State Bar of Texas Bankruptcy Law Section Conference San Antonio, Texas June 5 7, 2013 PRESERVING CAUSES OF ACTION. Presenters:

Transcription

1 State Bar of Texas Bankruptcy Law Section Conference San Antonio, Texas June 5 7, 2013 PRESERVING CAUSES OF ACTION Presenters: Judge Craig A. Gargotta U.S. Bankruptcy Judge San Antonio, Texas Kent Ries Attorney at Law, Chapter 7 Trustee Amarillo, Texas Prepared By: Jack Byrom and Allison Kolb Law Clerks to the Honorable Craig A. Gargotta

2 A. Introduction Debtors do not always understand that a cause of action or potential cause of action is an asset they must disclose in their schedules. This paper addresses the risks that Chapter 7, Chapter 11, and Chapter 13 debtors run when they fail to schedule their causes of action. Debtors can be barred from prosecuting their claims under the doctrines of judicial estoppel or res judicata. They can lose their credibility or be subjected to penalties under the Bankruptcy Code. Debtors who delay in disclosing their cause of action may not be able to claim an exemption in the proceeds of that cause of action. It can be easy to overlook a cause of action when preparing schedules, but the consequences of such an oversight are severe. B. Judicial Estoppel and Other Judicial Consequences 1. Judicial Estoppel Failure to disclose a cause of action in bankruptcy could result in a total bar to prosecution of the cause of action through judicial estoppel. Judicial estoppel, an equitable doctrine, prohibits a party from taking a position on an issue that is clearly inconsistent with the party s previously asserted position. It is designed to prevent parties from taking one position when it is convenient to them, and then changing that position when the law no longer suits their interests. Courts look to three factors when determining whether judicial estoppel applies: (1) whether the party s later position is clearly inconsistent with its earlier position; (2) whether the court accepted the party s earlier position; and (3) whether the party seeking to assert an inconsistent position would derive some unfair advantage from or impose an unfair detriment on the opposing party. Kane v. Nat l Union Fire Ins. Co., 535 F.3d 380, (5th Cir. 2008). 2

3 In Save Our Springs Alliance, Inc., the debtor, on its Chapter 11 petition, checked a box indicating that it was a small business debtor. 632 F.3d 168 (5th Cir. 2011). Such designation entitled the debtor to expedited consideration and hearings on various issues. Id. When the Bankruptcy Court denied the plan, however, the small business designation shortened the deadline by which the debtor could file an amended plan. At that point, the debtor filed an amended petition indicating that it was not a small business debtor and asked the Bankruptcy Court to allow the debtor more time to file an amended plan. The court denied this request. On appeal, the Fifth Circuit examined the factors for judicial estoppel and found that (1) the debtor s petition as a small business debtor was clearly inconsistent with its later claim that it was not a small business debtor; (2) the Bankruptcy Court accepted the position by allowing shortened notice periods and expedited hearings; and (3) the debtor enjoyed the benefits of being a small business debtor and only sought to avoid small business classification after it faced an unfavorable result, which showed the opportunistic behavior that judicial estoppel is designed to prevent. Id. at 176. The Fifth Circuit accordingly affirmed the Bankruptcy Court s finding that judicial estoppel applied. Id. In the context of preserving a cause of action, judicial estoppel can prevent debtors from pursuing a cause of action that they fail to disclose on their schedules and statement of financial affairs. See Love v. Tyson Foods, 677 F.3d 258 (5th Cir. 2012). In Tyson Foods, the debtor s Chapter 13 petition indicated no contingent, unliquidated claims. Id. at 261. Shortly after filing bankruptcy, however, the debtor filed an Equal Employment Opportunity Commission ( EEOC ) complaint and thereafter received a right to sue letter. Id. at 260. Rather than amend his schedules, however, the debtor 3

4 chose to continue his bankruptcy case without notifying the creditors or the Chapter 13 Trustee of his pending cause of action. Id. The defendant in the EEOC lawsuit then filed a motion for summary judgment, claiming the debtor was judicially estopped from pursuing the lawsuit after claiming he had no claims on his bankruptcy schedules. Id. When judicial estoppel applies to a debtor s cause of action, a question arises as to what happens to the cause of action itself. In Chapter 7 cases, the Fifth Circuit has stated that the cause of action vests in the Trustee, who may then prosecute the case for the benefit of the estate s creditors. Reed v. City of Arlington 650 F.3d 571, 576 (5th Cir. 2011) (en banc) ( Because the [defendant] could not have asserted judicial estoppel against [the plaintiff] based on facts as they existed before the commencement of bankruptcy, the Trustee received the judgment asset free of this affirmative defense. ) (emphasis added). The answer is not so clear in Chapter 13 cases due to 11 U.S.C. 1303, which allows debtors to use assets even if they belong to the bankruptcy estate, thereby suggesting the debtor is the proper party to pursue a cause of action. The case law, however, is clear that the debtor loses the ability to pursue the cause of action under the doctrine of judicial estoppel. 2. Res Judicata Debtors may also find their causes of action barred by res judicata if they fail to disclose the causes of action on their schedules. This is different from judicial estoppel in that res judicata does not seek to prevent parties from gaming the system, but rather works to prevent parties from having multiple opportunities to litigate claims that were or should have been already raised. A claim is barred by res judicata if the following four requirements are met: (1) the parties must be identical in the two actions; (2) the prior 4

5 judgment must have been rendered by a court of competent jurisdiction; (3) there must be a final judgment on the merits; and (4) the same cause of action must be involved in both cases. Eubanks v. Federal Deposit Ins. Co., 977 F.2d 166, 169 (5th Cir. 1992). The Fifth Circuit has applied this doctrine to bankruptcy cases when bankruptcy courts confirm a plan of reorganization. Id. (internal citations omitted). In Eubanks, the debtors filed a Chapter 11 petition in the aftermath of a failed real estate venture. Id. at 168. After the court confirmed the Chapter 11 Plan, the debtor and his wife filed a lawsuit against one of the debtor s creditors for breach of fiduciary duty, fraud, and breach of contract. Id. The district court dismissed the lawsuit because the debtor had the opportunity to raise the claims in their disclosure statement and in his Chapter 11 Plan, and once the Chapter 11 Plan was confirmed the debtor was barred from pursuing the claims by res judicata. Id. The Fifth Circuit affirmed, holding that (1) the debtor and his non-debtor spouse were deemed identical parties to the litigation, (2) the bankruptcy court was a competent court of jurisdiction, (3) the Chapter 11 Plan was a final adjudication of the merits for claim preclusion purposes, and (4) under the transactional test, the same causes of action were involved at the plan confirmation stage and during the lawsuit. Id. (citing Restatement (Second) of Torts 24). Under this analysis, the Fifth Circuit affirmed the district court s decision and held that the debtor was barred by res judicata. Debtors in a Chapter 11 case must therefore disclose all of their causes of action on their bankruptcy schedules, or they risk having the claims barred by res judicata. 5

6 3. Chapter 11 Plans: Specific and Unequivocal Retention Cause of action may also be lost not only by failing to disclose them on the bankruptcy schedules, but also by failing to retain the cause of action in the Chapter 11 Plan. Section 1123(b)(3) of the Bankruptcy Code states that a plan may provide for the settlement or adjustment of any claim or interest belonging to the debtor of the estate (emphasis added). In order to retain a cause of action post-confirmation, Section 1123(b)(3)(B) requires the debtor to explicitly retain the cause of action in the plan itself. In re United Operating, LLC, 540 F.3d 351, 355 (5th Cir. 2008). Such a reservation must be specific and unequivocal. Id. (citing In re Paramount Plastics, Inc., 172 B.R. 331, 33 (Bankr. D. Wash. 1994)). In this way, Section 1123(b)(3)(B) asks in part as a notice provision for creditors who are voting on whether to accept the plan. United Operating, 540 F.3d at 355. If the Chapter 11 Plan does not explicitly retain the cause of action, the debtor lacks standing to pursue the claim post-confirmation. Id.; In re Crescent Resources LLC, 463 B.R. 423 (Bankr. W.D. Tex. 2011). The definition of specific and unequivocal retention has caused some heartburn among the Fifth Circuit and its respective courts. The Fifth Circuit clarified that the specific and unequivocal standard does not require listing every single plaintiff and defendant in a potential cause of action. In re MPF Holdings US, LLC, 701 F.3d 449, 457 (reversing the Bankruptcy Court). The language in the plan must simply be sufficient to put creditors on notice that debtors anticipate pursuing the lawsuit after confirmation. In re Texas Wyoming Drilling, Inc., 422 B.R. 612 (Bankr. N.D. Tex. 2010). One of the cases cited in United Operating barred the debtor from pursuing turnover actions under 11 U.S.C. 542 because the plan made no mention of them. In 6

7 re Ice Cream Liquidation, 319 B.R The plan in Ice Cream Liquidation specifically retained for the debtor any claims under Sections 544, 547, 548, and 550. Id. at The plan also allowed the debtor to compromise or settle any Chapter 5 litigation. Id. The Court determined that the language did not include turnover actions under Section 542, and therefore barred the debtor from pursuing turnover actions. Id. Similarly, language in a disclosure statement retaining 1) avoidance actions; and 2) other potential causes of action was not specific enough to retain state law claims. Wooley v. Haynes & Boone, LLP, 2013 WL (5th Cir. 2013). Considering all of the case law of the Circuit, Chapter 11 debtors must strike a careful balance of retaining as broad a swath of causes of action as possible, while also putting sufficient retention language in the plan to put creditors on notice. Failure to do so may result in the debtor being barred from pursuing the cause of action. 4. Other Monsters in the Closet Failure to disclose causes of action on bankruptcy schedules may have significant consequences outside of judicial estoppel or res judicata. The purpose of bankruptcy is to give the honest but unfortunate debtor a chance at a fresh start, unhampered by the pressure and discouragement of pre-existing debt. Local Loan Co. v. Hunt, 292 U.S. 234, 244 (1934); Grogan v. Garner, 498 U.S. 279, (1991). Failing to disclose a potential cause of action, whether the debtor is the plaintiff or defendant, does little to instill confidence in the debtor s position as honest but unfortunate. The Bankruptcy Code provides severe penalties for debtors who conceal information from creditors, and failure to disclose a cause of action is no exception. Apart from committing a crime under 18 U.S.C 152, debtors who knowingly or intentionally conceal assets of the 7

8 estate could face other consequences. Section 727(a)(2) allows courts to deny discharge to debtors who conceal assets, which includes causes of action at the time of filing. A court could also dismiss a Chapter 7 case if a debtor fails to disclose a cause of action on their schedules under Section 707(a)(3). In Chapter 13 cases, a debtor s Chapter 13 plan could be denied on the basis that it was filed in bad faith. 11 U.S.C Even after a Chapter 13 plan is confirmed, debtors may have their confirmation order revoked if the order was procured by fraud. Id. at 1330; In re Leverett, 486 B.R. 391 (Bankr. W.D. Tex. 2013) (citing In re Nikoloutsos, 199 F.3d 233, 238 (5th Cir. 2000)). Actions that revoke confirmation or dismiss the debtor s case are extraordinary remedies, and therefore parties claiming fraud must satisfy the usual five factors: (1) the debtor made a false statement; (2) with knowledge of its falsity or with reckless disregard for the truth; (3) to induce the court to rely upon the statement; (4) the court did rely upon the statement, and (5) that as a consequence of the action, the court entered confirmation. Nikoloutsos, 199 F.3d at 238. Even if an objecting party cannot meet this high standard, however, the Bankruptcy Code shows that the consequences of failing to disclose a cause of action are serious and can result in debtors losing their protection of the Bankruptcy Code. C. Lost Exemptions Debtors who do not list their cause of action in their schedules may lose their ability to exempt their interest in that cause of action. The moment a debtor files for bankruptcy, any legal claims he or she may have become property of the estate pursuant to 11 U.S.C See In re Wilmoth, 412 B.R. 791, 794 n.2 (Bankr. E.D. Va. 2009) ( The commencement of a bankruptcy case creates an estate that includes all legal and 8

9 equitable interests of the Debtor in property as of the commencement of the case ). See also In re Chaparo, 239 B.R. 387, (Bankr. N.D. Tex. 2003) (citing Wischan v. Adler (In re Wischan), 77 F.3d 875, 877 (5th Cir. 1996)). This is true even of potential lawsuits that a debtor has not even filed. See In re Lundry, 216 B.R. 609 (Bankr. E.D. Mich. 1998). Exempt property is not property of the estate. E.g. Sherk v. Texas Bankers Life & Loan Ins. Co. (In re Sherk), 918 F.2d 1170, 1174 (5th Cir.1990). The proceeds of certain types of lawsuits fall under state or federal exemptions. For example, awards from personal injury lawsuits or wrongful death lawsuits can qualify for federal exemptions under 11 U.S.C. 522(d)(11). When a debtor properly claims an exemption and no objections are filed within thirty days of the meeting of creditors, the exempt property ceases to be property of the estate and becomes the debtor s once again to the extent that the exemption allows. Chaparo, 239 B.R. at Amending Schedules and Adding Exemptions Under Bankruptcy Rule 1009 Debtors cannot claim an exemption in a cause of action that they have not scheduled. When debtors initially fail to schedule a cause of action, Bankruptcy Rule 1009 allows them to add the cause of action to their schedules and claim a corresponding exemption any time before the case is closed. This rule is liberally construed in favor of debtors. E.g. In re Woerner, 483 B.R. 106, 111 (Bankr. W.D. Tex 2012). However, courts may prevent debtors from claiming the exemption upon a showing either prejudice to creditors or bad faith of the debtor. Id. At 108. The party objecting to the exemption bears the burden of proof. Id. at

10 a. Prejudice There are several ways a party objecting to a late-claimed exemption can establish prejudice. The central question is not whether a new exemption will take assets out of the estate, but whether a party acted in reliance on the exemptions that the debtor originally claimed. See In re Williamson, 804 F.2d 1355, 1359 (5th Cir. 1986); In re Agee, 456 B.R. 740, 743 (Bankr. M.D.N.C. 2011); In In re Shethi 389 B.R. 588, 605 (Bankr. N.D. Ill. 2008); In re Clark, 274 B.R. 127 (Bankr. W.D. Pa 2002). Prejudice can also arise where a debtor s delay in claiming an exemption hinders estate administration or forces the trustee to expend estate resources on unnecessary litigation. In re Grogan, 300 B.R. 804, 810 (Bankr. D. Utah 2003). Actual economic loss to creditors beyond the loss that occurs when any asset is claimed exempt, can also support a finding of prejudice. Kaelin v. Bassett (In re Kaelin), 308 F.3d 885, (8th Cir. 2002). See also Williamson, 804 F.2d at 1359 ( Prejudice to the creditor s legal or equitable position does not occur merely because an amendment, if property allowed, permits the debtor to assert a claim that ultimately prevails on the merits.) The fact that a debtor delayed in claiming an exemption is not, on its own, enough to establish prejudice. In re Agee, 456 B.R. at 743 (Bankr. M.D.N.C. 2011); In re Arnold, 252 B.R. 778, 781 (B.A.P. 9th. Cir. 2000). However, there is a point during the pendency of a case where all parties have relied upon debtor s conduct for purposes of litigating their rights under the Bankruptcy Code. In re Schellenberg, 2010 WL CAG at *2 (Bankr. W.D. Tex May 7, 2010). In Schellenberg, the debtors Chapter 13 case failed, resulting in conversion to Chapter 7. This made it legally possible for debtors to claim new exemptions, including an exemption on a 10

11 personal injury award. Id. at *1. The court did not allow the new exemptions because the trustee and creditors had already relied on the exemptions that the debtors originally claimed. Id. at *3. b. Bad Faith Courts consider the totality of the circumstances in determining whether bad faith exists. This includes not only post-petition conduct, but pre-petition conduct as well. Lundry, 216 B.R. at 611 (Bankr. E.D. Mich. 1998) (citing In re Clemmer, 185 B.R. 935 (E.D. Tenn. 1995)). Debtors should schedule their lawsuits and potential lawsuits as soon as possible in order to avoid the appearance of bad faith. Concealment of an asset, including a cause of action, either constitutes bad faith or forms a separate ground for denying an exemption. See Hardage v. Herring Nat'l Bank, 837 F.2d 1319, 1324 (5th Cir.1988); Doan v. Hudgins (In re Doan), 672 F.2d 831, (11 th Cir. 1982). An honest mistake or omission, however, does necessarily doom a debtor s chance to claim an exemption in a lawsuit. See In re Moore, 203 B.R. 802, (Bankr. S.D. Fl. 1997). In Moore, for example, the debtor filed a worker s compensation claim prior to filing for bankruptcy. When filing for bankruptcy, she did not list this claim on her schedules. She later received a settlement and informed the trustee of that settlement before the creditors meeting. Shortly thereafter, the debtor amended her schedules to include the settlement and attempted to exempt it. In re Moore, 203 B.R. 802, 803 (Bankr. S.D. Fl. 1997). The court focused on the debtor s motive, holding that delay for the purpose of gaining a tactical or economic advantage constitutes bad faith. Id. The court did not find bad faith in Moore because the debtor testified that she delayed because 11

12 her attorney advised her not to schedule the asset until she could accurately value it. At In Williams, the debtors initially failed to schedule a personal injury lawsuit. In re Williams, 337 B.R. 846, 848 (Bankr. E.D. Va. 2005). These debtors were still able to exempt a vehicle purchased with proceeds from this lawsuit because their failure to schedule the lawsuit was an error rather than willful fraud or intentional concealment of assets. Id. at The Debtors subsequent disclosure of the lawsuit during the creditors meeting helped to refute allegations of bad faith. Id at 851. In Barber, however, the court inferred intent to conceal assets and denied an exemption based on the debtor s failure to inform her bankruptcy attorney of a lawsuit and reluctance to answer the trustee s inquiries regarding the status of that lawsuit. In re Barber, 223 B.R. 830, 833 (Bankr. N.D. Ga. 1998). Debtors should schedule any legal claim they have that accrues before they file bankruptcy, even if they have not yet filed a lawsuit. In Lundry, the debtor hired a law firm to litigate his personal injury claim before filing for bankruptcy, but the firm did not file his lawsuit until after debtor filed for bankruptcy. The debtor did not list his unfiled personal injury claim on his schedules. In re Lundry, 216 B.R. at 609. He disclosed his personal injury claim at the creditors meeting, after his counsel filed the lawsuit. Shortly thereafter, the debtor added the personal injury lawsuit to his schedules and claimed a federal exemptions under 11 U.S.C. 522(d)(5) and (11). Id. at Even though the debtor testified that he did not know he was required to disclose the unfiled lawsuit, the court found intent to conceal his asset and denied the exemption. Id. At

13 Although Bankruptcy Rule 1009 allows debtors to amend their schedules and add exemptions freely before their case is closed, debtors would be wise to schedule causes of action as soon as possible to protect potential exemptions. When debtors delay, they run the risk of losing their exemption by prejudicing creditors or appearing to have bad faith. 2. Amending the Schedules and Adding Exemptions After the Case is Closed Bankruptcy Rule 1009 only allows for liberal amendment any time before a case is closed. It does not provide guidance for the rare instances when a cause of action accrues before a debtor files for bankruptcy, but is not discovered until after the case is closed. The Fifth Circuit has not spoken directly to this issue. However, other case law suggest that debtors seeking to add and exempt a legal claim after their case is closed may face a stricter standard than bad faith or prejudice. At least one court has held that, once a case is closed, the right to amend is governed by Federal Bankruptcy Rule 9006(b)(1) rather than Federal Bankruptcy Rule In re Wilmoth, 412 B.R. 791, 796 (Bankr. E.D. Va. 2009). This court held that, once a case is closed, debtors can only amend their schedules to correct omissions caused by excusable neglect. Id. at As with bad faith, courts consider the totality of the circumstances when deciding whether there is excusable neglect. Id. at 797. In Wilmoth, the court did not allow a debtor to claim a state exemption in a personal injury lawsuit. Id. at 794. The debtor filed the lawsuit three months after filing for bankruptcy, but did not attempt to add the cause of action to his schedules or claim the exemption until after his case was closed. The debtor allegedly informed his attorney of his cause of action 1 In Raggie, the court noted that debtors must obtain permission to amend their schedules after a case is close,d but noted that dismissal of a bankruptcy case does not close that case for the purpose of Rule The Raggie court held that, when a case is dismissed rather than closed, the bad faith/prejudice standard applies. See In re Raggie, 389 B.R. 309, 313 (Bankr. E.D.N.Y. 2008). 13

14 earlier, who failed to schedule it in a timely manner. This was not excusable neglect because the delay in amending schedules was significant and the debtor had the ability to ensure that his schedules were amended, even though he had only a seventh grade education and did not appear to have intended to defraud his creditors. Id. at There was no need for a showing of bad faith or prejudice because the case had already been closed. Id. In Goswami, the Ninth Circuit Bankruptcy Appellate Panel held that there is no difference between a never-closed case and a reopened case with respect to amended exemption claims. In re Goswami, 304 B.R. 386, 392 (B.A.P. 9th Cir. 2003). The court held that the bad faith/prejudice standard applies in a re-opened case just as it applies in case that was never closed. Id. at 395. In Oster, a lower court had recently held that, when a case is closed and re-opened, Bankruptcy Rule 1009(a) no longer applies and the debtor loses the right to amend the petition and schedules without the court s permission. In re Oster, 293 B.R. 242, 250 (Bankr. E.D. Cal. 2003). The Oster court suggested that, in re-opened cases, the debtor bears the burden of showing that his or her delay was due to excusable debt rather than the objecting party bearing the burden of proving bad faith or prejudice. Id. at 249, 251. The Goswami court declined to follow the lower court s decision, holding that the bad faith/prejudice standard applies instead. 304 B.R. at 395. An Indiana Bankruptcy Court has offered scathing criticism of the Goswami decision, stating that it contradicted the plain meaning of Rule In re Bartlett, 326 B.R. 436, 439 (Bankr. N.D. Ind. 2005). The court wrote that re-opening a case is not the equivalent of a rewind button which allows one to return to the date of closing, replay the 14

15 tape and, in the process of doing so, rewrite the script to pretend that certain things never happened. Id. at 441. Before a case is closed, debtors may schedule a cause of action and exempt it unless there is a showing of prejudice to creditors or bad faith. It may be more difficult to claim an exemption after a case is closed; the legal standard is not clear. It is clear, however, that debtors should schedule their causes of action as soon as they can in order to avoid the risk of losing their chance of claiming an exemption and, therefore, their interest in their claim. D. Conclusion Debtors who fail to schedule their cause of action can face serious consequences such as sanctions, the loss of their right to prosecute their claim, and the loss of their ability to exempt the proceeds of their lawsuit. Debtors and their attorneys would, therefore, be wise to take care in identifying and scheduling their causes of action. 15

16 A. To preserve it, first you have to identify it. How to Preserve a Cause of Action 1. Practical issues. Getting your client to identify an intangible asset. Or, if you could put a face on a Pinata, whose face would it be. 2. Think broadly. Think 101(5). Unliquidated, contingent, unmatured, disputed, legal, equitable. They all count. Give your client a list. a. Personal injury b. Class action c. Mass tort d. Employment e. Landlord/Tenant f. Lender g. Workplace h. Contract i. Debt j. Bad business deal k. Discrimination l. DTPA m. Professional Malpractice 3. List it on your schedules. Materially is not an issue; just like listing creditors. (B 21 & SFA 4) B. What if you don t list a cause of action on the schedules or SFA? 1. Judicial estoppel and other monsters in the closet. 2. Lost exemptions 3. Civil referrals 4. Criminal referrals 5. Malpractice, substance abuse, chuteless skydiving. C. How to claim proper exemptions for your cause of action. 1. Texas law a. Wages 2. Bankruptcy law a. 522(d)(11) b. 522(d)(10) c. 522 (d)(5)

17 How to Preserve a Cause of Action By Kent Ries 4211 I-40 West, Suite 101 Amarillo, Texas kent@kentries.com A. Introduction The main issue we are dealing with in this topic is preserving a pre-petition cause of action for the benefit of the debtor, creditors and the bankruptcy estate. A frequent reason for a bankruptcy filing is some tort claim suffered by a debtor. Likewise, it is not uncommon for a debtor s filing to be caused by a business failure that leaves unresolved contract claims to be administered in the bankruptcy case. Recently, an increasing number of bankruptcy filings have class action/mass tort litigation as an asset in the case. Regardless of the type of cause of action, it is a frequent problem just to identify these intangible assets. Even sophisticated debtors do not always comprehend that causes of action are assets to be scheduled and valued the same as vehicles and real estate. The consequences of failing to identify and schedule a cause of action can be serious to debtors, their counsel, as well as bankruptcy estates and their creditors. B. Failure to disclose a cause of action in a Chapter 7 bankruptcy case. 1. Judicial estoppel and similar theories. Browning Manufacturers v. Mims (In Re Coastal Plains, Inc.) 179 F. 3d 197 (5 th Cir. 1999) is a leading Fifth Circuit case that applied judicial estoppel as a complete bar to recovery for the failure of the debtor to disclose a cause of action in its bankruptcy case. The Fifth Circuit held: Page 1

18 1. Federal law governs the application of judicial estoppel in federal courts. Id. at The purpose of the doctrine was to protect the judicial system, not the litigants. Thus detrimental reliance by the asserting party is not necessary. Id. 3. The Code imposes an affirmative duty to disclose all assets, including contingent and unliquidated claims. 11 USC 521(1). Id. at The duty of disclosure is a continuing one, and a debtor is required to disclose all potential causes of action. Id. at The first prong of judicial estoppel is taking inconsistent positions. This is satisfied by pursuing a claim that was not disclosed in the party s bankruptcy case. The Court rejected the argument that filing an adversary on that claim within a week after filing its bankruptcy case was sufficient disclosure. That factor might have been relevant in equitable estoppel, where detrimental reliance is an issue, however, as stated in No. 2 above, reliance is not an element in judicial estoppel. Id. at By failing to schedule a claim, the party is representing that no claim exists. That satisfies the inconsistent positions element. Id. at The bankruptcy courts acceptance of the debtors position is the second prong of judicial estoppel. (Generally this element is satisfied if the court enters a discharge order in a no asset case.) For bankruptcy cases, a debtor s failure to satisfy its statutory disclosure duty is inadvertent only when the debtor lacks knowledge of the claim or has no motive for its concealment. Id. Page 2

19 The Coastal Plains issue arose after a Chapter 11 case was converted to a Chapter 7, closed as a no-asset case, and then reopened to administer the claim asserted in the adversary. Essentially the Ch. 11 debtors actions were used to preclude a Ch. 7 Trustee s claim against a third party. It is also noteworthy the Coastal Plains was a business case, and that the claim asserted was of a contractual nature. It does not appear that judicial estoppel turns on the nature of the debtor or the type of claim at issue. In In Re Superior Crewboats, Inc. 374 F 3d 330 (5 th Cir 2004) a Chapter 13 debtor failed to schedule a personal injury case, filed a state court claim during the pendency of the Chapter 13, and then converted the Chapter 13 to a Chapter 7 case. The debtors did disclose the pending state court litigation in their converted case s 341 meeting, however they told the trustee the claim was barred by a statute of limitations. The bankruptcy was closed as a no asset case and the state court litigation was specifically abandoned by the trustee. The Fifth Circuit found judicial estoppel applied and held: 1. As in nearly all bankruptcy related cases, the claimants position is found inconsistent as the debtor s failure to comply with their statutory duty to disclose all potential claims by definition satisfies this element. Id. at The trustee s action in abandoning the claim and filing a no asset report was found to be acceptance by the Court as part of the discharge order. Id. 3. The third element excusing nondisclosure as inadvertent was met since (a) the debtors actively pursued their claim in state court, refuting any lack of knowledge argument Page 3

20 and (b) the debtors had motive for their nondisclosure (concealment) as they had received a discharge and stood to receive a windfall on their personal injury claim. Id. 4. The Court also rejected any right of the debtor to reopen their case and amend their schedules. Essentially, the Court found that disclosing assets after they were caught concealing them is not a strategy that will win the day. Id. at 336 In Kane v. National Union Fire Insurance Company 535 F 3d 380 (5 th Cir 2008) the debtors personal injury action was pending in state court when they filed their Chapter 7 case. They failed to schedule their claim, failed to inform the case trustee of their claim and received a discharge in a no asset case. After the state court defendant moved for summary judgment on judicial estoppel grounds, the debtors moved to reopen their bankruptcy case. After the bankruptcy court reopened the case, the trustee moved to intervene in the state court litigation as the real party in interest. The Fifth Circuit held: 1. An unscheduled asset, such as the personal injury claim at issue, is not abandoned under 554(c)&(d). Therefore, the claim remains property of the estate even after the bankruptcy case closes. Id. at The Chapter 7 trustee is the real party in interest, as she is the only party with standing to prosecute the claim. Id. 3. Equity under these facts weighs in favor of the bankruptcy estate and its creditors over the state court defendant. This crucial distinction requires the opposite result from the above cases where the bankruptcy debtor would have been the beneficiary of its wrongful act of nondisclosure. Id. at 387 Page 4