Archive for March, 2012

Recovering Legal Fees and Costs for Bankruptcy Clients When Defending Non-Dischargeability Actions

Tuesday, March 20th, 2012

            Non-dischargeability actions by a creditor against a bankruptcy debtor are somewhat rare, but when they occur, the legal fees and costs involved in defending against such an action can be prohibitive. Most debtors in a bankruptcy case will never need to confront a non-dischargeability action under 11 U.S.C. §523(a), but for clients with more complex bankruptcy cases under Chapters 7, 11, or 13, or for clients who have made significant pre-bankruptcy transactions, such actions often are more frequent and must be addressed. At Nova Law Group, we feel that keeping legal costs to as low a level as possible during bankruptcy litigation is just as important as representing the client in the best possible manner given the circumstances of the case. This article will discuss methods in which non-dischargeability actions can be defended in a cost effective manner for bankruptcy clients.

            Most non-dischargeability actions against a debtor are based upon either specific allegations of fraud, under 11 U.S.C. §523(a)(2)(A-B), or a presumption of statutory fraud under 11 U.S.C. §523(a)(2)(C). While the specifics of defending against this type of action for a client is discussed in the article “What is a Non-Dischargeability Action?” (also on this website), it is important to note that any non-dischargeability action must allege sufficient facts to state a claim under one or more sections of 11 U.S.C. §523, and that even if a presumption of fraud is alleged to be applicable under 11 U.S.C. §523(a)(2)(C), that such presumption may be rebutted.

            For example, many junior attorneys often ask the managing attorney of our firm if they should settle an action on behalf of a client with a creditor, merely because such creditor claimed that the “client made luxury purchases within the 90 day period prior to filing bankruptcy.” Typically, such allegations by a creditor are made without any specific facts alleged as to which purchases made were fraudulent prior to bankruptcy, when the fraudulent charges were made, where they were made, and why such purchases might be considered “luxury goods” under 11 U.S.C. §523(a)(2)(C)(i)(I) for purposes of the statutory presumption. Many creditors attempt to make blanket claims of fraud against the debtor which lack substantive merit, thinking that most bankruptcy debtors will never challenge the action, or will settle to avoid paying legal fees and costs to the debtor’s bankruptcy lawyer.

            Accordingly, it is a fair question to ask how a bankruptcy client can afford to pay his or her bankruptcy attorney to defend a meritless non-dischargeability action against the client in a cost-effective manner. The answer is often the statutory language provided in 11 U.S.C. §523(d), which allows for bankruptcy debtors to receive reimbursement for attorney fees and costs from the creditor that sued them, at least where the debtors can prove that such action was meritless (as it often is).

            The bankruptcy code states under 11 U.S.C. §523(d) that a bankruptcy debtor can recover attorney’s fees and costs from a creditor that sued such bankruptcy debtor unsuccessfully, if the court finds that the suit filed by the creditor was not “substantially justified,” unless “special circumstances” would make the award of such fees and costs unjust. 11 U.S.C. §523(d) (2012). Essentially, to obtain an award against a creditor for fees and costs in the non-dischargeability action, the bankruptcy debtor must not only win the case, but also convince the judge that the creditor’s original suit in bankruptcy court had no merit to begin with, and that the creditor can afford to pay the legal fees and costs if awarded. While this might seem like a difficult task in most situations, in reality, most non-dischargeability actions filed are objectively meritless and often insufficient to meet federal pleading requirements. As a result, it is often a good idea for a debtor’s bankruptcy attorney to file motions to dismiss meritless actions under Federal Rules of Civil Procedure 12(b)(6), rather than answer a meritless complaint, as a victory at the motion to dismiss stage will often mean that the court views such complaint as not “substantially justified,” and legal fees and costs will be much easier to obtain. Fed. R. Civ. Proc. 12(b)(6) (2012). In essence, it is much easier to argue that a creditor’s action is not “substantially justified” when the court itself has dismissed the action for failure to state a claim multiple times, as it will be difficult for a creditor to argue that its action “was substantially justified” under 11 U.S.C. §523(d) if the court already found the action to be “insufficient to state a claim for relief.” Additionally, it is the experience of Nova Law Group that most creditors’ attorneys have no idea how to litigate a motion to dismiss adequately, and as a result, often will settle such actions in a manner favorable to the bankruptcy debtor when confronted with skilled opposition from the debtor’s bankruptcy attorney.

            In conclusion, a client should always be sure that the bankruptcy attorney representing him or her is aware of the necessary steps to effectively defend against a non-dischargeability action, as well as the cost-saving provisions of 11 U.S.C. §523(d) for recovery of attorney’s fees and costs in such an action. This provision can not only serve as a very significant cost-savings to a bankruptcy client, but also can operate as a significant deterrent to any creditor contemplating an action in bankruptcy court against the debtor. If you would like to learn more about effective representation of bankruptcy debtors in non-dischargeability actions or would like to consult with a Nova Law Group attorney regarding your individual situation, feel free to contact a bankruptcy attorney of our office and we will be happy to assist you.

What is a Non-Dischargeability Action?

Saturday, March 10th, 2012

              The vast majority of all debts in bankruptcy are discharged (eliminated) for most debtors in Chapter 7 and Chapter 13, but there are exceptions. Indeed, the main purpose of filing a bankruptcy case is to eliminate or substantially reduce debt owed by the bankruptcy debtor and give such debtor a fresh start, clear of the prior liabilities that once plagued his financial life. However, there are some types of debts called “non-dischargeable debts,” which are not eliminated when the debtor receives his or her bankruptcy discharge. Some of the debts that are often non-dischargeable in bankruptcy include child support, very recent tax debts, debts for drunk driving claims against the debtor, and debts owed an ex-spouse based on a marital separation agreement or divorce. Additionally, sometimes debts that would normally be dischargeable (eliminated), can be rendered non-dischargeable based on the circumstances surrounding how the debt was incurred or the behavior of the bankruptcy debtor prior to filing the case. This article will focus on describing certain situations in which an otherwise dischargeable debt might be rendered non-dischargeable on the basis that the debtor’s conduct was fraudulent, materially misrepresentative, malicious, or otherwise in bad faith.

            The bankruptcy code lists several factors that are analyzed by a bankruptcy court in determining whether or not a certain debt, which otherwise would be dischargeable, should be rendered non-dischargeable on the basis of the debtor’s conduct prior to the filing of the case. Most of these factors are encompassed in 11 U.S.C. §523, and include fraud, material misrepresentation, intentional malice, and certain criminal behavior. Often these allegations will be raised by a creditor of the debtor and will assert that a certain debt owed the creditor should be non-dischargeable (not eliminated in bankruptcy) on the basis that the debt was procured by fraud, misrepresentation, or some other bad faith action on the part of the debtor. For example, it is sometimes the case that credit card companies who loaned a bankruptcy debtor money within 90 days prior to the time that the bankruptcy debtor filed the case, will claim that such debtor knew that he or she was going to eliminate the credit card debt borrowed from the company, and accordingly, that such credit card debt should be non-dischargeable after the bankruptcy case ends. The credit card company often alleges that such credit card charges were incurred fraudulently, as the bankruptcy debtor represented that she would pay the credit card company back on the money borrowed, but then allegedly never actually intended to, knowing all along that she would file her subsequent bankruptcy case.

            While some bankruptcy clients might normally be concerned that several creditors might commonly challenge the dischargeability of certain debts, in practice, these suits are relatively rare. Part of the reason for the rarity of these actions in most circumstances is that “intent” to commit fraud or misrepresentation is often very difficult to prove. Accordingly, some creditors use what are called “statutory claims” to establish a case for fraud or misrepresentation against the debtor, as the bankruptcy code itself lists certain actions and/or purchases made by the debtor that are presumptively non-dischargeable. For example, using a credit card to pay a non-dischargeable tax claim makes the credit card debt used to pay on the claim non-dischargeable itself. Likewise, luxury goods of more than $600 incurred within 90 days prior to the filing of the bankruptcy case and cash advances taken of more than $875 within 70 days of the filing of the bankruptcy case are presumed non-dischargeable.

            A creditor could theoretically proceed against the debtor under 11 U.S.C. §523(a)(2)(A) or 11 U.S.C. §523(a)(2)(B) without any statutory basis for claiming that the debt owed the particular creditor is non-dischargeable, but it is often much more difficult to prove intent to defraud or misrepresent a material fact without a statutory presumption stating that a certain act of the bankruptcy debtor constitutes fraud. When a creditor does proceed without a statutory basis for alleging fraud however, a creditor usually cites to relevant case law establishing certain types of acts of the debtor that tend to indicate fraud. There is a detailed list of factors that bankruptcy courts in the 9th Circuit typically look at to determine non-dischargeability in the case of In re Dougherty, 84 B.R. 653 (9th Cir. BAP 1988). Generally, as long as the bankruptcy debtor intended no bad faith with regard to the purchases and intended to repay such debt at the time it was incurred, the creditor will tend to lose these actions where there is no statutory claim for non-dischargeability that applies to debtor’s circumstances. Nonetheless, it is very important for a bankruptcy client to inform her attorney if she has incurred substantial debt within the 90 days preceding a bankruptcy case filing, and possibly even before this time period if such debt was very substantial or out of the ordinary relative to the bankruptcy client’s typical circumstances.

            While it is possible for a creditor to allege that a specific debt owed that creditor by the debtor is non-dischargeable, it is important to note that even if such action by the creditor is successful, it is only that particular debt that becomes non-dischargeable. In other words, the debtor is still entitled to a discharge of all other dischargeable debts in the case, even if the bankruptcy court rules in a particular creditor’s favor with regard to a certain debt.

            It is the opinion of Nova Law Group that most non-dischargeability actions filed against debtors are objectively meritless and should be vigorously litigated when such actions are pursued without substantial evidence against the debtor or without statutory claims being credibly alleged. Our firm has substantial expertise in litigating these types of actions, including on appeal, and we invite prospective clients who are considering a defense against a non-dischargeability action to contact an attorney at our office, who will be happy to assist you.