Judicial Estoppel Bars Lawsuits Not Disclosed in Bankruptcy

In Berge v. Kudo Mader and DMG America, Inc., the Illinois Appellate Court affirmed the trial court’s application of judicial estoppel dismissing a plaintiff’s state court negligence lawsuit where she had failed to disclose the lawsuit in her bankruptcy proceedings. [1]

The plaintiff filed chapter 13 bankruptcy in April 2006, and filed a negligence complaint in state court based on an auto accident in November 2007. She converted her case to chapter 7 in May 2009. The bankruptcy court entered an order of discharge in October 2009. It was undisputed that the plaintiff never disclosed her state court claim in her bankruptcy case despite many opportunities to do so. [2]

The question presented for review was whether a plaintiff’s failure to disclose a cause of action as an asset in her bankruptcy case prevented her from proceeding with that cause of action in state court under the doctrine of judicial estoppel.

Judicial estoppel prevents a party who makes a representation in one case from taking a contrary position in another case. [3] Illinois courts have determined that judicial estoppel has the following five separate elements:

1. the two positions must be taken by the same party;
2. the positions must be taken in judicial proceedings;
3. the positions must be given under oath;
4. the party must have successfully maintained the first position, and received some benefit thereby; and
5. the two positions must be ‘totally inconsistent.’ [4]

The Appellate Court found that all five elements were present in this case. She had taken a position in bankruptcy court that she had no pending lawsuits, which was inconsistent with her proceedings in state court. These positions were taken under oath, yet she never disclosed the lawsuit to the bankruptcy court and received a bankruptcy discharge of her debts. The Appellate Court noted that while there was a paucity of state cases directly addressing this issue, federal caselaw was also consistent with the view that a debtor who does not disclose an asset cannot later realize a benefit from that concealed asset. [5]

The Appellate Court rejected the plaintiff’s contention that the state court did not have jurisdiction to decide whether judicial estoppel applied, noting that it was axiomatic that jurisdictional issues can be raised at any time, even sua sponte. [6]  The Appellate Court also disagreed with the plaintiff’s argument that “bad faith” was a necessary element for the imposition of judicial estoppel, based on the five elements of judicial estoppel that Illinois courts have considered. [7]

The Appellate Court also found the plaintiff’s arguments that it was her attorney that failed to schedule the lawsuit, as well as her effort to amend her bankruptcy petition after being faced with the motion seeking application of judicial estoppel against her, unimpressive. [8] Finally, it rejected the plaintiff’s argument that she should be allowed to try to prove that her contradictory filings made under oath were really inadvertent or the result of some mistake, finding the plaintiff’s failure to satisfy her disclosure duty not inadvertent as defined in federal cases. [9]

[1] 2011 IL App (1st) 103778, 957 N.E.2d 968, 354 Ill.Dec. 374 (1st Dist. 2011).

[2] ¶ 3.

[3] ¶ 12 (citing Bidani v. Lewis, 285 Ill. App. 3d 545 (1996)).

[4] ¶ 13 (citing Ceres Terminals, Inc. v. Chicago City Land & Trust Co., 259 Ill. App. 3d 836, 851 (1994)).

[5] ¶ 16 (citing Cannon-Stokes v. Potter, 453 F.3d 446 (7th Cir. 2006); Payless Wholesale Distributors, Inc. v. Alberto Culver (P.R.), Inc., 989 F.2d 570 (1st Cir. 1993); Krystal Cadillac-Oldsmobile GMC Truck, Inc. v. General Motors Corp., 337 F.3d 314 (3d Cir. 2003); Jethroe v. Omnova Solutions, Inc., 412 F.3d 598 (5th Cir. 2005); United States ex rel. Gebert v. Transport Administrative Services, 260 F.3d 909, 917-19 (8th Cir. 2001); Hamilton v. State Farm Fire & Casualty Co., 270 F.3d 778 (9th Cir. 2001); Barger v. City of Cartersville, 348, F.3d 1289, 1297-98 (11th Cir. 2003) (Barkett, J., dissenting)).

[6] ¶  5 (citing City of Marseilles v. Radke, 287 Ill. App. 3d 757 (1997)).

[7] ¶ 6-7 (distinguishing Dailey v. Smith, 292 Ill. App. 3d 22, 26 (1997) where the court found that omitting a claim in bankruptcy on good faith reliance upon advice of counsel did not invalidate a debtor’s discharge, since the present action was not a challenge to the debtor’s discharge, but a negligence action)).

[8] ¶  17-18.

[9] ¶ 19.

Tags: disclosure obligations, judicial estoppel, jurisdiction

Elements of Fraudulent Transfers (Constructive Fraud): Part 2

From a post I originally wrote on March 19, 2012:

On Friday, I wrote about the elements of an actual fraud claim under state law. Today I discuss the type of fraud that courts have referred to constructive fraud, and what the difference is.

Actual fraud generally involves an improper intent on the part of the transferor, which must be proven by clear evidence. [FN1] Such intent is the key element in establishing actual fraud.

The analysis with constructive fraud, on the other hand, does not require any showing of fraudulent intent. Rather, it focuses on the consideration given for a transaction and the financial condition of the party making the transfer.

While there are variations in the versions of the UFTA adopted by state law, in general, the following elements are needed to establish that a transfer was constructively fraudulent [FN2]:

1. that the debtor transferred property voluntarily;
2. that the debtor did not receive fair consideration (or “reasonably equivalent value”) at the time of the transfer; and
3. that the debtor was insolvent or became insolvent as a result of the transfer.

The court will presume that a transfer is constructively fraudulent if the party challenging the transfer can demonstrate that these elements are met. The party defending against the constructive fraud charge typically then will be given an opportunity to rebut the presumption.

In the Premier Data Solutions case, a bankruptcy trustee challenged payments from a corporate debtor’s checking account in the amount of $39,602.03 to the ex-spouse of the corporation’s president. [FN3] The court found that the corporation did not owe the ex-spouse any money and all of the payments made were personal obligations of the corporation’s president on account of orders and agreements in state court divorce proceedings. The court also found that the facts presented at trial clearly established that the corporation was insolvent during the period of the transfers.

The court noted that the determination of reasonably equivalent value is not made by a fixed mathematical formula, but by comparing the value of what was transferred to the value of what was received in exchange. [FN4] Based on these factors, the court found the transfers were made for less than adequate consideration during a period where the debtor corporation was insolvent. The court also found that the ex-spouse’s defense that the money was actually loaned back to the corporation was not credible since funds of the corporation had been used for personal purposes. As a result, the court concluded that the trustee was entitled to judgment.

It is worth noting that the trustee in this case brought her constructive fraud claims under both federal and state law, although the court based its decision only on federal law. While the elements of establishing both actual and constructive fraud under federal and state law are similar, fraudulent transfer claims brought under state law often have a longer lookback period (often four years or more rather than two years), meaning that a creditor relying on state law could challenge a transfer made four or more years ago. [FN5]

The Grube case discussed Friday and the Premier Data Solutions case illustrate the basic elements of fraudulent transfer claims sounding in actual fraud or constructive fraud. Being mindful of factors which could signal a red flag in estate planning or other transfers of property may help both debtors and creditors in avoiding problems and determining appropriate next steps. [FN6]

[FN1] Grochocinski v. Schlossberg (In re Eckert), 388 B.R. 813, 839 (Bankr. N.D. Ill. 2008) (holding that the moving party must prove elements of actual fraud under Illinois law by clear and convincing evidence and collecting cases).

[FN2] See e.g. 740 ILCS 160/5.

[FN3] Skinner v. Gorman (In re Premier Data Solutions, Inc.), 2012 WL 400063, Bankr. No. 08-91050, Adv. 10-9029 (Bankr. C.D.Ill. 2012).

[FN4] Id. (citing Barber v. Golden Seed Company, Inc., 129 F.3d 382 (7th Cir. 1997)).

[FN5] See 11 U.S.C. §§ 548 and 544(b), 740 ILCS 160/5.

[FN6] Persons with further questions are encouraged to consult with a licensed attorney in their jurisdiction. See also disclaimer below.

Tags: consideration, constructive fraud

Elements of Fraudulent Transfers (Actual Fraud): Part 1

From a post I originally wrote on March 16, 2012:

This post is the first of two discussing two recent cases illustrating the basic ideas behind fraudulent transfer claims. [FN1]

At some point in their lives most people will engage in basic estate planning, the process of arranging for the disposal of a person’s estate. This process can involve wills, trusts, beneficiary designations, powers of appointment, property ownership and powers of attorney.

When the transfer of property under the rubric of estate planning redirects assets available to satisfy claims of creditors, however, such transfers may be more heavily scrutinized and challenged by creditors. If the transferor subsequently files bankruptcy, the bankruptcy trustee appointed in the case also has powerful tools to bring such claims on behalf of creditors.

In building a case for fraud, a creditor can seek to demonstrate “actual fraud” or “constructive fraud.” One of the ways a creditor can demonstrate actual fraud is by demonstrating that a party transferred property with an intent to keep their property from creditors’ claims, at a time when they were under financial distress.

Since people will rarely admit to such an intent, courts have historically relied on certain factors, known as “badges of fraud,” to determine whether it exists. Most states have enacted a version of what is known as the Uniform Fraudulent Transfer Act (“UFTA”). [FN2] Illinois’ version of the UFTA lists eleven non-exclusive factors that may be considered:

1. the transfer or obligation was to an insider;
2. the debtor retained possession or control of the property transferred after the transfer;
3. the transfer or obligation was disclosed or concealed;
4. before the transfer was made or obligation was incurred, the debtor had been sued or threatened with suit;
5. the transfer was of substantially all the debtor’s assets;
6. the debtor absconded;
7. the debtor removed or concealed assets;
8. the value of the consideration received by the debtor was reasonably equivalent to the value of the asset transferred or the amount of the obligation incurred;
9. the debtor was insolvent or became insolvent shortly after the transfer was made or the obligation was incurred;
10. the transfer occurred shortly before or shortly after a substantial debt was incurred; and
11. the debtor transferred the essential assets of the business to a lienor who transferred the assets to an insider of the debtor.

A recent bankruptcy case from Illinois illustrates these principles. [FN3] In the Grube case, a bankruptcy trustee asserted that a debtor had committed actual fraud by transferring ownership interests in two corporate entities to his wife. The debtor asserted the transfers were made for estate planning purposes, and not with the intent to hinder, delay or defraud any creditor. To support his case, he included a declaration from their estate planning lawyer. The trustee contended that the debtor’s story was too incredible to past muster, as there existed eight of the eleven statutory badges of fraud when the transfers were made. These badges included the fact that the debtor’s business interests were all doing poorly and had equity totaling the amount of $1,150,000 when transferred.

While the trustee had moved for summary judgment on the actual fraud claims in his case, the court ultimately concluded that a further trial was needed to determine the debtor’s actual intent at the time of the transfer. The case illustrates the complications that can arise due to creditors’ claims in certain estate planning situations.

[FN1] As with all legal content I will post on this website, nothing contained herein is intended as legal advice or creating an attorney-client relationship and is provided for informational purposes only. Persons with further questions are encouraged to consult with a licensed attorney in their jurisdiction.

[FN2] 740 ILCS 160/5(b).

[FN3] Barber v. Grube (In re Grube), 462 B.R. 663, Bankr. No. 09-81713, Adv. No. 10-8011 (Bankr. C.D. Ill. 2012).

Tags: actual fraud, badges of fraud, fraudulent transfers

Credit Slips Policy Discussion on Pro Se Filers

From a post I originally wrote on March 7, 2012:

Today I wanted to mention the Credit Slips blog to those that may not be familiar with it. Credit Slips is self-described as being a blog on all things about credit, bankruptcy, consumers and financial institutions, with nine contributing academics who regularly write with their knowledge and passion. I recommend it to anyone interested in thought-provoking policy discussion on these topics.

This past week, Credit Slips featured a post from Professor Angela Littwin of the University of Texas School of Law on the chapter that she wrote for Broke, a new book regarding bankruptcy and the middle class. Her chapter is entitled The Do-it-Yourself Mirage: Complexity in the Bankruptcy System.

In it, based on her review of recent empirical data, Professor Littwin makes two interesting arguments. First, she argues that bankruptcy has become so complex that even those with high educational backgrounds have difficulty filing for it correctly without a lawyer. Second, she points to her conclusion that it may be the role of lawyers that assist the bankruptcy system to run effectively to the extent it does.

While I do not represent consumer debtors in my present practice other than on an occasional pro bono basis, I have frequently witnessed in court the struggles faced by pro se persons (i.e. those going to court without a lawyer). Their cases seem to more often suffer from consequences such as dismissal of the case on technicalities and successful routine motions by creditors or trustees due to failure to adequately defend, all costly errors which a lawyer can help to avoid.

Some courts, such as in Massachusetts, offer some basic assistance for pro se filers. But, even this is likely only a limited solution, as in most if not all cases, getting representation is advisable to help the case run more smoothly and manage complications. As highlighted by Professor Littwin, balancing the cost of hiring of lawyer with keeping bankruptcy accessible to the neediest persons continue to be sensitive issues.

With my friend David Yen, I co-wrote an article a few years back entitled The New Bankruptcy Law: Challenge and Opportunity on the 2005 bankruptcy amendments, which added significant layers of complexities to the modern-day bankruptcy system, particularly for consumers. I am happy to send a copy to anyone who contacts me.

Tags: bankruptcy, pro se, role of lawyers

How I Ended Up on My Career Path as a Bankruptcy Lawyer

From a post I originally wrote on February 27, 2012:

A question that I have gotten some variation of over the years is, “Why did you become a lawyer?”

The path I have taken to this career was not clear, but continuing in it has been easy for me.

I originally went to law school because I was not really sure what I wanted to do, yet thought I could develop some useful skills. I liked to read and write, and I heard there would be books there. I also liked the idea of developing my speaking and advocacy skills. While in school, I thought I might do something in securities litigation after a summer internship with the Commodity Futures Trading Commission and a year clerking for a commercial and securities attorney.

When I graduated from law school in 2000 during a recession, however, jobs were not exactly plentiful. By Labor Day of that year, I had exactly one offer, from a solo practitioner practicing bankruptcy law in downtown Chicago. I convinced myself that was what I had always wanted to do and took the job.

My first boss was well-regarded and well-liked in the community, and easy to work for. I wasn’t paid very much, but I was soon working long hours simply because I loved the work. Being at a small firm, I was immediately given a lot of responsibility. I met with clients and went to court four mornings a week. In my years of practice in Chicago, I occasionally covered quick hearings, but more frequently I was sitting through extended motion sessions which lasted several hours. It was fascinating, and one of the richest learning experiences I have had, to watch other attorneys and judges in action.

The real connection I had with the work was in the sense that I was helping others get back on track. My perspective on the financial struggles of those I met with were enhanced by my own family’s experience growing up. As the oldest daughter of Korean immigrants who had always struggled financially, basic compassion and empathy came naturally to me in counseling people with similar stories.

I still have the cards and letters I received from some of these clients saved in a shoebox on the bookcase near my bed.

Here is the unedited text from a few of them:

[10/02]: Jeana, Just a quick note to say thank you. I hated the fact that I had to make the decision to file for bankruptcy, but, with your help, the process has been (fairly) painless. Again, thanks.

[Undated envelope]: Attorney Kim, Thank you for your help & God bless you. I got my peace of mind and all my worries are gone. Thank you much.

[10/03]: Ms. Kim, Thank you very much! Just for being there is very much appreciated. Thanks a lot.

[11/04]: Jeanna, first I want to thank you for all the help you have given my family and myself with our financial problems. We never thought we would have to go through the things we have these past few years. You have helped us make it through and see that there is a light at the end of the tunnel. Problems that have been devastating to me, you have made seem not so terrible. It’s comforting to know that someone is willing to go to bat for you. This letter is to let you know that you are greatly appreciated.

[5/05]: My husband and I had a discussion and we will not file chapter 13! We will work it how somehow! You have been most kind. Thank you for listening to me and I wish you well.

When I was leaving for the East Coast, my boss complimented me by saying that I could find a solution in the most grueling or diciest of situations. I think that this has followed me to this day. The understanding gained from my early practice has formed the foundation for my work in the years since. In each bankruptcy case I work with to this day, I still see the stories behind them. In my current practice, I am considered the person to go to when faced with a “problem case” because I will know how to systematically unravel it to find a solution. This skill is rooted in being able to see the story.

I consider it my privilege to work in this area of the law, and look forward to continuing in it in the years to come.

Tags: bankruptcy law, career path, law school