iStock_000011828519_SmallRecently the Eleventh Circuit agreed to hear Jefferson County’s (“JeffCo”) petition for appeal of U.S. District Court Judge Sharon Blackburn’s ruling refusing to dismiss one of three appeals filed by JeffCo’s sewer system ratepayers.

Last fall, Judge Blackburn ruled that while JeffCo’s Chapter 9 plan of adjustment had been confirmed and new sewer warrants issued to retire the outstanding debt, that the constitutionality of the plan provisions that ceded JeffCo’s future authority to set sewer rates to the bankruptcy court could be reviewed and reconsidered post-confirmation. Setting off a legal firestorm, Judge Blackburn found the District Court could review a precedent setting plan provision that gives the presiding bankruptcy court the authority to enforce sewer rate increases to pay off the $1.8 billion in sewer warrants issued under the confirmed plan.

Notably, this post confirmation jurisdiction and authority is for 40 years. Judge Blackburn held “Although this court agrees that some part or parts of the confirmation order may be impossible to reverse, the county’s ceding of its future authority to set sewer rates to the bankruptcy court as a term of the new sewer warrants is not one of those parts.” Opinion, p. 41. And, now the Eleventh Circuit has Judge Blackburn’s rather lengthy decision under review.

In their appeal, ratepayers assert that only county commissioners can raise rates and that the plan provision granting this authority to the bankruptcy court for 40 years is unconstitutional and violates state sovereignty. The preliminary question is whether the alleged unconstitutional plan provision can be reviewed on appeal leading to the pivotal question, is the appeal moot?

For longer than anyone can remember, a bankruptcy plan, once confirmed and substantially consummated, is protected by the doctrine of equitable mootness. Absent the issuance of a stay pending appeal, appeals of confirmed plans are usually dismissed as moot if the plan has been substantially consummated. The mootness doctrine is important because it gives confirmed and consummated bankruptcy plans a finality designed to reinforce confidence that a confirmed plan will not be altered after the fact. The embedded policy is parties’ need to be able to rely on a confirmed plan.

JeffCo’s bankruptcy case is complex. It is complex because of a lack of precedent and because the state sovereignty and bankruptcy policies at stake are of critical importance. Can parties to a chapter 9 plan rely on a confirmed and substantially consummated plan? Can a plan with an alleged state constitutional violation that arguably invades a state ratemaking authority for 40 years be denied appellate review because of equitable mootness? Where are the lines going to be drawn between the competing state sovereignty rate setting interests and bankruptcy’s interests in confirmed and consummated plans being protected from appeal by the doctrine of equitable mootness?

For states providing access to chapter 9, and for municipalities contemplating a chapter 9, the question in JeffCo of whether ratemaking authority can be assigned to a bankruptcy court is an important and precedent setting question. There is scant authority on just how far the bankruptcy code can override state law in a chapter 9 case. Rate setting is a particularly sensitive and complex area as this power often is left to the states for state utilities, thereby making this a state sovereignty issue. Under applicable Alabama law, only county commissioners can raise sewer rates. But, the JeffCo bankruptcy court found as part of the confirmation process that JeffCo’s plan complied with existing state law. The analysis becomes even more complex when the fact that JeffCo consented to the transfer of rate setting authority to the bankruptcy court for 40 years is considered.

Investors who purchased the $1.8 billion in sewer warrants would very much like to see the Eleventh Circuit dismiss the appeal of the confirmation order as moot, thereby eliminating appellate review of a rate setting provision that may be unconstitutional. The briefs are plentiful arguing appellate review should be denied because of mootness. Arguing a need for post-confirmation certainty and predictability, investors want to know they are going to receive the benefit of their bargain and that their payment stream is going to be under the control of the presiding bankruptcy court as promised.

It does not appear that there ever has been a bankruptcy plan that provided for the retention of bankruptcy court jurisdiction for 40 years, much less a provision that clearly steps on the toes of a state’s rate setting statute. One does not have to look hard to find the many chapter 11 cases that have had to accept and cede to state ratemaking authority when it comes to utilities. JeffCo’s plan provision is novel, at best creative, but untested. As a general proposition, the provision is surprising because bankruptcy courts usually work hard to limit post-confirmation jurisdiction.

So what can we expect? We can expect to see the Eleventh Circuit decide whether Judge Blackburn got it right in terms of her ruling that she could consider the constitutional issue. But the larger questions are murkier. Can the bankruptcy code really override state ratemaking authority? Or, did JeffCo’s transfer of ratemaking authority to the bankruptcy court go too far in terms of a state’s sovereign right to set rates?

What happens in the Eleventh Circuit could depend on how the Court peels this particular onion. The questions are interrelated because if the plan is equitably moot, the constitutional state rate setting question will be given short shrift and not considered. However, if the Court determines that Judge Blackburn can consider and review the constitutional question then the matter returns to Judge Blackburn, and each side has compelling arguments in their favor. Arguably, a constitutionally defective confirmed plan that violates state sovereignty should be unenforceable as a matter of law since the bankruptcy code requires that plans comply with state law. As a result, review of alleged unconstitutional plan provisions should not be foreclosed simply because part of the plan has been consummated. After all, there is a 40-year run off period. The impact of a decision not to permit review will adversely impact states and the municipalities they permit to access chapter 9. A decision that denies review could likely lead to states reconsidering whether access to chapter 9 is a good idea.

However, JeffCo issued $1.8 billion in new sewer warrants post-confirmation pursuant to the plan. Investors who bought those warrants knew that repayment was limited to sewer system revenues and relied on an untested and unique plan provision that gave the bankruptcy court rate setting control for 40 years.

The rulings in JeffCo will become our future landmarks in terms of where chapter 9 is headed and how useful it may ultimately be. If sovereign immunity is violated and appellate review prevented by the mootness doctrine, states will need to consider whether they want access to chapter 9 for their municipalities at all. How this ends is anyone’s guess. The only certainty is that the legal process likely won’t end with the Eleventh Circuit.