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U.S. Supreme Court Determines a Fraudulent Debt Cannot Be Discharged, Regardless of Debtor’s Culpability

 

 

In Bartenwerfer v. Buckley, 598 U.S. __ (2023), the United States Supreme Court, in a unanimous opinion authored by Justice Amy Coney Barrett, determined that a debtor could not discharge a judgment debt because the “debt arises from the sale proceeds obtained by … fraudulent misrepresentations.” Case at p. 4.

In 2005, the debtor, Kate Bartenwerfer, and then-boyfriend David Bartenwerfer, jointly purchased a San Francisco home in order to remodel and resell the house as business partners. Id. at p. 1. David Bartenwerfer was in charge of the project while Kate Bartenwerfer was largely uninvolved. Id. at pp. 1-2.

They would sell the house to Kieran Buckley, “attesting that they had disclosed all material facts relating to the property.” Id. Nevertheless, Buckley would later discover defects that were not disclosed by the Bartenwerfers. Buckley sued the Bartenwerfers in California state court, alleging that he had “overpaid in reliance on the Bartenwerfers’ misrepresentation.” Id. at p. 2. The jury would decide in Buckley’s favor, awarding him $200,000.00 in damages. Id.

Unable to pay Buckley, or their other creditors, the Bartenwerfers filed for Chapter 7 bankruptcy, seeking discharge of their debts. Buckley filed an adversary complaint before the bankruptcy court, arguing that his judgment against the Bartenwerfers was not dischargeable under Section 5239a)(2)(A) of the Bankruptcy Code because the judgment “ar[o]se from the sale proceeds obtained by David’s fraudulent misrepresentations.” Id. at p. 4.

Buckley won in the Bankruptcy Court, which found that both David and Kate Bartenwerfer were barred from discharging the debt. The Ninth Circuit’s Bankruptcy Appellate Panel (“BAP”) affirmed the Bankruptcy Court as to David, but reversed as to Kate, finding that she was not barred from discharge unless “she knew or had reason to know of David’s fraud.” Id. at p. 3. The United States Court of Appeals for the Ninth Circuit reversed the BAP, determining that Kate, as David’s business partner, could not discharge the debt, regardless of her own culpability. Id.

The question before the U.S Supreme Court was whether Section 523(a)(2)(A) bars Kate from discharge of the fraudulent debt if she was not herself culpable for the fraud.

Section 523(a)(2)(A) provides as follows:

“A discharge under section 727 … of this title does not discharge an individual debtor from any debt …

“(2) for money, property, services, or an extension, renewal, or refinancing of credit, to the extent obtained by –

“(A) false pretenses, a false representation, or actual fraud, other than a statement respecting the debtor’s or an insider’s financial condition.”

Much of the Supreme Court’s discussion focused on the question of the “passive voice” of the relevant provision. Case at p. 5. Kate Bartenwerfer argued, for example, that an ordinary reading of the text would suggest that “money obtained by fraud” meant “money obtained by the individual debtor’s fraud.” Id. at p. 5 (emphasis in original).

The Supreme Court rejected this argument, finding instead that an ordinary reading of the text instead suggested that “money obtained by fraud” was not limited to an individual debtor’s fraud. Indeed, the Supreme Court cited precedent indicating that it had already come to this conclusion. In Dean v. United States, 556 U.S. 568, 572 (2009), the Supreme Court found that the passive voice suggested that Congress intended to “focu[s] on an event that occurs without respect to a specific actor, and therefore without respect to any actor’s intent or culpability.” Further, in Watson v. United States, 552 U.S. 74, 81 (2007), the Supreme Court found that while the debt “must result from someone’s fraud,” Congress “was agnostic about who committed it.”

While the statutes historically seemed to imply that the nondischargeability of a fraudulent debt is based on whether the debtor was culpable, the Court found in Strang v. Bradner, 114 U.S. 555, 561 (1885) that all three business partners were barred from discharging a fraudulent debt caused by one of the partners. After the Supreme Court’s decision in Strang, Congress specifically removed the pre-existing language which focused on the individual debtor’s fraud, signaling to the Supreme Court that Congress intended to focus on the “event” of fraud rather than the culpability of a single actor. Case at pp. 9-10.

From this, the U.S. Supreme Court determined that Kate Bartenwerfer was barred from discharging the judgment debt, regardless of her culpability in committing the fraud.

In a one-page concurring opinion, Justice Sonia Sotomayor, joined by Justice Ketanji Brown Jackson, concurred with the majority. However, they indicated that they only concurred based on the understanding that the relevant text of the Bankruptcy Code would bar debtors for fraudulent debts if the fraud was committed by the debtor’s “agents” or the debtor’s “partners within the scope of the partnership.” Concurrence at 1.

 

 

February 23, 2023

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