The Ninth Circuit ruled in April that a good faith belief that an action does not violate the discharge injunction precludes finding the creditor in contempt, even if the discharge injunction did apply and the creditor’s belief was “unreasonable.” Lorenzen v. Taggart (In re Taggart), 888 F.3d 438 (9th Cir. April 23, 2018). Taggart means that contempt will be difficult if not impossible to prove in the Ninth Circuit.
On September 7, the appeals court denied a petition for rehearing and rehearing en banc in Taggart. The circuit court was not persuaded by several amicus briefs submitted by law professors, professional organizations, and a former judge, all urging rehearing.
Daniel L. Geyser of Dallas, the debtor’s counsel on the rehearing motion in Taggart, told ABI that he will be filing a petition for certiorari in the Supreme Court. He said there is “a square circuit conflict over a recurring question that is essential to the Code’s effective administration.” If allowed to stand, he said that Taggart “will eviscerate the Code’s key mechanism for enforcing the discharge injunction.”
Indeed, there is little to deter stay violations without the threat of contempt, and debtors may not be able to afford counsel to enforce their protections if contempt sanctions are generally unavailable.
The First Circuit widened the circuit split in June in deciding IRS v. Murphy, 892 F.3d 29 (1st Cir. June 7, 2018).
In Murphy, a divided panel on the Boston-based appeals court ruled less than two months after Taggart that a government employee who knows there was a discharge may be held in contempt even if the government had a good faith belief that the action did not violate the discharge. Contempt may be found, the First Circuit said, so long as there was an intentional action later found to violate the discharge. To read ABI’s discussions of Taggart and Murphy, click here and here.
Meanwhile, the Ninth Circuit Bankruptcy Appellate Panel handed down an opinion on September 7 interpreting Taggart and showing that contempt will be virtually impossible to establish in the Ninth Circuit, even when there has been an adjudicated stay violation.
The BAP’s September 7 opinion in RESS Financial Corp. v. Beaumont 1600 LLC (In re The Preserve LLC) demonstrates the importance of resolving the circuit split, given the centrality of discharge and the automatic stay in the bankruptcy system.
Before bankruptcy, the corporate debtor in Preserve had purchased about 1,300 acres encumbered by a mortgage for almost $40 million. Also before bankruptcy, the lender released the lien on about half of the acreage.
In connection with confirmation of the debtor’s chapter 11 plan, the bankruptcy court entered an order declaring that the collateral for the mortgage was 636 acres, representing the original acreage less the portion that was released. The confirmed plan also stated that the collateral was 636 acres.
The debtor defaulted on the plan the following year, resulting in conversion to chapter 7 and the appointment of a trustee. The conversion order lifted the automatic stay to permit foreclosure of the lender’s deed of trust.
The lender and its agent both concluded that the release of lien was invalid because it was not accompanied by a recorded map, as allegedly required by California law. The lender’s agent therefore initiated foreclosure proceedings with respect to the entire 1,300 acres. Counsel for the chapter 7 trustee quickly demanded that the lender terminate the foreclosure proceedings with regard to the released acreage.
When the lender responded by saying it would not stand down, the trustee initiated an adversary proceeding, asking the bankruptcy judge to declare that the foreclosure proceedings were invalid with respect to the released acreage. The trustee also sought damages for violation of the automatic stay. Without conceding error, the lender then discontinued the foreclosure proceedings.
Litigation continued in the bankruptcy court for more than two years. Following trial, the bankruptcy judge ruled that the lender had committed a willful and intentional violation of the automatic stay after having been informed by the trustee’s counsel that the stay protected the property that had been released from lien.
The bankruptcy judge determined that the lender’s belief about the inapplicability of the automatic stay was reckless and unreasonable. Ultimately, the bankruptcy court found the lender in contempt and entered judgment in favor of the trustee for about $425,000, representing legal fees incurred by the trustee in litigating the alleged automatic stay violation and related issues.
The lender appealed to the BAP and won.
In a per curiam, nonprecedential opinion on September 7, the BAP reversed and remanded the case to the bankruptcy court, ostensibly to determine whether the trustee had established by clear and convincing evidence that the lender had knowledge of the stay and committed a willful violation.
Although the trustee theoretically will have a second bite at the apple on remand, the trustee’s chances of prevailing are small because the BAP went on to cite Taggart by saying that “a good faith belief that the stay does not apply precludes a finding of contempt, even if the creditor’s belief is unreasonable.” The bankruptcy court’s finding about the lender’s unreasonable belief presumably will not support a contempt citation, because Taggart says that even an unreasonable belief elides a contempt finding.
Indeed, the lender’s good faith belief about the inapplicability of the stay seems beyond cavil because the lender had received several opinions saying that the release of lien was invalid.
Whether or not Taggart is set aside in the Supreme Court, Preserve will remain required reading because the BAP’s opinion is a virtual handbook containing a step-by-step compendium of rules pertaining to contempt citations. Among other things, the opinion highlights the differences between a finding of contempt under the court’s inherent powers contrasted with Section 362(k), which applies only to individual debtors complaining about stay violations.
The BAP opinion applies Taggart to automatic stay violations, removing any thought that Taggart would only govern violations of the discharge injunction.
The BAP opinion is not intended for official publication, but it should be officially published, in this writer’s opinion. The opinion is a priceless synthesis of rules pertaining to contempt findings.