In bankruptcy, good faith is a lot like good art. It is difficult to describe, but you know it when you see it. The same can be said with bad faith. A recent chapter 13 case out of the 9th Circuit illustrates that point.
The debtor filed a chapter 13 case in August 2004. Since chapter 13 is a voluntary proceeding, a debtor has the option of voluntarily dismissing their case at any time. Also, in chapter 13, the debtor is typically in control of assets of the estate. In this debtor’s case, one of the assets was claim that was being arbitrated against an LLC.
The debtor’s plan was met with objections from the trustee as well as creditors. The debtor assured the court that he would use funds obtained in the arbitration to fund the plan. In July 2005, the debtor was awarded approximately $185,000 in the arbitration. That month, the court ordered him to pay that sum to the chapter 13 trustee.
In August, the debtor’s attorney sought permission to withdraw from the case citing a breakdown in the attorney client relationship. At the hearing, the court learned that the debtor had not complied with the prior order from the court by turning the money over to the trustee. The court gave the debtor one hour to deliver the money, or the court was going to convert the case to chapter 7. The debtor did not deliver the money, and on that same day, the debtor filed a “Notice of Dismissal.”
In early September, the debtor deposited only $104,000. Apparently, the debtor used some of the money to remodel his home (which was ultimately lost to foreclosure). On September 5, the court converted the case to chapter 7. About 10 days later, a new attorney appeared and asked that the dismissal be set aside since the debtor’s right to dismiss was “absolute.” The bankruptcy court did not agree, and the US District Court affirmed.
On appeal, the 9th Circuit Court of Appeals also affirmed. Relying on the 2007 US Supreme Court decision in Marrama v. Citizens Bank of Massachusetts, the Court found that the debtor’s right to dismiss was not absolute since “bad faith conduct can ‘justify the bankruptcy court’s denial of … the right to voluntarily dismiss the [chapter 13] case.’”
The 9th Circuit took issue with not only the debtor’s failure to obey the bankruptcy court’s orders, but also the failure to completely explain what happened to the missing funds. In essence, when the debtor was called out by the court for not obeying an order, the debtor sought dismissal of the case. In essence, the court asked the debtor why he didn’t do what he was ordered to do, and the debtor responded by saying “uh, I don’t want to file bankruptcy anymore. I’ve changed my mind. Thank you for your time.” (Actually, I am only guessing the debtor said “thank you.”)
What the heck kind of a bankruptcy strategy is that?! Not a good one. Bad faith will lead you where you do not want to be. In this case, the debtor started out as a chapter 13 debtor in control of his assets and being able to propose a plan to pay his creditors. Instead, he ended up as a chapter 7 debtor with a chapter 7 trustee taking control of (and liquidating) those assets. The lesson here is simple: good faith gets the relief that is deserved.
In re Rossen, No. 06-35724, 9th Circuit Court of Appeals
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