§ 88.10     Claims That Are or Might Be Nondischargeable Only in a Chapter 7 (Chapter 12, or Individual Chapter 11) Case
Cite as:    Keith M. Lundin, Lundin On Chapter 13, § 88.10, at ¶ ____, LundinOnChapter13.com (last visited __________).
[1]

The discharge after full payment in a Chapter 13 case is broader than the discharge in a Chapter 7, 11 or 12 case.1 Prior to the 1990 amendments, the discharge after completion of payments in a Chapter 13 case included all debts provided for by the plan2 other than alimony, maintenance and support under § 523(a)(5),3 long-term debts provided for under § 1322(b)(5)4 and postpetition consumer debts incurred without the trustee’s permission under the circumstances described in § 1328(d).5 The 1990 amendments added exceptions to discharge for educational loans described in § 523(a)(8),6 restitution included in a sentence on the debtor’s conviction of a crime7 and personal injury claims arising from operation of a motor vehicle while legally intoxicated under § 523(a)(9).8 The Bankruptcy Reform Act of 1994 added an exception for criminal fines included in a sentence on the debtor’s conviction of a crime.9

[2]

Despite this whittling away of the Chapter 13 discharge, there are still many debts that are nondischargeable in other chapters but that are dischargeable upon completion of payments under a Chapter 13 plan. The primary examples are the “fraud” exceptions to discharge in § 523(a)(2), (a)(4) and (a)(6), which are not applicable upon completion of payments under a Chapter 13 plan.10

[3]

The courts have struggled with the question whether a Chapter 13 debtor can favorably classify a claim that is or might be nondischargeable in a Chapter 7 case but that is dischargeable in a Chapter 13 case. There is much disagreement whether it is fair discrimination to pay a greater percentage of a claim that would be nondischargeable only in a case under another chapter.

[4]

The pressure on the debtor to separately classify nondischargeable claims is great. Typically, the claim that would be nondischargeable in a Chapter 7 case arises from some prepetition wrongdoing by the debtor. A debtor’s prepetition fraud, willful or malicious injury or intentional deceit will likely have a victim who is angry about the Chapter 13 case and aware that the underlying claim would not be dischargeable in a Chapter 7 case. Such claim holders tend to participate aggressively in the Chapter 13 case.

[5]

There are many reported decisions holding that a Chapter 13 debtor’s prepetition misconduct is a factor relevant to good faith at confirmation under § 1325(a)(3).11 These cases demonstrate that the holder of a claim that is or might be nondischargeable in a Chapter 7 case can defeat confirmation by proving that the Chapter 13 plan is a bad-faith effort by the debtor to avoid responsibility for prepetition misconduct. This leverage compels Chapter 13 debtors to attempt favorable separate classification of the nondischargeable claim. From the debtor’s perspective, separate classification is the path of least resistence: classification that maximizes payment to the holder of the nondischargeable claim better positions the debtor to argue that the plan is proposed in good faith; if the bankruptcy court determines that the separate classification is unfair discrimination, then the debtor is forced to offer equal treatment of the nondischargeable claim, but the debtor is less likely to be punished for a level payment plan in the subsequent confirmation process.

[6]

Also, debtors recognize that sometimes Chapter 13 cases fail. A plan that favorably classifies a claim that would be nondischargeable in a Chapter 7 case usually accelerates payment of the claim. If the Chapter 13 case fails, the debtor will have made more progress with respect to the nondischargeable claim.12

[7]

It should not be overlooked that sometimes a genuinely remorseful Chapter 13 debtor wants to pay more to the victim of prepetition misconduct than the debtor is able to pay to all unsecured creditors. A separate classification of the nondischargeable claim may be preferred by the debtor for all the right reasons.

[8]

Chapter 13 debtors are hard-pressed to satisfy the four-part test13 for the fairness of a plan that favorably classifies a claim that would be nondischargeable only in a Chapter 7 case. The more persuasive arguments for the separate classification of priority claims14 and for claims that are nondischargeable in the Chapter 13 case15 are not available when the claim is only nondischargeable under another chapter. The debtor cannot argue that favorable classification will enhance the fresh start at completion of payments. The debtor will rarely be able to demonstrate that confirmation of a Chapter 13 plan is impossible without favorable classification of the nondischargeable claim. Even the threat of criminal prosecution by the victim of prepetition misconduct has not persuaded bankruptcy courts to find fairness in the separate classification of claims that are nondischargeable under another chapter.16

[9]

Most of the courts that have addressed the question have held that it is unfair discrimination to favorably classify a claim that would be nondischargeable in a Chapter 7 case if the preferred claim is dischargeable in the Chapter 13 case.17 This majority prevails with respect to student loan cases and restitution cases decided before the 1990 amendments rendered such claims nondischargeable in Chapter 13 cases.18

[10]

A few decisions have permitted favorable classification of claims that would be nondischargeable only in other chapters when other factors support the fairness of the resulting discrimination. For example, one court applied the four-part test19 to determine that 100 percent payment of a student loan (prior to 1990) and 1 percent payment of other unsecured claims was not unfair discrimination when the debtor intended to return to school and complete a degree.20 A debtor was permitted to discriminate against a claim that would be nondischargeable in a Chapter 7 case, and to pay 100 percent of a co-signed claim, when the cosigner was the debtor’s street partner on a police department.21 Another court ordered a Chapter 13 debtor to separately classify a student loan (prior to 1990) for more favorable treatment when other unsecured claim holders would receive only 10 percent of claims.22

[11]

Strategically, debtor’s counsel has difficult choices. Proposing the same treatment for all unsecured claim holders is likely to provoke objection to confirmation by the creditor most interested in the Chapter 13 case. Favorable classification of the nondischargeable claim usually results in a small dividend for other unsecured claim holders and increases the likelihood of an objection to confirmation from the Chapter 13 trustee or from a disfavored unsecured creditor. If the debtor loses the argument for separate classification of the nondischargeable claim, the debtor falls back on a modified plan that proposes the same treatment for all unsecured claim holders. Being forced into a level treatment plan may be the debtor’s best outcome.


 

1  See § 344.1 [ Broadest Discharge Available ] § 157.1  Broadest Discharge Available.

 

2  See § 349.1 [ Claims Not Provided for by the Plan or Disallowed under § 502 ] § 158.5  Claims Not Provided for by the Plan or Disallowed under § 502.

 

3  11 U.S.C. § 1328(a)(2). See §§ 152.2 [ Alimony, Maintenance and Support ] § 88.4  Alimony, Maintenance and Support, 303.1 [ Alimony, Maintenance and Support in Cases Filed before October 22, 1994 ] § 138.1  Alimony, Maintenance and Support in Cases Filed before October 22, 1994 and 345.1 [ Alimony, Maintenance or Support ] § 158.1  Alimony, Maintenance or Support.

 

4  11 U.S.C. § 1328(a)(1). See §§ 155.2 [ Long-Term Debts ] § 88.9  Long-Term Debts and 351.1 [ Long-Term Debts ] § 158.7  Long-Term Debts.

 

5  11 U.S.C. § 1328(d). See §§ 158.7 [ Postpetition Claims ] § 89.8  Postpetition Claims, 302.1 [ Postpetition Claims ] § 137.1  Postpetition Claims before BAPCPA and 350.1 [ Postpetition Claims ] § 158.6  Postpetition Claims.

 

6  11 U.S.C. § 1328(a)(2). See §§ 153.1 [ Student Loans ] § 88.6  Student Loans and 346.1 [ Student Loans ] § 158.2  Student Loans.

 

7  11 U.S.C. § 1328(a)(3). See §§ 154.1 [ Restitution, Fines and Other Criminal Problems ] § 88.7  Restitution, Fines and Other Criminal Problems and 348.1 [ Criminal Restitution and Criminal Fines ] § 158.4  Criminal Restitution and Criminal Fines.

 

8  11 U.S.C. § 1328(a)(2). See §§ 155.1 [ Driving While Intoxicated ] § 88.8  Driving, Boating or Flying while Intoxicated and 347.1 [ Driving While Intoxicated ] § 158.3  Driving while Intoxicated.

 

9  11 U.S.C. § 1328(a)(3), as amended by Bankruptcy Reform Act of 1994, Pub. L. No. 103-394, § 302, 108 Stat. 4106 (1994). See §§ 154.1 [ Restitution, Fines and Other Criminal Problems ] § 88.7  Restitution, Fines and Other Criminal Problems and 348.1 [ Criminal Restitution and Criminal Fines ] § 158.4  Criminal Restitution and Criminal Fines.

 

10  See § 344.1 [ Broadest Discharge Available ] § 157.1  Broadest Discharge Available.

 

11  See § 180.1 [ Prepetition Conduct and Misconduct—In General ] § 105.1  Prepetition Conduct and Misconduct—In General.

 

12  The holder of a nondischargeable claim shares equally with other unsecured claim holders at distribution in a Chapter 7 case. The balance of the nondischargeable claim survives discharge in the Chapter 7 case, but the nondischargeable quality of the claim does not entitle the claim holder to any greater share in the assets of the Chapter 7 estate. But see 11 U.S.C. § 507(a)(7), which also grants priority of distribution to most alimony, maintenance and support claims that would be nondischargeable under § 523(a)(5).

 

13  See § 149.1 [ Power to Classify Unsecured Claims: Tests for Unfair Discrimination ] § 87.1  Power to Classify Unsecured Claims: Tests for Unfair Discrimination.

 

14  See, e.g., § 151.1 [ Priority Claims ] § 87.4  Priority Claims.

 

15  See discussion beginning at § 88.1  In General.

 

16  See § 154.1 [ Restitution, Fines and Other Criminal Problems ] § 88.7  Restitution, Fines and Other Criminal Problems.

 

17  St. Joseph Wholesale Liquor Co. v. Butler (In re Butler), 74 B.R. 106 (W.D. Mo. 1985) (Decision reverses bankruptcy court order requiring debtor to pay 100% of a claim that appeared to be nondischargeable under § 523(a)(2). Claim holder should receive the same 10% of its claim as other unsecureds.); In re Johnson, 69 B.R. 726 (Bankr. W.D.N.Y. 1987) (Two classes, one to be paid 100% and containing a single claim that would be nondischargeable in a Chapter 7 case, and the other to receive 15% and containing all other unsecured claims satisfies the homogeneity requirement of § 1122(a); however, the proposed 85% differential is unfairly discriminatory. Because Congress permits the discharge in Chapter 13 of claims that may be nondischargeable in Chapter 7, there is no basis for special treatment of a nondischargeable claim.); In re Gibson, 45 B.R. 783 (Bankr. N.D. Ga. 1985) (There is no reasonable basis for classification of unsecured claim holder as a partially secured claim holder notwithstanding that collateral was sold by the debtor and “there might be some question as to the dischargeability of the claim in a Chapter 7 case.”); In re Tauscher, 26 B.R. 99 (Bankr. E.D. Wis. 1982) (Department of Labor’s claim for penalties is not entitled to separate classification despite its nondischargeability.).

 

18  See §§ 153.1 [ Student Loans ] § 88.6  Student Loans and 154.1 [ Restitution, Fines and Other Criminal Problems ] § 88.7  Restitution, Fines and Other Criminal Problems.

 

19  See § 149.1 [ Power to Classify Unsecured Claims: Tests for Unfair Discrimination ] § 87.1  Power to Classify Unsecured Claims: Tests for Unfair Discrimination.

 

20  In re Freshley, 69 B.R. 96 (Bankr. N.D. Ga. 1987).

 

21  In re Todd, 65 B.R. 249 (Bankr. N.D. Ill. 1986).

 

22  In re Geehan, 59 B.R. 600 (Bankr. S.D. Ohio 1986).