Courts Are Split on Breach of Contract Resulting in Nondischargeability

On an issue where the circuits are divided, Bankruptcy Judge David T. Thuma of Albuquerque, N.M., decided that the “door is open” in the Tenth Circuit to ruling that a breach of contract can lay the foundation for nondischargeability under Section 523(a)(6).

Section 523(a)(6) makes a debt nondischargeable “for a willful and malicious injury by the debtor to another entity or to the property of another entity.” In his December 7 opinion, Judge Thuma said that malice requires an act that is “intentional, wrongful and done without justification or excuse.”

The case involved an individual debtor who formed a corporation to purchase a restaurant for $350,000 but paid only $30,000 cash at closing. Even so, the debtor, in his individual capacity, borrowed the $30,000 from the seller at closing and shortly after. Ultimately, neither the debtor nor his corporation ever paid a dime toward the purchase price or the $30,000.

The seller sued in state court. Among other forms of relief, the seller obtained a judgment of $30,000 against the debtor. After the debtor filed bankruptcy, the seller mounted an adversary proceeding to declare that the debtor never intended to pay the $30,000, making the debt nondischargeable under Section 523(a)(6).

“It is an open question,” Judge Thuma said, “whether intentional breaches of contract can come within Section 523(a)(6).” He cited the Collier treatise for saying that the section “generally” relates to torts, not to breaches of contract.

Judge Thuma cited the Sixth Circuit as saying that a breach of contract does not fall under Section 523(a)(6). However, the Ninth and Fifth Circuits, he said, have held that an intentional breach of contract can result in nondischargeability under Section 523(a)(6).

To resolve the case before him, Judge Thuma cited a nonprecedential Tenth Circuit opinion that he paraphrased as finding nothing to indicate that the Supreme Court intended to “immunize debtors under Section 523(a)(6) for willful and malicious breach of contract.” Sanders v. Vaughn (In re Sanders), 2000 U.S. App. LEXIS 5763 (10th Cir. 2000).

Turning to the case at hand, Judge Thuma scoured the decision in state court to find that the debtor never intended to repay the $30,000 loan. He therefore found that the debtor willfully injured the seller by “knowing, as he must have, that his actions would result in $30,000 in damages.”

Judge Thuma also concluded that the actions “were malicious, in that they were wrongful, intentional, and taken without justification or excuse.”

Judge Thuma said that failure to pay a debt “in general” does not result in nondischargeability. He also said it “is and should be a rare breach of contract case that comes within Section 523(a)(6).”

Still, he ruled the claim was nondischargeable because the circumstances “all point to the fact that [the debtor’s] failure to repay the $30,000 loan was a willful and malicious injury to the [seller] and its property.”