Equitable Powers of a Bankruptcy Court

Marrama v. Citizens Bank of Mass.

Chapter 7 bankruptcy allows a debtor to retain possession of his property while Chapter 13 does not. Chapter 13 bankruptcies can be converted into chapter 7 bankruptcies and vice versa. A debtor who proceeds in bad faith had been held bared from converting a Chapter 13 bankruptcy into a Chapter 7 bankruptcy, but the rule does not always apply the other way around. Marrama created a trust consisting of all of his property and made misleading statements about his principal asset, a house in Maine, and was denied an absolute right to convert his Chapter 13 bankruptcy into a Chapter 7. The Court of Appeals noted that the statute provides that a debtor “may” convert a case under Chapter 7 to a Chapter 13 banrkuptcy. Marrama argues that the conditional grant (“may”) gives him the discretion to chose the course of his bankruptcy proceedings, not the courts

§109(e) imposes a limit on the amount of indebtedness that an individual may have in order to qualify for Chapter 13, and §1307(c) provides that a Chapter 13 proceeding may be dismissed or converted to a Chapter 7 proceeding “for cause,” including 10 such causes. The 10 causes do not list bad faith, but the words “for cause” have been interpreted to include it and that those who proceed on bad faith are not a member of the class of “honest but unfortunate debtor[s]” for whose benefit the statute was passed. Without defining “bad faith” the Court argues that no provision limits the court’s discretion and inherent power to take appropriate responsive action – implicitly holding that the 10 listed justifications are not exclusive. §105(a) seems to support this by disclaiming any attempt to “preclude the court from, sua sponte, taking any action or making any determination necessary or appropriate to enforce or implement court orders or rules or to prevent an abuse of process.”

Justices Alito, Scalia, Thomas, and the Chief Justice argue that the code limits a debtor’s right to convert his case in only two ways: (1) it may only be converted once; and (2) a debtor must meet the conditions for a debtor under whichever chapter to which he wishes to convert his case. Chapter 11, for example provides not that a debtor “may convert” but that “the court may convert,” suggesting that, in the first case, the debtor retains the discretion to convert. In those cases the court’s discretion is limited to the 10 listed justifications. The dissent also characterizes the majority as holding that if a debtor’s case may be dismissed “for cause” (whatever cause that may be) he is not a debtor in that class. The dissent argues that the conditions to be a debtor in that class are clearly specified, and whatever the future of such a claim may be, if the debtor satisfies those conditions he may at least proceed to a foreseeable dismissal. Meanwhile, the dissent does not agree that this would be “an empty exercise,” especially where the case would be dismissed on the basis of judicial discretion, as opposed to a compulsory dismissal. In any case “a bankruptcy court … is guided by equitable doctrines and principles except insofar as they are inconsistent with the Act,” Norwest Bank Worthington v. Ahlers.