ROBERT H. JACOBVITZ, Bankruptcy Judge.
The Court is faced with the conundrum of how the discharge injunction under 11 U.S.C. § 524, which arises upon the entry of a debtor's discharge, affects pending pre-petition state court litigation that includes claims arising out of the same conduct, transactions and occurrences as those at issue in this timely-filed adversary proceeding to determine the dischargeability of certain debts under 11 U.S.C. § 523. The parties have stipulated, and the Court agrees, that the automatic stay terminated upon the entry of the Debtors' discharge on April 21, 2010. See Case No. 10-10 131
Plaintiff BUKE, LLC ("BUKE") asserts that the discharge injunction does not prevent it from proceeding against the Defendants in the state court action as to all claims raised in that action. BUKE reasons that because its state court claims against Defendants are based on the same conduct upon which its claims of non-dischargeability in this adversary proceeding are based, and because no determination of dischargeability of the debt at issue in the state court action has yet been made, the state court has concurrent jurisdiction to determine the validity and the amount of that debt. Consequently, BUKE believes it can continue to pursue its causes of action simultaneously in state court and in this adversary proceeding. Alternatively, if the Court were to determine that the discharge injunction applies to prosecution of its claims against Defendants in the state court action, BUKE argues that the Court can and should modify the discharge injunction to permit BUKE to proceed against the Defendants in the state court action.
Defendants counter that the discharge injunction enjoins BUKE from prosecuting its state court action against them, reasoning that the adjudication of all causes of action against them that have not been discharged due to this pending adversary proceeding court falls within the exclusive jurisdiction of the bankruptcy court, and that any debt associated with any other state court causes of action against them has been discharged. Finally, Defendants assert that this Court does not have the power to modify the discharge injunction to allow BUKE to pursue its claims against the Defendants in the state court action.
After consideration of the arguments of counsel, the relevant case law, and the applicable sections of the Bankruptcy Code, the Court finds that upon the timely filing of a complaint objecting to the dischargeability of a debt, the discharge injunction does not apply with respect to that debt until the Court makes a determination of the dischargeability of the debt. Bankruptcy courts and state courts have concurrent jurisdiction over causes of action under applicable nonbankruptcy law to establish the debt. The bankruptcy court has exclusive jurisdiction to determine whether such debt should be excepted from the discharge. Based on the Court's determination of the scope of the discharge injunction, it need not consider whether it has the power to modify the discharge injunction.
1. On January 15, 2010 (the "Petition Date"), Defendants commenced a voluntary case under Chapter 7 of the Bankruptcy Code, entitled In re Randall Scott Eastburg and Lisa Sue Eastburg, United States Bankruptcy Court, District of New
2. On the Petition Date, an action was pending in the Second Judicial District Court, State of New Mexico captioned, BUKE, LLC, Plaintiff, v. Cross Country Auto Sales, LLC, and other Defendants including Defendants Randall Scott Eastburg and Lisa Sue Eastburg, Case No. CV 2009 07479 (the "State Court Action"). The State Court Action remains pending.
3. The complaint in the State Court Action includes the following counts: a) Accounting; b) Conversion; c) Civil Conspiracy; d) Breach of Fiduciary Duty; e) Usurpation of Corporate Opportunity; f) Unfair Competition; g) Interference with Contractual Relationship; and h) Racketeering. See Memorandum Brief Regarding Automatic Stay, Discharge Injunction and Issues Related to 11 U.S.C. § 523 (Docket No. 33) ("BUKE Memorandum"), p. 2, ¶ 2; Defendant's Memorandum Brief on Automatic Stay, Discharge Injunction and § 523 Actions (Docket No. 25) ("Eastburg Memorandum"), p. 1, ¶ 2.
5. On March 3, 2010, BUKE filed this adversary proceeding objecting to the dischargeability of certain alleged debts of the Defendants pursuant to 11 U.S.C. § 523(a)(2) and (a)(4) on theories of Conversion, Breach of Fiduciary Duty, Civil Conspiracy, and Violation of the New Mexico Racketeering Act. See Docket No. 1.
6. On the same date, BUKE filed a motion for relief from the automatic stay in the Bankruptcy Case ("Stay Motion") and the Debtors filed a timely objection. See Bankruptcy Case, Docket No. 19 and Docket No. 31. In the Stay Motion, BUKE requested that the Court modify the automatic stay to allow BUKE to proceed against the Debtors in the State Court Action.
7. The Stay Motion also sought modification of the stay to allow BUKE to make adjustment to the capital accounts and membership interest of the Debtors. The request for relief from stay regarding adjustments to capital accounts and membership interests has been resolved by an agreed order entered May 24, 2010. See Bankruptcy Case, Docket No. 56.
8. The Debtors were granted a discharge under 11 U.S.C. § 727(a) by an order entered April 21, 2010. See Bankruptcy Case, Docket No. 43.
9. On May 19, 2010, BUKE filed an Amended Verified Complaint to Determine Non-Dischargeability of Debts, for Judgment on the Debts, for Declaratory Judgment, and for Modification of the § 524 Discharge Injunction ("Amended Complaint"). See Docket No. 16. The Amended Complaint added the following counts: 1) a count for declaratory judgment asking the Court to determine that the discharge injunction does not apply to the claims pending in this adversary proceeding or to the claims raised in the State Action; and 2) an alternative count requesting the Court to modify the discharge injunction. Id.
10. On July 19, 2010 BUKE and the Defendants stipulated that the automatic stay terminated upon the entry of the Debtors' discharge, rendering BUKE's Stay Motion moot. See Bankruptcy Case, Docket No. 79.
The issue before the Court, at its core, is whether BUKE's claims against Defendants in the State Court Action can be litigated in that action or whether they must be litigated in this adversary proceeding. BUKE contends that it is free to prosecute its claims against Defendants in the State Court Action because the automatic stay terminated and the discharge injunction is inapplicable until a determination of dischargeability has been made. Defendants assert that because the bankruptcy court has exclusive jurisdiction to
The parties agree that the stay terminated upon the entry of the order discharging the Defendants in their Bankruptcy Case, and that the discharge injunction does not apply to a debt when a timely objection to dischargeability of the debt is made under 11 U.S.C. § 523(a)(2), (4) or (6) unless and until the bankruptcy court determines that the debt is discharged. The Court agrees that the parties' stipulation is a correct application of the law.
Bankruptcy Code § 362(c)(2)(C) provides that, except as to property of the estate, the automatic stay terminates in an individual debtor chapter 7 case when the discharge is granted or denied under 11 U.S.C. § 707(b). Defendants were granted a discharge under 11 U.S.C. § 727(a) by an order entered April 21, 2010. See Bankruptcy Case, Docket No. 43. Consequently, the stay terminated with respect to prosecution of claims against the Defendants.
Bankruptcy Code § 523(a) and (c) and (d) contemplate that a debt is not discharged if a timely complaint is filed objecting to discharge of the debt under 11 U.S.C. § 523(a)(2), (4) or (6) unless and until the court denies the objection.
This conclusion, however, does not end the inquiry. Prosecution of a cause of action against a debtor in state court after the entry of the discharge injunction to collect a debt as a personal liability of the debtor is outside the scope of the discharge injunction
These requirements are consistent with the protection afforded by the discharge injunction, the purpose of which is to afford the debtor with a financial fresh start,
BUKE's Amended Complaint includes forty-one general allegations and asserts the following separate counts based on those general allegations: conversion, breach of fiduciary duty, civil conspiracy, and violation of the New Mexico Racketeering Act based on fraud, larceny and embezzlement. The State Court Action includes the following additional counts that were not specifically pled in the Amended Complaint: accounting, usurpation of corporate opportunity, unfair competition, and interference with contractual relations. Defendants assert that only the claims for breach of fiduciary duty and fraud have not been discharged, and that BUKE's prosecution of its other causes of action against Defendants in state court would violate the discharge injunction.
In this adversary proceeding BUKE has timely filed claims contesting the dischargeability of debt premised on 11 U.S.C. § 523(a)(2)(A) and (a)(4). The causes of action raised in the State Court Action can establish the debt, and the adversary proceeding will determine the dischargeable character of the debt under those Code sections. The dischargeable character of claims for fraud are at issue as the result of BUKE' non-dischargeability claim under 11 U.S.C. § 523(a)(2)(A). The dischargeable character of claims for breach of fiduciary duty, embezzlement and larceny are at issue as the result of BUKE's non-dischargeability claim under 11 U.S.C. § 523(a)(4).
In its brief, BUKE states that it does not seek any damages or recovery against the Defendants in the State Court Action on its claims for an accounting, interference with contractual relations and unfair competition. See BUKE Memorandum, p. 2, ¶ 3 and p. 3, ¶ 8. Thus any claim against Defendants for an accounting, interference with contractual relations or unfair competition is not asserted to establish a debt with respect to which its non-dischargeable character is at issue in this adversary proceeding, and assertion of such claims against the Defendants would be subject to the discharge injunction if asserted in furtherance of the collection, recovery or offset of any debt as a personal liability of the Defendants.
BUKE characterizes several of its state law claims as non-dischargeable claims under 11 U.S.C. § 523(a)(6). For example, BUKE contends that its claims for usurpation of corporate opportunity (pled in the State Action but not pled in this adversary proceeding) and for civil conspiracy (pled in both the State Action and this adversary proceeding) are premised on Defendants' willful and malicious conduct. Pursuant to 11 U.S.C. § 523(a)(6), debts resulting from a "debtor's willful and malicious injury by the debtor to another entity or to the property of another entity" are non-dischargeable. 11 U.S.C. § 523(a)(6). But the Amended Complaint does not include a non-dischargeability
BUKE asserted a claim against Defendants in both this adversary proceeding and in the State Court Action under the New Mexico Racketeering Act ("RICO"). The RICO claim asserted in this adversary proceeding is alleged to arise out of larceny, fraud and embezzlement. The Court does not have before it Plaintiff's complaint in the State Court Action. If BUKE has asserted a RICO claim against Defendants in the State Court Action alleged to arise out of larceny, fraud and embezzlement based on the same conduct, transactions and occurrences as the RICO claim asserted in this adversary proceeding, for the purpose of applying collateral estoppel to avoid relitigating here the validity and extent of the debt established under that claim, then such prosecution of the claim is not subject to the discharge injunction. The dischargeable character of the claim is at issue in this adversary proceeding as the result of BUKE's nondischargeability objections under 11 U.S.C. § 523(a)(2) and (4).
Defendants argue that the state court has no jurisdiction to determine any claims pending against Defendants that have not been discharged because determination of such claims is within this Court's exclusive jurisdiction over dischargeability actions. This argument fails. Although bankruptcy courts have exclusive jurisdiction to determine whether a debt is nondischargeable under 11 U.S.C. § 523(a)(2), (4) or (6), bankruptcy courts and state courts have concurrent jurisdiction to adjudicate claims arising under applicable non-bankruptcy law.
Bankruptcy Code § 523(c) provides:
This provision vests jurisdiction exclusively in the bankruptcy court to determine whether a debt of the kind specified in 11 U.S.C. § 523(a)(2), (4) or (6) will be excepted from the discharge,
The Court finds support for this conclusion in In re McKendry, 40 F.3d 331 (10th Cir.1994). In McKendry, the Tenth Circuit reversed the bankruptcy court's determination that the plaintiff's non-dischargeability action was time-barred based on the expiration of the state law statute of limitations on fraud which formed the basis of plaintiff's claim. McKendry, 40 F.3d at 337. The plaintiff in McKendry had reduced its debt to judgment in state court, establishing both the existence and the amount of the debt, and later sought a determination of nondischargeability from the bankruptcy court, alleging that the debt was procured by fraud. McKendry pointed out that there are two separate causes of action in bankruptcy court: 1) a cause of action to establish the debt; and 2) a cause of action to determine whether the debt is discharged. 40 F.3d at 336
The bankruptcy court and state court have concurrent jurisdiction over the cause of action to establish the debt under applicable nonbankruptcy law. The bankruptcy court has exclusive jurisdiction over the cause of action to determine whether the debt is excepted from the discharge.
After the debtor is granted a discharge, neither the automatic stay nor the discharge injunction nor the bankruptcy court's exclusive jurisdiction over dischargeability actions precludes a plaintiff from prosecuting a cause of action against a debtor in state court in furtherance of the collection, recovery or offset of any debt as a personal liability of the debtor provided 1) the cause of action to establish the debt under applicable non-bankruptcy law and a claim of non-dischargeability are based on the same conduct, transactions and occurrences, 2) the non-dischargeable character of the debt is at issue in an adversary proceeding, and 3) the creditor is prosecuting the cause of action in state court for the purpose of applying collateral estoppel to avoid relitigating in bankruptcy court the validity and extent of the debt in the nondischargeability adversary proceeding. Nevertheless, the bankruptcy court may still act as gatekeeper to determine whether those claims are to be litigated in state court or bankruptcy court. A debtor-defendant may timely remove the claims against the debtor to bankruptcy court pursuant to 28 U.S.C. § 1452(a) and Rule 9027, Fed.R.Bankr.P.,
Defendants did not timely seek to remove the State Court Action to this Court and have not requested the Court to stay the State Court Action. Thus, BUKE is not precluded from pursuing its claims in the State Court Action against Defendants for fraud, breach of fiduciary duty, and RICO for the purpose of establishing facts pertinent to the non-dischargeability claims raised and preserved in this adversary proceeding. However, in order to preserve any dischargeability claim premised on 11 U.S.C. § 523(a)(6), it must seek to further amend its complaint. An order consistent with this Memorandum Opinion will be entered.
11 U.S.C. § 524(a)(2)