Justices debate bankruptcy treatment of debts incurred by fraud

ARGUMENT ANALYSIS

Unless they find another case in the next few weeks, the argument Tuesday in Bartenwerfer v. Buckley will bring a close to this term’s encounters with the Bankruptcy Code. As I explained in my preview of the argument, Bartenwerfer presents a statutory puzzle: whether the language of the code permits a person in bankruptcy to discharge a debt incurred through the fraud of her husband.

The question comes from the language of Section 523(a)(2)(A) of the Bankruptcy Code, which  protects – and thus preserves from the discharge – any creditor’s claim for “money … obtained by … actual fraud.” The claim in the case was incurred through the fraud of David Bartenwerfer; Kate Bartenwerfer, who did not herself commit fraud, is nevertheless liable for that fraud because David was acting as her partner (in selling the house that they owned jointly).

Kate Bartenwerfer’s counsel (Sarah Harris) steadily pressed her argument that because the statute is discharging claims against the debtor, the provision only makes sense if the debts that the exception preserves were incurred through fraud of the debtor; because the fraud here was by another person (her husband), her bankruptcy should discharge the debt. But none of the justices seemed to find that argument plausible. The criticism started with Justice Clarence Thomas. He challenged Harris’s “focus on the debtor,” pointing out that the language of subparagraph (A) “focuses on the debt. It is … talking about money or debt that’s obtained by fraud. How do you convert that into a statute that is focusing on the debtor?”

When Harris responded by pointing to specific textual references to the “debtor” in adjacent provisions, Thomas quickly interjected: “Doesn’t it work against you that some of these provisions that you’re referring to actually speak in terms of ‘the debtor’ and refer specifically to ‘the debtor’? … Doesn’t that argue against … treating this provision the exact same way that does not refer to ‘the debtor’?”

Justice Elena Kagan came next. For Kagan, Harris’s discussion seemed “to be saying that Congress is just careless when it writes this statute.” As Kagan went on to explain, though, congressional carelessness doesn’t suggest a vote for Harris: “There are some statutes where Congress is careless. But here we are. We have a text. The text, it seems to me, cuts against you. … It’s the individual debtor that has the debt, but, after that, it’s for money obtained by false pretenses and fraud, anyone’s false pretenses and fraud.” Kagan commented that she would need “something very significant that goes against the language” to justify Harris’s argument that the court should “insert the words ‘the debtor’s own fraud’” into subparagraph (A).

And it only went downhill from there, as Justice Ketanji Brown Jackson weighed in from the end of the bench with a slightly different theory. Jackson reasoned that Bartenwerfer should lose “even if we agree … that it has to be the debtor’s fraud.” Jackson pointed to “vicarious liability,” which holds each partner responsible for the fraud of other partners. Jackson repeatedly emphasized a bankruptcy case from the 19th century (Strang v. Bradner) in which the Supreme Court applied that precise principle, as well as a more recent case under the Bankruptcy Code (Field v. Mans). In Jackson’s summary, Field holds “that fraud in the Bankruptcy Code is defined by common law principles. And we do have in the common law this notion that people are held responsible for the fraud of agents.” For Jackson (showing off her pre-argument preparation), “if you read Field, it’s very clear – it’s a Justice Souter opinion from 1995 – we’re saying that there was no reason to doubt Congress’s intent to adopt a common law understanding of the terms that it used in this very statute.”

More skepticism – this time from the center of the bench, Chief Justice John Roberts. Roberts was preoccupied with the distasteful protection of “an individual debtor whose partner is guilty of fraud,” even though the debtor “may well benefit from [the fraud] since … the money may well go to … assets for the partnership.” Roberts suggested that it would be intolerable to permit discharge in that case when the partner knew about the fraud. As Harris tried to respond, Roberts repeated that conclusion again and again: “She knew about the fraud, didn’t do anything about it, and yet you would say she’s … discharged …. If she knew about it. She knew about it. She knew about it and didn’t do anything.”

Justice Sonia Sotomayor was next, taking the discussion back to Jackson’s point about common law rules for fraud: “So under common law aren’t you liable for the fraud of an agent or partner?” For Sotomayor, yet another of the court’s earlier cases (Husky International Electronics v. Ritz) required the conclusion that the court should impute the fraud of the husband/partner to Bartenwerfer herself.

As Harris’s argument wound down, Kagan and Justice Samuel Alito brought the discussion back to the Strang case Jackson mentioned. Harris had argued that Strang was irrelevant because of changes in the bankruptcy statute, but Alito and Kagan found those changes cut against Bartenwerfer. Alito quipped: “You mentioned very briefly that we shouldn’t be concerned about it because it was interpreting the bankruptcy law in effect in 1885. But the statute in effect there was more hostile to your position than the statute in effect here.” And then Kagan added: “As Justice Alito said, that was a more hostile statute to your position. And afterwards, what Congress does is it amends the statute so that the text of the statute actually reflects better the Strang holding. So shouldn’t we take from that that … Congress looked at the Strang holding and basically said let’s fix the statute so that we can reflect that holding quite clearly?”

The justices’ discussion with Zachary Tripp (representing the creditor trying to protect its claim against Bartenwerfer) was not nearly so hostile. The justices for the most part seemed to be debating the best path to a decision. In the absence of Justice Stephen Breyer, it was Sotomayor who posed the key hypothetical: “I obtain a loan fraudulently. Later, I sell that debt to my friend, Justice Thomas, who has no idea about the fraud. Justice Thomas … files for bankruptcy. He wants to discharge the debt. Can he?” The point of the hypothetical was that Thomas is completely innocent of and uninvolved with the fraud, much more remote from it than Bartenwerfer. Yet Tripp’s argument would impose liability on Thomas. Tripp certainly hemmed and hawed for a while, but he stuck to his position that the simplest thing for the court to do is to apply the statute as written, even if it left Thomas liable for the debt.

Tellingly, the reaction of the bench was not to pounce and declare that result intolerable. The tone was much gentler. Justice Amy Coney Barrett, for example, interjected that “you have a good argument on the text, but there is kind of an anomaly here. … Look, I think the language cuts in your favor. I’m just asking you, as a policy matter, why do you think Congress would have had such a harsh result.”

Jackson, who at times seemed to be auditioning to draft the majority opinion, suggested that Tripp was “encouraging us not to do more than we have to, and I understand that, but why wouldn’t the text just lend itself [to us] saying just that individual debtors’ liability can arise through vicarious liability, see Strang.” Jackson suggested that imposing liability in the Thomas hypothetical would be “what I would consider to be the maximalist thing, saying it can be anybody’s fraud.” The Strang analysis “seemed to me to be a narrower way to do this, but maybe I’m looking at it wrong.”

As the discussion continued, Sotomayor supported Jackson’s approach, emphasizing that in her hypothetical “it’s not Justice Thomas’s fraud. He wasn’t a partner with me who committed the fraud. He didn’t even know about the transaction, that it was fraudulent. So why should he be held liable? That’s the advantage of Justice Jackson’s approach, isn’t it?”

One entertaining theme of the argument was the repeated discussion of the “careless” drafting of the Bankruptcy Code. In addition to Kagan’s comment discussed above, Alito suggested that “when I look at all the provisions that have been cited, some talk about ‘the debtor,’ some don’t talk about ‘the debtor,’ it looks more haphazard than a pattern from which we can infer very much. No?” And then at the very end of the argument, Kagan asked Erica Ross (who appeared on behalf of the government, opposing the discharge), whether she thought that “Harris is right that this was all kind of like an accident, [that] whether it says ‘of the debtor,’ whether it doesn’t say ‘of the debtor,’ Congress was careless, Congress wasn’t thinking about it, it means nothing. But I’m just wondering whether you think that that’s right, that this is basically carelessness.” Ross, predictably enough, argued that the drafting was not carelessness but rather reflected some level of intent, suggesting that the apparently haphazard inconsistencies result in many cases from the combination of many provisions written for different purposes at different times.

In the end, the basic problem for Harris is the combination of a conclusion that the statute is at worst careless with a complete lack of feeling that it is in any way remarkable that Bartenwerfer’s liability would pass through the bankruptcy undischarged. Lacking a strong advocate for her position, and facing strong opposition from such a disparate group of justices, the most likely outcome would be a brief and unanimous opinion, perhaps from the court’s recently appointed junior justice.

Author: Eliza