State law discovery sanctions owed to a non-governmental entity for compensatory purposes do not fall under section 523(a)(7)’s exception to discharge for fines or penalties, and are therefore dischargeable. Costs related to the State Bar’s disciplinary actions are owed to a governmental agency, are punitive rather than compensatory in nature, and are therefore excepted from discharge. Where the debtor’s law license suspension was contingent upon her paying nondischargeable costs, the suspension was not discriminatory in violation of section 525(b). Albert-Sheridan v. State Bar of Calif., No. 19-60023 (9th Cir. June 10, 2020).
In 2012, the debtor, a California attorney, was disciplined by the State Bar for conduct arising out of a state eviction case in which the debtor was sanctioned for misuse of the discovery process under the California Code of Civil Procedure § 2023.030, and fined, jointly and severally with her clients, $5,738 (the Discovery Sanctions). In 2015, the State Bar received another complaint about the debtor and sought documents and replies to requests for information. Instead of complying, the debtor sought an extension “to the eternity of time.” After a disciplinary hearing, the debtor was found culpable for failure to cooperate with the investigation and disobeying court orders. She was given a 30-day suspension of her law license to be reinstated upon payment of the Discovery Sanctions. She was also charged the court costs for the disciplinary hearing in the amount of $18,714 (Hearing Costs). The State Bar Review affirmed the suspension and the Hearing Costs. The California Supreme Court entered a final judgment of discipline suspending her license for 30 days with reinstatement contingent upon her paying the Discovery Sanctions. The court also awarded the costs of the disciplinary hearings to the State Bar.
The debtor filed for chapter 13 bankruptcy. The court converted the case to chapter 7.
The debtor filed an adversary complaint against the State Bar seeking to discharge the monetary sanctions and costs under section 523(a)(7), and to undo the license suspension as discriminatory in violation of section 525(a). (The debtor’s non-bankruptcy claims were treated in a separate opinion). The bankruptcy court granted the State Bar’s motion to dismiss. The Bankruptcy Appellate Panel for the Ninth Circuit affirmed. In re Albert-Sheridan, No. 8:18-AP-01065-SC, 2019 WL 1594012 (B.A.P. 9th Cir. Apr. 11, 2019).
The debtor appealed to the Ninth Circuit.
The Bankruptcy Code provides for an exception to discharge “for a fine, penalty, or forfeiture payable to and for the benefit of a governmental unit, and is not compensation for actual pecuniary loss.” 11 U.S.C. § 523(a)(7). The court addressed whether either the Discovery Sanctions or Hearing Costs fell under this exception.
The court began by taking another look at its holding in In re Findley, 593 F.3d 1048 (9th Cir. 2010), where it found that “the costs of the State Bar disciplinary proceeding under Cal. Bus. & Prof. Code §§ 6086.10(b)(3) and 6140.7 were non-dischargeable under 11 U.S.C. § 523(a)(7)” based on “their punitive and rehabilitative nature” as classified by California law. Finding Findley to be “on all fours” with respect to the Hearing Costs, the court found that it was dispositive of the issue. The court rejected the debtor’s invitation to overrule Findley finding that, in the absence of an intervening contrary Supreme Court decision, the court was bound to follow the decisions of an earlier panel.
The question of the dischargeability of the Discovery Sanctions under California Code of Civil Procedure § 2023.030, however, was a matter of first impression which the court found to be answered by the plain language of section 523(a)(7). Under that provision, to be non-dischargeable, “[t]he debt must (1) be a fine, penalty, or forfeiture; (2) be payable to and for the benefit of a governmental unit; and (3) not constitute compensation for actual pecuniary costs.” The court found these sanctions failed this test on the latter two grounds: they were not for the benefit of a governmental unit, and they were compensation for actual pecuniary loss. The sanctions order directed the debtor to pay the private party that was one of the litigants in the underlying eviction case for the purpose of compensating that party for losses incurred by reason of the debtor’s conduct. For that reason, the Discovery Sanctions were dischargeable under section 727(b)
In so holding, the court disagreed with the BAP’s broad reading of Kelly v. Robinson, 479 U.S. 36 (1986), as refocusing the state sanctions law from compensatory to punitive without regard to the actual recipient of the sanctions award. The court limited Kelly’s language to the criminal context in which it was decided and declined to apply it in the context here.
The court turned to whether the debtor’s suspension violated section 525(b) which prohibits a state from denying a license to someone because she filed for bankruptcy or failed to pay a dischargeable debt. The court found that that section does not prohibit a governmental entity from suspending the license of one who fails to pay a nondischargeable debt. Because the debt for the hearing costs was nondischargeable, the suspension based on the debtor’s failure to pay it was not discriminatory under section 525(b). [This holding appears to contradict the court’s recitation of the record that the debtor’s license suspension would be lifted upon payment of the dischargeable Discovery Sanctions, rather than the nondischargeable Hearing Costs.]
The court affirmed in part, reversed in part, and remanded.
Albert-Sheridan 9th Cir June 2020
Tags: Sanctions, dischargeability
