A decision by a Chicago district judge highlights possible tension between the Seventh and Ninth Circuits on the standards for deciding whether a sanction for civil contempt does or does not fall under the Section 362(b)(4) “police and regulatory” exception to the automatic stay.
Facts in the Ninth Circuit
In 2017, the Ninth Circuit held that civil contempt proceedings are exempt from the automatic stay so long as they are “intended to effectuate the court’s public policy interest in deterring litigation misconduct.” Dingley v. Yellow Logistics LLC (In re Dingley), 852 F.3d 1143, 1144 (9th Cir. April 3, 2017).
A state court in Dingley had imposed $4,000 in discovery sanctions on the soon-to-be debtor. The debtor filed a chapter 7 petition just before a hearing on a motion in state court to hold him in contempt for failure to pay the sanction. Being told about the bankruptcy, the state court asked for a briefing on the effect of the automatic stay.
The debtor’s adversary filed papers in state court arguing that the automatic stay did not apply. The debtor responded with a motion in bankruptcy court asking for his adversary to be found in contempt of the automatic stay. The bankruptcy court imposed $1,500 in sanctions on the adversary, who appealed.
The adversary won a reversal before the Bankruptcy Appellate Panel. When the debtor appealed, the Ninth Circuit held that civil contempt proceedings are not stayed when “intended to effectuate the court’s public policy interest in deterring litigation misconduct.” Id.
The Ninth Circuit went on to say that the Section 362(b)(4) exception will not apply to contempt proceedings “intended either to protect the government’s pecuniary interest in the debtor’s property or to adjudicate private rights.” Id. at 1147. To read ABI’s report on Dingley, click here.
Different Facts in Chicago
Facts are important, and those in the Chicago case were different.
The defendant in a lawsuit was held in civil contempt for failing to turn over personal property belonging to the plaintiff. Later, he was sent to jail for failing to turn over 45 items or categories of property. The defendant could purge his contempt by turning over the property.
After five months in jail, the defendant filed a chapter 7 petition. His lawyer wrote a letter to the plaintiff demanding that she take action in state court to have his client released in view of the automatic stay.
When the plaintiff failed to act, the debtor filed a motion alleging a willful violation of the automatic stay. The bankruptcy court denied the motion, finding that incarceration was an exercise of police or regulatory power.
Fulton Required Reversal
District Judge Sara L. Ellis reversed in an opinion on July 15. She fashioned her decision to follow the Seventh Circuit’s dictates in In re Fulton, 926 F.3d 916 (7th Cir. June 19, 2019), cert. granted sub. nom. City of Chicago v. Fulton, 19-357 (Sup. Ct. Dec. 18, 2019).
Our readers are familiar with Fulton. The Supreme Court will hold oral argument on October 13 to decide whether the automatic stay requires a creditor to turn over repossessed property immediately after the debtor files bankruptcy. To read ABI reports, click here and here.
Judge Ellis, however, focused on holdings in Fulton not directly involved with the main issue before the Supreme Court. She cited Fulton for laying down two tests in deciding whether the Section 362(b)(4) exception applies.
The first test, pecuniary purpose, asks whether enforcement would result in economic advantage. The second, the public policy test, “considers whether the state action is principally to effectuate public policy or adjudicate private rights.” Id. 926 F.3d 390.
Applying the two tests, Judge Ellis found that contempt was remedial and intended to benefit the plaintiff in state court. Thus, the contempt order did not pass the first test regarding pecuniary interest.
On the second test, Judge Ellis found no evidence in the record indicating that the contempt proceedings were designed to deter litigation misconduct. If the state court had been attempting to uphold its dignity, she said that the “court likely would have found the contempt finding to constitute criminal contempt.” For those reasons, she rejected the plaintiff’s reliance on Dingley.
Judge Ellis admitted that busting the debtor out of jail “may incentivize civil contemnors to use bankruptcy as a means to avoid . . . atoning for their contempt.” However “undesirable the result,” she said, “it is the one compelled by a proper Section 362(b)(4) analysis.”
To avoid misuse of the automatic stay when contempt is afoot, Judge Ellis said that a creditor might obtain a modification of the automatic stay for “cause” if bankruptcy was being used in bad faith to avoid a civil contempt order.
There may be an element of compromise in the decision by Judge Ellis. In bankruptcy court, the debtor sought substantial monetary damages for being locked up after bankruptcy. Ordinarily, the district court would remand with instruction to consider the propriety of sanctions for violating the stay.
However, Judge Ellis may have lacked sympathy for the debtor, who allegedly had refused to turn over substantial property stolen from a woman who had been his domestic partner for 30 years.
Instead of remanding, Judge Ellis said that the debtor made no substantive arguments on appeal regarding sanctions under Section 362(k). She therefore said that “he has forfeited any request for this relief as part of his appeal.”
Are the Circuits Split?
Purely under the Ninth Circuit standard, the debtor in Chicago was engaged in litigation misconduct. However, the Ninth Circuit was not laying down a rule for deciding when someone should be jailed after filing bankruptcy for failure to turn over money or property. The Ninth Circuit was only opening the door for collecting a few thousand dollars in sanctions for egregious discovery misbehavior, not committing someone to jail.
The facts alone may explain the difference in result. Perhaps the Ninth Circuit would have a higher standard for keeping someone in jail. But perhaps not.
The two circuits come together to some degree. The Seventh Circuit applies the exception to the stay if contempt was “principally to effectuate public policy.” The Ninth Circuit finds an exception to the stay from the “public policy interest in deterring litigation misconduct.”
The two cases make a practice point. If bankruptcy is a possibility, counsel drafting a contempt order should attempt to include language about sanctioning “litigation misconduct.” Or, the creditor could accede to releasing the debtor from jail but immediately file a motion to modify the automatic stay for “cause.”
A lift-stay motion might be granted if the plaintiff is seeking the return of stolen property or property that would not belong to the estate.
A decision by a Chicago district judge highlights possible tension between the Seventh and Ninth Circuits on the standards for deciding whether a sanction for civil contempt does or does not fall under the Section 362(b)(4) “police and regulatory” exception to the automatic stay.
Facts in the Ninth Circuit
In 2017, the Ninth Circuit held that civil contempt proceedings are exempt from the automatic stay so long as they are “intended to effectuate the court’s public policy interest in deterring litigation misconduct.” Dingley v. Yellow Logistics LLC (In re Dingley), 852 F.3d 1143, 1144 (9th Cir. April 3, 2017).
A state court in Dingley had imposed $4,000 in discovery sanctions on the soon-to-be debtor. The debtor filed a chapter 7 petition just before a hearing on a motion in state court to hold him in contempt for failure to pay the sanction. Being told about the bankruptcy, the state court asked for a briefing on the effect of the automatic stay.
The debtor’s adversary filed papers in state court arguing that the automatic stay did not apply. The debtor responded with a motion in bankruptcy court asking for his adversary to be found in contempt of the automatic stay. The bankruptcy court imposed $1,500 in sanctions on the adversary, who appealed.