In October 2001, the United States Trustee Program created and launched its National Civil Enforcement Initiative ("CEI"). The CEI was introduced in order to combat fraud and abuse in the bankruptcy system. Since the initiation of the CEI, the U.S. Trustee program has systematically redirected its resources in order to achieve the goals of the CEI both at the national level through the Executive Office for the United States Trustees ("EOUST") in Washington, D.C. and at the local Regional Office of the United States Trustee ("UST") here in Chicago (Region 11). The United States Attorney General has clearly stated his Office’s full support and encouragement for implementation of the CEI.1 Accordingly, regular bankruptcy practitioners have generally become aware of the CEI through either firsthand experience or through hearing of higher levels of scrutiny by the U.S. Trustee and Panel Trustees. However, whether you are an experienced bankruptcy attorney or have little contact with the Bankruptcy Court, any client needing bankruptcy related consultation needs to be made aware of the purpose, goals and applications of the CEI in the current bankruptcy process as it affects every party involved - from debtors and debtors’ counsel and the creditor bar to the Trustees and the Bankruptcy Court itself.
Goals, priorities and Statistics
The top priorities of the CEI are to civilly prosecute debtors who commit fraud or abuse the bankruptcy system and to protect consumer debtors, creditors and others victimized by those who mislead or misinform debtors, make false representations in connection with a bankruptcy case, or otherwise abuse the bankruptcy process. For fiscal year 2002, the efforts of the office of the U.S. Trustee in applying the CEI resulted in over thirty thousand inquiries and formal actions against parties ranging from debtors to debtors’ attorneys and bankruptcy petition preparers. These actions created a positive estimated financial impact on the national bankruptcy process of over $101 million dollars (see chart in pdf file format.)
Section 707 Dismissals
Most of the CEI activity involved actions either: 1) seeking dismissal of bankruptcy cases "for cause" pursuant to 11 U.S.C. §707(a) or for "substantial abuse" under 11 U.S.C. §707(b)2; or 2) seeking denial or revocation of discharge under 11 U.S.C. §727 (see below). The term "substantial abuse" is not defined in the Bankruptcy Code. However, under existing case law it is generally determined on the totality of a debtor’s circumstances. The cause most often cited in §707(b) proceedings is the debtor’s financial ability to repay creditors in a meaningful amount. For example, where a Chapter 7 debtor with a significantly high income (either individually or in a joint case where the aggregate family income is unusually high) spends large sums of money on luxury goods or services, or allocates an inordinately high percentage of monthly income to retirement savings or support of an individual who is not living in the debtor’s residence. Upon reviewing a situation which may merit a referral to the U.S. Trustee under §707, the appointed Chapter 7 Panel Trustee is likely to conduct a quick analysis of a hypothetical Chapter 13 reorganization using the disposable income contained in the debtor’s Chapter 7 Schedules I and J vis a vis the debtor’s listed unsecured debt. Conversion to a Chapter 13 which would provide for a meaningful distribution to the creditors within a reasonable amount of time (certainly within a 36 month period) gives the Trustee every reason (and obligation) to bring the case to the attention of the U.S. Trustee.
While there is no Supreme Court opinion that defines "substantial abuse," the First, Fourth, Sixth and Tenth circuits have developed a "totality of the circumstances" test to determine its existence.3 The Seventh Circuit has not rendered any opinion that provides that Court’s approach to defining "substantial abuse," however, a number of District Court and Bankruptcy Court decisions have reviewed the issue and have employed or adopted versions of already existing "totality" tests from other Circuit Courts of Appeal.4
Moreover, provisions contained in the ever-pending and phoenix-like5 legislation of H.R. 975, entitled the Bankruptcy Abuse Prevention and Consumer Protection Act of 2003, provide for the application of means testing for determining presumptive abuse. The amendments to the Code would authorize, and undoubtedly, require the Panel Trustees to prosecute abuse matters. Codification of additional §707 provisions would most certainly result in a wealth-spring of new case law dealing with dismissal of cases based on substantial abuse.
Section 727 Denial or Revocation of Discharge
Coinciding with a heightened level of scrutiny for dismissal under §707 is the increase in actions seeking denial or revocation of Discharge pursuant to 11 U.S.C. §727. The Executive Office of the U.S. Trustee reports total actions pursuant to §727 reached over 2,200 in Fiscal Year 2002. The prosecution of these actions resulted in an estimated financial impact of almost $50 million dollars for that year.6 The most common reason behind the filing of a §727 action is concealment of assets or failure to fully or adequately disclose assets.7 Another common reason for seeking denial or revocation of discharge arises from the debtor’s failure to satisfactorily explain any loss of assets or deficiency of assets to meet the debtor’s liability.8 Complaints seeking denial or revocation of Discharge brought by the Panel Trustees has increased concurrently with the actions brought by the Office of the U.S. Trustee since initiation of the CEI.9
A natural outcropping of implementation of the CEI is the increase in criminal referrals by the Panel Trustees and criminal investigations initiated by the U.S. Attorney through the Office of the U.S. Trustee. In order to properly coordinate and manage the additional criminal case load, the EOUST created the Criminal Enforcement Unit (the "CEU") of the U.S. Trustee Program. Within the CEU, the "Criminal Fraud Unit" is charged with investigating fraud schemes perpetuated through the bankruptcy process. Again, creation and implementation of these formal criminal investigation branches of the U.S. Trustee Program have resulted in an increase in criminal investigations and convictions of individuals using the bankruptcy forum as a conduit for facilitating fraud schemes.10 The CEU’s efforts have resulted in a significant increase in criminal fraud investigations and the successful prosecution and conviction of fraud rings with the corresponding fines and penalties being returned to the system through the U.S. Trustee Program.
With this type of reportable, financial impact, it is clear that the Civil Enforcement Initiative will continue to be an ever-present concern for any party coming into contact with the bankruptcy process. Knowing the program’s key goals and priorities will most certainly assist any practitioner who intends on appearing before the United States Bankruptcy Court.
1 "The bankruptcy system is an integral part of our free market economic system. With 1.5 million consumer and business bankruptcy cases filed last year, the bankruptcy system touches all facets of our economy. And it is the job of the United States Trustee Program to police our bankruptcy system, to enforce the bankruptcy laws, and to seek redress where necessary... Combating [this] fraud and abuse is the first priority of the United States Trustee Program. I commend the Program for vigorously implementing the National Civil Enforcement Initiative." Message from Attorney General John Ashcroft, Annual Report of Significant Accomplishments – Fiscal Year 2002, U.S. Department of Justice, U.S. Trustee Program.
2 Section 707 of the U.S. Bankruptcy Code (Title 11) contemplates dismissal of a bankruptcy case after notice and hearing by the Court on its own motion or on a motion by the United States Trustee. The appointed Panel Trustee in the case may only refer the matter to the Office of the United States Trustee for further examination and appropriate follow-up. The Report does not specify the percentage of §707 activity which came as a result of Panel Trustee referrals, however, the Office of the United States Trustee has confirmed that the number of §707 referrals by the Panel of Trustees for Northern District of Illinois has increased each year since the Civil Enforcement Initiative was activated.
3 In re Lamanna, 153 F.3d 1, 3-5 (1st Cir. 1998); In re Green, 934 F.2d 568, 572-73 (4th Cir. 1991); In re Behlke, 2004 WL 314905 (6th Cir. 2004); In re Steward, 175 F.3d 796, 808-10 (10th Cir. 1999). Source: 707(b) Top Ten Tips; Richard C. Friedman, Trial Attorney, United States Trustee Office, March 4, 2004.
4 See: Costello v. Bodenstein, 2002 WL 1821663 (N.D.Ill. 2002); In re Ontiveros, 198 B.R. 284 (C.D.Ill 1996); In re Pilgrim, 135 B.R. 314 (C.D.Ill. 1992); See, also, David B. Harrison, Bankruptcy: When Does Filing of Chapter 7 Petition Constitute "Substantial Abuse" Authorizing Dismissal of Petition under 11 USCA §707(b), 122 A.L.R. Fed. 141 (2004).
5 A term which is not only wholly applicable but also graciously borrowed from its originator, Honorable Eugene R. Wedoff, Chief Judge, United States Bankruptcy Court, Northern District of Illinois.
6 Annual Report of Significant Accomplishments – Fiscal Year 2002, U.S. Department of Justice, U.S. Trustee Program.
7 11 U.S.C. §727(a)(2) and (4).
8 11 U.S.C. §727(a)(5). Closely related to §§727(a)(2), (4) and (5) is §727(a)(3) which provides grounds for denial or revocation of discharge where the debtor has "concealed, destroyed, mutilated, falsified, or failed to keep or preserve any recorded information, including books, documents, records and papers, from which the debtor’s financial condition or business transactions might be ascertained, unless such act or failure to act was justified under all of the circumstances of the case." It is common for a Trustee in an action seeking discharge denial to plead a Count under §727(a)(3) because of the frequency of those cases where concealment or non-disclosure of the asset(s) is compounded by a debtor’s attempt to scatter or dissipate any evidence of the asset(s) through destroying or through intentionally failing to keep any evidence of the assets’ existence.
9 Source: Office of the United States Trustee, Region 11, Chicago.
10 Current fraud schemes being investigated by the CEU include credit card "bust-out" schemes (individuals run up large credit card debts and then file bankruptcy to discharge the debt as part of a ring of other individuals who are conducting the same scheme) and real estate bankruptcy fraud (an organized enterprise whose scheme is to defraud lenders and ultimately the federal government [through government insured mortgaging] by creating non-existent equity in real estate and then filing bankruptcy in order to obtain discharge of mortgage deficiencies). Source: Address From the Criminal Enforcement Unit of the U.S. Trustee Program, Peter Ainsworth, Chief of Criminal Fraud Unit of the UST Program and Sandra Taliani Rasnak, Deputy Chief of Criminal Fraud Unit of the UST Program, Asst US Trustee, Chicago. March 4, 2004.
Thomas E. Springer is Principal and Managing Officer, Kofkin, Springer, Scheinbaum, & Davis, P.C., firm concentrates in all chapters of bankruptcy law: Chapter 7, 11 and 13 debtor and creditor representation; commercial bankruptcy representation; bankruptcy and commercial litigation; commercial work-outs; assignments for benefit of creditors; bankruptcy appeals; and bankruptcy trustee representation. Mr. Springer was appointed to the Panel of Chapter 7 Trustees for the Northern District of Illinois, Eastern Division, by the United States Trustee for Region 11 in 2000 and has been serving since that time. Education: Purdue University, B.A. 1984; DePaul University College of Law, J.D., 1991, Writing staff, DePaul Business Law Journal.