Stop Right There: Limiting Judicial Estoppel in the Bankruptcy Context

• Publication year: 2015

Stop Right There: Limiting Judicial Estoppel in the Bankruptcy Context

Mary Frances McKenna

STOP RIGHT THERE: LIMITING JUDICIAL ESTOPPEL IN THE BANKRUPTCY CONTEXT

Abstract

Although judicial estoppel is a doctrine of equity, it has often produced inequitable results in the context of bankruptcy cases. The purpose of judicial estoppel is to protect the integrity of the judicial process by preventing a party from asserting inconsistent positions in different judicial proceedings. When one of the judicial proceedings is a bankruptcy case, a court invokes judicial estoppel at the request of a defendant who discovers that the plaintiff previously filed for bankruptcy but failed to schedule the potential or pending lawsuit as part of the plaintiff-debtor's estate.

Despite directives from the Supreme Court that the doctrine should be invoked at a court's discretion, the majority of courts use a strict estoppel rule where a plaintiff has omitted a cause of action from her bankruptcy schedules. The majority of courts take the position that, if a plaintiff-debtor knew of a potential or pending lawsuit but failed to list it in the bankruptcy case, the plaintiff-debtor should be categorically estopped from pursuing the cause of action against the defendant. However, judicial estoppel produces an inequitable result where the plaintiff-debtor omitted a lawsuit from the bankruptcy case because of a mistake. In that case, the alleged wrongdoer prevails regardless of the strength of the plaintiff's claim or the plaintiff's culpability excluding the potential or pending lawsuit from the bankruptcy filings.

This Comment will argue that using a subjective inquiry to determine when to invoke judicial estoppel would better serve the objectives of bankruptcy law and maintain the integrity of the judicial process. This subjective inquiry focuses on whether the debtor's omission was the result of inadvertence or mistake. It proposes five factors that courts should consider as part of this inquiry.

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Introduction

In 1992, Lawrence Hamilton purchased a new home and insured it with State Farm.¹ Four years later, he completed an expensive remodeling project on his house and rented it to a family.² The next year, the family experienced financial setbacks and eventually stopped paying rent.³ After three months of no payments, Hamilton instituted eviction proceedings and the family vacated the home.⁴ The next day, Hamilton toured the home with a sheriff's deputy, and, finding everything in good condition, reclaimed possession. This was to be short-lived. Partial flooding in the house caused by disconnected water lines triggered the security alarm the next day. claiming that the evicted renters had burglarized and vandalized the property, Hamilton filed a homeowner's insurance claim with State Farm with losses of over $160,000.⁵

State Farm was suspicious of Hamilton's claim, and it opened an investigation.⁶ As State Farm's investigation was ongoing, Hamilton incurred increasing financial difficulties.⁷ Hamilton risked losing his home because he was behind on mortgage payments, so he desperately needed money from his State Farm claim.⁸ Hamilton retained several lawyers to pressure State Farm to pay out his claim.⁹ At the conclusion of State Farm's investigation, it denied payment of Hamilton's claim based on its belief that Hamilton was responsible for the vandalism and his violation of the concealment and fraud provision listed in Hamilton's home insurance policy.¹⁰ Around the time that State Farm denied Hamilton's claim, he filed for chapter 7 liquidation bankruptcy.¹¹

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In his bankruptcy petition, Hamilton claimed a $160,000 residential vandalism loss against his estate.¹² However, he failed to list any corresponding claims against State Farm as assets on those same schedules.¹³ The bankruptcy trustee assigned to Hamilton's case noticed the discrepancy and reached out to Hamilton.¹⁴ Despite several attempts by the trustee to substantiate Hamilton's financial disclosures, Hamilton did not provide the requested documentation.¹⁵ One year following his bankruptcy case, Hamilton filed a lawsuit against State Farm alleging breach of contract and breach of the covenant of good faith.¹⁶ In response, State Farm filed a motion arguing that Hamilton's claim should be barred by judicial estoppel.¹⁷ The district court and the Ninth Circuit Court of Appeals agreed. Because Hamilton failed to list his contract and bad faith claims against State Farm in his bankruptcy case, he could not later pursue those claims as valid causes of action.¹⁸

While the outcome in Hamilton seems just, the application of judicial estoppel in other cases suggests that something is missing from the courts' analysis. In Barger v. City of Cartersville, the plaintiff in a discrimination lawsuit tried repeatedly to disclose that lawsuit in later bankruptcy proceedings. However, despite making repeated attempts to make a full disclosure, she was later estopped from pursuing her discrimination claim.¹⁹ Although she told the attorney in her bankruptcy case about her pending discrimination suit, he failed to list it in her bankruptcy schedules.²⁰ After

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Barger received a no-asset discharge in her bankruptcy proceeding, her employer moved for summary judgment in the employment discrimination suit because Barger excluded her pending lawsuit from her bankruptcy case.²¹ The district court granted summary judgment in favor of her employer based on judicial estoppel, and the Eleventh Circuit Court of Appeals affirmed.²² It was undisputed that the plaintiff-debtor informed her attorney and her creditors that she had an employment discrimination suit pending against her employer.²³ Barger's attorney admitted that his failure to list the suit was a mistake and an oversight on his part.²⁴ Despite the fact that Barger made several attempts to disclose her pending discrimination suit, she was later estopped from pursuing her claim.²⁵

The dichotomy between the two cases discussed above illustrates the main problem with the current majority approach to judicial estoppel in bankruptcy—many courts' rigid application of judicial estoppel leads to inequitable results.²⁶ This Comment explores the problems with the current approaches to judicial estoppel in the bankruptcy context. This Comment will show that current approaches vary widely among circuits. Not only does this Comment review the current problems with the varying approaches to judicial estoppel, but it also suggests a new approach that courts should take when deciding to invoke judicial estoppel after a plaintiff-debtor failed to list a pending cause of action in the bankruptcy case.

The new approach is a two-step test, based on subjective considerations that balance the objectives of bankruptcy law with the purpose and policy of judicial estoppel. In deciding whether to apply judicial estoppel, a court must first consider whether the plaintiff-debtor's creditors could benefit from a pending or potential cause of action that the plaintiff-debtor omitted from the

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bankruptcy case.²⁷ If so, the court should refrain from invoking judicial estoppel. If the creditors will not benefit from pursuing the cause of action, the court must engage in a subjective analysis to determine if the plaintiff-debtor should be permitted to pursue the cause of action as part of his fresh start following bankruptcy.²⁸ If the court is convinced that the omission of the potential or pending claim in the bankruptcy case was inadvertent, it should refrain from applying judicial estoppel.²⁹

Part I.A of this Comment explains the reasons that courts may decide to invoke judicial estoppel, both in bankruptcy-related cases and outside of the bankruptcy context. Part I.B compares and contrasts the strict approach to judicial estoppel in the bankruptcy context taken by the majority of courts to those approaches recently adopted in the Sixth and Ninth Circuits. In Part II, the Comment outlines multiple factors courts should consider in determining whether to refrain from invoking judicial estoppel in the context of bankruptcy-related cases.

I. Background

A. Judicial Estoppel Is a Modern Doctrine of Equity

Judicial estoppel is the rule that "generally prevents a party from prevailing in one phase of a case on an argument and then relying on a contradictory argument to prevail in another phase."³⁰ This rule was confirmed by the Supreme Court in New Hampshire v. Maine, in which the Court used the doctrine of judicial estoppel to equitably bar the state of New Hampshire from asserting a position contrary to a position it took in prior litigation.³¹ The Court in New Hampshire established factors that could be considered when deciding whether to invoke the doctrine of judicial estoppel. It also emphasized that courts should ensure that an equitable result occurs any time judicial estoppel is invoked. The Court in New Hampshire emphasized that the use of judicial

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estoppel should not be governed by "inflexible prerequisites or an exhaustive formula for determining the applicability of judicial estoppel."³²

In discussing the history of the application of judicial estoppel, the Court in New Hampshire v. Maine agreed with several lower court decisions that a party should not "be allowed to gain an advantage by litigation on one theory, and then seek an inconsistent advantage by pursuing an incompatible theory."³³ The Court acknowledged the importance of the doctrine of judicial estoppel and reaffirmed the policy behind it, which is to protect the integrity of the courts and the judicial process.³⁴ Judicial estoppel should prohibit parties "from deliberately changing positions according to the exigencies of the moment."³⁵ For example, a plaintiff cannot sue an employer based on the assertion that she is permanently unable to work, and then later seek damages from the same employer that refuses to reinstate the employee's job.³⁶

The Court...