Camp Mystic illustrates That Insurance Can Be Property of the Estate

A motion to lift the automatic stay to allow a tort claimant to proceed against the debtor's insurance coverage is one of the simpler pleadings to file in bankruptcy. Because insurance involves a third party's obligation to defend a suit or pay claims, property of the estate is not implicated. While the debtor remains a nominal party to the suit (thus requiring the stay to be lifted), the insurance company has the real economic interest. However, this is not always the case. As shown by Fifth Circuit precedent, where there are more claims against policy proceeds than proceeds, the insurance becomes a form of special property of the estate. Law Office of Rogelio Solis, PLLC v. Curtis, 83 F.4th 409 (5th Cir. 2023). 

 

I had started to write about this case several years ago and got distracted. However, the principle has new importance in the Camp Mystic case. In re Camp Mystic, LLC, Case No. 26-90621 (Bankr. S.D. Tex.). According to published reports, Camp Mystic only carried $6 million in liability coverage. Twenty-seven people died there during the catastrophic Fourth of July flooding last year The insurance coverage does not appear likely to cover the damages. As a result, the Bankruptcy Court will be unlikely to lift the stay to allow suits to proceed against the coverage. Instead, that coverage will be one asset that can be marshaled for the benefit of creditors. 

Supreme Court Rejects Fifth Circuit's Approach to Judicial Estoppel

 The Fifth Circuit has long applied judicial estoppel aggressively when a debtor fails to list a cause of action. It once held (in a panel opinion overruled by the en banc court) that a trustee was bound by a debtor's failure to disclose assets. Reed v. City of Arlington, 620 F.3d 477 (5th Cir. 2010), rev'd en banc 650 F.3d 571 (5th Cir. 2011). More recently, the Fifth Circuit held that a chapter 13 debtor who failed to disclose a post-petition cause of action would be barred from pursuing the claim due to judicial estoppel despite having confirmed a plan which paid all creditors 100% of their claims. A unanimous Supreme Court has now reversed that decision and remanded for determination under a totality of the circumstances test. Case No. 25-6, Keathley v. Buddy Ayers Construction, Inc. (U.S. 6/11/26). The opinion can be found here. 

What Happened

The Keathleys filed chapter 13 bankruptcy in Arkansas in 2019. They confirmed a plan which paid unsecured creditors 100% of their claims, albeit without interest. In August 2021, Mr. Keathley was in an auto accident. He retained a personal injury attorney and informed his bankruptcy lawyer of the claim. The bankruptcy lawyer did not amend the debtor's schedules to disclose the claim. He filed suit in the Northern District of Mississippi in December 2021. In March 2023, the defendant moved for summary judgment based on failure to disclose the cause of action to the bankruptcy court. Keathley filed an affidavit affirming that the had informed his bankruptcy counsel of the claim. Nevertheless, the district court granted summary judgment. 

The Fifth Circuit affirmed, although Judge Haynes filed a concurrence questioning whether the purposes behind judicial estoppel were served when nondisclosure resulted from an honest mistake. The standard in the Fifth Circuit was that failure to schedule a claim could only be inadvertent if (1) the debtor did not know the facts underlying the claim, or (2) there was no potential motive to conceal the claim. Long v. GSDMIdea City, LLC, 798 F. 3d 265, 273 (5th Cir. 2015). The District Court and the Fifth Circuit found that Keathley knew about the facts giving rise to the claim and he might possibly have  not disclosed the claim to avoid having to pay his creditors interest.

The Supreme Court Ruling

In a unanimous opinion the Supreme Court reversed. Curiously, the Supreme Court assumed without deciding that judicial estoppel could apply in the bankruptcy context and that inadvertence or mistake could be an exception to the doctrine. It held that under these assumptions, "the Fifth Circuit’s understanding of 'inadvertence or mistake' is simultaneously too rigid and too broad." Opinion, p. 7. The Court found that the Fifth Circuit failed to apply equitable principles when applying an equitable doctrine. 

The Fifth Circuit’s rule is not only overly rigid; it is also overly broad. In particular, the Fifth Circuit holds that an omission falls outside of the exception any time a debtor knows certain facts or could potentially benefit from nondisclosure of a claim. But it is rare for a debtor to be unaware of the underlying facts of his claim, and a debtor will almost always hypothetically benefit from not revealing such a claim to his creditors. In essence, then, the Fifth Circuit’s approach is a one-size-fits-all test that requires courts to view as purposeful nearly every bankruptcy omission. . . . 

 The overbreadth of the Fifth Circuit’s rule (the fact that it almost always is satisfied) makes it patently incompatible with an inadvertence-or-mistake standard, which suggests that circumstances—and outcomes—may vary. A near-dispositive criterion is a poor fit for a fair inquiry into whether an omission is actually the result of inadvertence or mistake.

Opinion, pp. 8-9. As a result, the Supreme Court remanded the case to the Fifth Circuit.

What Does It Mean

Unfortunately, the Supreme Court did not give much guidance on what the Fifth Circuit should do on remand. It just said that if there is going to be a mistake or inadvertence standard, the court should look at whether there was actually mistake or inadvertence. This would seem to give latitude for trial courts to make a fact intensive inquiry and decide whether equity applies. Of course, it could also give cover to the Fifth Circuit come up with a different formulation of an overly broad test.

What is more fun about this opinion is the concurrences. Justice Thomas, joined by Justice Gorsuch said that:

Lower federal courts have applied this doctrine broadly without clear authority to do so, and with only limited support from this Court’s precedents. In a future case, we should reexamine it.

Justice Sotomayor wrote that

I write to address why it may not ever make sense to apply judicial estoppel when bankruptcy proceedings are pending, and why, in any context, judicial estoppel should always turn on the totality of the circumstances. 

and

 I write to address why it may not ever make sense to apply judicial estoppel when bankruptcy proceedings are pending, and why, in any context, judicial estoppel should always turn on the totality of the circumstances.

Thus, while the majority opinion was narrow, cautious and largely unhelpful, there are three justices from two different wings of the court who would go further. This should be enough to cast doubt on the haphazard and arbitrary application of the doctrine going forward. 

 

   

Mediation in Consumer Bankruptcy Cases

TV lawyers are constantly heading into trial, sometimes after seeing the file for the first time that morning. On television, the clients never seem to worry about how they are going to pay their lawyers to go to trial. The reality is different in real life, especially when dealing with consumer bankruptcy cases. A consumer debtor seeks a fresh start because their finances are at their breaking point. When a litigation matter pops up, it stands in the way of the fresh start. 

When Should A Corporation File Chapter 7?

When an individual files for Chapter 7 relief, the goal is to keep their exempt property and discharge their dischargable debts. A corporation does not receive either of these benefits in Chapter 7, meaning that it turns over all of its property to be liquidated and still owes the remainder of its debts after the case is over. So why would a corporation ever for Chapter 7?

Farewell to Chevron Deference

One of the many controversial opinions coming from the Supreme Court at the end of its term was Loper Bright Enterprises v. Raimondo, No. 22-451 (6/28/24) which abolished what is known as Chevron deference. The commentators on the podcasts that I listen to were aghast that the Supreme Court felt that judges should hold themselves out to make difficult decisions as to clean air and water or whether to approve a prescription drug when there were agencies who had expertise in these areas.  Several commentators pointed out that it might not be a good idea to rely on federal judges to make scientific determinations after Justice Gorsuch confused nitrous oxide with nitrogen oxide in another case.  \

Supreme Court Nixes Non-Consensual Third-Party Releases

In an opinion that resolves decades of circuit court splits, the Supreme Court ruled against allowing nonconsensual third-party releases. Harrington v. Purdue Pharma, LP, No. 23-124 (6/27/24) which can be found here.  While the opinion is emphatic in its rejection of extra-textual plan provisions, the 5-4 ruling and numerous caveats mean this won't be the last time creative lawyers will be testing the limits of the Code.

Meet Judge Robinson

Shad Robinson took the bench as the twelfth bankruptcy judge to serve in the Western District of Texas on February 21, 2023. Judge Robinson, by his own telling, took an unlikely path to law school and practicing bankruptcy law. He is fairly unique among his bankruptcy colleagues in that he practiced in a small firm in a small city and practiced both consumer and business bankruptcy. However, he does possess one credential common among the current judiciary in that he clerked for one the Western District Bankruptcy Judges. Practitioners were introduced to Judge Robinson at a brown bag lunch followed several days later at his Investiture Ceremony. This article is taken from those two sessions and questions that Judge Robinson was kind enough to answer.