I’ve been having nightmares about the 9th’s Circuit’s decision in Siegel for 20 years.
Broad strokes, Siegel (143 F.3d 525 (9th Cir. 1998) holds that a filed claim in a no asset bankruptcy case to which no one objects is entitled to preclusive effect in subsequent litigation by reason of Bankruptcy Code §502.
In Siegel, the debtor filed a no-asset Chapter 7; nonetheless, his lender filed a proof of claim, to which, not surprisingly, no one objected. In the absence of an anticipated distribution, why would anyone?
Post discharge, Siegel resumed his state court fight with the lender, on fraud and breach of contract theories. Defendant Freddie Mac removed the case to federal court and got summary judgment on the grounds that, absent an objection in the no asset Chapter 7, Freddie Mac’s claim was deemed allowed and the doctrine of claim preclusion barred further litigation on the claim.
The “doctrine of res judicata bars a party from bringing a claim if a court of competent jurisdiction has
rendered a final judgment on the merits of the claim in a previous action involving the same parties or their privies.” Robertson v. Isomedix, Inc. … 28 F.3d 965, 969 (9th Cir. 1994). Thus, “`[r]es judicata bars all grounds for recovery that could have been asserted, whether they were or not, in a prior suit between the same parties on the same cause of action.'” …. That applies to matters decided in bankruptcy. See id.
The 9th Circuit did not address the point that screams at every consumer bankruptcy lawyer: no one had motivation or need to review claims in a no asset Chapter 7. Even in an asset case, the economies may again say that no one has an economic interest in litigating claims. And the debtor, who may be the party with the most compelling interest in any failings of a creditor’s claim, likely has no standing to object.Siegel at 528.
The opportunities for mischief should be obvious.
Claim preclusion & the corporate Chapter 7
Wide awake this week, another horrifying application of the Siegel reasoning presented itself.
The sole shareholder of a corporation was considering filing a Chapter 7 for a non-operating corporation to address pending, big money litigation. While not currently a party, the shareholder foresaw that the complaint might be amended to add her as a defendant on alter ego grounds. Even worse, California has statute allowing amendment of the judgment to add a party. CCP 187.
Consider the bind created should the corporation file a Chapter 7 and the creditor file a proof of claim for what my client contended was a wildly inflated amount. She would arguably have no standing to contest the claim in bankruptcy court, despite standing potentially being exposed to being bound by the allowance of the claim in bankruptcy.
Perhaps, merely the act of filing an objection in the corporate case would be enough to defeat claim preclusion, even if the bankruptcy court ultimately ruled she had no standing because the estate was insolvent. But such a result would require making new law, never an economic proposition for a debtor.
For me, Siegel adds one more caution to my list of reasons why filing a corporate Chapter 7 is a dicey proposition.
Siegel in Chapter 13
In the 24 years since Siegel was decided, astoundingly few cases have cited it, five to be exact. Only one engaged in a searching analysis of the holding: Investments Consultants v. Ramirez, an unpublished 9th Circuit BAP decision. BAP No. CC-19-1257-STaF (B.A.P. 9th Cir. Aug. 3, 2020). Of course, it involves multiple unsuccessful Chapter 13 cases along with some creditor hanky-panky, and sua sponte rulings from the bench. Nothing simple for us, it seems.
But relevant to the issue of claim preclusion in successive case, the BAP’s analysis went like this:
… we have not found any case holding that when a chapter 13 bankruptcy case has been dismissed without confirmation of a plan and without entry of a discharge in favor of the debtor, an un-objected to proof of claim filed in that case before dismissal should be “deemed allowed” under § 502(a) for purposes of claim preclusion against the debtor in later litigation. To the contrary, the only case that appears to have squarely addressed preclusion of allowed claims where a chapter 13 case was dismissed held that “[i]n a dismissed Chapter 13 proceeding, lacking either confirmation of a plan which recognizes Plaintiff’s claim or an objection filed to that plan by Plaintiff, res judicata does not attach.” Fisher v. Santry (In re Santry), 481 B.R. 824, 830 (Bankr. N.D. Ga. 2012).
So Ramirez sees plan confirmation as invoking claim preclusion. Less helpful is the suggestion that entry of a discharge is a factor. Where does that leave the case that craters after confirmation or the Chapter 20 case where a discharge was never on offer?
Two action items should flow from this look at claim preclusion.
One, know the law in your circuit on the preclusive effect of a proof of claim to which no objection was filed.
Two, review filed proofs of claim with an eye to situations where inaction may bar the debtor from future challenges to the contentions of creditors.