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SCOTUS Rules Bankruptcy Filers Can’t Avoid Debt Incurred By Another’s Fraud

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OPINION: This article may contain commentary which reflects the author's opinion.


The U.S. Supreme Court recently delivered a massive 9-0 decision that a California woman could not use U.S. bankruptcy code protection to avoid paying a $200,000 debt, which resulted from fraud by her partner.

“The court said that the woman, Kate Bartenwerfer, owed the debt even if she did not know about her husband David’s misrepresentations regarding the condition of a house when they sold it to San Francisco real estate developer Kieran Buckley for more than $2 million. Buckley had sued the couple and won a judgment for those misrepresentations,” CNBC reported at the time.

“The 9-0 decision written by Justice Amy Coney Barrett resolves a difference of opinion between several federal circuit appeals courts on the question of whether an innocent party can shield themselves from debt for another person’s fraud after filing for bankruptcy. The ruling cited and reinforces a Supreme Court decision in 1885, which found that two partners in a New York wool company were liable for the debt due to the fraudulent claims of a third partner even though they were not themselves ‘guilty of wrong.’ Barrett dismissed Bartenwerfer’s grammar-focused argument, which claimed that the relevant section of the bankruptcy code, written in the passive voice as ‘money obtained by fraud,’ refers to ‘money obtained by the individual debtor’s fraud,'” the outlet added.

“Innocent people are sometimes held liable for the fraud they did not personally commit, and, if they declare bankruptcy, [the bankruptcy code] bars discharge of that debt,” Barrett wrote. “So it is for Bartenwerfer, and we are sensitive to the hardship she faces.”

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“The Code makes several exceptions to the general rule, including the one at issue in this case: Section 523(a)(2)(A) bars the discharge of ‘any debt … for money … to the extent obtained by … false pretenses, a false representation, or actual fraud,’” Barrett wrote.

“Based on testimony from the parties, real estate agents, and contractors, the court found that David had knowingly concealed the house’s defects from Buckley,” Barrett wrote. “And the court imputed David’s fraudulent intent to Kate because the two had formed a legal partnership to execute the renovation and resale project.”

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After the ruling, Colorado became the latest state to “recognize that a borrower’s bankruptcy discharge does not accelerate secured installment debt or trigger the final statute of limitations period to recover the debt.”

Lexology reported:

The state supreme court reviewed the court of appeals’ holding that Colorado’s six-year statute of limitations to enforce the borrower’s mortgage loan debt began running upon the borrower’s bankruptcy discharge in 2012. Because six years lapsed since the purported statute of limitations commencement date, the court of appeals determined the lender was barred from enforcing the debt in any manner. However, the Colorado Supreme Court reversed the appellate court’s decision, holding a bankruptcy discharge cannot trigger acceleration or the running of the statute of limitations for installment payments that have not come due.

In reaching the decision, the state supreme court explained that in Colorado, a payment under a security agreement comes due on the date specified in the underlying contract — typically the promissory note and deed of trust. Accordingly, the statute of limitations period to collect the payment does not commence until the borrower misses the periodic payment. Security agreements with optional acceleration clauses allow the lender to accelerate any future payments’ due date, but the lender “must perform some clear, unequivocal affirmative act evidencing [its] intention to take advantage of the acceleration provision.” When the lender triggers the acceleration provision, all remaining payments become immediately due, and the lender’s cause of action for the entire debt accrues. The lender then has six years to enforce the debt before the statute of limitations period runs.

“This opinion is another in a line of cases from various states — including Arizona, Washington, and New York — holding bankruptcy discharge does not trigger the statute of limitations for installment debt. Troutman Pepper attorneys have been instrumental in developing important statute of limitations case law and defending against statute of limitations claims throughout the country,” the outlet added.

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