The debtor, an “extractor and seller of oil and gas,” leased property to operate its wells. After the debtor filed for bankruptcy, the owners of the properties the debtor leased (the “lessors”) sued the debtor’s estate for eight years of unpaid royalties. As their remedy, the lessors sought the establishment of constructive trusts to hold their proceeds and exclude them from the debtor’s estate before the bankruptcy court resolved the matter. The bankruptcy court held that because the lessors’ unpaid royalties were part of the debtor’s estate, the lessors’ claims were “unsecured” and “non-priority,” and the district court affirmed. The lessors then appealed to the Third Circuit to determine whether they had a right to the unpaid royalties and, if so, what remedy was appropriate.
In In Re USRA Operating Co., LLC, No. 22-1729, 2024 WL 277457, 2024 U.S. App. LEXIS 1777 (3rd Cir. January 25, 2024) (unpublished opinion), the court vacated the lower court’s decision and remanded the matter. First, the court considered whether the royalties were a part of the debtor’s estate. The Bankruptcy Code states that “[i]f a debtor holds only legal title to but not an equitable interest in property, that property will not become part of the debtor’s bankruptcy estate.” 11 U.S.C. § 541(d). Additionally, Colorado law provided that when the debtor leased the land, the lessors received a “real property interest” in the royalties. Thus, the debtor has property “that equitably belongs to another,” and the Bankruptcy Code “provides that such property should not be disbursed to creditors along with the debtor’s own.” Second, the court considered whether a constructive trust was an appropriate remedy for the lessors. The court applied Colorado law because the royalties were not subject to federal statutes or agency oversight. With that determination, the court ruled that the legal remedy of a constructive trust was obtainable as a remedial measure to prevent unjust enrichment of the debtor if the debtor were allowed to benefit from the lessors’ property. However, the court placed the burden of finding and tracing trust property on the lessors. Based on that reasoning, the court vacated the district court’s decision and remanded the case to the bankruptcy court for further proceedings to determine whether each lessor could be awarded the remedy of a constructive trust.
By Taylor O’Brien: [email protected]
Edited By Nura Elhentaty: [email protected]
Edited By Ashley Boyce: [email protected]
Edited By Hayden Mariott: [email protected]