Ten Years After Crash, Litigation Continues – Directors Of Bankrupt Holding Company Not Liable To Trustee

Author:Mr Stephen M. Proctor
Profession:Masuda, Funai, Eifert & Mitchell, Ltd.

The Great Recession of 2008 may seem a distant memory. September 15, 2018 is the 10th anniversary of the Lehman Brothers bankruptcy, the largest bankruptcy in U.S. history, and often seen as the point at which a garden-variety recession turned into the Great Recession, with catastrophic results severely impacting the livelihood of millions.

Litigation resulting from the Great Recession is still ongoing. An example is a recent 7th Circuit Court of Appeals decision in which the officers of a failed bank holding company were found not liable to the company's trustee in bankruptcy for decisions that unsuccessfully tried to rescue the holding company's subsidiary banks. (Elliott D. Levin, as Chapter 7 Trustee for Irwin Financial Corporation v. William I. Miller, Gregory F. Ehlinger, and Thomas D. Washburn, 7th Circuit Court of Appeals, No. 17-1775, August 17, 2018)

Irwin Financial Corporation ("Irwin") was a holding company for two subsidiary banks, Irwin Union Bank and Trust Company (referred to in the decision as "Bank and Trust") and Irwin Union Bank, FSB (referred to as "Savings Bank"). Miller was Irwin's CEO and Ehlinger was its CFO. (The remaining defendant, Washburn, was not involved in the appeal.) These officers answered to Irwin's Board of Directors, which was largely independent. In fact, a supermajority of ten members of Irwin's Board were independent outside directors. After each meeting, the Board held an executive session without Irwin's officers.

In 2007-2008, the early stages of the financial crisis, both subsidiary banks struggled. Federal and state regulators insisted that Irwin had a duty to support its subsidiary banks. Irwin tried hard to do so. As part of its efforts to keep the subsidiary banks afloat, Irwin retained Rodgin Cohen of the law firm of Sullivan & Cromwell. Although not stated in the opinion, Cohen is known as one of the foremost legal experts in bank regulation, suggesting Irwin recognized the severe risks it was facing. Cohen agreed that Irwin should support the banks. The basis of his advice was the "Source of Strength Doctrine", which requires bank holding companies to provide assistance to subsidiaries in financial distress. Irwin's Board committed itself to saving the banks. As will be seen, this commitment, and actions taken consistent with this commitment, was later challenged by Irwin's bankruptcy trustee as a breach of fiduciary duty by Irwin's officers.

The situation worsened. In May 2008, the...

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