Opinion
CASE NO. 02-71611-BHL-7, ADV. NO.: 02-7063
June 30, 2003
JUDGMENT
This matter comes before the Court on the Plaintiffs Complaint to Determine Dischargeability of Debt filed on October 4, 2002. Trial was had on April 17, 2003, at which time the parties appeared and the Court took evidence and testimony. After due consideration, the Court finds that the Plaintiff failed to carry its burden of proof in establishing the Defendants' intent to defraud and hereby enters JUDGMENT in favor of the Defendants.
IT IS SO ORDERED AND ADJUDGED
MEMORANDUM
Sears Roebuck and Co. ["Sears"] brought this adversary proceeding seeking to except its debt from Janet Merkley's ["Merkley"] discharge pursuant to § 523(a)(2)(A) and (C). That section states:
At trial, the parties stipulated that Darrell Merkley had no involvement in the transactions giving rise to this proceeding. Therefore, the Court dismissed the Complaint as it related to Darrell Merkley. This written Opinion relates solely to the dischargeability of Janet Merkley's debt.
A discharge under section 727 . . . does not discharge an individual debtor from any debt —
(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 . . .
(C) for the purposes of subparagraph (A) of this paragraph, consumer debts owed to a single creditor and aggregating more than $1,075 for `luxury goods or services' incurred by an individual debtor on or within 60 days before the order for relief under this title, or cash advances aggregating more than $1,075 that are extensions of consumer credit under an open end credit plan obtained by an individual debtor on or within 60 days before the order for relief under this title, are presumed to be nondischargeable. . . .
Like all exceptions to discharge, § 523(a)(2)(A) is to be narrowly construed in favor of the debtor, Meyer v. Rigdon, 36 F.3d 1375, 1385 (7th Cir. 1994), and the creditor has the burden of establishing nondischargeability by a preponderance of the evidence. Grogan v. Garner, 498 U.S. 279, 287 (1991).
Sears argues that Merkley used a Sears credit card "to make purchases on credit at a time when [she] had no objectively reasonable intention or capability to pay Plaintiff." Joint Pre-Trial Statement at 1. Merkley, on the other hand, argues that she fully intended to repay Sears at the time she incurred the debt. Due to the posture of Sears' argument, the legal questions before the Court are whether § 523(a)(2)(A) carries a specific intent element, and if so, whether that intent may be imputed to a debtor who should have known she could not repay the debt in question. Although courts have utilized various methodologies in applying § 523(a)(2)(A) to credit card cases, this Court turns to the precedent heretofore provided by the Supreme Court and Seventh Circuit.
In In re Kimzey, 761 F.2d 421, 423-24 (7th Cir. 1985), the Seventh Circuit articulated "scienter" as one of § 523(a)(2)(A)'s three elements:
First, the creditor must prove that the debtor obtained the money through representations which the debtor either knew to be false or made with such reckless disregard for the truth as to constitute willful misrepresentation. Carini v. Matera, 592 F.2d 378, 380 (7th Cir. 1979). The creditor also must prove that the debtor possessed scienter, i.e., an intent to deceive. Gabellini v. Rega, 724 F.2d 579, 581 (7th Cir. 1984). Finally, the creditor must show that it actually relied on the false representation, and that its reliance was reasonable. Carini, 592 F.2d at 381. The party objecting to discharge must prove the facts establishing each element by clear and convincing evidence.
In Field v. Mans, 516 U.S. 59 (1995), the Supreme Court held that "justifiable," rather than "reasonable," reliance was the proper standard under § 523(a)(2).
Because its fourth requirement — that the creditor prove the elements by clear and convincing evidence — was disapproved of by the Supreme Court, the Seventh Circuit "confess[ed] some doubt that Kimzey is an accurate guide to § 523(a)(2)(A)." Mayer v. Spanel International Ltd., 51 F.3d 670, 674 (7th Cir. 1995). Nevertheless, it concluded that Kimzey's articulation of § 523(a)(2)(A)'s three elements remains good law and listed the following "ingredients" to succeed in an action under the section: "falsity, fraudulent intent, and reliance". Id. When addressing the intent requirement, the Court stated that the section should not be "strip [ped of] all intent components" and observed the concurrence of the First, Fifth, Sixth, Ninth, Tenth, and Eleventh Circuits on the issue. Id. at 674-75. McClellan v. Cantrell, 217 F.3d 890 (7th Cir. 2000), although addressing the more specific question of whether § 523(a)(2)(A) is limited to fraudulent misrepresentation, reached the same conclusion. In holding that § 523(a)(2)(A) was not limited to fraudulent misrepresentations, the Court stated that "[t]he fraud exception to dischargeability of debts in bankruptcy does not reach constructive frauds, only actual ones. . . ." Id. at 894. There is a distinction, the Court observed, between a foolish act (such as mistakenly believing one can successfully incur and repay a debt) and a dishonest one. That distinction makes the difference in bankruptcy: "The purpose of section 523(a)(2)(A) in confining nondischargeability to actual fraud is merely to recognize this difference and thus to exclude constructive fraud". Id. (emphasis in original).
Proving the scienter element in credit card cases, however, is a heavy burden because the debtor and creditor have virtually no contact with one another. It is difficult to conceptualize what a debtor "represents" to a credit card issuer by presenting its card to a third party. Equally difficult is proving that a debtor possessed the requisite fraudulent intent at the moment a credit card purchase was made. The difficulty comes because direct evidence of a fraudulent intent is hard to come by, and because most debtors probably do intend to repay the debt. That is why plaintiffs like Sears desire to hold debtors that should have known repayment was impossible to the "reasonable person standard". For example, if a reasonable person in Merkley's position would have known repayment was impossible, then Merkley's use of the credit card was fraudulent despite her honest intention to repay the debt. "In many instances, however, there is likely to be quite a gulf between what the proverbial `reasonably prudent person' might consider appropriate and the actual mental state of a debtor teetering on the brink of bankruptcy." Chevy Chase Bank v. Briese, 196 B.R. 440, 451 (Bankr.W.D.Wisc. 1996).
This conceptual difficulty has been written about extensively, and various judicial theories have struggled with the application of § 523(a)(2)(A)'s requirements to cases involving the alleged fraudulent use of a credit card. See In re Murphy, 190 B.R. 327, 331 (Bankr. N.D.Ill. 1995) (stating its "implied representation" theory); First Nat'l Bank of Mobile v. Roddenberry, 701 F.2d 927 (11th Cir. 1983) (stating its "assumption of the risk" approach); In re Dougherty, 84 B.R. 653 (9th Cir. BAP 1988) (stating its "totality of the circumstances" approach).
In Field v. Mans, 516 U.S. 59 (1995), the Supreme Court was called upon to interpret § 523(a)(2)(A) and had this to say: "[i]t is . . . well established that `[w]here Congress uses terms that have accumulated settled meaning under . . . the common law, a court must infer, unless the statute otherwise dictates, that Congress means to incorporate the established meaning of these terms.'" 516 U.S. 59, 69 (1995) (quoting NLRB v. Amax Coal Co., 453 U.S. 322, 329 (1981)). The common law principles of "actual fraud" frown on using a "reasonable person" standard in ascertaining fraudulent intent. As reported by the Restatement (Second) of Torts § 526, the issue is not whether a person of "ordinary care and intelligence" would have recognized their representation was false, but whether the person making the representation was aware of its falsity. "Thus, although the reasonableness of the debtor's belief as to the truth of their representations may be circumstantial evidence of their intent, ultimately the issue is their actual intent and not the objective reasonableness of it." Briese, 196 B.R. 440, 449. (emphasis in original). With that in mind, and the fact that the Seventh Circuit equates "reckless disregard for the truth" with willful misrepresentation, we turn to the facts of this case.
Merkley's income decreased sharply over the last two years. On top of that, she, her husband, and their adopted daughter were plagued by medical expenses. Merkley used various credit cards to pay for the medical bills. Not unlike many debtors in bankruptcy, she used one credit card to pay another until she had the money to pay down the overall debt. Although unwise, this routine worked successfully for her in the past, in that at one point, she had paid off $13,000 in debt. Upon being threatened with suit, however, she consulted an attorney and was advised to file for bankruptcy.
Because Merkley was insolvent when she incurred the debt, Sears argues she had no intention of repayment. It also notes that more than two-thirds of Merkley's entire balance was charged to her account in less than fourteen days, less than two months before she filed her petition for relief. While the foregoing maybe relevant and probative circumstantial evidence of her intentions, it is not conclusive evidence of her subjective intent. In order to find that, the Court must consider all the circumstances. While some courts recite lists of factors they look for when searching for intent to deceive — comparing the evidence to the list and counting the matches — this Court agrees with the many others that believe "[t]his factor-counting exercise turns the job of fact-finding on its head. What courts need to do is determine whether all the evidence leads to the conclusion that it is more probable than not that the debtor had the requisite fraudulent intent." In re Murphy, 190 B.R. 327, 334 (Bankr.N.D.Ill. 1995).
Sears made the argument available under subsection § 523(a)(2)(C) that the debt was for "luxury goods or services" and presumably nondischargeable under the Code when incurred within sixty days of the petition. The evidence suggested otherwise, however, in that the items purchased were reasonably acquired for the support and maintenance of Merkley and her dependents: replacement washer/dryer, replacement shingles for roof, replacement refrigerator and stove. Furthermore, all had been "purchased" some time before the presumptive period on a "90 days same as cash" arrangement. It was when these bills became due that the debtor used her credit card to "pay" them. If the debtor was contemplating bankruptcy at that time, she could have left the debt with the original merchants and avoided this entire proceeding. Sears, no doubt, wishes she had.
In this case, considering all the circumstances, the Court finds that at the time Merkley incurred the debts at issue, she intended to repay them and believed (however unreasonably) that she could. Although the soundness of her actions brought her into court for this determination, the content of Merkley's character rang true on the witness stand. The Court finds Merkley to have been a credible and honest witness and is unpersuaded by the evidence Sears presented that she incurred the debt with no intention of repaying it. As in the past, it is more likely than not that Merkley believed she could and would repay the debt. Merkley is an honest debtor who used credit irresponsibly, but she is entitled to a discharge. Sears having failed to carry its burden of proof in this case, the Court now enters JUDGMENT in favor of the Defendant, Janet Merkley.
IT IS SO ORDERED AND ADJUDGED.