Bankruptcy Bulletin: Section 523(a)(2)(A)’s Passive Voice Prevents Discharge for Passive Beneficiaries of Fraud

By David Tanabe posted 05-12-2023 08:25 AM



Contributing Editor: Andrew Page, Maslon LLP

In Barternwerfer v. Buckley, the United States Supreme Court held that 11 U.S.C. § 523(a)(2)(A), which bars debtors from discharging any debt obtained by fraud, applies to a debtor liable for fraud she did not personally commit. In other words, § 523(a)(2)(A)’s discharge exception for debt “obtained by . . . fraud” does not require the debtor to be the fraudster. So long as the individual debtor is found to be liable for another’s fraud under state law, the debt is not dischargeable under § 523(a)(2)(A).

Kate Bartenwerfer and her then-boyfriend and business partner, David Bartenwerfer, decided to remodel a house and sell it at a profit. David took charge of the project while Kate remained largely uninvolved. When they sold the house to Kieran Buckley, the Bartenwerfers attested that they had disclosed all material facts relating to the property. Buckley subsequently discovered several undisclosed defects and sued the Bartenwerfers in California state court. The state-court jury ruled in Buckley’s favor and held the Bartenwerfers jointly liable for damages.

The Bartenwerfers then filed for chapter 7 bankruptcy and Buckley filed an adversary complaint alleging that the state-court judgment was a debt obtained by fraud and therefore nondischargeable. Based on testimony, the bankruptcy court found that David knowingly concealed the defects from Buckley and his fraudulent intent could be imputed to Kate as his legal business partner. The 9th Circuit Bankruptcy Appellate Panel reversed, holding that § 523(a)(2)(A) barred Kate from discharging the debt only if she knew or had reason to know of David’s fraud. The bankruptcy court, on remand, found that Kate lacked the requisite culpability under the BAP’s holding and the BAP affirmed the new judgment. The 9th Circuit subsequently reversed and held that a debtor liable for her partner’s fraud cannot discharge that debt in bankruptcy, regardless of culpability.

The United States Supreme Court unanimously held that Kate could not discharge the debt. Justice Barrett, writing for the Court, focused on every legal writing professor’s favorite topic: passive voice. Section 523(a)(2)(A) states that an individual debtor is not discharged from a debt “to the extent obtained by—(A) false pretenses, a false representation, or actual fraud . . . .” Kate argued that the statute is most naturally read to bar discharge of debts for money obtained by the debtor’s fraud. As an example, she offered the sentence “Jane’s clerkship was obtained through hard work,” which she argued is most naturally read to mean that Jane’s hard work led to the clerkship, not just any person’s hard work. Justice Barrett, in a passage destined to be quoted in the next edition of every legal writing book, writes that Kate’s hypothetical sentence conveys only that someone’s hard work led to Jane’s clerkship, whether it be Jane’s hard work, a recommender’s hard work, or a career counselor’s hard work. Section 523(a)(2)(A)’s phrasing is similarly broad: the text conveys only that someone’s fraud led to the debt being obtained. However, Justice Barrett noted, the debtor does need to be liable in some way for the fraud and § 523(a)(2)(A) does not define the scope of that liability. For that question, state law governs; bankruptcy law takes a debt as it finds it.

In the rest of the opinion, Justice Barrett drilled down on further historical support for the Court’s determination that § 523(a)(2)(A) does not require the debtor to have committed the fraud. First, the Court has previously held that passive voice signifies Congress’s focus on the event that occurs, not the actor. Second, Congress’s use of active language in §§ 523(a)(2)(B) and (C) implies that Congress’s use of passive language in § 523(a)(2)(A) was intentional. Third, when Congress passed the Bankruptcy Act in 1898, it removed pre-1898 language that limited the discharge exception to fraud “of the bankrupt,” signifying Congress’s decision to embrace pre-1898 case law that held individuals liable for the frauds committed by their partners in the scope of a partnership. Finally, Justice Barrett noted that a debtor’s interest in a “fresh start” does not erase state fraud liability; if that were the case, § 523 would not exist.

In a concurring opinion, Justice Sotomayor, joined by Justice Jackson, clarified that the Court’s prior holdings already incorporated into § 523 the common-law principles of fraud, which include agency and partnership principles. As a result, the Court’s same conclusion could be reached by noting that the bankruptcy court found Kate and David to have an agency relationship, which makes her liable for his fraud regardless of her culpability under state law. However, Justice Sotomayor noted, the Court’s holding should be read as addressing situations in which the fraudster has no agency or partnership relationship with the debtor.  

To read the full opinion, click here.


C.J. Harayda, Stinson LLP
David M. TanabeWinthrop & Weinstine, P.A.

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