Res Judicata Does Not Bar Post-Confirmation Objection to POC

Posted by NCBRC - April 5, 2017

Plan confirmation did not adjudicate claim allowance on contested unsecured claims, therefore, res judicata did not bar the debtors’ post-confirmation challenges to the proofs of claim. LVNV Funding v. Harling, No. 16-1346, and LVNV Funding v. Rhodes, No. 16-1347 (4th Cir. March 30, 2017).

In two chapter 13 cases, LVNV filed proofs of claim prior to plan confirmation. The debtors, Derrick and Teresa Harling, and Jeffrey Rhodes, objected after plan confirmation but prior to the claims bar date. LVNV argued that the objections should have failed under the doctrine of res judicata. The bankruptcy courts found that res judicata did not apply, and disallowed the claims on the basis that the underlying debts were uncollectible due to the passage of the statute of limitations.

LVNV appealed both cases directly to the Fourth Circuit.

Res judicata applies when 1) there is a prior, final, judgment on the merits, 2) identical parties, and 3) the same cause of action in both proceedings. Finding that res judicata bars relitigation of issues that were actually litigated or determined in a prior hearing, the court turned to the Code: specifically, the confirmation and claims allowance provisions. Under section 502(a), a claim is deemed “allowed” unless a party objects. Under section 1325(a) a bankruptcy court “must” confirm a plan that is: 1) proposed in good faith, 2) does not unfairly discriminate between unsecured creditors, and 3) is in the best interest of creditors. Unsecured claims are generally pro-rata recipients of distributions from a pool of estate assets and, therefore, individual unsecured claims are not subject to scrutiny at the confirmation stage. Because of disparate timelines for confirmation and claims procedures, a party typically may file a proof of claim or object to a filed claim after the plan has been confirmed.

In these cases, the court found that because the claims were presumed allowed at the time of the confirmation hearing, the issue of allowance of the claims was not raised until post-confirmation when the debtors objected. Likewise, no issues addressed at the confirmation hearing were relevant to the claims allowance determination. For that reason, res judicata did not bar the debtors’ objections to LVNV’s claims.

Contrary to LVNV’s argument, neither Covert v. LVNV Funding, LLC, 779 F.3d 242 (4th Cir. 2015), nor D & K Properties Crystal Lake v. Mutual Life Insurance Co. of New York, 112 F.3d 257 (7th Cir. 1997), supported application of res judicata. In Covert, the plaintiffs filed post-discharge federal consumer protection claims against LVNV without having objected to its claim in bankruptcy and without listing the FDCPA claim as a bankruptcy estate asset. Covert, thus, stands for the proposition that “debtors who do not object to proofs of claim during their bankruptcy proceeding are precluded from later litigating the subject matter of those claims for personal gain outside the Chapter 13 bankruptcy proceeding as a way to avoid including the claim as an asset in their bankruptcy estate.” D & K Properties involved a secured creditor and actual adjudication in bankruptcy of the issue the debtors attempted to raise post-discharge in district court.

The court concluded that plan confirmation and the validity of individual unsecured claims are “distinctly separate” processes, and therefore the identity of causes of action between the two adjudications, as required for application of res judicata, was absent.

NCBRC filed an amicus brief in support of the debtor in this case.

Harling 4th Cir opinion March 2017

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