Seventh Circuit Discusses Application of Co-Debtor Stay

Posted by NCBRC - January 2, 2017

Bankruptcy’s co-debtor stay was intended to prevent indirect pressure created by creditors attempting to collect against a co-signatory on a debt belonging to the bankruptcy debtor. Therefore, it does not apply to a debt solely belonging to the bankruptcy debtor’s spouse even though state law provides for collection of that debt through marital property. Smith v. Capital One Bank, No. 16‐1422 & 16‐1423 (7th Cir. Dec. 22, 2016).

While Karen Smith’s chapter 13 bankruptcy was pending, Capital One obtained judgment against Ms. Smith’s husband on a credit card debt he owed independent of Ms. Smith. She filed an adversary complaint against Capital One alleging violation of the co-debtor stay (section 1301), and various consumer protection laws. The bankruptcy court found the collection action violated the stay and granted Ms. Smith’s motion for summary judgment. On interlocutory appeal, the district court disagreed and reversed.

The Seventh Circuit found that it had jurisdiction over the appeal because the district court’s holding effectively ended all of Ms. Smith’s claims against the Bank.

Turning to the merits, the court explained that section 1301 stays actions to collect a consumer debt of the debtor against someone liable with the debtor but not a co-debtor in bankruptcy.

Ms. Smith argued that Wisconsin’s Marital Law, which makes marital property available to satisfy certain debts of only one spouse, satisfied the “of the debtor” element of section 1301. The circuit court disagreed. It differentiated between a “debt” and a “claim” noting that had Congress wanted the co-debtor stay to apply to the latter, it could have so specified as it had in other sections of the Code. Reading section 1301 to includes all claims against the debtor would read the language “of the debtor” out of the statute. Furthermore, the court found Ms. Smith was already protected from collection efforts by the automatic stay applicable to her bankruptcy estate under section 362. Rather, the court found “[t]he best reading of the co‐debtor stay involves shielding non‐filing co‐debtors from actions to collect on the consumer debts only of the filing debtor.”

The court further found that state marital law did not convert Ms. Smith’s husband’s debt to her own even though by operation of that law marital property could potentially be used to collect on the Bank’s judgment against Ms. Smith’s husband. Again, any attempt by the Bank to collect estate funds would be subject to Ms. Smith’s stay protection under section 362. Although Wisconsin’s marital law permits access to marital property to satisfy a judgment on a debt, it does not create a cause of action directly against the non-debtor spouse. The statute merely establishes a procedure for collection on a debt without creating new liability.

The court rejected Ms. Smith’s “doctrine of necessaries” theory as having been raised for the first time on appeal. In any case, Ms. Smith also failed to demonstrate that the credit card debt was for “necessaries” or to explain why the automatic stay of section 362 would not apply to such debt if it were.

Smith 7th Cir. opinion Dec 2016

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