by Where the debtor’s restitution obligation was payable to Identified Consumers rather than a governmental unit, it did not fall within section 523(a)(7)’s exception to discharge. State of New Hampshire, Banking Department v. Dargon, No. 20-30300, Adv. Proc. No. 20-3017 (Bankr. D. Mass. March 11, 2022).
Pursuant to its regulatory function, the State of New Hampshire Banking Department investigated and charged the debtor, a New Hampshire attorney, for engaging in unlicensed loan modifications and for violating other provisions of state law. After a hearing, the debtor was fined, and ordered to pay restitution directly to each of the Identified Consumers in the total amount of $147,196.99. The debtor then filed chapter 7 bankruptcy and listed the Department’s restitution claim as an “administrative fine,” in an unknown amount. The Department filed an adversary proceeding seeking a ruling that the claim was nondischargeable under section 523(a)(7). The court permitted the Department to complete the administrative process and enter a Final Order which included the requirement that the debtor list all Identified Consumers in his bankruptcy schedules to allow them to protect their rights.
The case came before the court on the Department’s motion for summary judgment on the issue of dischargeability.
Section 523(a)(7) excepts a debt from discharge “to the extent such debt is for a fine, penalty, or forfeiture payable to and for the benefit of a governmental unit, and is not compensation for actual pecuniary loss, other than a tax penalty . . . .” In Richmond v. N.H. Supreme Court Committee On Prof. Conduct, 542 F.3d 913 (1st Cir. 2008), the court set forth a three-part test requiring that, in order for a debt to be nondischargeable under section 523(a)(7) it must be “(1) ‘a fine, penalty, or forfeiture,’ (2) ‘payable to and for the benefit of a governmental unit,’ and (3) ‘not compensation for actual pecuniary loss.’”
The court began its analysis with Kelly v. Robinson, 479 U.S. 36 (1986), where the Supreme Court held that an order of restitution that was issued as part of a criminal defendant’s probation, was nondischargeable under section 523(a)(7). The Court looked to the purpose of the restitution order and found that it served a punitive interest to enforce the government’s authority, rather than a compensatory interest of making victims whole.
But the court here noted that the Kelly Court was not faced with the question of whether the debt was payable to the government. The debtor in this case argued that because the order required him to pay Identified Consumers rather than the government, the second prong of the Richmond test was not met.
The Department countered that so long as the payment benefits the government it satisfies the second prong without regard to whether the payments are made to the government. The Department asked the court to follow Farmers Insurance Exchange v. Mills (In re Mills), 290 B.R. 822 (2003), where the district court held that a criminal order of restitution paid directly to an insurance company was nonetheless nondischargeable. That court found the principal purposes of the restitution order were deterrence and rehabilitation and that, even though the money was to be paid to a nongovernmental unit, the government was tasked with enforcement of the order. The Mills court concluded that the restitution was “in effect payable to and for the benefit of a governmental unit.”
Mills, and courts like it, take a “totality of circumstances” approach that looks at whether the restitution order is primarily intended to fulfill the government’s penal purposes, or whether it is primary intended to provide compensation for loss.
The debtor argued that the court should follow instead the Seventh Circuit holding in In re Towers, 162 F.3d 952 (7th Cir. 1998), where the court found that nondischargeability under section 523(a)(7) requires that the restitution be both 1) payable to the government, and 2) for the benefit of the government.
Towers, and courts like it, place more emphasis on the plain meaning of the text: specifically, the conjunctive, and. Those courts require that the order be both payable to the government and for the benefit of the government in order for it to be nondischargeable. Under the plain meaning approach, an order of restitution that benefits the government in its punitive, deterrent or rehabilitative function, but is not payable to the government, does not fulfill section 523(a)(7)’s requirements for nondischargeability.
The court fell back on “the lessons of Conjunction Junction and [did] not disregard the function of the conjunction ‘and’ as the totality of the circumstances approach would require.” It adopted the plain meaning approach and held that, because the order of restitution in this case was to be paid directly to the victims of the debtor’s wrongdoing, and gave the victims the avenue for enforcement of their claims, it did not fall within the exception to discharge under section 523(a)(7).
It denied the Department’s motion for summary judgment and granted sua sponte judgment in favor of the debtor.