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Mr. EDWARDS. Mr. Levin.

Mr. LEVIN. Mr. Wright, do you think it would make a difference in measuring the needs of the new system if it were measured with the old system left intact during the transitional period, rather than with the new system in place at the beginning of the transitional period, with review 5 years later?

Mr. WRIGHT. I think it would be essential to make the changes immediately, so that we would know what we are measuring.

For example, if there was an elimination of the false financial statement as a ground for objecting to discharge, that is going to make a difference of 10,000 judicial matters to come before bankruptcy judges throughout the country.

Mr. LEVIN. I wasn't speaking so much about the changes in substantive law. But assuming that the changes in substantive law were made effective right away, would it make a difference in measuring the use of the system if the old system were left intact; that is, if the referees remained under the district judges for the transition period, or if the new system with the independent court were established right at the beginning?

Mr. Wright. I think you would have to make the changes as soon as possible. If the bankruptcy judges are going to be handling purely the adversary and the contested matters that we now have under the rules, this is what we are going to be measuring for them. We have got the system to measure cases now. And that, of course, would not be scrapped; we would keep that and use that as part of our statistical process on determining the supporting offices, whether they are independent or whether they are part of the court. But I think we would have to make these changes right away.

Mr. LEVIN. Thank you, Mr. Chairman.
Mr. EDWARDS. Mr. Klee.
Mr. KLEE. Thank you, Mr. Chairman.

If changes in substantive law are implemented initially, will not changes in the court system have to be made initially, too!

Mr. WRIGHT. Yes.

Mr. KLEE. Do you think that the bankruptcy judges could legally handle plenary cases merely by act of Congress, as an adjunct of the district courts?

Mr. Wright. Once again, that is getting a little beyond the scope of my work. Mr. Klee. Certainly setting up a new court obviates the problem. Mr. WRIGHT. Yes.

Mr. KLEE. On page 10 of vour statement, you note that the cost of the Office of the Clerks of Court is not included in your statement. How much additional cost are we talking about?

Mr. WRIGHT. I would have to get that from the figures. I could find out and submit it to you. There are some 2,000 deputy clerks of court, as I understand.

Mr. KLEE. My final question relates to the problem of marshals. The testimony and the bills evince diverse attitudes with respect to marshals. The Commission bill empowers the bankruptcy court to use its own marshals; of course, this would entail some additional cost. The Judges bill provides that the marshals of the U.S. district courts will be used in the bankruptcy courts. Some opposition was given to the

use of the district court marshals in previous testimony. Do you have any basis for estimating the cost of establishing new marshals in the bankruptcy courts?

Mr. WRIGHT. No; I don't. I am not sure exactly what function was intended for a marshal of the court other than for the service of process. The marshal service now, of course, is a part of the Department of Justice and not a part of the court system. And the service of process is about the only use that is made of marshals. I think the courts have bailiffs to maintain decorum.

Mr. KLEE. Thank you, Mr. Chairman. I have no further questions.

Mr. EDWARDS. Are there any further questions from the subcommittee? If not, Mr. Wright, we thank you very much.

Our next meeting is Friday, April 30, in this room at 9:30 a.m., this same subject.

[Whereupon, at 10:15 a.m., the subcommittee recessed, to reconvene at 9:30 a.m., Friday, April 30, 1976.]

BANKRUPTCY ACT REVISION

FRIDAY, APRIL 30, 1976

HOUSE OF REPRESENTATIVES,
SUBCOMMITTEE ON CIVIL AND CONSTITUTIONAL RIGHTS
OF THE COMMITTEE ON THE JUDICIARY,

Washington, D.C. The subcommittee met, pursuant to notice, at 9:35 a.m. in room 2226, Rayburn House Office Building, Hon. Don Edwards (chairman of the subcommittee) presiding.

Present: Representatives Edwards and Drinan. Also present: Richard B. Levin, assistant counsel, and Kenneth N. Klee, associate counsel.

Mr. EDWARDS. The subcommittee will come to order.

Today the subcommittee continues its hearings on the revision of the bankruptcy laws, specifically on the revision of section 77, on railroad reorganization.

The first witness this morning is our colleague, Congressman Henry Nowak, from Buffalo, N.Y. Mr. Nowak has introduced a bill, H.R. 10388, to give relief to the taxing authorities in which the property of the seven bankrupt northeast rail carriers is found. He gained firsthand knowledge of the problems these taxing authorities are facing while he served as Comptroller of Erie County from 1970 to 1974, the period during which most of these problems arose.

It is a great pleasure to welcome our colleague, the distinguished Member from Buffalo, N.Y. Mr. Nowak, without objection, your statement will be made part of the record, and you may proceed.

[ The prepared statement of Hon. Henry J. Nowak is as follows:]

STATEMENT OF HON. HENRY J. NOWAK, A REPRESENTATIVE IN CONGRESS FROM

THE STATE OF NEW YORK

The law of railroad bankruptcy is unique because Congress has recognized the priority of continuing our nation's railroad system over the immediate payment and satisfaction of creditors.

Congress has demonstrated its concern through comprehensive, multi-billion dollar legislation that has been enacted to deal with the multiple railroad bankruptcies that threatened to disrupt the nation's transportation network. However, with the continuance of essential rail service, it is now appropriate to consider the problems that the railroads' fiscal difficulties have caused local governments.

One month after the Penn Central Transportation Co. petitioned for reorganization under Section 77, the trustees were granted a Federal Court order directing the nonpayment of municipal and state taxes due or accruing in the future (Order No. 70).

Local and state governments could petition for relief from this order if they depended on revenue from Penn Central for at least 15 per cent of their budgets, could not maintain their budgets by obtaining additional revenue from alternate sources and would have to curtail vital public services should such revenue be deferred.

Although no city has been able to meet the court's stringent criteria for relief, nevertheless, there has been great hardship imposed on local taxing authorities.

When our nation first began to tax its citizens, the federal government relied on the property tax. Finding it unworkable, the federal government encouraged the several states to use property as a basis for taxation. The states, having as much success as the federal government, turned over such taxation to the localities.

The localities, unfortunately, have no one to turn to.

Today, the nation's municipalities are collectively holding a tax bill in excess of $370 million from the bankrupt carriers for post petition taxes. In my congressional district, the City of Buffalo alone is owed more than $5 million.

Under bankruptcy law, post petition taxes are treated as administrative expenses which are due priority before secured creditors and equal to other expenses of the administration of the bankruptcy estate.

However, under Order No. 70, other administrative expense creditors are fully satisfied, while tax creditors must bear the risk of default without consent. It was believed by the court that if taxes had not been deferred, the trustees would have been forced to sell non-railroad assets distress prices making reorganization most difficult and possibly jeopardizing the continued operation of railroad service. The inevitable effect of this was to pass on the loss from the railroads to the urban municipalities which generally could not replace this revenue and, therefore, were forced to curtail services.

This has been justified on the grounds that local taxing authorities have a continuing and vital interest in the survival of the railroads and generally can bear the loss of revenue without undue hardship. Under this logic, a temporaryalbeit several year-deferment of taxes would be fair and equitable.

Other court cases have demonstrated that the municipalities will not be paid interest on unpaid taxes during this period. In the bankruptcy of the New York, New Haven and Hudson Railroad, for example, the court disallowed unpaid, post petition interest.

The court reasoned that the public interest in the continued operation of the railroads was paramount over the payment of taxes. The court determined that the allowance of interest on taxes owed municipalities would be inequitable because interest had been denied on claims of bondholders. It was the bondholders, it was maintained, who, for the most part, had sustained the expense of continued rail service which was crucial to the economic well-being of the states and the local communities.

Thus, the amount recoverable on state and local tax claims was compromised by the court to favor other creditors. In addition, the payment on principalthe post petition taxes—was to be made in income notes in the reorganized railroad, not in cash as were other administrative expenses.

It is unfair that real estate taxing bodies should be singled out to carry the burden of the railroad bankruptcy.

It was, we must recall, the federal government which required Penn Central to continue to operate unprofitable lines. It was the federal government which delayed direly needed increases in freight rates.

It was the Penn Central Company which merged into a managerial conflict of epic proportions. It was the company which diverted funds, which should have been used for operational and maintenance expenses, into speculative real estate.

Buffalo, with a massive network of rail lines, remained a profitable operation to the end and still was profitable during the tenure of the trustees' operation.

In reality, local governments taxed rail transportation properties at discounted rates and originally had deeded thousands of acres for rail development. In effect, then, the largest losers are the areas that contributed most to the rail lines' original success.

Now, court cases may delay liquidation for a decade or more. In the meantime, the municipalities need relief.

Amendments offered to the rail reorganization legislation, which were intended to provide some relief, were unsuccessful. One amendment would have allowed the federal government to assume the debt and creditor status of the municipalities while advancing the municipalities the amounts owed. That proposal was soundly defeated in both the House and the Senate. Apparently underlying that defeat was Congressional fear of the unlikelihood of full repayment.

Last October, I introduced H.R. 10388 as a compromise to offer relief to municipalities. This measure would allow governmental units with taxing au

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