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Bankruptcy Appellate Panel Upholds Conversion of Chap. 13 Case Based on Bad Faith

The Bankruptcy Appellate Panel for the First Circuit has upheld a bankruptcy court's decision to convert a Chapter 13 case to a Chapter 7 case based on the debtor's bad faith in failing to disclose two pending personal injury claims.

The debtor is a licensed attorney. She suffered personal injuries in two different car accidents and filed two lawsuits in state court. Shortly after filing the lawsuits, she filed a voluntary petition for Chapter 13 relief. She failed to list the lawsuits on her Schedule B-Personal Property and on her Statement of Financial Affairs. She then dismissed her attorney for the personal injury claims.

The debtor did not disclose the lawsuits during her Section 341 meeting. Four days later, she argued a motion in one of the lawsuits. She then retained a new attorney for one of the lawsuits. She did not seek approval of the bankruptcy court. The debtor amended her Schedule B and still did not list the lawsuits. She rejected a settlement offer in one suit and settled the other for $20,000. A year and a half after filing her petition the debtor informed her bankruptcy counsel of the lawsuits. Counsel informed the trustee. The debtor then amended her Schedule B to list the lawsuits and amended her Schedule C to claim the lawsuits as exempt property.

The trustee move to convert the Chapter 13 case to a Chapter 7 arguing that the debtor's failure to timely disclose the lawsuits and her failure to obtain authorization to employ her attorney for the personal injury claims showed she was no proceeding in good faith as required by Section 1325(a)(3).

The debtor said she did not disclose the lawsuits because (1) she believed her claims were not viable, (2) she disclosed her bankruptcy to her personal injury attorney and believed he would do the necessary work, (3) she could point to a voluntary polygraph test result proving she had timely disclosed the bankruptcy case to her personal injury lawyer, and (4) she did not file a motion to employ her personal injury attorney because she was unhappy with his services. The bankruptcy court ordered that her case be converted based on a lack of good faith. The debtor appealed.

The BAP said, pursuant to Section 1307(c), a Chapter 13 case can be converted to a Chapter 7 for cause. The sections list eleven circumstances that can constitute cause but the list is not exclusive. The BAP said that although lack of good faith is not specifically enumerated as "cause," it is well established that lack of good faith, or bad faith, constitutes cause. There are two kinds of good faith in Chapter 13 case, filing the case in good faith and proposing the Chapter 13 plan in good faith.

Bankruptcy courts use a "totality of the circumstances" test to determine whether a debtor filed a petition in good faith. With respect to Chapter 13 petition, the factors considered are: (1) the debtor's accuracy in stating her debts and expenses, (2) debtor's honesty in the bankruptcy court's process, including whether she has attempt to mislead the court or made any misrepresentations, (3) whether the Bankruptcy Code is being unfairly manipulated, (4) the type of debt sought to be discharged, (5) whether the debt would be dischargeable in a Chapter 7 case, and (6) the debtor's motivation and sincerity in seeking Chapter 13 relief.

The BAP noted the debtor failed to disclose her lawsuits in her initial filings and at the Section 341 meeting. Her explanation that the claims were not viable is belied by her sophistication in legal matters and her participation in the lawsuits. Even so, she had a duty to disclose the lawsuits even if she thought they were not viable.

The debtor cannot rely on the purported advice of counsel where it should have been evident that the assets should be listed on the schedules. Moreover, belated amendments do not expunge the falsity of earlier oaths. The BAP affirmed the conversion.

Zizza v. Pappalardo, B.A.P. No. MW 13-008, (1st Cir. BAP Oct. 18, 2013)

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