Civil Contempt for Discharge Injunction Violations: A New Standard That Brings the 'Old Soil' with It

The Ninth Circuit's recent decision was the outlier. In Taggart, pre-bankruptcy, the chapter 7 debtor transferred his interest in an LLC allegedly without providing notice and an opportunity for the other members to exercise their right of first refusal and the other members sued. In re Taggart, 888 F.3d 438, 439 (9th Cir. 2018). On the eve of trial, the debtor filed a chapter 7 bankruptcy. Id. at 441. The state court case was stayed. Debtor received his discharge. After the debtor received his discharge, the state court action continued; the state court judge found the debtor to be a “necessary party,” although no monetary judgment could be awarded against him. Id. The other LLC members prevailed on their breach of contract claim and sought attorney's fees against debtor, limiting their request to fees incurred after the date of debtor's bankruptcy. Id. The state court held debtor liable for roughly $45,000.00 in attorney's fees for returning to the “fray” after the discharge. The debtor moved to reopen his bankruptcy case and sought to hold the LLC members (and their attorney) in contempt for violating the discharge injunction. Id. Several state and bankruptcy court appeals ensued, but it is the ruling of the Bankruptcy Appellate Panel reversing the bankruptcy court's finding of contempt that was based on the application of a standard akin to strict liability that led to the Ninth Circuit's decision. The Ninth Circuit affirmed and held that “the creditor's good faith belief that the discharge injunction does not apply to the creditor's claim precludes a finding of contempt, even if the creditor's belief is unreasonable.” Id. at 444 (emphasis added). The Ninth Circuit concluded that the creditor must know that the discharge injunction is “applicable” to the creditor's claims to be liable. Id. The Ninth Circuit affirmed the BAP's reversal of the sanctions award because the creditors held a mistaken good-faith belief that the discharge injunction did not apply to their claims. This is the issue that was on appeal to the Supreme Court.

SCOTUS Rejects Both Approaches

The Supreme Court vacated and remanded, finding that the Ninth Circuit erred in applying a subjective standard to civil contempt for discharge injunction violations. Taggart v. Lorenzen, 139 S. Ct. at 1804. The appropriate standard for imposing discharge injunction sanctions stems from civil contempt's roots; a court may hold a creditor in civil contempt for violating a discharge order where there is no “fair ground of doubt” as to whether the creditor's conduct might be lawful under the discharge order. Id. Stated differently, if there is no objectively reasonable basis for concluding a creditor's conduct might be lawful, then civil contempt may be appropriate. Id.

The Supreme Court read Sections 523 and 105 together. Section 524 provides that a discharge order “operates as an injunction against the commencement or continuation of an action, the employment of process, or an act, to collect, recover or offset” a discharged debt. 11 U.S.C. §524(a)(2). Section 105 authorizes a court to “issue any order, process, or judgment that is necessary or appropriate to carry out the provisions of this title.” 11 U.S.C. §105(a). Bankruptcy Code sections 524 and 105 together operate as an injunction, and authorize a court to impose civil contempt sanctions. Taggart v. Lorenzen, 139 S. Ct. at 1801. And so, the Supreme Court turned to a longstanding interpretive principle to determine the correct standard for discharge injunction violations: when a statutory term is “obviously transplanted from another legal source it brings the old soil with it.” Id. (quoting Hall v. Hall, 584 U.S. ––––, ––––, 138 S. Ct. 1118, 1128, 200 L. Ed. 2d 399 (2018) (internal quotations omitted)). The “old soil” that the bankruptcy statutes bring with them is how courts enforce injunctions with the “potent weapon of civil contempt.” Id. (quoting Longshoremen v. Philadelphia Marine Trade Assn., 389 U.S. 64, 76, 88 S. Ct. 201, 19 L. Ed. 2d 236 (1967)). The Supreme Court reasoned that bankruptcy courts do not have unlimited authority to impose civil contempt sanctions, but rather they are constrained by the “old soil” and traditional notions of equity to determine the same.