Supreme Court Holds That Fraud Exception to Debt Discharge can Include Fraud by Someone Other Than the Debtor

Supreme Court Holds That Fraud Exception to Debt Discharge can Include Fraud by Someone Other Than the Debtor

We have previously blogged about Bartenwerfer v. Buckley, No. 21-908, a Supreme Court case concerning the scope of the fraud exception to the dischargeability of debts in bankruptcy. Section 523 of the Bankruptcy Code exempts from discharge “any debt . . . for money, property, services, or an extension, renewal, or refinancing of credit, to the extent obtained by . . . false pretenses, a false representation, or actual fraud. . . .” 11 U.S.C. § 523(a)(2)(A). Bartenwerfer considers whether the fraud required by this section need be the debtor’s fraud or fraud known to the debtor. On February 22, the Supreme Court answered no.

To review, Kate and David Bartenwerrfer were sued by Kieran Buckley, who obtained a damages award against them for breach of contract, negligence, and nondisclosure of material facts. The Bartenwerfers then filed for bankruptcy. Buckley brought an adversary proceeding against them and argued that the state court judgment he had obtained was nondischargeable under section 523(a)(2)(A) because it was a debt that had been obtained through fraud.

Kate Bartenwerfer (“Bartenwerfer”) argued that because she had no knowledge of the false representations, the debt she owed pursuant to the judgment was not covered by section 523(a)(2)(A) and was dischargeable. The Ninth Circuit ultimately held that section 523(a)(2)(A)’s application did not depend on the debtor’s knowledge of the fraud, and so was applicable to Bartenwerfer.

The Supreme Court affirmed. In a unanimous opinion by Justice Barrett, the Court focused on section 523(a)(2)(A)’s text, and particularly that it is written in the passive voice: the section refers to a debt “obtained by” fraud without specifying an actor. The Court rejected Bartenwerfer’s arguments that context limited “obtained by” to actions of the debtor.

The relevant context, the Court explained, is the common law of fraud, which maintains that liability for fraud is not limited to the wrongdoer—for example, principals can be liable for the frauds of their agents and partners can be liable for the frauds of their partners. Likewise, the Court rejected Bartenwerfer’s argument, relying on the principle that exceptions to discharge should be narrowly construed and noting that the Court had never invoked this principle to artificially narrow ordinary meaning.

The Supreme Court also rejected an argument Bartenwerfer made concerning the relationship between section 523(a)(2)(A) and section 523(a)(2)(B). Section 523(a)(2)(B), which governs statements respecting a debtor’s financial condition, requires that the false statement be made by the debtor with intent to deceive. (Section 523(a)(2)(A) exempts statements respecting a debtor’s financial condition.)

Bartenwerfer argued that it makes no sense for debtors to be subject to a stricter standard in subpart (A) than in subpart (B). Relying on Field v. Mans, 516 U.S. 59 (1995), the Court responded that Congress may have enacted a more debtor-friendly rule in (B) out of concern for cases in which consumer finance companies encouraged borrowers to submit false financial statements for the purpose of insulating their claims from discharge.

The Supreme Court also noted that it had interpreted earlier statutes providing for a fraud exception to discharge to not be limited to fraud committed by the debtor, and that Congress in the late nineteenth century had deleted “of the bankrupt” from the discharge exception that was a precursor to section 523(a)(2)(A). Finally, the Court rejected Barternwerfer’s arguments based on the fresh start policy of bankruptcy law, reasoning that the Bankruptcy Code balances multiple competing interests, and noting that the actual scope of liability for another’s fraud is defined and limited by state law.

Justice Sotomayor, joined by Justice Jackson, filed a concurrence. She noted her agreement with the Court’s holding, stating that Congress incorporated the common-law principles of fraud into the statute. However, Justice Sotomayor also stated that the Court was not confronting a situation where the fraud was committed by someone with no agency or partnership relationship to the debtor, and the common-law context invoked by the Court pertained only to a situation where such a relationship existed. She joined the Court’s opinion on that understanding.

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Amer Mustafa

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