On an issue where the lower courts are split, the Sixth Circuit Bankruptcy Appellate Panel held that a pre-petition personal guaranty is a contingent debt that is discharged, even as to post-petition debt incurred by the principal obligor after the debtor’s discharge.
Because the courts are split, the BAP held that the offending creditor could not be held in contempt given the standard announced by the Supreme Court in Taggart v. Lorenzen, 139 S. Ct. 1795 (June 3, 2019). To read ABI’s report on Taggart, click here.
Typical Personal Guaranty
The facts were simple. The individual debtor had issued a personal guaranty of a lease for premises occupied by his closely held corporation. The debtor filed a chapter 7 petition and received a discharge. He had listed the landlord as a creditor and gave notice of the bankruptcy and the discharge to the landlord.
More than two years after discharge, the corporation exercised an option to extend the maturity of the lease for five years. But before the end of the term of the extended lease, the corporation vacated the leased premises, leaving $24,750 owing on the lease.
The landlord sued the debtor in state court for the $24,750 on his personal guaranty. The debtor reopened his bankruptcy case, where he initiated an adversary proceeding to enforce the discharge and hold the landlord in contempt.
After denying the landlord’s motion to dismiss, the bankruptcy court held a trial and ruled that the discharge ended the debtor’s liability on the guaranty because his liability was a contingent claim at the time of bankruptcy.
The bankruptcy court ruled that the prosecution of the suit on the guaranty was a willful violation of the discharge injunction because the landlord was aware of the bankruptcy and the discharge. Having decided that the landlord was in contempt, the bankruptcy court subsequently held a hearing and assessed almost $11,000 in damages on account of the debtor’s counsel fees. The bankruptcy court denied the debtor’s request for punitive damages.
The Split
In her February 28 opinion for the BAP, Bankruptcy Judge Marian F. Harrison of Nashville, Tenn., said there is a split among the lower counts on the question of whether bankruptcy will discharge ongoing liability on a guaranty.
One line of cases, Judge Harrison said, holds there is no contingent claim to be discharged without a pre-petition right of payment. Those courts believe that a guarantor has liability for post-petition obligations incurred by the principal obligor.
Other courts, like those followed by the bankruptcy court, believe that a pre-petition guaranty is a contingent claim discharged in bankruptcy.
Siding with the second group of courts, Judge Harrison decided that a pre-petition guaranty is a contingent claim given the expansive definition of “debt” and “claim.” She therefore held that “a pre-petition personal guaranty is a contingent debt that is discharged in bankruptcy.”
With the guaranty no longer enforceable, Judge Harrison held that the suit on the guaranty violated the discharge injunction because the debtor had neither reaffirmed the debt during bankruptcy nor had he issued a new guaranty together with the extension of the lease. She said that the landlord “could have required the debtor to sign a new personal guaranty” alongside the lease extension.
No Contempt Under Taggart
The bankruptcy court had found the landlord in contempt before the Supreme Court handed down Taggart. The Supreme Court held that a creditor cannot be in contempt of the discharge injunction if there was “an objectively reasonable basis for concluding that the creditor’s conduct might be lawful.” Taggart, 139 S. Ct. at 1801.
In light of Taggart, Judge Harrison said, a finding of contempt could not be based only on the creditor’s knowledge of discharge and the creditor’s intent to take the action that violated discharge.
Because the bankruptcy court acknowledged the split regarding the continuing enforceability of the guaranty, Judge Harrison concluded that the landlord’s “actions were not willful under the new [Taggart] standard of ‘no fair ground of doubt.’”
Judge Harrison therefore reversed the bankruptcy court’s finding that the landlord was in contempt. However, she added an admonition in the last paragraph of her opinion: “[I]t should go without saying that continued prosecution of the state court action at this point would, on a proper showing, subject them to a contempt finding and damages.”
An Issue on Procedure
The debtor had filed an adversary proceeding to hold the creditor in contempt. After dispositive motions and at the opening of trial, the landlord moved to dismiss, contending that a motion is the only vehicle for contempt. The bankruptcy court denied the motion to dismiss.
On appeal, the landlord again argued that a debtor may not pursue contempt in an adversary proceeding.
In the Sixth Circuit, Judge Harrison said the bankruptcy courts are split on whether a discharge violation can be raised only by motion.
If the bankruptcy court had dismissed the case immediately before trial, Judge Harrison said the debtor would have filed a motion for contempt. The result, she said, “would have been a waste of judicial resources, expensive and significantly inconvenient to all involved.”
Dismissing, Judge Harrison said, “would have allowed the defendants the tactical ability to promote form over substance and further delay the proceedings.”
Judge Harrison therefore decided that “the bankruptcy court did not err in denying the defendants’ oral motion to dismiss.”
On an issue where the lower courts are split, the Sixth Circuit Bankruptcy Appellate Panel held that a pre-petition personal guaranty is a contingent debt that is discharged, even as to post-petition debt incurred by the principal obligor after the debtor’s discharge.
Because the courts are split, the BAP held that the offending creditor could not be held in contempt given the standard announced by the Supreme Court in Taggart v. Lorenzen, 139 S. Ct. 1795 (June 3, 2019).
Typical Personal Guaranty
The facts were simple. The individual debtor had issued a personal guaranty of a lease for premises occupied by his closely held corporation. The debtor filed a chapter 7 petition and received a discharge. He had listed the landlord as a creditor and gave notice of the bankruptcy and the discharge to the landlord.
More than two years after discharge, the corporation exercised an option to extend the maturity of the lease for five years. But before the end of the term of the extended lease, the corporation vacated the leased premises, leaving $24,750 owing on the lease.
The landlord sued the debtor in state court for the $24,750 on his personal guaranty. The debtor reopened his bankruptcy case, where he initiated an adversary proceeding to enforce the discharge and hold the landlord in contempt.