Opinion ID: 798235
Heading Depth: 1
Heading Rank: 4

Heading: Dismissal for Cause

Text: 82 This multitude of preliminaries over, we now reach the merits of the appeal: Should the SEC's motion to dismiss the petition for cause under 11 U.S.C. § 707(a) have been granted, as the district court maintained, or not, as the bankruptcy court decided? 26 We hold that the bankruptcy court did not err in denying the SEC's motion to dismiss the bankruptcy petition. In so holding, we do not suggest that no vehicles were available to the SEC to ensure that Sherman paid the contempt and disgorgement judgment debts or to sanction Sherman for the behavior that the district court found reprehensible. To the contrary, our holding is that the SEC and the district court chose the wrong vehicle— § 707(a)—for ensuring that Sherman paid the contempt and disgorgement judgment debts and did not misuse the bankruptcy process. 83 We review the district court's decision on appeal from a bankruptcy court de novo. See Preblich v. Battley, 181 F.3d 1048, 1051 (9th Cir.1999). We review the bankruptcy court's conclusions of law de novo. See Hanf v. Summers ( In re Summers ), 332 F.3d 1240, 1242 (9th Cir.2003). Thus, we review de novo whether a type of misconduct can constitute cause under § 707(a). Cf. Padilla, 222 F.3d at 1190-91 (In essence, we review de novo whether the bankruptcy court erred in concluding that bad faith is a ground for dismissal under § 707(a).). Having done so, we review a bankruptcy court's decision to grant or deny a motion to dismiss for misconduct that constitutes cause for abuse of discretion. See Price v. U.S. Tr. ( In re Price ), 353 F.3d 1135, 1138 (9th Cir.2004) (holding, in a case addressing § 707(b), that [w]e review a bankruptcy court's decision to dismiss a case for abuse of discretion). 84 Under § 707(a), a court may dismiss a case under this chapter only after notice and hearing and only for cause, including three enumerated causes. 11 U.S.C. § 707(a); see also Padilla, 222 F.3d at 1193 (holding that cause rather than bad faith is the proper standard for evaluating a motion to dismiss under § 707(a)). No party contends that any of the three causes listed in § 707(a) apply to the present case. 27 85 That being so, Padilla prescribes a two-part inquiry: First, we must consider whether the circumstances asserted to constitute cause are contemplated by any specific Code provision applicable to Chapter 7 petitions. Id. If the asserted cause is contemplated by a specific Code provision, then it does not constitute cause under § 707(a). See id. at 1194. If, however, the asserted cause is not contemplated by a specific Code provision, then we must further consider whether the circumstances asserted otherwise meet the criteria for cause for discharge under § 707(a). See id. at 1193-94. 86 The SEC alleges that the Shermans engaged in three interrelated types of misconduct that together constitute cause. First, the SEC alleges that the Shermans used the bankruptcy as a refuge from the district court's jurisdiction, and to thwart the Commission's efforts to obtain a disgorgement judgment. Second, the SEC alleges that the Shermans used the bankruptcy as a `scorched earth' tactic to disfavor the SEC. 28 Third, the SEC alleges that the Shermans deliberately exaggerated their liabilities and expenses in order to create the misleading impression that they were in dire financial need of bankruptcy relief. 87 The only sensible way to approach the first part of the Padilla inquiry is to examine whether other specific Code provisions address the type of misconduct alleged, not whether other specific provisions covering the actual misconduct alleged would give rise to relief under the Code. If another Code provision addresses the general type of misconduct but does not cover the actual misconduct, that omission is best understood as demonstrating that Congress did not mean to reach the actual misconduct at issue. Any other approach would preclude bankruptcy relief in circumstances in which all indications suggest that Congress made a considered decision about the coverage of the Code and intended to provide bankruptcy relief. 88 We assume, but do not decide, that the record substantiates that the Shermans engaged in the three types of misconduct the SEC alleges. So assuming, we hold that the asserted misconduct cannot constitute cause under § 707(a). These three types of misconduct are each contemplated by a specific Bankruptcy Code provision, and therefore, under Padilla, cannot constitute cause for § 707(a) purposes. 89 First, § 362 addresses misconduct related to using bankruptcy as a refuge from the jurisdiction of other courts. Section 362(a) provides that the filing of a bankruptcy petition automatically operates as a stay of judicial actions, except for actions enumerated in § 362(b). 11 U.S.C. § 362(a). Section 362(b) excepts several types of judicial actions from imposition of the automatic stay, id. § 362(b), and § 362(d) provides a mechanism for part[ies] in interest to challenge the imposition of the stay in several circumstances, including for cause, id. § 362(d)(1). The Bankruptcy Code therefore accounts for the fact it may not always be appropriate to permit debtors to take advantage of the automatic stay. 29 Thus, to the extent that debtors like the Shermans use bankruptcy to seek refuge from another court, § 362(b) and (d) describe the circumstances in which such conduct is impermissible, which parties may challenge such conduct, and the appropriate remedy. 90 There is nothing problematic about an individual filing a legitimate bankruptcy petition with the intention of taking advantage of the automatic stay provisions. Indeed, the legislative history of the Bankruptcy Code makes clear that one of the purposes of the automatic stay is to give a debtor a breathing spell from his creditors during which the debtor can attempt a repayment . . . plan, or simply . . . be relieved of the financial pressures that drove him into bankruptcy. H.R. REP. No. 95-595, at 340 (1977), as reprinted in 1978 U.S.C.C.A.N. 5963, 6296-97 (observing that another purpose of the automatic stay is to protect creditors by providing an orderly liquidation procedure under which all creditors are treated equally rather than a race of diligence by creditors for the debtor's assets); see also Stringer v. Huet (In re Stringer), 847 F.2d 549, 551-52 (9th Cir.1988) (citing this legislative history and noting the purposes of the automatic stay). While it is troubling to allow an individual filing an illegitimate bankruptcy petition, such as one based on misrepresentations, to take advantage of automatic stay provisions, the viability of such a bankruptcy petition is addressed under the provisions of the Bankruptcy Code that protect against illegitimate filings of petitions (such as § 727) and under the cause provision of § 362(d)(1). 91 The remedy in the cause provision of § 362(d)(1) is a considerably more direct way to deal with a debtor who is improperly using bankruptcy as a refuge from the jurisdiction of another court than the remedy in the cause provision of § 707(a). Preventing a debtor from taking advantage of the stay is a remedy tailored to the problem of improper avoidance of jurisdiction of another court. In contrast, § 707(a)'s remedy—the dismissal of the bankruptcy petition altogether—is too powerful a medicine for the problem at hand, as it precludes adjudication of the bankruptcy even where there are debts aside from pending litigation that exceed assets. 92 It is worth noting that in this case, any attempt to avoid entirely the jurisdiction of the district court in the disgorgement action did not work, precisely because of the operation of § 362. The district court found the exception contained in § 362(b)(4) applicable and did adjudicate the disgorgement motion to judgment. To now include an unsuccessful attempt to avoid jurisdiction as an aspect of cause to dismiss the bankruptcy petition altogether is to tinker with a complex statutory scheme that specifies when—and how— to deal with various kinds of debtor misconduct and, as the fate of the automatic stay argument in this case indicates, is fully capable of doing so. In contrast, were we to hold that the Shermans' use of bankruptcy to avoid the jurisdiction of another court is cause to dismiss the bankruptcy, we would be sanctioning a read-justment of the finely wrought statutory scheme. See Knupfer v. Lindblade ( In re Dyer ), 322 F.3d 1178, 1190 (9th Cir.2003) (describing Walls v. Wells Fargo Bank, 276 F.3d 502 (9th Cir.2002), as [n]oting that `it is not up to us to read other remedies into the carefully articulated set of rights and remedies set out in the Bankruptcy Code' and reject[ing] Walls' invitation to read § 105(a) as a catch-all private right of action for the enforcement of other Bankruptcy Code provisions (quoting Walls, 276 F.3d at 507)). 93 Second, § 547(b) addresses misconduct related to using bankruptcy as what the SEC terms a scorched earth tactic. 30 Section 547(b) makes certain prepetition transfers of a debtor's interest in property avoid[able] as a preference. 11 U.S.C. § 547(b). To be avoidable, such transfers must meet several requirements, including that they were made to or for the benefit of a creditor, and on or within 90 days before the date of the filing of the petition or between ninety days and one year before the date of the filing of the petition, if such creditor at the time of such transfer was an insider. 31 Id. § 547(b)(1), (4). The Bankruptcy Code thus contemplates the notion that a debtor may favor some creditors over others by making prepetition transfers, and describes the circumstances in which such conduct is impermissible, which parties may challenge such conduct, and the appropriate remedy for the misconduct. 94 Ordinarily, an avoidance action under § 547 can be filed only by a trustee, not a creditor. See id. § 547(b) ( [T]he trustee may avoid any transfer of an interest of the debtor in property . . . . (emphasis added)); Avalanche Mar., Ltd. v. Parekh ( In re Parmetex, Inc. ), 199 F.3d 1029, 1031 (9th Cir.1999) (holding that although a trustee must generally file an avoidance action under Chapter 7, creditors may bring such an action where the trustee stipulated that the Creditors could sue on his behalf and the bankruptcy court approved that stipulation). That a creditor cannot usually file an avoidance action is not, however, inconsistent with the conclusion that the Bankruptcy Code contemplates the misconduct of debtors who use scorched earth tactics. To the contrary, that restriction provides support for the notion that courts should not allow other parties to seek similar relief under § 707(a), as doing so would undermine Congress's considered judgment regarding who may seek such relief. Like the remedy under § 362, the remedy under § 547 is tailored to deal with a particular tactic, including, as in this instance, a debtor attempting to use bankruptcy to hurt a particular, disfavored creditor. If, therefore, the Shermans impermissibly engaged in a so-called scorched earth tactic, then the appropriate vehicle for dealing with such misconduct is § 547(b). 95 Third, § 727(a)(4)(A) addresses misconduct related to debtors' misrepresentations of liabilities and expenses. Section 727(a)(4)(A) states that [t]he court shall grant the debtor a discharge, unless . . . the debtor knowingly and fraudulently, in or in connection with the case [] made a false oath or account. 11 U.S.C. § 727(a)(4)(A). This mechanism for dealing with debtors who make misrepresentations describes the circumstances in which such conduct is impermissible, which parties may challenge such conduct, and the appropriate remedy for the misconduct. In particular, the Bankruptcy Code imposes a mens rea element, indicating that Congress intended to sanction only culpable misrepresentations. To the extent, then, that the allegations of misstating liabilities and expenses are true, the proper remedy is in the bankruptcy court under § 727(a)(4)(A). 96 Notably, the SEC does not argue that there was any debt-specific misconduct, which would, alone or in conjunction with other misconduct, constitute cause under § 707(a) for dismissal of the petition. Had the SEC made such an argument, we would need to decide whether § 523 of the Bankruptcy Code, the section that makes specific debts nondischargeable, contemplated such misconduct. 32 See, e.g., id. § 523(a)(2), 33 (4), 34 (6), 35 (7); 36 see also id. § 523(a)(19) (Supp. II 2002). 37 97 Thus, under the first part of the Padilla inquiry, because other Code provisions contemplate (1) taking refuge from the jurisdiction of another court; (2) engaging in a scorched earth tactic against a particular creditor; and (3) making misrepresentations in bankruptcy filings, we conclude that there is no cause to dismiss the Shermans' bankruptcy petition because of any such behavior. To respect the complex statutory scheme that Congress has created to deal with malfeasance associated with bankruptcy petitions, we are loath to hold that a factor constitutes cause unless the Bankruptcy Code regime is incapable of righting wrongs of the kind alleged. 98 Our holding hardly leaves the SEC unprotected, as the SEC could have pursued —and did pursue — several vehicles for protecting itself. In particular, the SEC was protected against the use of bankruptcy to avoid the jurisdiction of another court because, under § 362(b)(4), it was not subject to the automatic stay. Further, the SEC could have sought to avoid some of the Shermans' prepetition transfers as preferences had it been concerned that the Shermans had engaged in a scorched earth tactic. In addition, the SEC could have tried to protect itself against misrepresentations in the bankruptcy petition by filing a complaint under § 727(a)(4)(A). 38 Moreover, the SEC may have been able—and may still be able—to avoid discharge of the contempt and disgorgement judgments under § 523. 39 Finally, had the SEC been concerned about an abuse of process, it could have sought a remedy under the bankruptcy court's inherent authority to sanction debtors who file bankruptcy petitions in bad faith. See Chambers v. NASCO, Inc., 501 U.S. 32, 43-46, 111 S.Ct. 2123, 115 L.Ed.2d 27 (1991); Dyer, 322 F.3d at 1190 n. 14, 1196; Caldwell v. Unified Capital Corp. (In re Rainbow Magazine, Inc. ), 77 F.3d 278, 284 (9th Cir.1996). 99 In sum, the SEC's and the district court's frustration with Sherman's behavior both before and after the filing of the bankruptcy petition is understandable. Padilla does not, however, permit a free-floating concept of cause for dismissal to substitute for careful application of the bankruptcy scheme Congress devised, including the multitude of remedies for abusive behavior or behavior harmful to the public interest. The district court's decision is reversed, and the case is remanded for further proceedings consistent with this opinion. 100 REVERSED.