Rochelle's Daily Wire

Other than the Fourth Circuit, all eight courts to have considered the issue have held that debts of corporate debtors in Subchapter V of chapter 11 cannot be nondischargeable under Section 523(a) in nonconsensual plans.

Reversing the bankruptcy court on direct appeal, the Fourth Circuit held that corporate debtors in Subchapter V may not discharge debts “of the kind” specified in Section 523(a). Cantwell-Cleary Co. v. Cleary Packaging LLC (In re Cleary Packaging LLC), 36 F.4th 509 (4th Cir. June 7, 2022). To read ABI’s report, click here.

Precisely the same issue is sub judice in the Fifth Circuit, on direct appeal from a decision by Bankruptcy Judge Craig A. Gargotta of San Antonio. He disagreed with Cleary and held that “corporate debtors proceeding under Subchapter V cannot be made defendants in § 523 dischargeability actions.” Avion Funding LLC v. GFS Industries LLC (In re GFS Industries LLC), 647 B.R. 337, 344 (Bankr. W.D. Tex. Nov. 10, 2022). To read ABI’s report on GFS, click here.

The Fifth Circuit heard oral argument on December 5 in Avion Funding LLC v. GFS Industries LLC (In re GFS Industries LLC), 50-00237 (5th Cir.). The Fifth Circuit received several amicus briefs. The U.S. Department of Justice urged reversal with a ruling in line with the Fourth Circuit’s. The National Association of Bankruptcy Trustees, among others, took the opposite position.

Soon, we will either have a split of circuits or two circuit courts bucking the trend set by bankruptcy courts around the country.

The Issue Before Judge Timothy A. Barnes

Bankruptcy Judge Timothy A. Barnes of Chicago tackled the identical issue. The Subchapter V debtor was a corporation, and a creditor filed an adversary proceeding seeking a declaration that the debts owing to it were nondischargeable under Section 523(a)(2)(A), (a)(2)(B) and (a)(6).

The debtor filed a motion to dismiss. In an opinion on February 8, Judge Barnes called the topic a “cause célèbre in the bankruptcy world,” alluding to how the issue was one of the questions for the 2023 Duberstein Moot Court Competition. Although admitting that the Fourth Circuit offered “one solution,” he granted the motion to dismiss, saying that the “better position” was taken by the Ninth Circuit Bankruptcy Appellate Panel in Lafferty v. Off-Spec Solutions LLC (In re Off-Spec Solutions LLC), 651 B.R. 862 (B.A.P. 9th Cir. July 6, 2023). To read ABI’s report, click here.

Whom to Follow — the Fourth Circuit or the BAP?

Judge Barnes saw the statute as “imprecise” but not “ambiguous.” He began by saying that “nondischargeability under section 523(a) applies only to individuals.” He went on to say that “Congress stated what should perhaps have been obvious from section 523(a)” when it said in Section 1141 that a “discharge under this chapter does not discharge a debtor who is an individual from any debt excepted from discharge under section 523 of this title.”

But there was more. With the addition of the Small Business Reorganization Act in 2019, Congress added Section 1192. After the completion of plan payments, the section says that “the court shall grant the debtor a discharge of all debts provided in section 1141(d)(1)(A) of this title . . . except any debt . . . (2) of the kind specified in section 523(a) of this title.”

Judge Barnes waded through Cleary Packaging to explain how the Fourth Circuit arrived at the conclusion that debts can be nondischargeable as to corporate debtors in Subchapter V. He also carefully parsed how the Ninth Circuit BAP reached the opposition conclusion in Off-Spec Solutions.

Judge Barnes said he was “not swayed by the reasoning of Cleary Packaging.” He said it “projects rationales for Congress without evidence of the same, but it creates more problems for the statutes in question than it solves.”

Viewing the statutes as “imprecise” but not “ambiguous,” Judge Barnes said that “Congress did not through inartful language attempt to upset the existing, fundamental nature of chapter 11 or the Bankruptcy Code as a whole.”

Judge Barnes granted the motion to dismiss, holding that “section 523(a) does not apply to the Debtor here.”