Post-Discharge Settlement Not Estate Property

Posted by NCBRC - June 1, 2016

A post-discharge settlement based on a medical device implanted in and removed from the debtor pre-petition was not part of the bankruptcy estate. In re Ross, No. 08-04-87445 (Bankr. E.D. N.Y. April 14, 2016)

At the time Barbara Ross filed her bankruptcy petition, there was no reason to believe the medical device was problematic and, in fact, at the time of the settlement, six years post-discharge, the debtor had suffered no injury as a result of the device. The settlement was provided out of surplus funds relating to the settlement of a class action lawsuit concerning a slightly different medical device. The trustee sought to reopen Ms. Ross’s chapter 7 bankruptcy under section 350, to administer the settlement as property of the estate under section 541.

A court will reopen a case for “cause” under section 350, where doing so may result in relief to the moving party. A court has discretion to deny a motion to reopen where the moving party is not entitled to the relief sought and where reopening would, therefore, be a waste of judicial resources. The decision in this case turned on whether the settlement constituted property of the bankruptcy estate as a “legal or equitable interest of the debtor . . .  as of the commencement of the case,” under section 541.

The court noted that the ever-changing medical environment often leads to detection of potential harm even where no symptoms have manifested and no injury ever occurs. In this case, the settlement was not to recompense Ms. Ross for injury but was offered as a precaution against future lawsuit by her.

The court was guided by the decision in Segal v. Rochelle, 382 U.S. 375, 86 S. Ct. 511, 15 L. Ed. 2d 428 (1966) where the Supreme Court held that a post-petition tax refund based on prepetition losses was property of the estate. The Segal Court reasoned that, while the “enjoyment” of the refund was postponed to a time after the bankruptcy was closed, the debtor had a pre-petition right to it. The Ross court noted that Segal does not expand the definition of property of the estate to an interest that the debtor acquires post-petition.

The court turned to the law of New York to determine whether Ms. Ross had a property interest in the settlement at the time of her petition, applying the three-step analysis set forth in Segal under which a court must: “(1) determine the extent to which the claim is rooted in the pre-bankruptcy past; (2) determine the extent to which it is entangled with the debtor’s ability to make an unencumbered fresh start; and then (3) with both considerations in the balance, determine whether, in view of the purposes of the Bankruptcy Act (now the Bankruptcy Code), the claim is more properly categorized as prepetition property that should come into the estate or a post-petition asset that the Debtor should take free of the claims of pre-bankruptcy creditors . . . this analysis does not turn on whether, under state law, the claim had accrued as of the petition date.” (Quoting In re Borchert, No. 04-65653, 2010 WL 153384, at *2-3 (Bankr. N.D.N.Y. Jan. 8, 2010)).

Turning to the facts before it, the court noted that if, under state law, any element of the claim accrued post-petition the debtor’s interest in the settlement is not property of the estate even if the conduct giving rise to the claim took place pre-petition. “In cases such as this involving potential tort claims, the proper focus is on whether there was a viable cause of action the Debtor could bring under applicable law on the date the petition was filed. If an action existed, regardless of what the Debtor knew, then that cause of action and all its proceeds would constitute property of the estate. If, however, as is true in this case, no cause of action had matured, it is irrelevant whether the Debtor ultimately develops an injury: the cause of action resulting from that injury would not be property of the estate under § 541.”

The court distinguished or disagreed with cases cited by the trustee, i.e. In re Salander, 450 B.R. 37 (Bankr S.D.N.Y. 2011), In re Osborne, 490 B.R. 75 (Bankr. S.D.N.Y. 2013), in which injury was established under state law, or the court failed to give that element sufficient weight in its analysis.

The court concluded that the pre-petition implantation and removal of the medical device did not give rise to a cause of action where Ms. Ross had sustained no pre (or post)-petition injury. Mere exposure to a defective product does not create a cognizable injury. The court warned that permitting the trustee to reopen in this case, would “expand property of the estate to include any interest so long as a trustee can tie such interest to a debtor’s ‘pre-bankruptcy past’ and would transform section 341 meetings of creditors into health examinations. Opportunistic trustees would be scrambling to latch onto every possible claim that may someday arise, however attenuated.” The court noted that accrual of a cause of action is not necessarily coextensive with the commencement of the statute of limitations, which may be tolled until the injured party discovers or should have discovered the existence of the injury.

In fact, the nature of the settlement does not support a finding that Ms. Ross has a viable cause of action even post-petition as it does not purport to recompense her for a past injury but to invoke her agreement not to pursue any claim that might arise in the future.

This case is currently on appeal to the district court for the Eastern District of New York, No. 16-cv-02071.

Ross Bankr ED NY opinion April 2016


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