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In a decision intended to provide more predictability as to the applicability of sanctions for bankruptcy discharge violations, the U.S. Supreme Court established an objective standard for determining what kind of conduct will subject creditors to contempt sanctions. Reversing a ruling of the U.S. Court of Appeals for the Ninth Circuit, the Court held in Taggart v. Lorenzen, 587 U.S. __ (2019) that a creditor’s “good faith belief” that a discharge order did not restrain its actions was insufficient to avoid the imposition of sanctions. In doing so, the Court rejected the use of subjective standards and held that a court may sanction a creditor for violation of a discharge order if there is “no fair ground of doubt” as to whether the order prohibited the creditor’s conduct. While the Lorenzen decision should lead to more uniformity in imposing sanctions, the determination of what constitutes a “fair ground of doubt” may vary from creditor to creditor and from court to court.

Authors: Perry A. Napolitano Justin J. Kontul Jared S. Roach Brian J. Willett

In a unanimous opinion issued June 3, 2019, the U.S. Supreme Court held that a creditor’s “good faith belief” that a discharge order was inapplicable to that creditor’s claim was insufficient to preclude a finding of contempt for violation of the order. The ruling in Taggart v. Lorenzen, 587 U.S. __ (2019) reversed the decision of the U.S. Court of Appeals for the Ninth Circuit, which held that even an unreasonable belief by a creditor that its actions would not violate a discharge order could shield the creditor from sanctions, if that belief was held in good faith. The Supreme Court rejected this subjective standard as well as a strict liability standard and instead established that a court may sanction a creditor for violation of the discharge order if there is “no fair ground of doubt” as to whether the order prohibited the creditor’s conduct. This standard aims to strike a balance between overly strict and purely subjective analyses and offers increased predictability.

In Lorenzen, the Petitioner (Taggart) was initially sued in Oregon state court for breaching his former company’s operating agreement. During the suit but before trial, Taggart filed for Chapter 7 bankruptcy. When that proceeding concluded, the Bankruptcy Court for the District of Oregon (the “bankruptcy court”) issued a discharge order stating that the debtor “shall be granted a discharge under §727.” That section provides that debtors granted a discharge are relieved from “all debts that arose before the date of the order for relief,” except for those listed in 11 U.S.C. §523. After the bankruptcy court issued the discharge order, the state court entered judgment against Taggart. The prevailing plaintiff, Sherwood, filed a petition seeking attorney’s fees incurred after Taggart filed his bankruptcy petition. Citing In re Ybarra, 424 F.3d 1018 (9th Cir. 2005), Sherwood argued that while discharge orders normally cover postpetition attorney’s fees stemming from prepetition litigation, that principle does not apply where a discharged debtor “returned to the fray” of litigation after filing for bankruptcy. The state court agreed with Sherwood and ordered Taggart to pay the fee request of approximately $45,000.