Zazzali v. United States (In Re DBSI, Inc.)

FOR PUBLICATION

UNITED STATES COURT OF APPEALS

FOR THE NINTH CIRCUIT

IN RE DBSI, INC., No. 16-35597

Debtor,

D.C. No.

1:13-cv-00086-

JAMES R. ZAZZALI, as Trustee for the MJP

DBSI Estate Litigation Trust,

Plaintiff-Appellee,

OPINION

v.

UNITED STATES OF AMERICA,

Defendant-Appellant.

Appeal from the United States District Court

for the District of Idaho

Marsha J. Pechman, District Judge, Presiding

Argued and Submitted May 17, 2017

Seattle, Washington

Filed August 31, 2017

Before: Michael Daly Hawkins, Ronald M. Gould,

and Richard A. Paez, Circuit Judges.

Opinion by Judge Paez

2 IN RE DBSI, INC.

SUMMARY*

Bankruptcy

The panel affirmed the district court’s decision affirming

the bankruptcy court’s order denying in part the motion of the

United States to dismiss an adversary proceeding filed by a

chapter 11 bankruptcy trustee, seeking avoidance of the

debtor’s federal tax payment.

The trustee sought to avoid the tax payment as a

fraudulent transfer under 11 U.S.C. § 544(b)(1) and Idaho’s

Uniform Fraudulent Transfer Act. Disagreeing with the

Seventh Circuit, the panel held that the abrogation of

sovereign immunity in 11 U.S.C. § 106(a)(1) “with respect

to” § 544(b)(1) extended to the derivative Idaho law, and no

additional waiver of sovereign immunity was necessary.

Accordingly, the government could not rely on sovereign

immunity to prevent the avoidance of the tax payments.

The panel addressed the trustee’s cross-appeal in a

concurrently filed memorandum disposition.

*

This summary constitutes no part of the opinion of the court. It has

been prepared by court staff for the convenience of the reader.

IN RE DBSI, INC. 3

COUNSEL

Ivan Clay Dale (argued), Thomas J. Clark, and Gilbert S.

Rothenberg, Attorneys; Diana L. Erbsen, Deputy Assistant

Attorney General; Caroline D. Ciraolo, Principal Deputy

Assistant Attorney General; Tax Division, United States

Department of Justice, Washington, D.C.; for Defendant-

Appellant.

Jennifer A. Hradil (argued), Mark B. Conlan, Michael F.

Quinn, and Brett S. Theisen, Gibbons P.C., Newark, New

Jersey, for Plaintiff-Appellee.

Carolyn Wade, Senior Assistant Attorney General; Benjamin

Gutman, Solicitor General; Ellen F. Rosenblum, Attorney

General; Oregon Department of Justice, Salem, Oregon;

Karen Cordry, Bankruptcy Counsel, National Association of

Attorneys General, Washington, D.C.; for Amici Curiae

States of Idaho, Illinois, Montana, Nebraska, New Mexico,

New York, and Oregon.

Professor Stephen J. Lubben, Seton Hall University School of

Law, Newark, New Jersey, for Amicus Curiae National

Association of Bankruptcy Trustees.

4 IN RE DBSI, INC.

OPINION

PAEZ, Circuit Judge:

We must decide whether a bankruptcy trustee can,

through an adversary proceeding, avoid a debtor’s federal tax

payment, or whether the Internal Revenue Service’s (“IRS”

or “government”) sovereign immunity prevents such relief.

To resolve this question, we must consider the interplay

between two Bankruptcy Code statutes: 11 U.S.C.

§§ 106(a)(1) (“Section 106(a)(1)”) and 544(b)(1) (“Section

544(b)(1)”). In Section 106(a)(1), Congress unambiguously

abrogated sovereign immunity “with respect to” Section

544(b)(1). Under Section 544(b)(1), a trustee may avoid

fraudulent transfers when the trustee can demonstrate that an

actual unsecured creditor could avoid the same transfer under

“applicable law” outside of bankruptcy. This is known as the

“actual creditor” or “triggering creditor” requirement as it

requires the existence of an actual creditor in whose shoes a

trustee can stand. See 5 Collier on Bankruptcy ¶ 544.01

(Alan N. Resnick & Henry J. Sommer eds., 16th ed. 2017).

Here, James R. Zazzali (“Zazzali” or “Trustee”) invoked

Idaho’s Uniform Fraudulent Transfer Act (“UFTA”), Idaho

Code Ann. §§ 55-9011 et seq., as the “applicable law” to bring

a Section 544(b)(1) adversary action to avoid $17 million in

tax payments that the debtor, DBSI, Inc., fraudulently

transferred to the IRS. An unsecured creditor who seeks to

1

In 2015, Idaho amended and renumbered certain sections of Title 55

of the Idaho Code by adopting the Uniform Voidable Transactions Act.

See H.R. 92, 63d Leg., 1st Reg. Sess. (Idaho 2015). All references in this

opinion to the Idaho Code Annotated are to those statutes in effect during

the period in question.

IN RE DBSI, INC. 5

avoid such tax payments under Idaho law outside of

bankruptcy would be precluded from doing so because of the

government’s sovereign immunity. The question, then, is

whether, in the bankruptcy context, Congress’s abrogation of

sovereign immunity with respect to Section 544(b)(1) extends

to the underlying state cause of action, or whether a trustee

must also establish that Congress has waived sovereign

immunity with respect to Idaho’s UFTA.

Both the bankruptcy court and the district court ruled that

Section 106(a)(1)’s abrogation of sovereign immunity “with

respect to” Section 544(b)(1) extends to the derivative

“applicable law”—here, Idaho’s UFTA. In other words, an

additional waiver of sovereign immunity was not necessary.

As a result, the government could not rely on sovereign

immunity to prevent the avoidance of the tax payments at

issue. We agree, and affirm.2

I.

DBSI, Inc. and its affiliated entities, including FOR 1031,

DDRS, and DBSI Investments (collectively, “DBSI”),

engaged in the acquisition, development, management, and

sale of commercial real estate properties throughout the

United States. They did so, however, through an illegal Ponzi

scheme—during their last two years in operation they

purportedly lost $3 million per month and used new investor

funds to meet existing obligations. This scheme eventually

caught up with them, and in May 2013, the United States

indicted several of the company insiders, who were later

2

We have jurisdiction pursuant to 28 U.S.C. § 158(d) and review de

novo issues of statutory interpretation. See, e.g., In re Acequia, Inc.,

34 F.3d 800, 809 (9th Cir. 1994).

6 IN RE DBSI, INC.

convicted of various fraud crimes. Their convictions were

affirmed by our court.

DBSI was set up as an S corporation, and, while still in

operation, made tax payments on behalf of its shareholders.

Tax payments were handled in this manner because S

corporations do not themselves pay taxes on corporate

income, but rather the tax liability is passed through to the

corporation’s shareholders. I.R.C. §§ 1363, 1366. Between

2005 and 2008, DBSI paid the IRS a total of approximately

$17 million in tax payments on behalf of its shareholders.

The vast majority of these payments were made on behalf of

Doug Swenson (“Swenson”) and Thomas Var Reeve

(“Reeve”), two of the largest shareholders. The IRS

ultimately refunded approximately $3.6 million to Swenson

and Reeve in claimed overpayments of their individual

income tax liabilities.

In November 2008, DBSI filed for bankruptcy. A plan of

liquidation was confirmed in October 2010, and, as part of

that plan, Zazzali was appointed as trustee to administer the

DBSI Estate Liquidation Trust. Shortly thereafter, Zazzali

commenced an adversary proceeding in bankruptcy court to

recover DBSI’s allegedly fraudulent transfers to (1) company

insiders, and (2) the IRS and taxing authorities of twenty-five

states on behalf of company shareholders. This appeal

concerns only those transfers that were made to the IRS.3

In bringing his claims against the IRS, Zazzali relied on

two different sections of the Bankruptcy Code: 11 U.S.C.

3

The states settled with Zazzali, although several of them, along with

a few other interested states, filed an amicus brief (“State Amici”) urging

reversal in support of the United States.

IN RE DBSI, INC. 7

§ 548 (“Section 548”) and, as discussed above, Section

544(b)(1). Section 548 and Section 544(b)(1) both permit a

trustee to avoid transfers, however they impose different

statutes of limitations. Section 548 has a two-year statute of

limitations, while Section 544(b)(1) incorporates the statute

of limitations of the applicable law. Here, Idaho’s UFTA has

a four-year statute of limitations. Idaho Code Ann. § 55-918.

Accordingly, pursuant to Section 548, Zazzali sought to

recover transfers in the amount of approximately $56,000 that

were made in the two years prior to the bankruptcy petition

date. The government did not contest this claim. Under

Section 544(b)(1), Zazzali sought to recover the remaining

portion of the $17 million by avoiding transfers that were

made within four years of the petition date.

The government moved to dismiss Zazzali’s Section

544(b)(1) counts for failure to state a claim under Federal

Rule of Civil Procedure 12(b)(6). See Fed. R. Bankr. P.

7012(b). The government argued that Congress had not

abrogated sovereign immunity with respect to the Section

544(b)(1) underlying state law cause of action, and therefore,

there was no unsecured creditor who could sue the

government under Idaho’s UFTA. The bankruptcy court

rejected this argument and concluded that Section 106(a)(1)’s

waiver of sovereign immunity permitted the Trustee’s suit to

proceed. The government appealed the bankruptcy court’s

ruling to the district court. While the government’s appeal

was pending, the Seventh Circuit decided In re Equipment

Acquisition Resources, Inc. (“EAR”), 742 F.3d 743 (7th Cir.

2014), which analyzed the identical issue before the district

court, and which is at issue in the current appeal. The

Seventh Circuit came to the opposite conclusion as the

bankruptcy court, and held that Section 106(a)(1)’s waiver of

sovereign immunity does not extend to Section 544(b)(1)’s

8 IN RE DBSI, INC.

derivative state law claim. Nonetheless, the district court was

unpersuaded by the Seventh Circuit’s reasoning, and affirmed

the bankruptcy court’s ruling. Further, the district court

declined to certify for interlocutory appeal its order affirming

the denial of the government’s motion to dismiss.

Because the adversary proceeding had been transferred to

the district court pursuant to a motion by Swenson and his

fellow defendants, proceedings continued in that court with

respect to the merits of Zazzali’s fraudulent transfer claims.

The parties ultimately filed cross-motions for summary

judgment. In its motion for summary judgment, the

government conceded that the payments made to the IRS

were fraudulent and that, pursuant to Section 548(a)(1)(A),

Section 544(b)(1), and Idaho Code Ann. § 55-913(1)(a),4

Zazzali could avoid any transfer made within four years of

filing his bankruptcy petition. However, relying on Idaho

Code Ann. § 55-917(1),5 the government asserted an

affirmative defense—that it received the payments or

transfers in good faith and for value. The district court’s

resolution of the summary judgment motions turned on

whether the government could prove the elements of its

affirmative defense. The district court first concluded that the

4

Idaho Code Ann. § 55-913(1)(a) states, “A transfer made or

obligation incurred by a debtor is fraudulent as to a creditor, whether the

creditor’s claim arose before or after the transfer was made or the

obligation was incurred, if the debtor made the transfer or incurred the

obligation with actual intent to hinder, delay, or defraud any creditor of the

debtor.”

5

Idaho Code Ann. § 55-917(1) states, “A transfer or obligation is not

voidable under section 55-913(1)(a), Idaho Code, against a person who

took in good faith and for a reasonably equivalent value or against any

subsequent transferee or obligee.”

IN RE DBSI, INC. 9

government did not receive the payments for value, stating

that “[e]very legal theory offered by the [g]overnment to

defend its right to retain this transfer seems to ignore the fact

that the money at issue here is the proceeds of a widespread

and devastating fraudulent scheme, stolen from scores of

investors.” The court likewise concluded that the government

did not receive the transfers in good faith. In sum, the district

court concluded that the government failed to establish its

affirmative defense, and thus Zazzali, as a matter of law, was

entitled to avoid the fraudulent transfers. The government

does not challenge this ruling.

The court, however, still had to determine the extent to

which Zazzali could recover the transfers. In its motion for

summary judgment, the government argued that, even if the

court were to reject its affirmative defense, Zazzali was not

entitled to recover approximately $3.6 million of the

fraudulent transfers because it already refunded that amount

as tax overpayments to the shareholder-taxpayers. The

district court agreed, concluding that the IRS was not an

“initial transferee” within the meaning of 11 U.S.C.

§ 550(a)(1) (“Section 550(a)(1)”), and therefore the

approximately $3.6 million that the IRS already paid out as

tax overpayments was not subject to recovery.6

Having resolved all issues, the district court entered

judgment directing the IRS to return approximately $13.4

million of the total $17 million in fraudulent tax transfers.

The government asks us to reverse this part of the district

6

In a cross-appeal, Zazzali challenges the district court’s conclusion

that the $3.6 million in refunded tax payments is not subject to recovery

from the IRS. We address Zazzali’s cross-appeal, No. 16-35598, in a

concurrently filed memorandum disposition.

10 IN RE DBSI, INC.

court’s judgment and hold that sovereign immunity precludes

the return of the $13.4 million. We decline to do so, and

affirm the district court’s ruling.

II.

A.

Section 544(b)(1), in relevant part, provides that a “trustee

may avoid any transfer of an interest of the debtor in property

or any obligation incurred by the debtor that is voidable under

applicable law by a creditor holding an unsecured claim

. . . .” (emphasis added). By its terms, Section 544(b)(1)

requires the existence of an actual creditor who could avoid

the transfer. 5 Collier on Bankruptcy ¶ 544.01. In other

words, the effect of this section is “to clothe the trustee with

no new or additional right in the premises over that possessed

by a creditor, but simply puts him in the shoes of the latter.”

Id. ¶ 544.06[3] (quoting Davis v. Wiley, 263 F. 588, 589

(N.D. Cal. 1920), aff’d, 273 F. 397 (9th Cir. 1921)); see also

Sherwood Partners, Inc. v. Lycos, Inc., 394 F.3d 1198, 1201

(9th Cir. 2005). “[I]f the actual creditor could not succeed for

any reason—whether due to the statute of limitations,

estoppel, res judicata, waiver, or any other defense—then the

trustee is similarly barred and cannot avoid the transfer.”

EAR, 742 F.3d at 746; accord In re Acequia, Inc., 34 F.3d

800, 809 (9th Cir. 1994) (“[l]ike Prometheus bound, the

trustee is chained to the rights of [such] creditors”).

Here, because the substantive law for Zazzali’s Section

544(b)(1) claim is Idaho’s UFTA, it is undisputed that there

is no actual unsecured creditor who could pursue such a claim

against the IRS outside of bankruptcy; the government’s

sovereign immunity would preclude any such claim. The

IN RE DBSI, INC. 11

government argues that because there is no actual unsecured

creditor who could bring such a claim, Zazzali is likewise

precluded from bringing a Section 544(b)(1) claim in

bankruptcy court. We disagree. The government ignores that

Section 544(b)(1) does not exist in a vacuum; rather, it must

be read in concert with other sections of the Bankruptcy

Code. And, here, as the government readily acknowledges,

Section 106(a)(1) unambiguously abrogates the federal

government’s sovereign immunity “with respect to Section

544.” In other words, Section 106(a)(1)’s abrogation of

sovereign immunity is absolute with respect to Section

544(b)(1) and thus necessarily includes the derivative state

law claim on which a Section 544(b)(1) claim is based.7

In the following discussion, we begin with well-settled

canons of statutory interpretation that inform our

understanding of the interplay between Section 106(a)(1) and

Section 544(b)(1); next we address our divergence from the

Seventh Circuit’s reasoning in EAR; and finally, we observe

that our holding conforms with the Bankruptcy Code’s

overall purpose.

7

We note that on appeal one of Zazzali’s primary arguments is that

because Section 544(b)(1) addresses the “avoidance” of transfers, as

opposed to the “recovery” of the actual payments, a waiver of sovereign

immunity with respect to Section 544(b)(1) is unnecessary. See, e.g.,

5 Collier on Bankruptcy ¶ 550.01 (discussing the difference between

avoiding a transfer and recovering from the transferee). Although we

acknowledge that the concepts of “avoidance” and “recovery” are distinct,

we see no need to address Zazzali’s argument as the text of Section

106(a)(1) is clear—sovereign immunity has been waived with respect to

Section 544(b)(1).

12 IN RE DBSI, INC.

B.

1.

To ascertain the meaning of Sections 106(a)(1) and

544(b)(1), we must look not only to the “particular statutory

language at issue” but also to “the language and design of the

statute as a whole.” K Mart Corp v. Cartier, Inc., 486 U.S.

281, 291 (1988); see also Carpenters Health & Welfare Tr.

Funds v. Robertson (In re Rufener Constr.), 53 F.3d 1064,

1067 (9th Cir. 1995). Statutory construction is a “holistic

endeavor,” United Sav. Ass’n of Tex. v. Timbers of Inwood

Forest Assocs., Ltd., 484 U.S. 365, 371 (1988), that relies on

context to be “a preliminary determinant of meaning,”

Antonin Scalia & Bryan A. Garner, Reading Law: The

Interpretation of Legal Texts 168 (2012). Here, read in light

of Section 106(a)(1)’s clear abrogation of sovereign

immunity, Section 544(b)(1) can only mean one thing: a

trustee need only identify an unsecured creditor, who, but for

sovereign immunity, could bring an avoidance action against

the IRS.

Section 544(b)(1) plainly states that the “trustee may

avoid any transfer . . . that is voidable under applicable law.”

But, we cannot read the plain text of Section 544(b)(1)—i.e.,

the triggering creditor requirement—devoid of the declaration

in Section 106(a)(1) that “sovereign immunity is abrogated as

to a governmental unit . . . with respect to Section[] . . . 544.”

See also In re Equip. Acquisition Res., Inc., 485 B.R. 586,

593 (Bankr. N.D. Ill. 2013), judgment rev’d by EAR, 742 F.3d

743 (“[S]overeign immunity is completely abolished with

respect to Section[] . . . 544.” (internal quotation marks

omitted)). “It simply does not matter how a sovereign

immunity defense is invoked against [Trustee]’s claims

IN RE DBSI, INC. 13

[because] Section 106(a)(1) . . . eliminates the obstacle

wherever it appears ‘with respect to’ § 544 . . . .” Id. In other

words, Congress’s waiver of sovereign immunity is

unequivocal under Section 106(a)(1).8

2.

Our interpretation of the interplay between Section

106(a)(1) and Section 544(b)(1) is bolstered by the fact that

Section 106(a)(1) was enacted after Section 544(b)(1). See

Food & Drug Admin. v. Brown & Williamson Tobacco Corp.,

529 U.S. 120, 133 (2000). “The classic judicial task of

reconciling many laws enacted over time, and getting them to

make sense in combination, necessarily assumes that the

implications of a statute may be altered by the implications of

a later statute.” Id. at 143 (internal quotation marks and

citation omitted). Here, when Congress waived sovereign

immunity with respect to Section 544, Congress understood

that Section 544(b)(1) codified a trustee’s powers to invoke

state law. See S. Rep. 95-989, at 85 (1978), as reprinted in

U.S.C.C.A.N. 5787, 5871. Even more importantly, those

powers were deep rooted, and had existed since at least the

8

In United States v. Nordic Village, Inc., 503 U.S. 30, 39 (1992), the

Supreme Court made it unmistakably clear that for Congress to waive

sovereign immunity it must do so “unequivocal[ly].” As a result,

Congress amended Section 106(a)(1) in 1994, at least in part, as a

response to Nordic Village. H.R. Rep. 103-835, at 42 (1994); see also

Norton Bankr. L. & Prac. 3d § 14:4. After acknowledging the Supreme

Court’s holding in Nordic Village, Congress stated that “[t]his amendment

expressly provides for a waiver of sovereign immunity by governmental

units with respect to monetary recoveries as well as declaratory and

injunctive relief. It is the Committee’s intent to make section 106 conform

to the Congressional intent of the Bankruptcy Reform Act of 1978

waiving the sovereign immunity of the States and the Federal Government

in this regard.” Id.

14 IN RE DBSI, INC.

Bankruptcy Act of 1898. Bankruptcy Act of 1898 § 70(e),

ch. 541, 30 Stat. 544 (1898); see also Norton Bankr. L. &

Prac. 2d § 63:7 (1997); accord Stellwagen v. Clum, 245 U.S.

605, 614 (1918); Moore v. Bay, 284 U.S. 4 (1931). Since we

presume that “Congress understands the state of existing law

when it legislates,” Bowen v. Massachusetts, 487 U.S. 879,

896 (1988), it is clear that “[b]y including [Section] 544 in the

list of Bankruptcy Code sections set forth in [Section]

106(a)(1), Congress knowingly included state law causes of

action within the category of suits to which a sovereign

immunity defense could no longer be asserted.” Liebersohn

v. IRS (In re C.F. Foods, L.P.), 265 B.R. 71, 85 (Bankr. E.D.

Pa. 2001).

3.

Finally, the interpretation offered by the government

would essentially nullify Section 106(a)(1)’s effect on

Section 544(b)(1), an interpretation we should avoid. See,

e.g., United States v. Powell, 6 F.3d 611, 614 (9th Cir. 1993)

(“It is a basic rule of statutory construction that one provision

should not be interpreted in a way which is internally

contradictory or that renders other provisions of the same

statute inconsistent or meaningless.” (internal quotation

marks and citation omitted)). Adopting the government’s

position would mean that Section 106(a)(1)’s abrogation of

sovereign immunity would have no effect on Section

544(b)(1) because a trustee would always need to

demonstrate that Congress provided for a separate waiver of

sovereign immunity with respect to any “applicable law.” As

one bankruptcy court deftly put it,

Why would Congress explicitly waive

sovereign immunity for all other avoidance

IN RE DBSI, INC. 15

actions under the Bankruptcy Code, and

include a waiver of sovereign immunity for

actions under section 544 knowing that

section 544 encompasses state law theories,

but then require a separate waiver of

sovereign immunity for the necessary state

law component in actions under section 544?

Furr v. U.S. Dep’t of Treasury (In re Pharmacy Distrib.

Servs., Inc.), 455 B.R. 817, 821 (Bankr. S.D. Fla. 2011). The

government insists that Section 106(a)(1)’s waiver of

sovereign immunity would not be rendered meaningless if we

adopted its approach. However, we find the government’s

arguments unavailing.

First, the government notes that the waiver of sovereign

immunity would still apply to Section 544(a) because Section

544(a) contains no triggering creditor requirement. Although

this is true, it is beside the point. Surely, had Congress

intended to limit Section 106(a)(1)’s application to Section

544(a), as opposed to all of Section 544, it knew how to do

so. In fact, elsewhere in the Bankruptcy Code, Congress has

demonstrated that it knows how to make a specific provision

only applicable to a subsection of Section 544. See, e.g.,

11 U.S.C. § 546(c)(1), (d), (h); id. § 541(b)(4); see also

Keene Corp. v. United States, 508 U.S. 200, 208 (1993)

(“Where Congress includes particular language in one section

of a statute but omits it in another . . . , it is generally

presumed that Congress acts intentionally and purposely in

the disparate inclusion or exclusion.” (internal quotation

marks and citation omitted)).

Second, the government explains that Section 106(a)(1)

applies not only to the federal government but to all

16 IN RE DBSI, INC.

governmental entities. This is true: Section 106(a)(1)

abrogates sovereign immunity for all “governmental units,”

which the Bankruptcy Code defines to include, among other

entities, states and municipalities. 11 U.S.C. § 101(27). The

government then asserts that as long as state or local

municipalities have waived sovereign immunity to permit

fraudulent transfer actions against their governments, Section

106(a)(1)’s waiver with respect to Section 544(b)(1) would

serve a purpose.9 But this assertion suffers from the same

fundamental flaw as the government’s underlying argument.

If a state or local municipality has already waived sovereign

immunity, Section 106(a)(1)’s waiver of immunity is

unnecessary and adds nothing.10 We agree with the

bankruptcy court that the government’s interpretation would

render Section 106(a)(1)’s application to Section 544(b)(1)

practically meaningless, and therefore it is an interpretation

to which we cannot subscribe.

9

The government notes, for example, that states like Illinois,

Connecticut, New York, and Ohio have such general waivers of immunity.

705 Ill. Comp. Stat. § 505/8(a) (allowing claims under Illinois state law to

be brought against the State in its court of claims); Conn. Gen. Stat. § 4-

142 (allowing claims against the state to be brought through an Office of

the Claims Commissioner); N.Y. Ct. Cl. Act § 8 (authorizing suits if

brought in court of claims); Ohio Rev. Code Ann. § 2743.02(A)(1) (same).

10

State Amici argue that interpreting Section 106(a)(1)’s waiver of

sovereign immunity to apply to the underlying state law causes of action

raises constitutional concerns by subjecting states to non-uniform

bankruptcy laws. State Amici acknowledge that Congress has the ability

to waive state sovereign immunity under the Bankruptcy Clause of the

Constitution, but they nonetheless argue that this right derives from the

fact that states have agreed to subordinate their sovereign immunity to

uniform laws. While there may be outer limits to Congress’s power to

waive state sovereign immunity under the Bankruptcy Code, see Cent. Va.

Cmty. Coll. v. Katz, 546 U.S. 356, 378 n.15 (2006), we need not, and do

not, address that issue here as it is not before us.

IN RE DBSI, INC. 17

In sum, we conclude that the text of Section 106(a)(1) is

unambiguous and clearly abrogates sovereign immunity as to

Section 544(b)(1), including the underlying state law cause of

action. In interpreting these statutes in this manner, we are

mindful of the Supreme Court’s instruction that where a

plausible interpretation of a provision that would preserve

immunity is available, we should adopt that interpretation and

preserve the government’s sovereign immunity. See United

States v. Nordic Village, Inc., 503 U.S. 30, 37 (1992). But,

here, we do not believe there is an alternative construction

that is plausible: Congress unambiguously and unequivocally

waived sovereign immunity for causes of action brought

under Section 544(b)(1). To construe the statutes in the

manner in which the government proposes would be to ignore

the plain text of Section 106(a)(1), something we are not at

liberty to due. See, e.g., United States v. Butler, 297 U.S. 1,

65 (1936) (“These words cannot be meaningless, else they

would not have been used.”); see also Conn. 47Nat’l Bank v.

Germain, 503 U.S. 249, 253–54 (1992) (“We have stated time

and again that courts must presume that a legislature says in

a statute what it means and means in a statute what it says

there.”).

C.

1.

We recognize that our opinion conflicts with the Seventh

Circuit’s opinion in EAR, the only other case to have

addressed the interplay between Section 106(a)(1) and

18 IN RE DBSI, INC.

Section 544(b)(1).11 We turn briefly to the Seventh Circuit’s

opinion and the reasons why we disagree with its analysis.

In EAR, the Seventh Circuit addressed a nearly identical

situation, but reached the opposite result. The Seventh

Circuit, drawing from FDIC v. Meyer, 510 U.S. 471 (1994),

employed a two-step framework to determine the IRS’s

liability. In doing so, the Seventh Circuit explained that to

determine the IRS’s liability, a court must “undertake two

analytically distinct inquiries . . . [t]he first inquiry is whether

there has been a waiver of sovereign immunity . . . the second

inquiry . . . is [] whether the source of substantive law upon

which the claimant relies provides an avenue for relief.”

EAR, 742 F.3d at 747 (quoting Meyer, 510 U.S. at 484)

(internal quotation marks and citations omitted). Applying

this framework, the Seventh Circuit first acknowledged that

there is no issue as to the first inquiry—everyone agrees that

with the adoption of Section 106(a)(1) Congress has waived

sovereign immunity with respect to Section 544(b)(1). Id. at

746–47. Proceeding to the second inquiry, the Seventh

Circuit looked at the applicable law for the trustee’s Section

11

Although the Seventh Circuit is the only other circuit to have

addressed the issue in a published opinion, bankruptcy courts and district

courts throughout the nation have nearly uniformly adopted a statutory

construction in line with our holding today. See, e.g., VMI Liquidating Tr.

Dated December 16, 2011 v. United States (In re Valley Mortg., Inc.), No.

10-19101-SBB, 2013 WL 5314369 (Bankr. D. Colo. Sept. 18, 2013); Furr

v. U.S. Dep’t of Treasury (In re Pharmacy Distrib. Servs., Inc.), 455 B.R.

817 (Bankr. S.D. Fla. 2011); Menotte v. United States (In re Custom

Contractors, LLC), 439 B.R. 544 (Bankr. S.D. Fla. 2010); Sharp v. United

States (In re SK Foods, L.P.), No. 09-229162-D-11, 2010 WL 6431702

(Bankr. E.D. Cal. July 14, 2010); Tolz v. United States (In re Brandon

Overseas, Inc.), No. 08-11035-BKC-RBR, 2010 WL 2812944 (Bankr.

S.D. Fla. July 16, 2010); Liebersohn v. IRS (In re C.F. Foods, L.P.),

265 B.R. 71 (Bankr. E.D. Pa. 2001).

IN RE DBSI, INC. 19

544(b)(1) cause of action—the Illinois Uniform Fraudulent

Transfer Act—and determined that it did not provide an

avenue for relief because any unsecured creditor who

attempted to bring such a claim against the IRS in Illinois

would be barred from doing so by the government’s

sovereign immunity. The Seventh Circuit concluded that

Section 106(a)(1)’s abrogation of sovereign immunity with

respect to Section 544(b)(1) did not “alter [Section] 544(b)’s

substantive requirements merely by stating that the federal

government’s authority was abrogated ‘with respect to’ that

provision.” Id.

2.

Meyer sets out a useful framework for analyzing whether

sovereign immunity precludes an action against the

government. Our disagreement with the Seventh Circuit is at

step two, as all parties agree that Congress has

unambiguously waived sovereign immunity. Therefore, we

focus our discussion on whether Section 544(b)(1) and

Idaho’s UFTA—the substantive law on which Zazzali relies

for his fraudulent transfer cause of action—provide an avenue

for relief, or, in other words, envision the government as a

potential defendant.

First, the fact that Congress waived sovereign immunity

with respect to Section 544(b)(1) leaves no doubt that both

Section 544(b)(1), and the derivative state law, provide a

substantive cause of action against the government. It would

defy logic to waive sovereign immunity as to a claim which

could not be brought against the government. In general, a

government defendant does not need immunity from a suit

which cannot be brought.

20 IN RE DBSI, INC.

Second, the statutory definitions of the relevant

parties—creditors and debtors—further demonstrate that

Section 544(b)(1), and the derivative law upon which it relies,

contemplate suits against the government. See U.S. Postal

Serv. v. Flamingo Indus., 540 U.S. 736, 744–56 (2004)

(analyzing the Sherman Act’s, 15 U.S.C. § 1 et seq.,

definition of “person” to conclude that the statute

contemplates a government defendant). Under both the

Bankruptcy Code and Idaho’s UFTA, debtors and creditors

are defined to include the government. See 11 U.S.C.

§§ 101(10), (13), (15), (41); Idaho Code §§ 55-910(4), (9).

In turn, both Section 544(b)(1) and Idaho’s UFTA provide a

substantive cause of action against the government—i.e., an

avenue for relief. See Meyer, 510 U.S. at 484. The Seventh

Circuit’s conclusion to the contrary is not persuasive. Under

the Seventh Circuit’s approach, a substantive cause of action

against the government would exist only if Congress also

waived sovereign immunity with respect to the particular

applicable law under Section 544(b)(1). To impose such a

requirement, as discussed above, would be contrary to the

plain text of Section 106(a)(1).

In sum, although Meyer’s general framework is helpful,

we reach an alternate conclusion to the Seventh Circuit.

3.

We note one other area in which we disagree with the

Seventh Circuit’s reasoning in EAR. Both the government

and the Seventh Circuit suggest that the result we reach today

runs afoul not only of sovereign immunity, but also

potentially of the Appropriations Clause and the Supremacy

Clause. EAR, 742 F.3d at 747–48. According to the Seventh

Circuit: “Even if federal sovereign immunity were not an

IN RE DBSI, INC. 21

issue, a creditor who attempts to wield the Illinois Uniform

Fraudulent Transfer Act against the IRS outside of

bankruptcy would face significant constitutional obstacles.”

Id. While it may be true that an unsecured creditor who seeks

to bring such claims against the IRS in state court would face

constitutional obstacles, that is irrelevant to our inquiry as our

holding is limited only to the rights of a trustee to bring

fraudulent transfer actions in bankruptcy.

As to the Appropriations Clause, the Seventh Circuit, in

dicta, notes that it precludes any creditor from recovering

against the federal government in a state court because money

cannot be taken from the treasury without congressional

approval. Id. at 748. But this is of no moment because

Section 544(b)(1) says nothing about recovery; a trustee must

only demonstrate that the transfer is “voidable under

applicable law.”12 The recovery of fraudulent transfers is

authorized by federal law—Section 550(a)(1)—and Congress

has waived sovereign immunity with respect to that

provision. 11 U.S.C. § 106(a)(1). In other words, we agree

with the Seventh Circuit that Congress must approve the

release of funds from its coffers, see Office of Pers. Mgmt. v.

Richmond, 496 U.S. 414, 424 (1990), but here it has done so

through Sections 106(a)(1) and 550(a)(1). Thus, we fail to

share the Seventh Circuit’s concern that there may be an

Appropriations Clause issue here.

As to the Supremacy Clause, the Seventh Circuit

suggests, again in dicta, that the interpretation of the interplay

12

“[T]he Bankruptcy Code enunciates the separation between the

concepts of avoiding a transfer and recovering from the transferee.” In re

Acequia, 34 F.3d at 809 (internal quotation marks and citation omitted);

see also 5 Collier on Bankruptcy ¶ 550.01.

22 IN RE DBSI, INC.

between Section 106(a)(1) and Section 544(b)(1) that we

reach today is erroneous because “the Supremacy Clause

prevents states from enabling their residents to recover tax

payments directly from the United States.” EAR, 742 F.3d at

748.13 But, again, this suggestion ignores the federal nature

of a claim under Section 544(b)(1). Section 544(b)(1) does

not authorize a trustee to bring an avoidance action in state

court, rather the statute permits a trustee to pursue a federal

cause of action in bankruptcy court. VMI Liquidating Tr.

Dated December 16, 2011 v. United States (In re Valley

Mortg., Inc.), No. 10-19101-SBB, 2013 WL 5314369, at *5

(Bankr. D. Colo. Sept. 18, 2013). Simply put, we fail to see

any Supremacy Clause issue here.14

13

Again, we note that the Seventh Circuit conflates the concepts of

avoidance and recovery. Section 544(b)(1), by its terms, says nothing of

recovery.

14

In its opening brief, the government argues that the Internal

Revenue Code (I.R.C.) preempts Zazzali’s claims. Aside from the fact,

as explained supra, that Zazzali’s claims are federal causes of action and

therefore cannot be preempted, the government’s argument fails for

another reason. The government argues that Section 7422 of the I.R.C.,

which is “applicable when taxes have been improperly assessed or are not

otherwise properly due,” In re Valley Mortg., Inc., 2013 WL 5314369, at

*5, preempts Zazzali’s avoidance claims. But I.R.C. § 7422 is

inapplicable here because “the trustee is not standing in the shoes of the

debtors, as taxpayers, seeking to recover tax refunds, but rather, in the

shoes of a creditor seeking to recover property fraudulently transferred

. . . .” Id. (quoting In re SK Foods, L.P., 2010 WL 6431702, at *4). “In

short, I.R.C. section 7422 simply has no bearing on [our] interpretation of

. . . [S]ections 544 and 106 . . . .” Id. at *6.

IN RE DBSI, INC. 23

D.

We close by noting that although not necessary to our

disposition since we conclude the statutes are unambiguous,

our interpretation is supported by both equitable principles

and the “object and policy” of the Bankruptcy Code. See

Kelly v. Robinson, 479 U.S. 36, 43 (1986) (“In expounding a

statute, we must not be guided by a single sentence or

member of a sentence, but look to the provisions of the whole

law, and to its object and policy.” (quoting Offshore

Logistics, Inc. v. Tallentire, 477 U.S. 207, 222 (1986))).

“Critical features of every bankruptcy proceeding are the

exercise of exclusive jurisdiction over all of the debtor’s

property, [and] the equitable distribution of that property

among the debtor’s creditors . . . .” Cent. Va. Cmty. Coll. v.

Katz, 546 U.S. 356, 364 (2006). In allowing for the

avoidability of transfers made to the IRS, Congress ensured

that the IRS is on equal footing with all other creditors. See

S. Rep. No. 95-989, at 90 (1978), as reprinted in

1978 U.S.C.C.A.N. 5787, 5876. As the Tenth Circuit

explained in In re Franklin Savings Corp., 385 F.3d 1279,

1290 (10th Cir. 2004), the waiver of sovereign immunity

contained in the Bankruptcy Code “is based on equity[;] in

essence, it would be unfair for a governmental unit to

participate in the distributions of a bankruptcy case while at

the same time shielding itself from liability.” (internal

quotation marks and citation omitted).

Congress provided for a waiver of sovereign immunity

“with respect to” Section 544 because it aligns with the

primary goal of federal bankruptcy law—collecting and

preserving a debtor’s assets for equitable distribution among

all creditors. See, e.g., Sherwood Partners, 394 F.3d at

1204–05.

24 IN RE DBSI, INC.

III.

We affirm the district court’s judgment that sovereign

immunity does not preclude Zazzali from avoiding the $17

million in tax payments that were fraudulently transferred to

the IRS. We likewise affirm the district court’s judgment that

the government must return the funds received as tax

payments, except as to the amount already paid out as

refunds. We remand for further proceedings consistent with

this opinion. Each party shall bear its own costs on appeal.

AFFIRMED and REMANDED.