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Credit Cards Easier to Discharge

No ‘Fraud’ Despite Inability to Pay

Published: April 9, 1998. Lawyers weekly USA


A woman who took $11,600 in cash advances on her credit cards in order to finance her gambling problem can discharge the debt in bankruptcy, says the Sixth Circuit.  This wasn’t “fraud” that

would be non-dischargeable under 11 U.S.C.  ******523 (a) (2)(A), because she believed she could win back the money and pay off the debt.  The fact that she lacked the ability to repay the debt didn’t mean she didn’t intend to repay it, the court said –  No matter how unrealistic or how unreasonable her intent may have been.  The only other circuit to decide this issue – the Ninth – has held the same way.  Lower courts are sharply split. The decision makes it very difficult to prove fraud, creditors’ lawyers complain.  “How do you prove that a debtor did not intend to pay?  Unless their out -and- out thieves, it’s going to be impossible,” says Washington lawyer Charlie Docter. The court held that there was no “bad faith” in this case, noting that the debtor:
•    Had run up earlier credit card debts, and took out a 2nd mortgage to repay them;
•    Continued to make substantial payments at the same time she was taking cash advances; and
•    Stated that she always intended to repay the money

The court said this indicated that “at the time [the debtor] incurred the debts. . .she intended to repay them and believed that she would have the means to do so from her gambling winnings.” In the past, many lower courts have waived the debtor’s “ability” to repay a debt in determining whether he or she committed fraud, “””he explains.  Under this new decision, creditors will have a much tougher time, says Philadelphia attorney Henry Sommer, who has written several books on consumer bankruptcy.  He says creditors might win only if there are extreme circumstances – “for example, if a guy took a $60,000 trip to France knowing he was going into bankruptcy.”

Must be Malicious

The Sixth Circuit said the bankruptcy court below “clearly erred” in focusing exclusively on the debtors’ financial condition rather than looking at the “totality of the circumstances.”  It said, “We believe that the representation made by the card holder in a credit card transaction is not that [she] has an ability to repay; it is that [she] has an intention to repay. “To measure a debtors’ intention to repay by her ability to do so, without more, would be contrary to one of the main reasons consumers use credit cards: because they often lack the ability to pay in full at the time they desire credit.  The court said fraud occurs only if “the debtors maliciously and in bad faith incurred credit card debt with the intention of petitioning bankruptcy and avoiding the debt. “It cited the Ninth Circuit case, which said the “hopeless state of a debtors’ financial condition should never become a substitute for an actual finding of bad faith.” (in re Anastas,94 F.3d 1280(1996); 96LWUSA 845; Search word for LWUSA Archives: Anastas.)

What debtors should do
Experts say that whenever possible, debtors’ attorneys should have their clients testify that they:
•    Didn’t incur the debt immediately prior to filing for bankruptcy;
•    Tried to work out a payment plan with the creditor; and
•    Wanted to repay the debt, but simply were unable to do so.

Sommer says that debtors should always try to propose a payment plan to their creditors and make a few payments to show their good faith. “If a debtor makes an attempt to repay the debt, that makes it a lot harder to prove fraudulent intent,” agrees Baltimore attorney Stewart Blatt, president of the National Association of Retail Collection attorneys. What the debt is for can also make a difference, says Sommer. “Buying luxury items certainly isn’t as forgivable as buying groceries.”

What creditors should do
The ruling is bad news for creditors lawyers say. “This decision is going to be almost impossible to get around,” says William Weissbeck, a creditors’ attorney who practices in Chicago.  “Creditors are faced with an uphill battle,” agrees Robert Markoff, who also practices in Chicago. “If the debtor says she intended to pay you are pretty much stuck.”  Some lawyers think the decision could even encourage creditors to stop offering cash advances, perform more thorough credit checks or require debtors to fill out a new credit application every six months or so.
Barring that, experts say the best advice for creditors is to:
•    Focus on purchases, especially luxury items, made just before the debtor filed for bankruptcy;
•    Determine exactly how much debt exists, because a court will consider this as part of “totality of the circumstances;” and
•    Review the debtors’ credit application for inaccuracies in listed assets or income that suggests fraud.

U.S Court of Appeals, 7th Circuit. In re Rembert, No. 96-2293. April 9, 1998. Lawyers weekly USA No. 9913003