at the bankruptcy at that point, about a year after the note had been given to the bank.

    When there was a balance of $16,000 due on the — on the note.

    After the bankruptcy, there was a formal assignment of the note itself from the bank to the United States Government.

    And it was at that point, in answer to your question, that the United States filed on the bankruptcy proceeding in effect, a claim on its own behalf for the $12,000 due here on the note and also a claim on behalf of the bank for the $4000 due the bank on its share of the note.

    (Inaudible)

    Morton Hollander:

    Yes.

    It was —

    (Inaudible)

    Morton Hollander:

    — it was.

    No.

    That’s absolutely right.

    In other words, the Government lump both of them together but has made it absolutely clear throughout this proce — throughout the proceeding in the Court of Appeals and the District Court, the referee, that the only portion of that $16,000 obligation is to which the Government was insisting, it had a right to priority under 3466, the 19 — 1797 statute and the pertinent provision of the Bankruptcy Act.

    The only portion of that $16,000 loan as to which the Government claim that it had a right to priority was the $12,000 portion of the loan representing the federal government’s investment in that loan.

    (Inaudible)

    Morton Hollander:

    Absolutely, Your Honor.

    It was — it was for 75% of the outstanding balance just as it had been for 75% of the original face value.

    Charles E. Whittaker:

    The balance of the claim has started as a general claim, is that right?

    Morton Hollander:

    Yes, Your Honor, $4000 was inserted as general.

    Charles E. Whittaker:

    If the signing of the note by the Kansas, in fact, the Small Business Administration, stand — would you mind for a better word.

    This participation (Inaudible) was it still outstanding?

    Morton Hollander:

    It actually resulted in the termination of the participation agreement, in the sense that the United States had actually acquired from the bank at that point the bank’s 25% interest in the — in the loan.

    Charles E. Whittaker:

    Is that right or did the Government just become a trustee.

    Morton Hollander:

    With the understanding — with the understanding of course that the Government was acting simply as a collection agent.

    Under the participation agreement, it — it in effect — the participation agreement in effect permitted either the bank or the United States that the option of the United States to act as collection agent for any of the proceeds affected by way of recovery under the loan.

    Up until —

    Charles E. Whittaker:

    (Voice Overlap) — do say the parti — participation agreement is still effective or not?

    Morton Hollander:

    Well, to the extent — to the extent that — to the extent that the United States has to honor its contractual commitment under the participation agreement to share ratably or proportionately with the bank so far as any loss is incurred under the — under this particular notice is concerned, of course, it’s still — we — we believe it still retains its — the full vitality it had at the time the arrangement itself was entered into.

    And the United States of course stands ready to honor its commitment under the share ratably — a share ratable over share proportional provision.

    (Inaudible)

    Morton Hollander:

    The bank would have gotten thousand, yes, Your Honor.

    (Inaudible)

    Morton Hollander:

    Yes, Your Honor.

    (Inaudible)

    Morton Hollander:

    You’re — you’re — that’s absolutely right, Your Honor.

    William J. Brennan, Jr.:

    So that bank starts to hold that (Inaudible).

    Morton Hollander:

    Yes, Your Honor.

    I think that is right.

    I don’t know whether under those circumstances, some adjustment might have to be made in order to —

    William J. Brennan, Jr.:

    (Inaudible)

    Morton Hollander:

    — under the agreement to put the United States in the same position as the bank.

    I’m not sure.

    But —

    Charles E. Whittaker:

    (Inaudible)

    Morton Hollander:

    I shouldn’t think so, Your Honor.

    I shouldn’t think that it’s a pertinent consideration to the bankruptcy court at all, just as much as if the United States had decided the very last minute to waive whatever rights it might have had under this agreement and to — to leave the parties in the status quo.

    The — the Government after filing its claim in the bankruptcy proceeding, had the claim rejected by the referee on the ground that this claim was not one due to United States but was in fact due to some separate entity.

    On appeal to the District Court, the District Court was dissatisfied with the reason the referee had given for rejecting the Government’s claim and felt that the claim should be denied because the Government, the District Court thought was asserting a claim acquired by it for the first time after the petition of bankruptcy has been filed.

    Now the Court of Appeals, apparently dissatisfied with both of those grounds, seized upon this third justification for denial of the Government’s priority and that justification arises out of the language in Article 14 of the participation agreement.

    The Court of Appeals was of the view that since the United States under this loss ratable provision and participation agreement would have to as Mr. Justice Brennan pointed out, turn over $3000 of the $12,000 it would recoup if its priority were recognized, it would have to turn over $3000 to that $12,000 to the private bank.

    The Court of Appeals felt that this violated some long standing principle of interpretation under 3466, namely, that the United States was in effect collecting by exercising its right to priority for the benefit of a private party.

    (Inaudible)

    Morton Hollander:

    Under the agreement, I think — under the agreement I think the parties, Your Honor, would have to strike a balance and after recoveries of —

    (Inaudible)

    Morton Hollander:

    The — the agreement does provide that — that parties shall share ratably or proportionately.

    All losses are sustained under the agreements.

    So I think irrespectively meant the bank recovered in the other from one hand of the amount that the United States Government recovered on the other.

    They would have to strike a balance and then a portion of the loss, 25% of the loss with the bank and three-fourths of the loss to the United States Government.

    Now the — the Court of Appeals, as I say, invoked the theory that since the United States at least impart had to turnover the part of the proceeds, it was going to recoup to the private bank that it was therefore not entitled to the priority established by 3466.

    And the Court of Appeals in that connection relied, I think, exclusively on this Court’s earlier decision in the Nathanson case, Nathanson against National Labor Relations Board.

    Now, I have time I think to — two minutes to just briefly describe the facts.

    Tomorrow, I hope to be able to distinguish that case adequately but the facts in this case with which I would like to leave the Court this afternoon are simply these.

    The — in the Nathanson case.

    The National Labor Relations Board issued a backpay order.

    It directed an employer of certain bus company up in Massachusetts to pay several thousands of dollars in backpay to some employees with respect to only the employer is guilty of an unfair labor practice.

    The bus company was thrown into bankruptcy, and at that point, the Board filed a claim on behalf of all of the employees in who is in favor of the backpay award has been made.

    And it filed a claim under the Bankruptcy Act and it claimed the priority under 3466 and 64 — Section 64 (a) of the Bankruptcy Act said that these claims should first be satisfied because of the Government’s priority.

    And this Court, I think quite properly in a case point that — that after all, the whole underlying purpose of the federal priority statutes is to enable the federal government to secure it to any sufficient public revenue to sustain the public burden and to discharge the public debt.

    And the Court pointed that quite naturally that any recovery or backpay in this bankruptcy proceeding were necessarily new or exclusively to the benefit of the employees in whose favor the backpay award has been made.

    And the — the Court by putting those two concepts together, I think came up to the inevitable conclusion that since the priority in that case sought to be asserted on behalf by the National Labor Relations Board, on behalf of the employees with not a single penny, that priority have recognized whatever intuitive benefit of the Federal Treasury can never be used to sustain any part of the public burden.

    Well obviously, the Government was not entitled to the (Voice Overlap) —

    William O. Douglas:

    But here, the Government will get half?

    Morton Hollander:

    Here, the Government would get 75%, Your Honor.

    William O. Douglas:

    75%.

    Morton Hollander:

    Yes, Your Honor.

    Earl Warren:

    We’ll recess now.