The Importance of the Bankruptcy Discharge and How to Attack It
May 06, 2020
In a typical bankruptcy filing, a debtor seeks the benefit of two concepts. First, the debtor seeks the breathing room afforded that debtor by the automatic stay. Second, the debtor seeks to discharge all debt obligations adjudicated in the bankruptcy case. Absent these protections, a bankruptcy filing serves little purpose. As a result, a creditor or trustee who can attack the debtor's entitlement to a discharge threatens the heart of any filing.
There are many reasons one would attack a discharge. Sometimes, the debt is simply not dischargeable (i.e., a child support obligation, damages from an accident caused by the debtor while under the influence, etc.). But other times, the debtor does not fall into the category of the "honest, but unfortunate" debtor that seeks the protection of the bankruptcy court. Generally, either these debtors have lied to creditors prior to the bankruptcy, or they have lied about their financial history and status during the bankruptcy.
At Spilman, we have recommended litigation aimed at preventing the discharge of debtors and their debts in several situations. While this litigation must be used wisely, and sparingly, it is an oft-overlooked tool in the bankruptcy litigator's toolkit. If one believes that a debtor may be concealing assets, or if one believes a debtor may be collectible immediately after exiting bankruptcy or at any point thereafter, discharge litigation must be considered.
For a discerning creditor, the best way to ensure the table is set for this option in bankruptcy is to remain aggressive and detail-oriented from loan origination through renewals. Getting regular financial statements, tax returns, and other documents designed to comprehensively lay out a debtor's financial condition at various points in time remains the first critical step. Otherwise, when a creditor, trustee, or attorney look at a debtor's bankruptcy schedules, they have little reason to look closely. When, however, one starts to see discrepancies mounting between pre-petition financial documents and the bankruptcy schedules, a good bankruptcy litigator can begin to "set the traps" that they will later try to spring to remove the possibility of discharge.
Importantly, there are two avenues one can travel to attack a discharge. An individual creditor can argue that the specific debt owed to the creditor cannot be discharged, often because the debt was obtained through false pretenses or outright fraud. Either an individual creditor, a trustee, or another party in interest (including the United States Trustee) can attack the discharge generally for similar dishonesty. The former avenue allows a specific debt to pass through the bankruptcy while preserving the discharge injunction for all or most of the remaining debts. This plays to an individual creditor's advantage. Moreover, cases brought under this narrower relief can be settled for actual dollars.
On the other hand, objections to a debtor's discharge under the broader path leads to all debts passing through the bankruptcy. No individual creditor benefits more than any other (except the one(s) who win the "race to the courthouse"). Moreover, case law uniformly provides that attacks to the general discharge are such important facets of public policy that these cases cannot be settled but for rare circumstances where, for example, a United States Trustee settles for a sum of money that will benefit a common pool of creditors.
At Spilman, we have used all tools at our disposal to craft creative approaches to discharge litigation in bankruptcy courts to improve recovery for various clients. In some cases, we have been able to raise such persuasive issues that the United States Trustee's Office has joined in the litigation and help offset costs of information gathering, depositions, and the like. In those cases, we often find a debtor has been concealing far more assets than originally believed improving the recovery for our clients significantly.
If you think you have a case where you can attack the discharge of your debts or the general discharge of your debtors, whether you are a creditor, appointed trustee, or other party in interest, we likely have faced similar circumstances and can assist promptly. But be careful. Time is not on your side. The deadline to object is 60 days after the first date set for the initial meeting of creditors, and, absent an order extending that deadline before the deadline passes, parties in interest can no longer attack the discharge in all but the rarest of circumstances.