Supreme Court clarifies bankruptcy misconduct definition
The United States Supreme Court recently weighed in on an issue that has been creating confusion in the bankruptcy courts since the 1841. The meaning of the term “defalcation” has a similar meaning to willful fraud, according to the recent decision about when a debt is eligible or not eligible for discharge in a bankruptcy proceeding.
As we’ve discussed in the past, it is not always clear whether a court will allow someone to discharge a particular debt through bankruptcy. In this case, the question was whether a man could discharge debt from a loan he took out of a trust that he had been serving as the sole trustee of. The issue arises because this is a breach of his fiduciary duty to the trust and the other beneficiaries even though no harm was done to the principle of the trust through the loans.
The court examined the meaning of the word “defalcation” because bankruptcy law says that debts should be discharged unless there is evidence of fraud or defalcation, but the meaning of the later had never been fully fleshed out. The Supreme Court provided clarity, saying that defalcation means a person was acting with gross negligence or actual knowledge that what they were doing was improper.
The unanimous decision will mean that “defalcation” will likely only be found in extreme cases, making sure that debt discharge is still widely available when people make honest financial errors.
With the new definition in hand, a lower court will make a decision about the specifics of the this case.
Source: Thomson Reuters News & Insight, “Justices finally say what ‘defalcation’ means,” Lawrence Hurley, May 14, 2013
