All Lawsuits Become Property of the Bankruptcy Estate
Potential claims for violations of the Fair Debt Collection Practices Act (“FDCPA”) become property of the bankruptcy estate upon the filing of the petition for relief. This is true regardless of the chapter under which the debtor files. Any potential claims must be listed as an asset on the debtor’s schedule of personal property – Schedule B. Line 21 on Schedule B is used to list “Other contingent and unliquidated claims of every nature.” Here, the debtor should describe the claim. For example, the debtor might list “Unliquidated FDCPA claim against ABC Collection Agency.” The value of the cause of action must also be listed on the schedule.
After identifying the debt collection claim on the schedule of assets, the next step is to determine whether the debtor can exempt the claim, thereby removing the claim from the bankruptcy estate and precluding the trustee’s administration of the claim. In Pennsylvania, the debtor may use the federal “wild card” exemption, which can be used to exempt any property. The “wild card” exemption allows a single filer to exempt up to $12,725.00 in any property. See 11 U.S.C. Section 522(d)(5). Exemptions are listed on Schedule C – Property Claimed as Exempt.
In a chapter 7 case, pre-petition claims not fully exempted by the debtor may be administered and liquidated by the trustee. Trustees that are unfamiliar with debt collection law often retain debtor’s bankruptcy counsel as special counsel to pursue the claim post-petition. Any recovery by the trustee will first be distributed to the debtor to the extent of any exemption before any remaining funds are made available to creditors. Alternatively, the cause of action may be abandoned the trustee in one of two ways: 1) The court finds the property of inconsequential value and benefit to the estate or 2) by the closing of the bankruptcy case. Thus, the debtor may pursue abandonment of the debt collection claim by the trustee by filing a motion or simply wait until the case is closed.
Unlike chapter 7, a debtor in a chapter 13 normally has the right to control any litigation because the debtor remains in possession of all property of the estate. The debtor also has the right to dictate the terms of any settlement of the debt collection claim, though the bankruptcy court must normally approve the settlement.
Failure To Disclose Results In Judicial Estoppel
Failure to disclose a claim can have significant consequences; the debtor may not have standing and may be judicially estopped from asserting the claim. The commencement of a bankruptcy case creates a bankruptcy estate that consists of all the debtor’s property, which includes causes of action. See 11 U.S.C. Section 541(a)(1).
The Bankruptcy Code imposes on debtors an affirmative duty of full disclosure. Section 521 requires the debtor to file with the court “a schedule of assets and liabilities….and a statement of the debtor’s financial affairs.” The schedule must disclose, “contingent and unliquidated claims of every nature” and provide an estimated value for each one. These disclosure requirements are crucial to the effective functioning of the federal bankruptcy system. Because creditors and the bankruptcy court rely heavily on the debtor’s disclosure statement in determining whether to approve a proposed reorganization plan, the importance of full and honest disclosure cannot be overstated.
Undisclosed claims that are not exempted, administered, or abandoned remain property of the estate. See 11 U.S.C. Section 554(d). Only the trustee will have standing to pursue the unscheduled claims after the bankruptcy case closes.
Some courts have held that judicial estoppel prevents debtors from later prosecuting unscheduled pre-petition claims. Judicial estoppel is an equitable doctrine under which a party is precluded from asserting a claim made in a previous proceeding. While there is no bright line test to determine when the doctrine may be invoked, courts generally consider: 1) whether the party’s later position was clearly inconsistent with its earlier position, 2) whether the party has succeeded in persuading the court to accept the earlier position, so that later judicial acceptance would suggest that the first or second court was deliberately mislead, and 3) whether the party seeking to assert an inconsistent position would deprive an unfair advantage or impose and unfair detriment on the opposing party.
Many courts have held that the harsh consequences of applying judicial estoppel are not appropriate in cases of mistake or inadvertence. See Browning v. Levy, 283 F.3d 761 (6th Cir. 2002). For example, a debtor’s failure to disclose a cause of action might be deemed inadvertent if the debtor was unaware of the unlisted claim when the bankruptcy schedules were prepared and lacked knowledge of the basis of the claim, or if there was no motive for concealment.
Courts are more likely to refuse to apply judicial estoppel when a debtor does not actively conceal the asset and instead takes timely affirmative action to fully inform the court and the trustee of the asset’s existence. See In re Kane, 628 F.3d 631 (3d Cir. 2010).
The Third Circuit’s decision in Kane eloquently summarizes the doctrine of judicial estoppel as applied to a bankruptcy case: “Absent any good explanation, a party should not be allowed to gain an advantage by litigation on one theory, and then seek inconsistent advantage by pursuing an incompatible theory.”