Disregarding ethical obligations can result in the denial of discharge of a debt owing by a lawyer, as demonstrated by a May 8 opinion from the Fifth Circuit. In substance, the lawyer converted a dischargeable debt into a nondischargeable debt by violating rules of professional ethics.
A lawyer neglected to file a lawsuit before the statute of limitations elapsed. Confessing his sin to the client, the lawyer offered to make good by giving her a note for $275,000, the value of the lawsuit. The lawyer said he had no malpractice insurance and no other way to pay her. The lawyer said he had a case that might pay out and enable him to make good on the note.
Almost two years later, and after the statute of limitations had elapsed on the client’s ability to mount a malpractice suit, the client filed suit in state court on the note. The lawyer responded by filing a chapter 7 petition.
The bankruptcy court ruled that the debt was nondischargeable under Section 523(a)(2)(A) for “an extension of credit . . . to the extent obtained by . . . false pretenses, a false representation, or actual fraud . . . .” The district court affirmed.
For the Fifth Circuit, Circuit Judge Edward C. Prado upheld the bankruptcy court, ruling first that the note was an extension of credit because it gave the lawyer more time to pay.
Judge Prado then turned to the question of whether there was actual fraud. To prove actual fraud, he said the client had to show that (1) the debtor made a representation, (2) that the debtor knew to be false at the time, (3) that was made with intent and purpose to deceive, (4) the creditor relied on the representation, and (5) the creditor sustained losses as a proximate result.
The significance of the opinion lies in Judge Prado’s holding that disobeying state rules of professional conduct represented the false representation required by Section 523(a)(2)(A).
The Louisiana Rules of Professional Conduct prohibit a lawyer from settling a malpractice claim without advising the client in writing “of the desirability” of obtaining independent legal advice. The debtor-lawyer never made the required disclosure to the client-creditor.
Judge Prado said that courts “have overwhelmingly held” that a “debtor’s silence regarding a material fact can constitute a false representation actionable under Section 523(a)(2)(A).” He relied in large part on a Tenth Circuit opinion holding that a failure to disclose a potential conflict of interest amounted to a false representation.
Having identified a false representation, Judge Prado massaged the record and encountered no errors in the bankruptcy court’s findings of fact to satisfy the other elements of a nondischargeable debt.