by The NACBA membership filed an amicus brief in the Supreme Court case of Law v. Seigel (In re Law), No. 12-5196 (Sept 3, 2013), in an effort to defend the debtor’s homestead exemption against surcharge. In that case, the lower court, ostensibly pursuant to its power under section 105(a), imposed the surcharge to pay trustee fees resulting from litigation necessitated by debtor misconduct. See Law v. Siegel (In re Law), 435 Fed. Appx. 697, 2011 WL 2181198 (9th Cir. 2011).
The use of exemptions to preserve the debtor’s basic needs has a history pre-dating the U.S. Constitution and underpins the fundamental principle of the debtor’s fresh start. For that reason, Congress has specified the limited circumstances under which property which would otherwise be exempt may be used in the bankruptcy estate. The brief argues that while section 105(a) grants equitable power to the court to effectuate the terms of the Bankruptcy Code, it does not permit the court to contravene other sections of the Code or bypass its otherwise applicable provisions. In sections 522(c) and (k) Congress specified that exempt property cannot be used to pay pre-petition debts or administrative expenses. In addition, in sections 522(o) and (q), Congress specified conditions under which a homestead exemption may be compromised as a result of debtor’s misconduct. Section 105(a) permits a court to use its equitable power to “carry out the provisions” of the Code, not to override or contradict them. The brief states: “Given that Congress expressly empowered bankruptcy courts to impose specific, and fully adequate, sanctions for debtor misconduct, Section 105(a) cannot be read to authorize the creation of a new, draconian sanction that is inconsistent with the Bankruptcy Code’s express provisions.”
Furthermore, the brief points out that protecting exemptions does not tie the court’s hands. There are alternative actions available to a court to address a debtor’s misconduct. Section 727 contemplates denial or revocation of discharge of specific debts in the face of misconduct. Rule 9011 permits imposition of traditional litigation sanctions against a wayward debtor.
In the alternative, the brief seeks to minimize the damage of a potentially unfavorable decision by asking the Court to allow such equitable action by a lower court only under unusual circumstances where: “(1) the debtor has engaged in misconduct that actually injured one or more creditors by depriving them of estate assets to which they were entitled; (2) the misconduct involved an intentional effort to conceal or dissipate estate assets so as to keep them from creditors; (3) the surcharge is no greater than necessary to remedy the harm to creditors caused by the misconduct (i.e., is remedial rather than punitive); and (4) no other available remedy is adequate.”
The Supreme Court’s decision can be expected to resolve the split between the first and ninth circuits, see Malley v. Agin, 693 F.3d 28, 30 (1st Cir. 2012); Latman v. Burdette, 366 F.3d 774, 785 & n.8 (9th Cir. 2004) (permitting surcharge), and the Tenth circuit, see In Re Scrivner, 535 F.3d 1258 (10th Cir.2008) (not permitting surcharge).