Episode 317: Bankruptcy Code 727 and 523 from the Creditor’s Perspective

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Today we will be addressing Section 727 523 of the bankruptcy code and how creditors can deploy these to their advantage.

U.S. bankruptcy law is designed to give honest debtors a chance to start over with a clean financial slate. It’s a merciful and laudable alternative to the debtor’s prisons that once ran rampant in England, but it’s a complex law with many exceptions.

During a Chapter 7 filing, determining which debts are dischargeable and which are not is a major part of the process. It takes about six months for the courts to officially discharge an individual’s debts, and during this time, creditors will have the opportunity to review the debtor’s disclosures and file any motions that will improve their chances of recovering lost assets.

What is a Non-dischargeable Debt in Bankruptcy Law?

The point of filing Chapter 7 bankruptcy is to “discharge” as much debt as possible from the individual’s obligation. In other words, the debtor is no longer legally obligated to pay discharged debts, and creditors are legally barred from pursuing them.

The majority of debts are dischargeable through Chapter 7, but not all of them. These “non-dischargeable” debts cannot be removed from the debtor’s obligation, even with a successful Chapter 7 filing.

As for what debts fall into this non-dischargeable category, the specifics are detailed in Section 523. Further, Section 727 may also be used to deny debt discharge, in general, but there are notable differences between 523 and 727, and these differences are relevant to creditors tied to the case.

What Debts are Exempted from Discharge Under Section 523?

Section 523 references more than a dozen specific instances where a debt is not dischargeable through Chapter 7. Some examples include:

• Tax and customs debts, with some exceptions
• Student loans, with some exceptions
• Consumer debts incurred for luxury goods and services, over a $550 threshold and incurred within 90 days of filing bankruptcy
• Cash advances in excess of $825 taken out within 70 days of filing bankruptcy
• Domestic obligations (child support and alimony)
• Debt incurred as a result of willful and malicious injury or damage
• Debt incurred as a result of causing injury or death with a vehicle, if alcohol or drug intoxication was confirmed as a factor in the accident
• Debt, property, or services acquired as a result of fraud or misrepresentation.

There are additional discharge exceptions, but the above represent the bulk of Section 523 actions.

What is Section 727 and How Does it Affect Debt Discharging During Bankruptcy?

Section 727 also concerns whether debts qualify for discharge or not. The primary difference between Sections 727 and 523 is the scale at which they are applied. Section 523 motions are targeted at a particular instance of debt, while Section 727 motions consider all of the debtor’s debts at once. Put another way, if a Section 727 motion succeeds against a debtor, then all of their debts are not dischargeable through Chapter 7 – effectively eliminating the only reason why an individual would declare bankruptcy to begin with.

Section 727 motions may be filed for many reasons, including:

• Failure to provide tax documentation
• Destruction or concealment of accounting documentation
• Attempts to transfer or conceal property in an attempt to avoid creditors
• Failure to complete a financial management course prior to filing bankruptcy
• Commission of perjury or fraud related to the bankruptcy case\

In general, if the debtor does not act in good faith from the start of the bankruptcy process, Section 727 may be used to invalidate their attempt to discharge debts.

Creditors Can File a 523 or 727 to Claim Losses from a Debtor, but Considerations Apply

Bankruptcy trustees and creditors may file for a 523 or 727 motion if they suspect the debtor does not qualify for debt discharge under those sections. As for which motion to choose – and whether it’s worth filing a motion to begin with – there are some important considerations:

• The creditor has the burden of proof – If the fight over discharging a debt results in a trial, the creditor is responsible for proving the motion. This will necessitate an organized legal offense, with documentation and knowledge of bankruptcy code required. 
• If provable, a 523 motion is usually more beneficial to a creditor – In some cases, either a 727 or 523 motion may be available to creditors. Generally speaking, it’s more beneficial for creditors to demonstrate a 523, if possible.Here’s why – if a 727 is granted and all the debtor’s obligations aren’t discharged, the debtor may have a crowd of other creditors to deal with. You’ll be competing with them for whatever recompense the debtor can afford.

  As a 523 motion only addresses a particular debt, creditors can work to only have their debt barred from discharge. If the debtor has fewer creditors to deal with, they’ll be more likely to resolve their remaining debts in full. That’s good news for any creditor left standing after the bankruptcy process is complete.

   

• The debtor’s circumstances are also relevant to the decision – Filing a 523 or 727 is an investment – in time, money, and mental bandwidth. In some instances, this investment may not be worth it to the creditor. For example, if the debtor is unlikely to financially recover and be able to afford their non-discharged debts, there may be little reason for a creditor to pursue action.Of course, it can be difficult for creditors to know what the right decision is in this regard – a common reason for creditors to seek out professional legal assistance. 

Bankruptcy Law is Extremely Complex, So Speak with a Trusted Bankruptcy Attorney First

Bankruptcy is complicated on both sides of the process. From the creditor’s perspective, there’s a brief window to act, organize a legal strategy, and build a case for rejecting a discharge. The surest way to develop an effective response is with an experienced bankruptcy attorney’s assistance.

Bankruptcy experts help their clients weigh all potential options and determine which is most likely to render success. A bankruptcy attorney will also ensure their client acts in a timely fashion and acquires the documentation needed to demonstrate a 727 or 523 motion.

The U.S. bankruptcy process serves a noble purpose for individuals, but there are, of course, bad actors who leverage the system to their benefit. With proper legal maneuvering, however, creditors can hold debtors accountable – and potentially gain back their losses in the process.

By Harold "Hap" May, P.C. on January 19, 2024   /   The Legal Play Podcast   /   Leave a comment