Madaj, In re

• Citation: 149 F.3d 467
• Decision Date: 16 July 1998
• Docket Number: No. 96-1888,96-1888
• Parties: 40 Collier Bankr.Cas.2d 708, 32 Bankr.Ct.Dec. 1100, Bankr. L. Rep. P 77,744 In re: Michael K. MADAJ; Debtor; In re: Theresa A. Madaj, Debtor, Wilbert F. Zirnhelt, Creditor-Appellant; Margaret R. Zirnhelt, Creditors-Appellant, v. Michael K. MADAJ, Debtor-Appellee; Theresa A. Madaj, Debtors-Appellee.
• Court: United States Courts of Appeals. United States Court of Appeals (6th Circuit)

Page 467

149 F.3d 467

40 Collier Bankr.Cas.2d 708, 32 Bankr.Ct.Dec. 1100,

Bankr. L. Rep. P 77,744

In re: Michael K. MADAJ; Debtor; In re: Theresa A. Madaj, Debtor Wilbert F. Zirnhelt, Creditor-Appellant; Margaret R Zirnhelt, Creditors-Appellant, v. Michael K. MADAJ, Debtor-Appellee; Theresa A. Madaj Debtors-Appellee.

No. 96-1888.

United States Court of Appeals Sixth Circuit.

Submitted June 5, 1997.

Decided July 16, 1998.

Peter J. Zirnhelt, Richard P. Carroll (briefed), Peter J. Zirnhelt, P.C., Traverse City, Michigan, for Creditors-Appellants.

George Stauch, Jr., Flint, Michigan, for Debtor-Appellee.

Before: MARTIN, RYAN, and BATCHELDER, Circuit Judges.

OPINION

BATCHELDER, Circuit Judge.

"How sharper than a serpent's tooth it is

To have a thankless child!"

WILLIAM SHAKESPEARE, KING LEAR, act I, sc. 4

Before us on appeal are a husband and wife ("the Creditors"), who have felt the bite of their thankless foster child. With his wife, this foster child ("the Debtors") borrowed a substantial sum of money from his foster parents, promising to repay the loan within a few months out of anticipated insurance proceeds from a fire loss. Instead of repaying the loan, however, the Debtors filed a petition in bankruptcy under Chapter 7 and failed to include the foster parents in the list of creditors filed with the petition. Their no-asset case was duly administered, the Debtors eventually obtained a discharge pursuant to 11 U.S.C. § 727, and their case was closed. The Creditors, unaware of the bankruptcy proceeding, and having repeatedly importuned the Debtors to repay the loan according to their promise, filed suit in state court and obtained a judgment against the Debtors for the unpaid balance of the loan.

The Debtors moved to reopen their Chapter 7 proceeding in order to list the debt, claiming that their failure to include it initially had been due to forgetfulness and inadvertence. The Creditors objected to the motion to reopen, claiming that in light of their repeated requests for payment and the Debtors' protests of poverty, the Debtors' memory lapse was not credible, and that the Debtors had failed to list the debt because they intended to defraud the Creditors. The Creditors opposed the reopening of the Chapter 7 proceeding because they believed, and still believe, that an unlisted debt is not discharged, and that the Debtors ought not be permitted to now list this debt and obtain its discharge. The parties agree that if this debt had been timely scheduled, it would have been dischargeable under 11 U.S.C. § 523, and that even if the debt had been listed and a proof of claim had been filed, because this was a no-asset case, there would have been no payment on the debt. The Bankruptcy Court denied the Debtors' motion to reopen, but held that the debt to the Creditors was nonetheless discharged, and the District Court affirmed. The Creditors timely appealed. We now AFFIRM.

" '[I]n appeals from the decision of a district court on appeal from the bankruptcy court, the court of appeals independently reviews the bankruptcy court's decision, applying the clearly erroneous standard to findings of fact and de novo review to conclusions of law.' " In re Chavis, 47 F.3d 818, 821 (6th Cir.1995) (brackets in original) (quoting In re Century Boat Co., 986 F.2d 154, 156 (6th Cir.1993)).

The confusion in the district and circuit courts concerning unlisted Chapter 7 debts in a no-asset case, including the dischargeability of such debts, the effect of an order of discharge on such debts, and the efficacy of reopening a bankruptcy case to include them, is widespread. This confusion is due, in part, to a line of cases that perpetuates the erroneous view that once his case is closed, the debtor must have his case reopened in order to discharge a pre-petition debt not listed in the bankruptcy petition; once the case is reopened, the debtor amends his schedules to list the debt, and the now-scheduled debt is covered by the discharge. But this is not the law.

In a Chapter 7 no-asset case such as this, "reopening the case merely to schedule [an omitted] debt is for all practical purposes a useless gesture." In re Hunter, 116 B.R. 3, 5 (Bankr.D.D.C.1990). See also, In re Peacock, 139 B.R. 421 (Bkrtcy.E.D.Mich.1992); In re Thibodeau, 136 B.R. 7, 10 (Bankr.D.Mass.1992); In re Karamitsos, 88 B.R. 122 (Bankr.S.D.Tex.1988); In re Mendiola, 99 B.R. 864 (Bankr.N.D.Ill.1989); In re Anderson, 72 B.R. 783 (Bankr.D.Minn.1987). Under these circumstances, amending the schedule is pointless because, as we shall explain, this debt is discharged and reopening the case and scheduling the debt cannot affect that fact.

The law in this area is counter-intuitive, and requires a careful fitting together of the relevant sections of the Bankruptcy Code and Rules. Because of the confusion in this area, a review of the provisions governing dischargeability of debts and the effect of a discharge in a Chapter 7 proceeding is in order. At the risk of appearing simplistic, we can summarize the relevant provisions ¹ as follows:

A discharge under 11 U.S.C. § 727 discharges every prepetition debt, without regard to whether a proof of claim has been filed, unless that debt is specifically excepted from discharge under 11 U.S.C. § 523.

Section 523(a)(3) contains the only exceptions for unlisted and unscheduled debts.

Section 523(a)(3)(B) excepts from discharge those debts originally incurred by means of fraud, false pretenses, or malicious conduct, as enumerated in §§ 523(a)(2), (4), and (6), (hereinafter "fraudulent" or "fraudulently incurred" debts).

Section 523(a)(3)(A) excepts from discharge all other debts-i.e., debts other than those fraudulent debts specified in § 523(a)(2), (4), or (6)-which are not listed by the debtor in his petition and schedules in time for the creditor to file a timely proof of claim.

However, even 523(a)(3)(A) does not except an unscheduled debt from discharge if the creditor had notice or actual knowledge of the bankruptcy case in time for timely filing of a proof of claim.

In a Chapter 7 no-asset case the court does not set a deadline for the filing of proofs of claim. Rather, the court may notify creditors that there are no assets, that it is not necessary to file claims, and that if sufficient assets become available for payment of a dividend, further notice will be given for filing of claims. See FED. R. BANKR.P. 2002(e). Therefore, there is no date by which a proof of claim must be filed to be "timely," and whenever a creditor receives notice or knowledge of the bankruptcy, he may file a proof of claim.

The operation of § 523 is obscured somewhat by its convoluted structure, but most of the twists and turns affecting dischargeability have to do with the fraudulent types of debts enumerated in §§ 523(a)(2), (4), and (6). ²

The statutory language relevant to debts not fraudulently incurred reads as follows:

A discharge under section 727 ... does not discharge an individual debtor from any debt ... neither listed nor scheduled ... in time to permit ... timely filing of a proof of claim, unless such creditor had notice or actual knowledge of the case in time for such timely filing.

11 U.S.C. § 523(a)(3)(A). Thus, § 523(a)(3)(A) excepts a debt from discharge if the debt was not scheduled in time for a timely filing of the proof of claim, but not if, despite the debt's not having been scheduled, the creditor nevertheless received notice of the bankruptcy in time to file a timely proof of claim. Put another way, the debt is discharged so long as it is scheduled in time for the creditor to file a proof of claim or the creditor finds out about the bankruptcy case in time to do so. Scheduling the debt enables the bankruptcy court to provide the creditor with notice. Where the creditor, through some other means, finds out about the bankruptcy in time to assert his right to a portion of the proceeds of the estate, there is no reason to except an otherwise dischargeable debt from the effect of the discharge. But where the creditor is not aware of the bankruptcy, he cannot assert his right. Without the exception in § 523(a)(3)(A), the debtor could simply deny his uninformed creditors the opportunity to recover from the bankruptcy estate by omitting their debts from the schedule.

In a Chapter 7 no-asset case, however, the creditors cannot recover from the estate because there is nothing to recover. For this reason, there is no deadline for filing a timely proof of claim in a no-asset case. Technically speaking, therefore, no matter when the creditor learns of the bankruptcy, he is able to file a timely claim. Because § 523(a)(3)(A) excepts the unscheduled debt from discharge "unless such creditor had notice or actual knowledge of the case in time for such timely filing," the moment the creditor receives notice or knowledge of the bankruptcy case, § 523(a)(3)(A) ceases to provide the basis for an exception from discharge. Consequently, the debt is at that point discharged.

The result may seem strange at first blush, but it makes sense when one considers both the type of debt involved and the nature of a no-asset case. Unlike the fraudulent debts covered by §§ 523(a)(2), (4) and (6), the debts excepted from discharge by § 523(a)(3)(A) are not excepted because of their nature, but because an injustice will result if the debt is discharged in a situation where the creditor never had the opportunity to participate in the distribution of the assets of the estate.

Yet, there are no proceeds to be distributed to the creditors in a no-asset case, which renders the notice function served by the scheduling of debts far less important. For precisely this reason, there is no deadline for the filing of proofs of claim in a no-asset case. For the most part, creditors in a no-asset case do not stand to gain by having their debts scheduled, nor do they stand to lose by having their debts omitted from the schedules. ³ Thus, it should come...