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Eleventh Circuit Reverses Decision Holding State Agencies in Contempt for Attempting to Collect Unpaid Child Support

Wednesday, August 3, 2011
In re Diaz, No. 14426, 10-14475, 2011 BL 194675 (11th Cir. July 27, 2011) On July 27, 2011, the United States Court of Appeals for the Eleventh Circuit reversed a district court's ruling, affirming a bankruptcy court’s order holding the Florida Department of Revenue (“Florida DOR”) and the Virginia Department of Social Services (“Virginia DSS”) in contempt and awarding a debtor damages for the agencies’ alleged violations of the automatic stay and discharge injunction. Specifically, the Eleventh Circuit ruled that state sovereign immunity shielded the Florida DOR and the Virginia DSS from the debtor’s claims for violations of the automatic stay and, although sovereign immunity did not bar the debtor’s claims for violations of the discharge injunction, neither agency had in fact violated the discharge injunction. According to the decision, a state agency may attempt to collect unpaid child support obligations, regardless of whether the claim has been disallowed. State Agencies’ Attempts to Collect Debtor’s Past-Due Child Support In 1989, a Virginia court entered a judgment against Miguel A. Diaz (“Debtor”) for past due child support. After Debtor subsequently moved to Florida, the Florida court also entered an order seeking to collect on Debtor’s past due support obligations. Nevertheless, Debtor continued to default on his support obligation. Several years later, on May 24, 2002, Debtor filed for chapter 13 bankruptcy and the Florida DOR filed a proof of claim in the amount of $67,047.45, representing principal and roughly $20,000 in accrued pre-petition interest. Based on Debtor’s objection, however, the Florida DOR’s claim was ultimately reduced to $47,746.49, covering unpaid principal only. Thereafter, Debtor confirmed a plan providing for payment in full of the Florida DOR’s reduced claim over a period of fifty-eight months. Debtor’s Motion for Contempt and Sanctions against the Agencies Notably, during Debtor’s bankruptcy, the Florida DOR sent Debtor two notices regarding unpaid child support. After each of these notices, Debtor’s attorney informed the Florida DOR of Debtor’s bankruptcy and requested that it cease collection efforts. The Florida DOR took no further action during Debtor’s bankruptcy. Following confirmation, Debtor completed all payments under his plan and the bankruptcy court granted Debtor a general discharge. Several years later, the Florida DOR and Virginia DSS (collectively, the “Agencies”) sent Debtor five collection letters in total, seeking to recover unpaid support, including the pre-petition interest which the bankruptcy court had disallowed. In response, Debtor filed a motion for contempt and sanctions (the “Contempt Motion”), alleging that the Florida DOR violated the automatic stay of 11 U.S.C. § 362 by sending the two collection notices during the bankruptcy and that the Agencies had violated the discharge injunction of 11 U.S.C. § 524 by trying to collect past due child support post-discharge. The bankruptcy court granted the Contempt Motion, finding that the Agencies were not protected by state sovereign immunity and had willfully violated the automatic stay, the discharge injunction and numerous court orders. As relief, the bankruptcy court awarded Debtor $42,622.00 in actual damages and $25,000.00 in punitive damages. Following a subsequent appeal by the Agencies to the district court, which affirmed the bankruptcy court’s decision, the Agencies appealed to the Eleventh Circuit. Application of Sovereign Immunity in Bankruptcy Rendering its decision on appeal, the Eleventh Circuit began by explaining that the doctrine of sovereign immunity precludes a federal court from entertaining a private person’s suit against a state. See Va. Office for Protection & Advocacy v. Stewart, 131 S.Ct. 1632 (2011). At the same time, however, the Eleventh Circuit found that the doctrine is not absolute and highlighted two theories as to how a bankruptcy court might acquire jurisdiction over a state that would otherwise be immune to suit. First, the Eleventh Circuit noted the “litigation waiver” theory under which a state waives its sovereign immunity to the extent it voluntarily invokes the jurisdiction of the federal courts. Lapides v. Bd. of Regents, 535 U.S. 613 (2002). Second, the Eleventh Circuit cited the “consent by ratification” theory set forth in Central Virginia Community College v. Katz, 546 U.S. 356 (2006), which is predicated on the conclusion that the states relinquished sovereign immunity with respect to proceedings “necessary to effectuate the in rem jurisdiction of the bankruptcy courts” when they ratified the Bankruptcy Clause. Eleventh Circuit Rules Sovereign Immunity Shielded Debtor’s Claims for Violation of the Automatic Stay Applying these theories to the Contempt Motion, the Eleventh Circuit resolved that because the automatic stay allows the bankruptcy court to carry out its essential functions of exercising jurisdiction over the bankruptcy estate and distributing estate property, contempt motions based on a violation of the stay generally qualify as “proceedings necessary to effectuate in rem jurisdiction of the bankruptcy courts.” Katz, 546 U.S. at 363-64, 378. Nevertheless, the Eleventh Circuit determined that the instant case presented a rare exception to this general rule because, by the time Debtor filed the Contempt Motion, the stay had long been dissolved by the discharge injunction, such that the bankruptcy court’s in rem jurisdiction was too remote to satisfy Katz’s “necessary to effectuate” standard. Similarly concluding that the “litigation waiver” theory also did not apply to Debtor’s automatic stay claims, the Eleventh Circuit was persuaded by the fact that the Contempt Motion was filed long after dissolution of the stay and, therefore, it could not be concluded that the Florida DOR had waived its sovereign immunity when it filed a proof claim. Therefore, holding that neither theory allowed Debtor to overcome the Agencies’ sovereign immunity defense, the Eleventh Circuit ruled that the bankruptcy court lacked jurisdiction over the Contempt Motion to the extent of the alleged violations of the automatic stay. Eleventh Circuit Rules State Agencies’ Actions Did Not Violate the Discharge Injunction Turning to Debtor’s claims for violations of the discharge injunction, the Eleventh Circuit decided that because discharge is one of the fundamental in rem functions of the bankruptcy courts, motions seeking contempt and sanctions for alleged violation of the discharge injunction meet the Katz “necessary to effectuate” standard and provide the bankruptcy court with jurisdiction over the issue. Katz, 546 U.S. at 378. However, reaching the merits of the claim, the Eleventh Circuit resolved that the lower courts erred in concluding that the Agencies’ post-discharge attempts to collect any amount above the Florida DOR’s allowed claim violated the discharge injunction. Alternatively, the Eleventh Circuit reasoned that because 11 U.S.C. § 1328(a)(2) specifically excepts a debt for child support from discharge, the Agencies had a valid debt for the unpaid child support, regardless of whether the claim had been disallowed by the bankruptcy court. See United Student Aid Funds, Inc. v. Espinosa, 130 S.Ct. 1367 (2010). At the same time, the Eleventh Circuit concluded that the bankruptcy court had also erred in finding that the Agencies violated the discharge injunction because the doctrines of res judicata and collateral estoppel precluded them from relitigating the amount of Debtor’s child support debt. In this regard, the Eleventh Circuit cited its previous holding that Debtor’s child support obligation was not discharged, regardless of the amount, and further resolved that the Agencies were not attempting to “relitigate” the amount of the debt given that the amount of the child support was never litigated in the bankruptcy proceeding. In re Bell, 236 B.R. 426 (N.D. Ala. 1999). Additionally, the Eleventh Circuit cited by analogy those cases holding that preclusion doctrines cannot be used to prevent a creditor who holds a nondischargeable tax debt from arguing that the amount of the debt exceeds the payment that the creditor received in bankruptcy. See, e.g., In re Gurwitch, 794 F.2d 584 (11th Cir. 1986). Based on this reasoning, the Eleventh Circuit held that although sovereign immunity did not bar Debtor’s claims for violations of the discharge injunction, the Agencies’ actions did not, in fact, constitute a violation of the discharge injunction. Eleventh Circuit Reverses Lower Courts’ Decisions Ultimately reversing the lower courts’ decisions, the Eleventh Circuit held that state sovereign immunity deprived the bankruptcy court of jurisdiction to entertain Debtor’s contempt motion to the extent that it alleged violations of the automatic stay. The Eleventh Circuit further held that the Agencies did not violate the discharge injunction by attempting to collect a child support debt after the entry of the discharge order because such obligations are nondischargeable in a chapter 13 proceeding. As a result of the decision, the Contempt Motion will be dismissed and Debtor will be personally liable for any unpaid support obligations. Disclaimer This document and any discussions set forth herein are for informational purposes only, and should not be construed as legal advice, which has to be addressed to particular facts and circumstances involved in any given situation. Review or use of the document and any discussions does not create an attorney-client relationship with the author or publisher. To the extent that this document may contain suggested provisions, they will require modification to suit a particular transaction, jurisdiction or situation. 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