By: Donald L Swanson
“[T]he Supreme Court’s decisions evince a general skepticism about broad application of the Bankruptcy Code, which often has led to surprisingly narrow interpretations of relatively clear language,” which “challenges the common understanding of bankruptcy law as a domain of the Court’s plain-language interpretative practice.” [Fn. 1]
The Supreme Court justices are “more sympathetic towards and familiar with the legal systems that govern foreclosures, criminal penalties, corporate governance and the like than they are with the importance of a coherent bankruptcy regime.”[Fn. 2]
Here’s my translation of the forgoing quotes:
- Supreme Court justices don’t like bankruptcy, generally, and when the language of the Bankruptcy Code points to a result they don’t like, they are all-in on analytical gymnastics and violence to the text to achieve the preferred result—even when they claim to be textualists.
The foregoing quotes were penned two decades ago—in 2006. But, I submit, the quotes (i) are as accurate today as they were back in 2006, and (ii) apply with equal force to all the appellate overseers of our bankruptcy system who are generalists: i.e., the district courts, the courts of appeals, and the Supreme Court.
What follows are three major examples of post-2006 cases that illustrate what the foregoing quotes are saying.
Bartenwerfer
Bartenwerfer v. Buckley, 598 U.S. 69 (2023), holds that a debtor can be denied a discharge for the fraud of someone else, even when the debtor had no knowledge of or involvement in that fraud. The Court relies upon a “passive voice in §523(a)(2)(A)” to import the common law of agency into the § 523 analysis to achieve the desired result.
The Supreme Court’s unanimous holding rejects the centuries-old concept of bankruptcy laws protecting the “honest but unfortunate debtor” and ignores the long-standing rule that statutory exceptions to discharge are to be “strictly construed” in favor of the debtor to enable a fresh financial start.
Cantwell-Cleary
The Chapter 11 bankruptcy regime Congress established has always provided, by clear statutory language, that the discharge exceptions in § 523(a) apply only to an “individual debtor” and not to a corporate entity. Then, at enactment of Subchapter V, Congress incorporated the § 523(a) discharge exceptions into Subchapter V by reference.
Bankruptcy judges who initially ruled on § 523(a)’s application to corporate debtors understood perfectly that Congress incorporated § 523(a)’s “individual debtor” limitation into Subchapter V without alteration. But, then, the Fourth Circuit Court of Appeals got ahold of the issue in Cantwell-Cleary.[Fn. 3]
The Fourth Circuit did not like the statutory language in § 523(a) that explicitly applies discharge exceptions only to “an individual debtor.” So it embarked upon a tortuous path to a contrary result. It relied upon the unsupported and unsupportable idea that Congress hid various trade-offs within the language of the new statute for the courts to find—as a way to “balance” the new law.
And the Fourth Circuit found the hidden gems it was seeking. The Court said:
- “Given the elimination of the absolute priority rule, Congress understandably applied limitations on the discharge of debts to provide an additional layer of fairness and equity to creditors to balance against the altered order of priority that favors the debtor”; and
- “To make a distinction between individuals and corporations for how Subchapter V is applied would not only undermine that balance, but would also make no sense and indeed would create perverse incentives.”
36 F.4th at 517.
Hertz
The Hertz bankruptcy case is currently before the U.S. Supreme Court on this question: whether a promise to pay future interest on a paid-off loan can be enforced in a solvent-debtor case, despite the prohibition in § 502(b)(2) against recovering “unmatured interest.”[Fn. 4] In the opinion below,[fn. 5] the Third Circuit found that, (i) the claims in question are for “unmatured interest,” but (ii) old bankruptcy law authorizes allowance of such claims, despite the clear statutory language of the Bankruptcy Code. The Third Circuit did so by starting with this policy choice:
- “[D]oes the Bankruptcy Code as a whole nonetheless require solvent debtors to pay unimpaired creditors interest accruing post-petition at the contract rate?”
- “It is a technical question of bankruptcy law, and we give that issue its nuanced due below”:
- “We can rephrase it in a way that makes the answer predictable”:
- “Can Hertz use the Bankruptcy Code to force the Noteholders to give up nine figures of contractually valid interest and spend that money on a massive dividend to the Stockholders?”
- “The answer is no.” (120 F.4th at 1197).
And the Third Circuit identified the legal grounds for ignoring the plain language of § 502(a)(2) like this (emphasis added):
- “As the Supreme Court told us more than a century ago, ‘the rule is well settled that stockholders are not entitled to any share . . . until all the debts of the corporation are paid.’ Chi., Rock Island & Pac. R.R. v. Howard, 74 U.S. 392, 409-10 (1868).” (Id.)
In 1868, the current Bankruptcy Code was not in effect, nor was its predecessor—the Federal Bankruptcy Act of 1898. The bankruptcy statutes operative in 1868 existed for only eleven years: from 1867 to 1878—and no bankruptcy statute existed for the next two decades. That’s the basis for upending clear language of the existing Bankruptcy Code? Seriously?! Heck . . . 1868 was only a few decades removed from the existence of debtors’ prisons in these United States!
Conclusion
This is a truism: nobody likes bankruptcy.
But it’s truly unfortunate when the generalist, appellate overseers of our bankruptcy system use their own dislikes and biases to override clear and direct language in the Bankruptcy Code.
And that’s especially troubling when the jurists claim to be textualists.
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Footnote 1. Ronald J. Mann, The Supreme Court, the Solicitor General, and Bankruptcy: BFP v. Resolution Trust Corporation, U OF TEXAS LAW, LAW & ECONOMICS RESEARCH PAPER NO. 84, at 1 (2006).
Footnote 2. Id., at 24, n. 80.
Footnote 3. The opinion is Cantwell-Cleary Co. v. Cleary Packaging, LLC, 36 F.4th 509 (4th Cir. 2022).
Footnote 4. 11 U.S.C. § 502(b)(2) provides in part: “(b) . . . the court . . . shall allow such claim in such amount, except to the extent that— . . . (2) such claim is for unmatured interest.”
Footnote 5. Wells Fargo Bank, N.A. v. Hertz Corp. (In re Hertz Corp.), 120 F.4th 1181 (3rd Cir. 2024).
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