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decided: January 20, 1947.



Vinson, Black, Reed, Frankfurter, Douglas, Murphy, Jackson, Rutledge, Burton

Author: Douglas

[ 329 U.S. Page 568]

 MR. JUSTICE DOUGLAS delivered the opinion of the Court.

This case, here on certiorari, presents important problems under § 77 of the Bankruptcy Act. 49 Stat. 911, 11 U. S. C. § 205. The Central Railroad Company of New Jersey (the debtor), of which petitioner is trustee, filed its petition for reorganization in 1939 shortly after receiving notice from the Attorney General of New Jersey that he would apply to a state court for a summary judgment for unpaid taxes of the debtor and seek to sell its property in satisfaction of the judgment. The tax assessments for the years 1932 to 1939 had been extensively litigated both in the state and federal courts and the results were for the most part adverse to the debtor.*fn1 By the end of 1939 the tax claims of the State against the debtor, exclusive of interest and penalties, exceeded $15,000,000, while the liquid assets of the debtor available to pay them were apparently less than half that amount. The reorganization court stayed suits to collect the taxes but from time to time entered orders directing the debtor to make specified

[ 329 U.S. Page 569]

     installment payments on account of the taxes for various years.

In 1941 the New Jersey legislature passed a law designed to lessen the tax burden of railroads in the State. P. L. 1941, chs. 290, 291. This law was implemented and somewhat modified in 1942. P. L. 1942, chs. 169, 241. These acts included changes in the tax rates and provided for installment payments of the full principal amount of unpaid property taxes without interest or penalties, which were due on or before December 1, 1940. The statutory settlement of the claims was conditioned on (1) the execution of installment payment plans and the payment of the first installment, and (2) a waiver of all rights to contest the legality or amount of any assessment made prior to December 1, 1941, together with written consent to the discontinuance and dismissal of all pending suits concerning such assessments. The reorganization court authorized petitioner to settle and compromise the delinquent taxes in accordance with the provisions of these acts. Petitioner undertook to comply with the statutory requirements, filing documents and payments required of a delinquent taxpayer, discontinuing litigation, and consenting to the discontinuance of pending appeals.*fn2 The state officials -- the Attorney General, Treasurer, and Comptroller -- did not accept these tenders.*fn3 Instead, the Attorney General instituted suit to enjoin the Treasurer from carrying out the provisions of the 1941 and 1942 acts. The result was a holding that the acts violated the New Jersey constitution. Wilentz v. Hendrickson, 135 N. J. Eq. 244, 38 A. 2d 199.

[ 329 U.S. Page 570]

     Meanwhile the reorganization court set a time within which all claims against the debtor should be filed. In compliance therewith the State Comptroller filed on behalf of the State of New Jersey a claim for taxes owing it.*fn4 The proof of claim stated that over $18,000,000 had been paid on the tax claim, leaving unpaid some $12,000,000, plus interest of over $7,700,000, plus additional interest on those sums from December 1, 1940. The proof of claim also stated that under New Jersey law the sums owed were secured by "a lien paramount to all other liens upon all the lands and tangible property and franchises of the company in this State."

The debtor and trustee filed initial objections to the claim. They contended that the property of the debtor was grossly overvalued and that the debtor and other railroads had been intentionally and systematically discriminated against in the making of the assessments. They also objected to the interest or penalty part of the claim, contending, inter alia, that no interest accrued after the date when the debtor's petition for reorganization was filed or during the period when collection of the taxes was enjoined and the debtor was in good faith contesting their validity. Subsequently they objected to the claim on the further ground that its amount and the time allowed for its payment were governed by the terms of settlement or compromise tendered under the 1941 and 1942 acts of the New Jersey legislature. They also contended that New Jersey had no lien on the debtor's personal property. Like objections were made by a group of security holders of the debtor and by an indenture trustee. They also objected to the State's claim on the ground that no part of it other than that representing the principal amount of taxes was entitled to a lien equal or paramount to the debtor's general mortgage.

[ 329 U.S. Page 571]

     New Jersey, through her Attorney General, filed replies to the various objections which had been made to her claim, stating, inter alia, that the principal amount of the claim had been finally adjudicated and was lawfully owing, that the principal amount together with interest was entitled to priority under § 64 of the Bankruptcy Act, and that the claim was entitled to a paramount lien on all the lands, tangible property, and franchises of the debtor.

Shortly after Wilentz v. Hendrickson, supra, was decided, the trustee filed with the reorganization court a petition for adjudication of New Jersey's tax claims which in substance recapitulated his earlier objections to the claim and asked for an adjudication that the settlement or compromise tendered under the 1941 and 1942 acts of New Jersey was binding; or alternatively, if it was not binding, a determination of the extent to which the claim should be allowed and the relative rights, liens and priorities of the various claimants in the debtor's assets.

The Attorney General of New Jersey thereupon entered a special appearance in the proceedings, claiming, inter alia, that the entertainment of the petition would constitute a prohibited suit against the State, both as respects the determination of the amount of the claim and its priority or lien.

The reorganization court referred New Jersey's claim to a special master to consider this additional contention of the State, as well as the previous objections to it and the State's replies thereto.

The special master rendered a report in 1945 in which he found (1) that the proofs of claim of New Jersey were properly filed by state officers acting in pursuance of their statutory authority; (2) that § 77 confers on the reorganization court jurisdiction over the kind of claims asserted by the State in the proceeding and that such construction of the Act is not unconstitutional; and (3) that

[ 329 U.S. Page 572]

     the entire property of the debtor is in custodia legis subject to the rights of lienholders, and that the reorganization court is the proper court to determine the validity and amount of the tax claims and their lien, subject to the limitations of Arkansas Corporation Commission v. Thompson, 313 U.S. 132, which he did not think were presently involved in the proceedings. New Jersey, through her Attorney General, filed objections to the report. The reorganization court overruled them and adopted and confirmed the report. New Jersey took an appeal to the Circuit Court of Appeals. She also filed in that court a petition for a writ of prohibition in which she challenged the rulings of the reorganization court on the same grounds.

The Circuit Court of Appeals treated the appeal as if all of the questions presented were covered by Arkansas Corporation Commission v. Thompson, supra. It held that the "only matters left open" for the reorganization court were (1) mathematical error in the computation of the amount of the tax or (2) legal error in its assessment. It accordingly reversed the order of the ...

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