By Dietrich Knauth

Aug 1 (Reuters) - A U.S. appeals court ruled on Friday that U.S. bankruptcy laws can be used to address the debts of well-funded shell companies, extending the eight-year-long bankruptcy of a Georgia-Pacific unit that is saddled with the company’s liability for asbestos lawsuits.

The 4th U.S. Circuit Court of Appeals affirmed a lower court’s decision to keep Bestwall LLC in bankruptcy, rejecting a second effort to dismiss the case by people who had filed lawsuits alleging that the company's drywall and other products contained asbestos and caused cancer.

Bestwall was formed in a spinoff known as a “Texas two-step,” in which a shell company files for bankruptcy to attempt to resolve lawsuits while shielding a parent company from legal claims. Bestwall is proceeding in bankruptcy with a funding agreement backed by Georgia-Pacific's assets.

The 4th Circuit has continued to allow "Texas two-step" cases to remain in bankruptcy, even after other courts moved to curb the practice in cases filed by subsidiaries of Johnson & Johnson and 3M.

The asbestos plaintiffs had argued that the U.S. Constitution does not allow financially solvent companies to seek bankruptcy protection in court. The Constitution allows Congress to pass laws on “bankruptcies,” but that authority cannot be stretched beyond the “founding-era understanding of the word,” the plaintiffs argued.

In a split opinion, the 4th Circuit disagreed, saying that the law is clear that U.S. courts have jurisdiction to address bankruptcy cases by companies, even if they may not meet the founders’ definition of “bankrupt.”

Bankruptcy courts have jurisdiction even over “solvent debtors” that can pay their debts as they come due, and a debtor’s financial condition is not the sole consideration in a bankruptcy, the appeals court ruled.

“The parties here advance policy reasons for and against the idea that only insolvent debtors should file for bankruptcy protection,” Judge Marvin Quattlebaum wrote for the majority. “But those arguments are best left for Congress. We traffic in law, not policy.”

Joseph Satterley, an attorney who represents asbestos claimants in the bankruptcy, said he was disappointed in a ruling that he said allows "the super wealthy to avoid debts they admit they can pay in full."

Georgia-Pacific did not immediately respond to a request for comment.

Judge Robert King dissented, writing that the majority opinion opened the door to other companies that wish to avoid lawsuits, rather than pursuing bankruptcy for its traditional purpose of resolving debts and giving “honest debtors” the chance for a “fresh start.”

“Nothing in the Constitution permits Congress, or the federal courts, to allow a bankruptcy to be wielded as a strategic weapon by the powerful to avoid accountability to the harmed, as Bestwall and Georgia-Pacific have done here,” King wrote.

Bestwall’s long stay in bankruptcy has given it a litigation advantage over the cancer victims who have sued the company, and whose window for taking the company to court is “heartbreakingly short,” King wrote. Since Bestwall filed for bankruptcy, about 25,000 claimants have died without any resolution or settlement.

Bestwall filed for bankruptcy in North Carolina in 2017, when Georgia Pacific faced 64,000 asbestos lawsuits. Before Bestwall's bankruptcy filing, Georgia-Pacific and Bestwall spent $2.9 billion defending more than 430,000 asbestos-related personal injury lawsuits over 40 years, according to Bestwall's court filings.

Georgia-Pacific produces a wide range of consumer products, including Quilted Northern bath tissue, Brawny paper towels, and Dixie cups. The lawsuits largely allege that Georgia-Pacific's plaster and drywall products exposed consumers and workers to asbestos.

The case is Bestwall LLC v. the Official Committee of Asbestos Claimants of Bestwall LLC, U.S. Court of Appeals for the Fourth Circuit, No. 24-1493

For Bestwall: Noel Francisco, Gregory Gordon and Dan Prieto of Jones Day

For Bestwall's future claims representative and official committee of asbestos claimants: David Charles Frederick of Kellogg Hansen Todd Figel & Frederick PLLC, Natalie Ramsey of Robinson & Cole; Glenn Thompson of Hamilton Stephens Steele + Martin; Edwin Harron of Young Conaway Stargatt & Taylor

Read more:

US judge rejects J&J's $10 billion baby powder settlement

Senators, states ask US Supreme Court to curb 'two-step' bankruptcy abuse

Corporate lawsuit dodge imperiled after court rejects J&J bankruptcy tactic

(Reporting by Dietrich Knauth)