New Ammunition Against Creditor Abuse After Bankruptcy

On March 25, 2008, a Washington State Bankruptcy court opened the doors to new laws to attack creditor abuse in the Ninth Circuit. In doing so, the Walls v. Wells Fargo no longer limits debtors to a discretionary “contempt remedy” by a bankruptcy judge for pursuing discharged debts against certain bill collectors. Rather, a strict liability lawsuit may also now be filed against certain debt collectors under state and federal law.

The issue arises where a bankruptcy discharge has been entered and a new debt scavenger buys the discharged debt and attempts to collect. And yes, believe it or not, discharged debt is bought and sold on Wall Street all the time!

While the Ninth Circuit Law has limited any remedy to going back to beg the bankruptcy judge for help, the new case from Washington makes the distinction that this is no longer necessary since a creditor-debtor relationship never existed. Instead, the debtor can now pursue the bill collector under the Federal Fair Debt Collections Practices Act and other State Collection Laws.

Essentially, the argument goes like this:

In both the Ninth Circuit MSR Exploration and Walls cases, there existed a pre-petition creditor-debtor relationship. Both courts were focused on a “whole system under federal control which is designed to bring together and adjust all of the rights and duties of creditors and embarrassed debtors alike.”

However, neither Court addressed the application of non-bankruptcy laws on third parties outside the creditor-debtor relationship. The Court in Chaussee v. B-Real, LLC (In re Chaussee), 2008 Bankr. LEXIS 1026 (Bankr. W.D. Wash. Mar. 25, 2008) ruled on this very issue:

The concern of the court in MSR Exploration was that the regulation of the rights between debtors and creditors in bankruptcy not be disrupted by “even slight incursions and disruptions brought about by state malicious prosecution actions.” That concern is legitimate as it pertains to the relation of creditors and debtors. In the MSR Exploration case, the debtor and creditor were parties to a prebankruptcy contract under which disputes arose and were resolved by the bankruptcy court on a claims objection by the debtor. In this case, however, there is no evidence that Plaintiff and Defendant are debtor and creditor, respectively, nor evidence that they have ever been in a debtor-creditor relationship. Defendant therefore has no right to invoke the regulations of the bankruptcy court to adjust the debts alleged, because Defendant has asserted them against the wrong debtor.

Because the debtor-creditor relationship does not exist between Plaintiff and Defendant, the Court finds that MSR Exploration does not apply to preempt Plaintiff’s claim under the WACPA.

Accordingly, since the MSR and Walls decisions referred to a “whole system under federal control” applicable only to creditors, purchasers of discharged debt, by their very nature of never having been in a creditor-debtor relationship, are not bound by these cases. And since many, if not at least 50% of the discharge violations I see, arise against purchasers of discharged debt, we finally have more debtor friendly laws evolving for debtors on the West Coast!

Written by Michael G. Doan