The Eleventh Circuit wrote a decision on September 29 narrowly reading Husky International Electronics Inc. v. Ritz, 136 S. Ct. 1581 (2016), where the Supreme Court held that a debt can be nondischargeable under Section 523(a)(2)(A) if it was obtained by “actual fraud” in the absence of a misrepresentation to the creditor.
Following the statutory language in Section 523(a)(2)(A) but setting aside the implications of Husky, the circuit’s opinion by District Judge John Antoon, II shows how actions that can lead to a denial of discharge won’t necessarily also make a particular debt nondischargeable. Judge Antoon was sitting in the circuit by designation.
Time will tell whether other courts will follow the Eleventh Circuit by adhering more to the language of the statute than to Husky.
Bad Facts for the Debtor
The debtor was up to no good, after giving a personal guarantee for $12.5 million in corporate debt. When the company’s finances were declining, the debtor began transferring property to his wife and his daughter. He continued transferring assets after the lender sued on his guarantee.
The debtor continued making transfers around the time the lender won a $9.1 million judgment against him.
The lender sued in state court to set aside fraudulent transfers. At that point, the debtor filed bankruptcy, prompting the lender to start an adversary proceeding claiming that the $9.1 million judgment was nondischargeable under Sections 523(a)(2)(A) and (a)(6).
The lender contended that the judgment was nondischargeable under Section 523(a)(2)(A) because the debtor had transferred assets to hinder its collection efforts.
Affirmed in district court, the bankruptcy court granted the debtor’s motion to dismiss for failure to state a claim. Regarding Section 523(a)(2)(A), the bankruptcy court reasoned that the underlying debt was nothing more than “standard contract debt” and had not been obtained by fraud.
On the Section 523(a)(6) claim, the bankruptcy court said that the debt arose from a personal guarantee, not from willful or malicious injury.
The lender appealed to the circuit.
The Elements of a 523(a)(2)(A) Claim
Section 523(a)(2)(A) bars discharge of a debt “obtained by . . . false pretenses, a false representation, or actual fraud, other than a statement respecting the debtor’s or an insider’s financial condition.”
Judge Antoon said that the lender could not argue that the debtor “fraudulently obtained money or property” from the lender. The lender only alleged there was fraud in transfers after the debt had been incurred. He said the “money that the bank loaned is obviously not traceable to those later conveyances.”
The lender based its arguments on a “strained interpretation of, and dicta in,” Husky, Judge Antoon said.
What Does Husky Mean?
Therein lies the question. Was Husky distinguishable, or was it on point? Even if it was distinguishable, did Husky announce a policy that lower courts should follow? To read ABI’s report on Husky, click here.
In the 7-1 Husky decision, Justice Sonia Sotomayor said that the words “obtained by . . . actual fraud” in Section 523(a)(2)(A) subsume “forms of fraud, like fraudulent conveyance schemes, that can be effected without a false representation.” Id. at 1586.
In Husky, a man caused his company to transfer funds to other companies that he owned or controlled. He later went bankrupt, leaving the creditor with a $164,000 debt owing by the company. The creditor sued the man in bankruptcy court to hold him liable for the corporate debt and to bar discharge of the debt under Section 523(a)(2)(A). The Fifth Circuit upheld discharge of the debt because there was no misrepresentation to the creditor.
Reversing the Fifth Circuit, Justice Sotomayor said that “false representation has never been a required element of ‘actual fraud,’ and we decline to adopt it today.” Id. at 1588. She said that nothing in the statutory words “obtained by . . . actual fraud” requires that the fraud occurred at the inception of the credit transaction. Id. at 1589.
At its broadest, Husky could be read to mean that fraudulent transfers made to hinder collection of a debt can render the debt nondischargeable under Section 523(a)(6)(A), even if the fraudulent transfers occur after the debt was incurred.
Judge Antoon read Husky more narrowly.
The Circuit’s Narrow Reading of Husky
Judge Antoon said the holding of Husky was “narrow.” In Husky, he said, “someone other than the bankruptcy debtor initially owed a debt for which the bankruptcy debtor later became at least partially liable.” The debtor became liable under a state veil-piercing statute when he drained the corporation of assets.
In Husky, Judge Antoon said that the “fraudulent acts created or potentially created the very debts at issue.” That is to say, the liability arose when the fraudulent transfers occurred.
Judge Antoon said that the Supreme Court never “eliminated the requirement” that “the money or property giving rise to the debt must have been ‘obtained by’ fraud, actual or otherwise.” He read Husky to mean that the Supreme Court “merely recognized the possibility that fraudulent schemes lacking a misrepresentation . . . can satisfy the ‘obtained by’ requirement in some circumstances.”
Because the liability on the guarantee “existed long before” the debtor began transferring assets, Judge Antoon said it was “an ordinary contract debt that did not arise from fraud of any kind.” He therefore upheld dismissal of the claim under Section 523(a)(2)(A).
Charles Tatelbaum told ABI about his concern that “this narrow interpretation of Section 523 will create a roadmap for unscrupulous debtors.” Tatelbaum is a partner with Tripp Scott PA in Fort Lauderdale, Fla.
Dismissal Upheld on Section 523(a)(6)
Section 523(a)(6) bars discharge of a debt “for willful and malicious injury by the debtor to another entity or to the property of another entity.”
Judge Antoon said the debt must arise “as a result of” the willful and malicious injury. In the case on appeal, he said that the “contract debt . . . was incurred long before the challenged conveyances.” He therefore upheld dismissal of the claim under Section 523(a)(6).
Observations
Judge Antoon is correct that the facts in Husky are distinguishable. But was it dicta when Justice Sotomayor said that nothing in the statutory words “obtained by . . . actual fraud” requires that the fraud occurred at the inception of the credit transaction?
When there are no constitutional questions to decide, the Court does not review individual cases like a court of error. The Court did not write Husky to apply only to cases arising under the particular Texas veil-piercing statute. Does Husky state a policy to apply more broadly in cases under Section 523(a)(2)(A)?
However, the result in the Eleventh Circuit is significant: Actions that could lead to denial of discharge under Section 727(a)(2) for making a fraudulent transfer “with actual” intent may not also make a particular debt nondischargeable. Indeed, the creditor in the Eleventh Circuit appeal very possibly could have brought an adversary proceeding that would have resulted in the denial of discharge of all debts.
Husky opened the door for one creditor to have its debt excepted from discharge when the debtor should have lost his or her discharge entirely. Laudably, the Eleventh Circuit’s opinion will force creditors to pursue the denial of discharge, not just a declaration that a particular debt was excepted from discharge
The Eleventh Circuit wrote a decision on September 29 narrowly reading Husky International Electronics Inc. v. Ritz, 136 S. Ct. 1581 (2016), where the Supreme Court held that a debt can be nondischargeable under Section 523(a)(2)(A) if it was obtained by “actual fraud” in the absence of a misrepresentation to the creditor.
Following the statutory language in Section 523(a)(2)(A) but setting aside the implications of Husky, the circuit’s opinion by District Judge John Antoon, II shows how actions that can lead to a denial of discharge won’t necessarily also make a particular debt nondischargeable. Judge Antoon was sitting in the circuit by designation.
Time will tell whether other courts will follow the Eleventh Circuit by adhering more to the language of the statute than to Husky.
Bad Facts for the Debtor
The debtor was up to no good, after giving a personal guarantee for $12.5 million in corporate debt. When the company’s finances were declining, the debtor began transferring property to his wife and his daughter. He continued transferring assets after the lender sued on his guarantee.
The debtor continued making transfers around the time the lender won a $9.1 million judgment against him.