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1
CHAPTER 31
BANKRUPTCY LAW
ANSWER TO CRITICAL THINKING QUESTION
IN THE FEATURE
ETHICS TODAY—CRITICAL THINKING
Why does the Bankruptcy Code provide that student loans should not be dischargeable
unless there is undue hardship? What argument can be made in favor of allowing student
loans to be dischargeable? One reason that the Bankruptcy Code has not allowed student
loan debts to be discharged is to encourage banks to make loans to students. Students typically
ANSWERS TO QUESTIONS
AT THE ENDS OF THE CASES
CASE 31.1—CRITICAL THINKING
LEGAL ENVIRONMENT
Why, as a general rule, should a court apply the law that is in effect at the time the court
renders its decision? The answer to this question seems obvious. A rule that courts should
apply the law in effect when they render their decisions has the advantage of being clear and
2 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
ETHICAL ENVIRONMENT
Suppose that Anderson had filed his initial bankruptcy petition under Chapter 7, not
subordinate the tax claim.
CASE 31.2—CRITICAL THINKING
ECONOMIC
Why would a debtor risk the denial of a discharge to conceal assets? Discuss. A debtor
might risk the denial of a discharge in a bankruptcy case to conceal assets so as to avoid their
application to the payment of debt. Or a debtor might conceal an asset in order to, as in this
CASE 31.3—LEGAL REASONING QUESTIONS
1A. On what ground did the trustee contend that the debtors had not proposed their
Chapter 13 plan in good faith? The trustee argued that, in determining whether the Welshes
proposed their Chapter 13 plan in good faith, the bankruptcy court should have considered
2A. How did the court rule with respect to the trustee’s argument? Why? The court
concluded that the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA),
which expressly excludes Social Security benefits from the calculation of “current monthly
3A. In evaluating a debtor’s petition, what factors should be part of a good faith
analysis? Should consideration of the calculation of disposable income play a role? Why
or why not? The Bankruptcy Code imposes the requirement of good faith on a debtor at both
the time of the filing of the petition and the time of the filing of the plan. The Code does not
define good faith, but if the circumstances on the whole indicate bad faith, a court can dismiss a
ANSWERS TO QUESTIONS IN THE REVIEWING FEATURE
AT THE END OF THE CHAPTER
1A. Prior to filing
Under the 2005 bankruptcy reform act, all debtors must receive credit counseling from an
approved nonprofit agency within the 180-day period preceding the date of filing a petition in
4 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
2A. Deadline to submit
Janet must file the required schedules within 45 days after filing her petition—unless she gets
3A. Steps to “substantial abuse”
To determine whether Janet’s petition is presumed to be “substantial abuse,” the court would
calculate Janet’s average monthly income for recent months (less certain allowed expenses). If
4A. Ability to pay
If a court found that Janet had an ability to pay a portion of her deceased husband’s medical
bills, a court would convert her bankruptcy case to a Chapter 13, individual repayment plan.
ANSWER TO DEBATE THIS QUESTION IN THE REVIEWING FEATURE
AT THE END OF THE CHAPTER
Rather than being allowed to file Chapter 7 bankruptcy petitions, individuals and
couples should always be forced to make an effort to pay off their debts through Chapter
13. Every time that consumers deprive creditors of repayment by successfully obtaining Chapter
7 protection, the creditors’ costs rise. Consequently, all business that extend credit must raise
CHAPTER 31: BANKRUPTCY LAW 5
ANSWERS TO ISSUE SPOTTERS
AT THE END OF THE CHAPTER
1A. After graduating from college, Tina works briefly as a salesperson before filing for
bankruptcy. As part of her petition, Tina reveals her only debts are student loans, taxes
accruing within the last year, and a claim against her based on her misuse of customers’
2A. Ogden is a vice president of Plumbing Service, Inc. (PSI). On May 1, Ogden loans
PSI $10,000. On June 1, the firm repays the loan. On July 1, PSI files for bankruptcy.
Quentin is appointed trustee. Can Quentin recover the $10,000 paid to Ogden on June 1?
ANSWERS TO BUSINESS SCENARIOS
AT THE END OF THE CHAPTER
31-1A. Voluntary versus involuntary bankruptcy
(a) Any person, including a rancher or farmer, can voluntarily petition himself or
herself into bankruptcy. The person has only to be a debtor. This includes partnerships and
corporations that are liable on a claim held by a creditor, as well as individuals. The debtor does
(b) Neither Oman nor Sneed—nor any combination of Burke’s creditors—can in-
voluntarily petition Burke into bankruptcy. The Code provides that involuntary bankruptcy
31-2A. Distribution of property
The Bankruptcy Code establishes a payment priority of claims from the debtor’s estate. Each
class of debt in this priority list must be fully paid before the next class in priority is entitled to
any of the proceeds. If insufficient funds remain to pay an entire class, the proceeds are
6 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
distributed on a pro rata basis to each creditor within that class. The order of priority for claims
listed in this problem is as follows:
(a) $ 500—Administrative bankruptcy costs (Dietrich).
Because the amount remaining is only $1,500, these creditors share on a pro rata basis. For
example, for United Bank it is:
ANSWERS TO BUSINESS CASE PROBLEMS
AT THE END OF THE CHAPTER
31–3A. Discharge in bankruptcy
No. Harman owes McAfee under the guaranty. The obligation was not discharged in his
bankruptcy proceedings. No determination of the status of the obligation was made during
31–4A. Automatic stay
Gholston can recover damages because EZ Auto willfully violated the automatic stay. EZ Auto
repossessed the car even though it received notice of the automatic stay from the bankruptcy
31–5A. BUSINESS CASE PROBLEM WITH SAMPLE ANSWER—Discharge in bankruptcy
No, ECMC cannot now resume its effort to collect on Hann’s loans. After the debtor has
completed all payments, the court grants a discharge of all debts provided for by the repayment
CHAPTER 31: BANKRUPTCY LAW 7
plan. All debts generally are dischargeable, especially those for which the court either declared
that there was no obligation or disallowed on the ground that the underlying debt was satisfied.
In this problem, Hann financed her education partially through loans. When she filed a
Chapter 13 petition, Educational Credit Management Corp. (ECMC) filed an unsecured proof of
31–6A. Discharge
No, Michael is not entitled to a discharge of the debt to Dianne of half of the amount in the
investment accounts or the unpaid alimony and child support. The debt qualifies as an exception
to discharge. As far as a debtor is concerned, the primary purpose of a liquidation proceeding is
to obtain a fresh start through a discharge of debts. But certain debts are not dischargeable in
bankruptcy. Claims that are not dischargeable in bankruptcy include domestic-support
obligations and property settlements provided for in a divorce decree and claims based on willful
or malicious conduct by the debtor toward another.
31–7A. Discharge under Chapter 13
No, Thomas’s mortgage and lien debts are not dischargeable in a Chapter 13 bankruptcy case.
Domestic-support obligations, such as child support and alimony, are excepted from the
automatic stay provision and from discharge under most, if not all, circumstances on a
8 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
bankruptcy petition, including one filed under Chapter 13. And claims for domestic-support
obligations have the highest priority among unsecured claims, so these debts must be paid first.
Here, when Clark and Thomas divorced, the decree gave Clark custody of their children,
required Clark to pay their first mortgage, required Thomas and Clark to make equal payments
31–8A. Liquidation proceedings
Yes, there are sufficient grounds for the bankruptcy court to dismiss Krueger’s petition for a
Chapter 7 liquidation, Bad faith conduct is the basis for the court to dismiss the petition. Good
faith is implicitly required for the commencement, prosecution, and confirmation of bankruptcy
proceedings—a prerequisite for an honest debtor to obtain a fresh start. Acting in bad faith can
serve as a ground for a bankruptcy court to dismiss a case, after notice and a hearing, for
cause.
In this problem, Krueger and Torres, shareholders of Cru Energy, were suing each other
31-9A. A QUESTION OF ETHICS—Discharge in bankruptcy
(a) Sexton’s debt to Friedman’s was dischargeable, but BRM should not be
sanctioned for attempting to collect it after the discharge. From the debtor’s point of view, the
primary purpose of a discharge is to obtain a fresh start in terms of debt and credit. Certain
debts are not dischargeable in bankruptcy—claims by creditors who were not notified of the
(b) In this problem, Sexton’s debt to Friedman’s was dischargeable. It does not fall
into any of the categories of exceptions or objections to discharge. Because the debt was
discharged, a creditor’s attempt to collect it is prohibited. BRM tried to collect the debt after
Sexton’s discharge. But there were mitigating circumstances. There were the mistakes with
ANSWERS TO LEGAL REASONING GROUP ACTIVITY QUESTIONS
AT THE END OF THE CHAPTER
31–10A. Discharge in bankruptcy
(a) Debtors who seek Chapter 13 relief commit to a three-to five-year period of
repayment, after which their remaining debts are discharged. Unlike Chapter 7 debtors, who are
(b) Student loans are excepted from discharge unless the debtor can show “undue
hardship.”
(c) A fundamental goal of bankruptcy is to protect the debtor by giving him or her a
fresh start free from debt. It could be argued that a debtor who is burdened by student loans will
10 UNIT SIX: CREDITORS’ RIGHTS AND BANKRUPTCY
