Collateral Damage Dischargeability of Environmental Cleanup Consent Order

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Apr 2002

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For a recent property owner, an environmental consent decree was not as easily
forgotten as he might have wanted it to be after he filed a bankruptcy petition. In
<a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… v. LaRoche, 277 F.3d 568 (1st Cir. 2002)</a>, the First
Circuit Court of Appeals heard an appeal by the Rhode Island attorney general and
the director of the Rhode Island Department of Environmental Management, which
challenged certain rulings from the district court that held that the chapter 7
discharge granted to the property owner, David LaRoche, eliminated LaRoche's obligations
to Rhode Island for its costs in remediating water contamination on LaRoche's property
and for related civil penalties.

LaRoche's troubles began when citizen lawsuits, in which the appellants joined, were
brought against him for violations of the <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… Water Act, 33 U.S.C.
§1251</a>, et seq., and the <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… Island Water Pollution Control Act, R.I.
Gen. Laws §46-12-1</a>, et seq. The district court awarded remedial damages against
LaRoche, but the amount remained unresolved.

An involuntary chapter 11 proceeding was brought against LaRoche in January
1991, an order for relief was entered in February 1991, and the chapter 11
trustee was appointed on June 4, 1991. During that time, the Clean Water
Act/Rhode Island Water Pollution Control Act action settled, and the district court
entered a consent decree that stated, inter alia, "[T]he intention of the parties is
to resolve any pending disputes arising out of this matter. The only responsibilities
and obligations that will survive are those set forth in this stipulation." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…;
277 F.3d at 571</a>.

A settlement fund from the state and the former property owners was created to
acquire adjacent land to construct a new waste water collection and treatment facility.
"Any excess acreage, over and above that required for the new facility, was to be
sold to cover related project costs." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; LaRoche agreed to reimburse the state for
the difference between 90 percent of the cost of the new waste water collection and
treatment facility and the net proceeds from the sale of any excess acreage (the
"shortfall amount"). LaRoche made additional promises to:

<ul>
<li>"affirm his obligation to pay the [shortfall amount], to the extent then
unpaid, as a debt not discharged in any bankruptcy proceeding in which he is
the bankrupt whether now pending or hereafter filed." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…;

</li><li>"procure an order of the U.S. Bankruptcy Court for the District of Rhode
Island in [his involuntary bankruptcy proceeding] affirming his obligation to pay
the [shortfall amount] and to perform his other obligations hereunder." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…;

</li><li>proceed "expeditiously" and "in good faith" with his obligations under the
consent decree. (All parties agreed to this particular provision).
</li></ul>

The consent decree further provided:

<blockquote>
LaRoche hereby agrees to the imposition of a civil penalty under the Rhode
Island Water Pollution Control Act and regulations issued thereunder equal to
the [shortfall amount]. DEM and the Attorney General agree that the imposition
of such civil penalty will be stayed for so long as LaRoche complies with his
obligations under §II.3.C of this stipulation [viz., to seek reaffirmation
of his obligation to pay this debt in his involuntary bankruptcy case] and/or
for so long as any order procured from the bankruptcy court under §II.3.D.
[viz., an order approving LaRoche's reaffirmation of his pre-petition debt]
remains in effect. LaRoche specifically agrees that the civil penalty imposed
hereunder constitutes a debt for a fine, penalty or forfeiture payable to and
for the benefit of a governmental unit, is not compensation for actual
pecuniary loss and is specifically non-dischargeable under 11 U.S.C.
[§]523(a)(7).

</blockquote>

<a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at 571-72</a> (emphasis added in court opinion). The district court explicitly
retained "continuing jurisdiction over this stipulation and the performance of the parties
hereto." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at 572</a>.

The chapter 11 proceeding was converted to chapter 7 on Aug. 1, 1994,
and LaRoche was granted a chapter 7 discharge pursuant to <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… U.S.C. §727</a> on
March 3, 1995. However, LaRoche never submitted a motion to reaffirm the
shortfall amount indebtedness until April 10, 1997. Apparently, the motion
to reaffirm was not timely enough for the bankruptcy court because it rejected the
motion. However, the court gave parties opposing the order rejecting the motion 10
days from the entry of the order to "'file a motion under Fed. R. Bankr. P.
9023 to alter and amend this order.'" <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at 572</a>. The appellants neither
attended the hearing on the motion nor did they submit a Rule 9023 motion to the
bankruptcy court. Instead, the appellants filed a motion with the district court,

which had continuing jurisdiction over the consent decree, "seeking a judicial declaration
that LaRoche had breached the reaffirmation agreement, thereby rendering himself liable
for the alternative civil penalty in a sum equal to the 'shortfall amount,' estimated
at more than one million dollars." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at 572</a>.

LaRoche responded in the district court by stating that "(i) the consent decree
was void and unenforceable due to appellants' failure to comply with the prerequisites
of reaffirmation, see <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=… Code §524(c), 11 U.S.C. §524(c)</a>, and
(ii) consequently, the general discharge he was granted relieved him of all
liabilities, including those asserted by appellants." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…;

The appellants argued that the civil penalty against LaRoche was non-dischargeable
as a matter of law pursuant to Bankruptcy Code §523(a)(7), which provides that
a chapter 7 discharge does not discharge an individual debtor from any debt "to the
extent such debt is for a fine, penalty or forfeiture payable to and for the benefit
of a governmental unit, and is not compensation for actual pecuniary loss..." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…
U.S.C. §523(a)(7)</a>. The appellants argued that the civil penalty described in
the consent decree was "expressly defined...as a fine payable to and for the benefit
of a governmental unit, rather than as compensation for actual pecuniary loss." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…;

at 572</a>.

The district court found that the consent decree's civil penalty description as a
non-dischargeable civil penalty was not conclusive. Therefore, the district court stated
that the appellants should have protected their rights by submitting a proof of claim
and by bringing an adversary proceeding to obtain a bankruptcy court ruling that the
LaRoche indebtedness for the shortfall amount was a non-dischargeable civil penalty.
Because the appellants had done neither of those actions, the district court found
that the chapter 7 general discharge granted to LaRoche in the bankruptcy court
"presumptively discharged the civil penalty" in the shortfall amount as contemplated by
the consent decree. <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at 573</a>. The First Circuit court found that the district
court erred, as a matter of law, in ruling that the appellants forfeited their rights
by not commencing an adversary proceeding to determine the dischargeability of the debts
while LaRoche's bankruptcy proceeding was pending.

<h3>Two Distinct Debts</h3>

The circuit court pointed out that under the consent decree, LaRoche became liable
for two distinct debts: (1) the non-penalty shortfall debt and (2) the contingent
civil penalty. These two debts "implicate two distinct dischargeability 'exceptions:'"
(1) the reaffirmation agreement and (2) the §523(a) enumerated exceptions to
discharge. <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at 574</a>.

The court described the process by which "a debtor represented by counsel may
reaffirm any lawful debt by entering into a written reaffirmation agreement which strictly
comports with the criteria prescribed in Bankruptcy Code §524(c)." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; "An
entirely voluntary, fully informed reaffirmation agreement meeting the demanding
requirements of Bankruptcy Code §524 enables a creditor to undertake all lawful
efforts to recover a reaffirmed debt as though no petition in bankruptcy had been
filed... Otherwise, a reaffirmation agreement is void and unenforceable." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at
575</a> (citations omitted).

The court noted that the non-penalty shortfall debt "presumptively constituted a
dischargeable debt—that is, one which could not be excepted from discharge unless
LaRoche entered into a valid agreement to reaffirm it." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; The second
dischargeability "exception" implicated by this case arises from the appellants' argument
that the contingent civil penalty is non-dischargable pursuant to one of the enumerated
exceptions to discharge in Bankruptcy Code §523(a).

Motions to reaffirm may only be filed by debtors, but an adversary proceeding to
determine the dischargeability vel non of a debt under Bankruptcy Code §523(a)
may be commenced by either a debtor or a creditor.

Here, the court found that the consent decree's provision, whereby LaRoche promised
to submit a subsection 524(c) motion to reaffirm the pre-petition obligation to
reimburse the appellants for the shortfall amount, was not enforceable. The court found
that the consent decree failed to contain some of the requirements for reaffirmation as
provided in §524(c) of the Bankruptcy Code. The consent decree did not include
(1) "the requisite clear and conspicuous statement either informing LaRoche that he
could rescind the reaffirmation agreement or that reaffirmation was not obligatory under
either the Bankruptcy Code or applicable non-bankruptcy law, nor (2) a
"representation that reaffirmation would not cause LaRoche 'undue hardship.'" <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at
576</a>.

The First Circuit found that the district court erred in ruling that the
appellants' right to recover the contingent civil penalty was forever forfeited because
of the appellants' (1) failure to participate in the reaffirmation proceeding in order
to move for an amendment to the bankruptcy court order disallowing the reaffirmation
and/or (2) failure to bring an adversary proceeding to determine that the contingent
civil penalty was non-dischargeable pursuant to Bankruptcy Code §523(a)(7).

Creditors seeking a dischargeability determination under Bankruptcy Code
§523(a)(2), (4), (6) or (15) must bring a timely adversary proceeding
or the non-dischargeability issue is deemed waived. Creditors asserting the
§523(a)(7) exception to discharge "may seek a non-dischargeability determination
in the bankruptcy court, but are not required to do so." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; The First Circuit
court noted that the bankruptcy court order disallowing LaRoche's motion to reaffirm
"never purported to resolve the altogether distinct matter relating to the dischargeability
of the contingent civil penalty under Bankruptcy Code §523(a)(7)." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at
577</a>. The appellants were not precluded from litigating the §523(a)(7)
non-dischargeability issue at a later time in an appropriate bankruptcy forum like the
one chosen—the U.S. District Court for the District of Rhode Island (which had
continuing jurisdiction over the implementation of the consent decree).

The First Circuit held that:

<blockquote>
[w]here an asserted exception to discharge relies upon none of the four waivable
exceptions to discharge...the jurisdiction of the bankruptcy court is concurrent,
hence nonexclusive. And since any creditor may opt to litigate, in an
appropriate non-bankruptcy forum, its asserted entitlement to an exception from
discharge, a debtor's voluntary waiver of objection to such a dischargeability
exception in a non-bankruptcy forum would appear to offend no established policy
fostered by the Bankruptcy Code... Thus, we can discern no sound reason that
LaRoche, like any other litigant who knowingly and voluntarily stipulates to
judgment, should not be bound by the obligations undertaken in the consent
decree, which obligations plainly constituted the consideration that prompted
appellants to settle their non-dischargeability action against him.
</blockquote>

<a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at 578</a>.

The First Circuit concluded that "because the district court plainly possessed
concurrent jurisdiction over the §523(a)(7) dischargeability issue in 1991 when
it approved the consent decree, LaRoche cannot now be heard to contend that the
general discharge he was granted in 1995 relieved him of liability for the civil
penalty." <a href="http://www.westlaw.com/find/default.asp?rs=CLWP2.1&vr=1.0&cite=…; at 579</a>.

<h3>Conclusion</h3>

LaRoche, although it has an interesting failed reaffirmation agreement twist,
primarily reinforces the current trend of courts to prevent discharging debtors'
environmental liability. LaRoche, like many other debtors faced with significant
environmental liability, discovered that bankruptcy is generally no longer a viable way
for someone to clean up environmental obligations.

<blockquote>
Author's Note:
An excellent environmental/bankruptcy law article is featured in the
Winter 2001 issue of the ABI Law Review. Toxins-Are-Us readers will find that
the article, "Claims Estimation and the Use of the 'Cleanup Trust' in Environmental
Bankruptcy Cases," written by Francis E. Goodwyn, offers scholarly insight to the
complexities of environmental claims in bankruptcy.

Journal Authors

John W. Ames

Tracy M. Sullivan

Journal Date

Monday, April 1, 2002 - 12:00

Bankruptcy Rule

2002