The settlement of a lawsuit where the debtor does not expressly admit liability may nevertheless result in automatic nondischargeability under Section 523(a)(19) if the complaint was properly drafted, for reasons explained by Bankruptcy Judge Joshua P. Searcy of Tyler, Texas.
The debtor was a broker who sold investments to the plaintiffs that weren’t up to snuff. Subsequently, the Financial Industry Regulatory Authority, or FINRA, began enforcement proceedings against the debtor. Eventually, FINRA issued a decision and order finding that the debtor had made material misrepresentations with scienter with regard to the sale of the securities.
Later, the plaintiffs sued the debtor in state court, alleging violations of securities laws or fraud. In a mediated settlement, the debtor agreed to the entry of a $3.25 million judgment against him. The settlement agreement contained neither an express admission nor denial of liability.
The debtor filed a chapter 7 petition, to which the plaintiffs responded by filing a complaint alleging that the judgment was nondischargeable under Section 523(a)(19). The section makes a debt nondischargeable if it is for
(i) the violation of any of the Federal securities laws (as that term is defined in section 3(a)(47) of the Securities Exchange Act of 1934), any of the State securities laws, or any regulation or order issued under such Federal or State securities laws; or
(ii) common law fraud, deceit, or manipulation in connection with the purchase or sale of any security.
In addition, the section goes on to say that the debt must result from “any judgment, order, consent order, or decree entered in any Federal or State judicial or administrative proceeding . . . .”
In his opinion on January 27, Judge Searcy laid out the two required elements of nondischargeability under Section 523(a)(19) pertinent to the case before him. First, the debt must arise from violations of state or federal securities laws or for common law fraud in connection with the sale of securities. Second, there must be a judgment or order from a state or federal court.
The debtor argued that the settlement agreement contained no admission of liability, nor did it recite any violation of securities laws. Judge Searcy said it was “correct” that neither the state court judgment nor the settlement agreement contained “an express liability admission” by the debtor, nor did it contain “an express denial of liability.” [Emphasis in original.]
On the other hand, Judge Searcy said there were no claims in the complaint in state court that were “attributable to any theories other than violations of securities law, or fraud in the sale purchase of securities.”
By “knowingly consenting to a judgment in the state court case,” Judge Searcy said it “follows” that the debtor “consented to a judgment ‘for’ violations of securities law, or for fraud in connection with the sale or purchase of securities.”
True, Judge Searcy said, there are cases requiring an express admission of liability. He distinguished those cases, saying that one involved a debtor who had expressly denied liability in the settlement agreement, where others dealt with complaints containing claims other than fraud.
Judge Searcy could not base nondischargeability on the FINRA decision because it was not made by a state or federal court or in an administrative proceeding. FINRA, he said, “is not a federal administrative body but is instead a self-regulatory organization distinct from a normal administrative agency.”
Judge Searcy granted judgment in favor of the creditors because “the state court judgment in this case meets the requirements under § 523(a)(19) to be nondischargeable.”
The settlement of a lawsuit where the debtor does not expressly admit liability may nevertheless result in automatic nondischargeability under Section 523(a)(19) if the complaint was properly drafted, for reasons explained by Bankruptcy Judge Joshua P. Searcy of Tyler, Texas.
The debtor was a broker who sold investments to the plaintiffs that weren’t up to snuff. Subsequently, the Financial Industry Regulatory Authority, or FINRA, began enforcement proceedings against the debtor. Eventually, FINRA issued a decision and order finding that the debtor had made material misrepresentations with scienter with regard to the sale of the securities.
Later, the plaintiffs sued the debtor in state court, alleging violations of securities laws or fraud. In a mediated settlement, the debtor agreed to the entry of a $3.25 million judgment against him. The settlement agreement contained neither an express admission nor denial of liability.
The debtor filed a chapter 7 petition, to which the plaintiffs responded by filing a complaint alleging that the judgment was nondischargeable under Section 523(a)(19).