1. Resolving Split Among Circuits, Supreme Court Holds that Section 523(a)(4) Defalcation by Fiduciary Requires Culpable State of Mind
   A creditor filed a § 523(a)(4) nondischargeability action alleging that the debtor had breached his fiduciary duty by self-dealing while serving as trustee of his father’s trust. Section 523(a)(4) excepts from discharge debts for, inter alia, “defalcation while acting in a fiduciary capacity.” The bankruptcy court granted judgment in favor of the creditor; the district court and the Eleventh Circuit affirmed. The Supreme Court vacated and remanded, holding that the term “defalcation” requires a culpable state of mind involving knowledge of, or gross recklessness with respect to, the improper nature of the fiduciary’s behavior.
   
   Prior to the Supreme Court’s decision, the circuit courts were split regarding the mental state that must accompany defalcation under § 523(a)(4). In the Ninth Circuit, “even innocent acts of failure to fully account for money received in trust will be held as nondischargeable defalcations[.]” Blyer v. Blyler v. Hemmeter (In re Hemmeter), 242 F.3d 1186, 1190 (9th Cir. 2001). In other words, a creditor merely had to establish that trust assets were missing and the debtor fiduciary had failed to account for them or was responsible for their loss. Id. The Supreme Court, however, interpreted § 523(a)(4) defalcation as requiring a specific subjective state of mind, thus effectively abrogating Ninth Circuit law.
   
   The Court nevertheless acknowledged that reckless conduct can satisfy the scienter requirement:
    
   1. [W]here the conduct at issue does not involve bad faith, moral turpitude, or other immoral conduct, the term requires an intentional wrong. We include as intentional not only conduct that the fiduciary knows is improper but also reckless conduct of the kind that the criminal law often treats as the equivalent. Thus, we include reckless conduct of the kind set forth in the Model Penal Code. Where actual knowledge of wrongdoing is lacking, we consider conduct as equivalent if the fiduciary “consciously disregards” (or is willfully blind to) “a substantial and unjustifiable risk” that his conduct will turn out to violate a fiduciary duty.

   In summary, to declare a defalcation debt nondischargeable under § 523(a)(4), a court must now find that a debtor acted either with knowledge that his or her conduct would constitute a breach of his or her fiduciary duty, or with conscious disregard or willful blindness to “a substantial and unjustifiable risk” that his or her conduct would constitute a breach of fiduciary duty.

   Bullock v. BankChampaign, N.A., 133 S. Ct. 1754 (2013).
    

2. Debtor-Employer’s Withdrawal Liability to a Multi-Employer Pension Trust Fund Is Not a Debt, Is Dischargeable
   Under ERISA, employers who stop working under the terms of a collective bargaining agreement but continue in business cannot simply stop making payments to the pension fund administered under that agreement. Rather, ERISA provides that the employer is liable to the fund in the amount necessary to ensure payment of benefits to employees whose rights have vested. In other words, while the employer may no longer have a contractual obligation to contribute to pension plan, ERISA imposes a statutory “withdrawal liability.”
   
   When individual employers (or individuals who signed a CBA and trust agreement as representatives of the business employer) file for bankruptcy relief, pension funds and unions assert that both unpaid contributions and withdrawal liability are nondischargeable under § 523(a)(4) (as debts arising from fraud or defalcation by a fiduciary). In this case, the Ninth Circuit held that the debtor’s “withdrawal liability” did not fall within the ambit of § 523(a)(4) as it was not a debt incurred in a fiduciary duty. Nonetheless, the panel noted–but did not decide–that debts for unpaid contributions may be excepted from discharge. “Because withdrawal liability does not arise until the employer ceases to have an obligation to contribute to the plan, it cannot be considered an unpaid contribution under the collective bargaining agreement. . . . Even if we assume that unpaid contributions can be considered assets of the Fund under the particular provisions of this agreement, and nondischargeable, the withdrawal liability is not an unpaid contribution.”
   
   Carpenters Pension Trust Fund for Northern California v. Moxley (In re Moxley), 734 F.3d 864 (9th Cir. 2013).
    
3. You Don’t Have to Be Insolvent to Be Bankrupt
   As claimant to his father’s oil fortune, Pierce Marshall not only prevailed against his stepmother before the Supreme Court in Stern v. Marshall, but also obtained a sizable state-court fraud judgment against his brother, J. Howard III. The judgment led Howard to file for bankruptcy, and the case was assigned to the same judge who had presided over the stepmother’s bankruptcy. Unable to get the case reassigned, Pierce argued that the bankruptcy court could not constitutionally exercise jurisdiction because Howard had enough money to pay his debts (including the judgment) and therefore was not insolvent. Carefully surveying the history of bankruptcy law and the Bankruptcy Clause, the court (in an opinion ultimately adopted by the Ninth Circuit) found that nothing in the Constitution required that a debtor be insolvent in order to avail itself of bankruptcy relief. In fact, the concept of balance-sheet insolvency (liabilities exceeding assets) didn’t even exist in bankruptcy law until the end of the nineteenth century, but only the concept of liquidity insolvency (paying one’s debts on time). In its essence, bankruptcy is simply a matter of restructuring debtor-creditor relationships, with the goal of rehabilitating debtors and maximizing the property available to satisfy creditors. Howard’s bankruptcy was permissible notwithstanding his solvency. And although Pierce argued on appeal that his claim was unfairly discharged under Howard’s plan, the court found Pierce himself to blame, as he had declined to file a proof of claim in Howard’s case.
   
   Marshall v. Marshall (In re Marshall), 721 F.3d 1032 (9th Cir. 2013).
    
4. Divided Ninth Circuit Panel Affirms: Unstayed Appeal Does Not Constitute a “Bona Fide Dispute”
   An involuntary petition can be filed by three or more creditors whose claims are neither contingent nor “the subject of a bona fide dispute.” 11 U.S.C. § 303(b)(1). The question in this case was whether the debtor’s appeal of a multi-million-dollar state-court judgment against him qualified as a “bona fide dispute” in the absence of a stay. The Ninth Circuit had to decide between the majority position–a per se rule that without a stay, there is no bona fide dispute, see, e.g., In re Drexler, 56 B.R. 960 (Bankr. S.D.N.Y. 1986)–and the minority view (adopted by the Fourth Circuit) that the merits of the appeal must be taken into consideration, see, e.g., Platinum Financial Services Corp. v. Byrd (In re Byrd), 357 F.3d 433 (4th Cir. 2004).
   
   A divided Ninth Circuit panel affirmed the BAP’s adoption of Drexler’s per se rule. A bona fide dispute exists when “there is an objective basis for either a factual or legal dispute as to the validity of the debt.” Liberty Tool & Manufacturing v. Vortex Fishing Systems, Inc. (In re Vortex Fishing Systems, Inc.), 277 F.3d 1057, 1064 (9th Cir. 2001). The panel majority found no proper basis for a bankruptcy court to question the factual or legal validity of an unstayed state-court judgment, and observed that doing so would run counter to the federal courts’ obligation to give full faith and credit to such judgments. In addition, if petitioning creditors were required to challenge the merits of a debtor’s appeal before the bankruptcy court, they might prefer simply to exercise their available state-law remedies in a proverbial race to the courthouse.
   
   Marciano v. Chapnick (In re Marciano), 708 F.3d 1123 (9th Cir. 2013).
    
5. Being a Prudent Trustee Won’t Save You From Post-Petition Tax Penalties
   The IRS filed an administrative expense claim under § 503(b)(1)(A) in the amount of $18,667.17, based upon penalties arising from the chapter 7 trustee’s failure to timely file the corporate debtor’s post-petition tax returns for 2008 and 2010. Objecting to the claim, the trustee contended that he had “reasonable cause” for the delay under the applicable IRC statute, among other reasons because the estate had been insolvent when the returns were due, and whether the estate would ever have funds depended upon whether the trustee could recover a refund for the 2006 tax year, which appeared doubtful. Accordingly, the trustee had deferred preparing the returns until it was known if the estate could pay for their preparation. After overcoming various difficulties (including how to pay for the 2006 return), in mid-2011 the estate received a refund of $36,150.33, and immediately had the returns completed and filed. The bankruptcy court found that the trustee failed to establish reasonable cause, and allowed the claim as an “actual, necessary” cost of preserving the estate.
   
   The BAP affirmed the reasonable cause determination, finding that the trustee’s “lack of diligence,” combined with his “deliberate decision to delay filing the returns until convinced that [the case] would be an ‘asset case,’ ” justified the penalties. However, the BAP reversed the administrative priority ruling, as the penalties were incurred neither to benefit the estate nor preserve it, and did not fall within the narrow Reading exception for certain post-petition, tort-like claims. On remand, the bankruptcy court was directed to address whether the claim was allowable under another subsection of 503(b), and if not, to determine how the penalties should be treated. In a well-reasoned concurring opinion, Judge Bason of the Central District emphasized the narrowness of the BAP’s ruling, pointing out that in real-world practical terms the trustee’s justifications for delay amounted to reasonable cause.
   
   Kipperman v. I.R.S. (In re 800Ideas.com, Inc.), 496 B.R. 165 (9th Cir. BAP 2013).
    
6. Asbestos Insurers: Get With the Program or Stay On the Hook
   In confirming a chapter 11 plan involving asbestos-related liabilities, Bankruptcy Code § 524(g) allows the court to issue a “channeling injunction” restricting claimants’ ability to seek recovery elsewhere for claims that are to be paid from a certain type of trust established under the plan. The trust in this case was funded in part through settlements with some of the debtor’s many insurers. The court’s channeling injunction protected the settling insurers from further claims against them, but left claimants free to go after the non-settling insurers–who were themselves barred from pursuing equitable contribution claims against the settling insurers.
   
   The bankruptcy court entered its confirmation order and channeling injunction over the objection of certain non-settling insurers, who argued that the injunction unconstitutionally deprived them of their contribution claims without compensation, that those claims were beyond the statutory reach of the injunction, and that the plan–which depended on entry of the injunction–was proposed in bad faith. On appeal, the district court affirmed the bankruptcy court's good-faith finding, agreeing that a plan does not lack good faith merely because it is structured to invoke the benefit of a provision of the Bankruptcy Code. The court also found that the enjoining of contribution claims was not an unconstitutional “taking” of property from the non-settling insurers, since such claims don’t vest as property interests until entry of a final reviewable judgment upon which contribution can be owed. Finally, although § 524(g)(1)(B) appears to limit the reach of a channeling injunction to claims that are “to be paid in whole or in part by [the] trust” (unlike the contribution claims, which would have been payable by the settling insurers), the district court found that § 524(g)(4)(A)(ii) authorizes precisely this sort of claims bar against identifiable third parties, including a debtor’s insurers.
   
   Fireman’s Fund Ins. Co. v. Plant Insulation Co. (In re Plant Insulation Co.), 485 B.R. 203 (N.D. Cal. 2012).

*Robert E. Clark is a partner in the firm of Dumas & Clark LLP.

*Peggy Brister is the law clerk to the Hon. Dennis Montali.

*Geoffrey A. Heaton is Special Counsel at the San Francisco office of Duane Morris LLP.

*Cecily Dumas is a partner in the San Francisco firm of Dumas & Clark LLP.

*Ron Mark Oliner is a partner at the San Francisco office of Duane Morris LLP.

*Hon. Dennis Montali is a United States Bankruptcy Judge sitting in the San Francisco Division of the Northern District of California.