Non-Dischargeable Debts: Some Lies Matter More Than Others

Bandi v. Becnel (In re Bandi), 683 F.3d 671 (5th Cir. 2012) -

In Bandi, the debtors made false statements regarding their ownership of particular real estate. The Fifth Circuit upheld a finding that debts incurred in reliance on those false statements were non-dischargeable in bankruptcy. The statements were characterized as false statements, but not as statements "respecting the debtor's or an insider's financial condition" which are only non-dischargeable if they meet more stringent standard.

Although a general goal of bankruptcy is to provide a "fresh start" for the debtor, there are limits. Section 523 of the Bankruptcy Code contains a number of exceptions from the discharge of an individual debtor including:

(2) for money, property, services, or an extension, renewal, or refinancing of credit, to the extent obtained by -

(A) false pretenses, a false representation, or actual fraud, other than a statement respecting the debtor's or an insider's financial condition;

(B) use of a statement in writing -

(i) that is materially false;

(ii) respecting the debtor's or an insider's financial condition;

(iii) and which the creditor to whom the debtor is liable for such money, property, services, or credit reasonably relied; and

(iv) that the debtor caused to be made or published with intent to deceive.

Charles and Stephen Bandi (both Chapter 7 debtors) were guarantors of a commercial loan made to an affiliated company. The brothers had falsely represented to the lender (Becnel) that they owned a commercial building, a condominium that they were developing, and a residence. The bankruptcy court found (at least implicitly) that the intent was to "convey the impression that the two brothers owned valuable real property and that their personal guaranties of a loan to RSB [the affiliate company] would be backed by some measure of wealth."

The key issue in this case was whether these misrepresentations were "a statement respecting the debtor's or an insider's financial condition" so that the more stringent test of subsection 503(2)(B) applied. Although it may seem strange to have a more stringent test for some lies than for others, as explained by the US Supreme Court in a case quoted in the Fifth Circuit opinion:

The House report on the [Bankruptcy Code] suggests that Congress wanted to moderate the burden on individuals who submitted false financial statements, not because lies about financial condition are less blameworthy than others, but because...