Bankruptcy & Creditors' Rights Bulletin: March 2015

March 16, 2015

The Bankruptcy and Creditors' Rights Bulletin provides an analysis of legal issues, recent court decisions and significant changes in bankruptcy and creditors' rights law. This edition highlights two key bankruptcy issues related to general civil litigation.

What Litigators Need to Know About Bankruptcy: The Automatic Stay - First in a Series

When a bankruptcy petition is filed, an automatic stay operates as a self-executing injunction that prevents creditors from pursuing collection efforts against the debtor or the property of the debtor's estate for pre-petition debs. Campbell v Countrywide Home Loans, Inc., 545 F.3d 348, 354-355 (5th Cir.2008). The automatic stay also stops the commencement or continuation, including the issuance or employment of process, of a judicial, administrative, or other action or proceeding against the debtor that was or could have been commenced before the commencement of the case under this title...11 U.S.C.A. § 362 (West). At any time, during any litigation, one of the parties may file bankruptcy. If this hasn't happened already in your practice, it will. When the defendant or counter defendant files a bankruptcy petition the day before your case goes to jury, you don't need to know everything about the automatic stay, but you should be aware of the following:

Ten things litigators should know about the automatic stay:

  1. The automatic stay stops litigation over claims against the debtor.
  2. The automatic stay applies to claims that arose before the bankruptcy was filed, or "pre-petition" claims.
  3. The automatic stay stops claims against property of the debtor's bankruptcy estate, as well as claims against the debtor. As a result, the stay may apply to stop a suit against a subsidiary of a debtor.
  4. The automatic stay goes into effect with or without notice to the creditor or other party to the litigation.
  5. The automatic stay does not stop the debtor from pursuing claims in which it is the plaintiff or counter plaintiff.
  6. A party willfully violating the automatic stay is subject to a private right of action by the debtor for actual and punitive damages, including litigation expenses and attorneys' fees and contempt of court.
  7. Actions taken in violation of the automatic stay are voidable.
  8. A party in a lawsuit involving a debtor may ask the bankruptcy court to terminate, annul, modify or condition the automatic stay.
  9. The automatic stay does not apply to any criminal action against the debtor.
  10. The automatic stay does not apply to paternity, domestic support, domestic violence or child custody matters.

If you have any doubt about whether the automatic stay prohibits any action you contemplate in litigation involving a bankruptcy debtor, you should make sure the judge in your litigation is aware of the bankruptcy filing and seek a determination from the bankruptcy court as to whether the stay applies.

The Use of Judicial Estoppel Resulting From A Plaintiff’s Failure to Disclose The Subject Litigation In a Prior or Pending Bankruptcy Case

Many lawyers may think of bankruptcy as a “dark art[1]” and the existence of a bankruptcy filing associated with your case as a purely negative event. However, bankruptcy cases are chock full of information (much of it sworn) which may provide you with free discovery of facts that may be helpful to your case. Moreover, if your plaintiff filed a bankruptcy case and failed to disclose to the bankruptcy court the existence of the lawsuit you are defending, you may be able to have the lawsuit dismissed based upon the doctrine of judicial estoppel.

Judicial estoppel is typically defined as an equitable doctrine that precludes a party from asserting a claim in a legal proceeding that is inconsistent with a position taken successfully by that party in a prior proceeding. This doctrine has been applied fairly uniformly by courts in the most federal circuits to bar a plaintiff from maintaining a lawsuit that the plaintiff failed to disclose in the relevant bankruptcy case. The public policy underlying this rule of law is that the duty of the debtor to disclose all assets and potential assets in a bankruptcy case is paramount. As the 11th Circuit stated in Burnes v. Pemco Aeroplex, Inc., 291 F. 3d 1282 (11th Cir. 2002). “the importance of full and honest disclosure [in a bankruptcy proceeding] cannot be overstated.”

The elements of a successful judicial estoppel argument include the following: (1) the inconsistent position in the prior proceeding (failure to disclose the lawsuit in the bankruptcy case) must be made under oath. This is usually not a problem because the plaintiff/debtor must make its disclosures of assets and liabilities in bankruptcy under penalty of perjury.

(2) the inconsistencies must be shown to have been calculated to make a mockery of the judicial system. This second element effectively requires the defendant to show that the plaintiff intentionally concealed or knowingly failed to disclose the lawsuit. This element can be satisfied by showing that the Debtor had knowledge of the claim and had motive to conceal the lawsuit.

Most successful judicial estoppel cases pertaining to a failure to disclose the lawsuit in a prior bankruptcy case involve situations in which the plaintiff/debtor obtained a bankruptcy discharge or confirmation of a Chapter 13 plan without disclosing the lawsuit and then attempts to prosecute the lawsuit for the Debtor’s own benefit, leaving the creditors hung out to dry. Judicial estoppel arguments of this ilk are usually won at the summary judgment stage.

Many times when faced with a judicial estoppel argument, the plaintiff/debtor attempts to “un-ring the bell” by urging the litigation court to allow the plaintiff to make amendments in the relevant bankruptcy case to disclose the lawsuit after getting caught concealing the lawsuit. One court very soundly rejected such an argument saying “the success of our bankruptcy laws requires a debtor’s full honest disclosure. Allowing [plaintiff] to back-up, re-open the bankruptcy case, and amend his bankruptcy filings only after his omission has been challenged by an adversary suggests that a debtor should consider disclosing potential assets only if he is caught concealing them.”

Judicial estoppel can be a very powerful tool, but like many legal doctrines can be nuanced and may apply differently to different facts and circumstances. Also, if you are in state court, you will need to be aware and mindful of differences in judicial estoppel standards that may vary from jurisdiction to jurisdiction.

Please feel free to call or e-mail me if you have any question or comments.         

[1]Credit is due to our own Larry Ingram for coining the phrase “the dark art of bankruptcy.”