Earlier this year, the Ninth Circuit issued an opinion that caused a stir among bankruptcy law aficionados.  In Ah Quin v. County of Kauai DOT, the Ninth Circuit court was faced with a bankruptcy debtor who failed to list her pending discrimination claim among her assets.  2013 U.S. App. LEXIS 15076 (February 12, 2013).  The omission went unnoticed, and the debtor received a discharge from bankruptcy.

After the debtor’s discharge, the defendant in the debtor’s discrimination claim learned of the omission.  The defendant then moved to dismiss the discrimination claim under the doctrine of judicial estoppel.  The reasoning behind the motion was that a debtor who represents to a bankruptcy court that it has no other assets should be estopped from later representing to another court that it has an asset to be pursued.  The purpose of judicial estoppel is, after all, “to protect the integrity of the judicial process by prohibiting parties from deliberately changing positions according to the exigencies of the moment.”  New Hampshire v. Maine, 532 U.S. 742, 749-50 (2001) (internal quotations omitted).  The First Circuit stated it (more colorfully) this way:  “Conceal your claims; get rid of your creditors on the cheap, and start over with a bundle of rights.  This is a palpable fraud that the court will not tolerate, even passively.”  Payless Wholesale Distribs., Inc. v. Alberto Culver Inc., 989 F.2d 570, 571 (1st Cir. 1993).

Based on this reasoning, the federal courts have developed a general default rule:  If a plaintiff-debtor omits a pending lawsuit from the bankruptcy schedules and obtains a discharge, the debtor is barred from later pursuing the omitted claim.  Ah Quin, 2013 U.S. App. LEXIS at *7.  Only where the debtor can show that it did not know of the pending claim, and that it had no motive to conceal the claim, can the debtor escape dismissal of the claim.  Id. at *35, n.1 (J. Bybee, dissent).  As a practical matter, a motive to conceal assets always exists, at least objectively, in a bankruptcy proceeding, and most decisions have used an objective standard. Id. at *10

In the Ah Quin case, after the defendant in the discrimination lawsuit raised the issue of judicial estoppel, the debtor moved to reopen her bankruptcy case and set aside the discharge.  In her motion to reopen, the debtor asserted that she did not understand that she was required to list the pending action among her assets.  Notwithstanding the debtor’s reopening the bankruptcy case, the discrimination lawsuit was dismissed by the lower court.

The Ninth Circuit reversed and reinstated the discrimination lawsuit.  It reasoned that judicial estoppel is an equitable doctrine, invoked by a court at its discretion, and the equities of the case demanded that the doctrine not be invoked.  More specifically, the court found that the debtor knew of the claim but did not intend, subjectively, to mislead the bankruptcy court.  The court noted that the debtor’s attempt to reopen the bankruptcy constituted a show of good faith.

The decision was countered by a lengthy and highly critical dissent.  The dissenting judge argued that the court’s decision ran contrary to the Circuit’s own case law, as well as the case law of most of the other circuits.  For most circuits, argued the dissent, inadvertence is simply not a valid excuse so long as the debtor knew of the pending claim.  While the dissent cited many cases from across the country, there were none from the Second Circuit.

A look at a recent opinion from a Second Circuit bankruptcy court reveals that in this Circuit, too, a debtor might escape the consequences of omitting a pending claim upon showing inadvertence.  In re Narcisse, 2013 Bankr. LEXIS 1336 (Bankr. E.D.N.Y. March 29, 2013) involved a debtor who similarly omitted a pending lawsuit from his assets when he filed for bankruptcy.  The debtor received a discharge from bankruptcy, then pursued his personal injury claim in the years that followed.  When the defendant in the personal injury claim learned of the bankruptcy case (over a decade later), it similarly attempted to have the claim dismissed.

The personal injury defendant argued that the claim was an asset of the bankruptcy estate, whether the debtor listed it or not, and since the bankruptcy case was closed, no one could pursue the action.  The debtor responded by moving to reopen the bankruptcy case and amend the schedules to list the claim as an asset.  In determining whether to allow the debtor to do this, the bankruptcy court considered, among other things, whether the debtor had knowledge of the claim at the time of omission, and whether the debtor had a motive to conceal the claim.

In review of the facts, the bankruptcy court found that although the debtor had knowledge of the claim, he did not possess the subjective intent to mislead the bankruptcy court.  The court reviewed testimony from multiple witnesses and noted that at the time of his bankruptcy, the debtor was suffering the effects of an accident involving significant head trauma.  In addition, the debtor’s bankruptcy attorney may have been incompetent, as he was later disbarred.

In view of the debtor’s subjective good faith, among other factors, the bankruptcy court held that omission of the claim was inadvertent and reopened the case to allow the personal injury claim to go forward.

Not all courts in the Second Circuit may be as willing to make such an extensive inquiry into the equities of the case or into the subjective intent of the debtor.  Indeed, other cases seem to rule more closely in line with the majority of circuits on the matter.  See, e.g., Ibok v. Siac-Sector Inc., 2011 U.S. Dist. LEXIS 7312 (S.D.N.Y. January 27, 2011); Rosenshein v. Kleban, 918 F. Supp. 98, 104 (S.D.N.Y. 1996); In re Galerie Des Monnaies of Geneva, Ltd., 55 B.R. 253, 259-60 (Bankr. S.D.N.Y. 1985), aff’d 62 B.R. 224 (S.D.N.Y. 1986).

A debtor who omits a pending claim from his bankruptcy assets has serious challenges to overcome in trying later to pursue that claim.  However, upon the right balance of equities, an excuse of inadvertence just might save the day.