On Monday, March 18th, the Supreme Court heard oral arguments in the bankruptcy case Bullock v. BankChampaign, N.A., 670 F.3d 1160 (11th Cir. 2012), (No. 11-1518, 81 U.S.L.W. 3228, 2012 U.S. LEXIS 8408). The dispute in this case involves an obscure exception to the bankruptcy discharge for debts incurred through “defalcation.”
Generally, an individual who obtains bankruptcy relief is discharged from any future obligation with respect to all preexisting debts. The discharge is subject, however, to exceptions for a variety of debts that in Congress’s view should not be discharged. Section 523(a)(4) excepts from discharge (for individual debtors) debts “for . . . defalcation while acting in a fiduciary capacity.”
The Bankruptcy Code does not define the term defalcation and the appellate courts are not all in agreement. The 4th, 8th and 9th circuits hold that even an innocent or merely negligent act by a fiduciary can be a defalcation. The 5th, 6th, 7th and 11th circuits use a “recklessness” standard that requires something more than simple negligence but does not require proof of fraud or intention to harm the other parties. And, the 1st and 2nd circuits have used an “extreme recklessness” standard, establishing something akin to conscious misbehavior.
The Supreme Court must now determine what is the correct standard for determining whether a debt was incurred through defalcation.
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