Understanding Unliquidated Securities Claims Under §523(a)(19) in Chapter 7 Cases
In bankruptcy, some claims or debts are “unliquidated.” This simply means that the amount of the debt has not been established yet as a specific amount. Some of these claims can be based on violations of “securities” laws. When your Ch. 7 bankruptcy claim against a debtor is based on a properly pleaded securities claim — even if that claim is unliquidated — the 60-day deadline to file a claim does not apply. Now, rarely does your regular Ch. 7 involve a “securities” claim against a debtor. Stockbrokers or advisors are generally affluent people not found as Ch. 7 debtors. It does occur, however, and when it does, claims on their securities-related work by investors follow special rules. This is what this article explains.
Imagine a plaintiff in state court that has a viable claim for violations of federal and Florida securities laws against a defendant. Shortly after the state court complaint is filed, the defendant files for bankruptcy under Ch. 7. This filing stays (freezes) the state court case. The state court plaintiff then weighs his options and decides to file an adversary proceeding in the bankruptcy court where the defendant’s case is pending. An adversary proceeding is a litigation case within the bankruptcy forum and is governed by Fed. R. Bankr. P. 7001. While all this plays out, Bankruptcy Rule 4007(c) — the 60-day deadline for filing a complaint objecting to the dischargeability of debts — has lapsed. What options, if any, does our state court plaintiff have?
11 U.S.C. §523(a)(19): Securities and Fraud Claims
Under the Bankruptcy Code, certain debts are not dischargeable. These debts survive the bankruptcy case and remain enforceable against the debtor. In 2002, Congress enacted 11 U.S.C. §523(a)(19) in an effort to “close a ‘loophole’ which allowed debtors convicted of securities fraud or other securities violations to discharge the debt owed to their victims.” “By enacting §523(a)(19), Congress intended to amend the federal bankruptcy code to make judgments and settlements arising from state and federal securities law violations brought by state or federal regulators and private individuals non-dischargeable.”
Bankruptcy Code §523(a)(19) provides, in relevant part, that:
(a) A discharge under section 727, 1141, 1192, 1228(a), 1228(b), or 1328(b) of this title does not discharge an individual debtor from any debt—
(A) is for (i) the violation of any of the Federal securities laws…, any of the State securities laws, or any regulation or order issued under such Federal or State securities laws; or (ii) common law fraud, deceit, or manipulation in connection with the purchase or sale of any security; and
(B) results, before, on, or after the date on which the petition was filed, from (i) any judgment, order, consent order, or decree entered in any Federal or State judicial or administrative proceeding; (ii) any settlement agreement entered into by the debtor; or (iii) any court or administrative order for any damages, fine, penalty, citation, restitutionary payment, disgorgement payment, attorney fee, cost, or other payment owed by the debtor.
The 11th Circuit, when discussing §523(a)(19) has said: “Essentially, the statute has two requirements: first, the debt must be for the violation of securities laws or a fraud in connection with the purchase or sale of a security; second, the debt must be memorialized in a judicial or administrative order or settlement agreement….If these two requirements are met, the debt is not dischargeable.” Put more simply, §523(a)(19) has 1) the “nature of the debt” component (i.e., securities or fraud), and 2) the “liquidation” requirement. When §523(a)(19) talks about “judgment,” “order,” “settlement,” etc., it is requiring that the debt be for a specific amount.
Inapplicability of the 60-day Deadline of Rule 4007(c)
The timeline for filing a complaint objecting to the dischargeability of a debt pursuant to 11 U.S.C. §523 is set by Fed. R. Bankr. P. 4007. The rule itself distinguishes between actions that are brought under §523(c) and those that are not. According to 4007(b), “[a] complaint other than under §523(c) may be filed at any time.” However, in a Ch. 7 liquidation, a complaint brought pursuant to §523(c) “shall be filed no later than 60 days after the first date set for the meeting of creditors under §341(a).” Thus, the timeliness of a complaint objecting to the discharge of a debt turns on whether it falls within the purview of §523(c).
Section 523(c) provides, in pertinent part:
(c) Except as provided in subsection (a)(3)(B) of this section, the debtor shall be discharged from a debt of a kind specified in paragraph (2), (4), or (6) of subsection (a) of this section, unless, on request of the creditor to whom such debt is owed, and after notice and a hearing, the court determines such debt to be excepted from discharge under paragraph (2), (4), or (6), as the case may be, of subsection (a) of this section.
On its face, §523(c) fails to expressly include, and, therefore, appears to exclude, actions brought pursuant to §523(a)(19) based on securities or fraud claims.
Several courts have reached this conclusion that §523(a)(19) does not fall within the bounds of §523(c). They reason that “[s]ince §523(a)(19) is not included under §523(c) the 60-day deadline of Rule 4007(c) is inapplicable; instead, Rule 4007(b) governs.” Since, 4007(b) does not contain a time limitation, §523(a)(19) securities or fraud claims are not time barred.
The 11th Circuit, in In re Creech, 782 F. App’x 933 (11th Cir. 2019), confirmed that securities claims are non-dischargeable. In that case, the debtors (the Creeches) defaulted (as a discovery sanction) in an Illinois state court case, where the underlying claims were violations of Florida and Illinois securities laws for selling unregistered securities and for selling securities without a license. The court held that these two state claims were clearly violations of securities under §523(a)(19) and were, therefore, non-dischargeable.
The Southern District of Texas, in In re Kilroy, 354 B.R. 476 (Bankr. S.D. Tex. 2006), addressed the issue and held similarly. William Kilroy and T. Laying Guerreiro were business partners in several ventures. On October 13, 2005, Kilroy filed a voluntary Ch. 7 petition. On February 3, 2006, Guerreiro filed an agreed motion to extend the deadline to file objections to dischargeability under §523, for him and W&L Insurance Holdings, LLC, one of the ventures. On March 3, 2006, the court granted the motion to extend, which created a deadline of April 6, 2006, for Guerreiro and W&L to file a complaint to determine dischargeability under §523. On April 6, 2005, Guerreiro filed a complaint objecting to discharge against Kilroy, W&L and Aegis, another venture. Because Aegis was not included in the initial request for extension, the court held that Aegis’ claims were time barred. However, Aegis also brought securities claims under §523(a)(19). The court held that the 60-day deadline was inapplicable as to the securities claims, given that §523(a)(19) is not included in §523(c).
The Liquidation Requirement of §523(a)(19)
The next hurdle to overcome is the “liquidation” part (section B) of §523(a)(19).
In 2005, §523(a)(19) was amended by the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA). The BAPCPA states that “debts for violations of federal securities laws are non-dischargeable, irrespective of whether the federal judgment or order occurs ‘before, on or after the date on which the petition was filed.’”
Bankruptcy courts throughout the nation have interpreted this amendment to §523(a)(19) as allowing them to determine liability and damages simultaneously during adversary proceedings. “This construction [that no pre-bankruptcy liquidation is required] is in accord with other courts which have applied the BAPCPA amendment to §523(a)(19).” “These courts recognize that the bankruptcy courts have concurrent jurisdiction over the liquidation of securities law and securities fraud claims, and so may enter judgment on liability and damages prior to considering whether the claim should be discharged.” In In re Chan, 355 B.R. 494 (Bankr. E.D. Pa. 2006), the Eastern District of Pennsylvania addressed the issue in the context of a creditor’s request for relief from the automatic stay. The court acknowledges that §523(a)(19) claims are exempted from discharge and wrestles with whether to grant relief from the stay. In the end, the court denies relief from the stay, because it decided to keep the §523(a)(19) claim within its jurisdiction and, therefore, saw relief from the stay unnecessary. It held: “[b]ased on the concurrent jurisdiction which exists, it is perfectly appropriate for either the bankruptcy court or another court to make a dischargeability determination under §523(a)(19).”
Thus, in an effort to prevent securities fraudsters from getting away via the 60-day deadline to object to dischargeability of debts, Congress and the courts quickly caught up. Bankruptcy courts across the nation routinely adjudicate liability, damages, and dischargeability in their forums when it comes to securities and fraud claims. Our state court plaintiff is not out of luck. As long as his or her claims are plausible, well-plead federal or state securities law violations under §523(a)(19), the state court plaintiff will not be barred from objecting to the debtor’s discharge of such debts beyond the 60-day deadline of Fed. R. Bankr. P. 4007(c). Moreover, our state court plaintiff will be able to litigate liability and damages in the bankruptcy forum.
 There is no one definition of “security,” but it generally refers to a tradable financial asset, one that you can buy or sell in stock exchanges. See Wikipedia, Security (finance), https://en.wikipedia.org/wiki/Security_(finance).
 See 11 U.S.C. §523(a).
 U.S. Courts, Discharge in Bankruptcy — Bankruptcy Basics, https://www.uscourts.gov/services-forms/bankruptcy/bankruptcy-basics/discharge-bankruptcy-bankruptcy-basics.
 In re Lichtman, 388 B.R. 396, 409 (Bankr. M.D. Fla. 2008) (quoting In re: Presto, 376 B.R. 554, 592 (Bankr. S.D. Tex. 2007)).
 In re McClung, 304 B.R. 419, 424 (Bankr. D. Idaho 2004) (citations omitted).
 See In re Creech, 782 F. App’x 933, 938 (11th Cir. 2019).
 Fed. R. Bankr. P. 4007(b).
 Fed. R. Bankr. P. 4007(c).
 11 U.S.C. §523(c)(1).
 In re Kilroy, 354 B.R. 476, 486 (Bankr. S.D. Tex. 2006); see also In re Chan, 355 B.R. 494, 503 (Bankr. E.D. Pa. 2006) (same); In re Scalera, 2013 WL 5963554, at *3 (Bankr. W.D. Pa. Nov. 8, 2013) (same); In re Creech, 782 F. App’x 933, 938 (11th Cir. 2019) (same).
 In re Creech, 782 F. App’x 933, 938 (11th Cir. 2019).
 In re Kilroy, 354 B.R. 476, 486 (Bankr. S.D. Tex. 2006).
 SEC v. Sunbelt Dev. Corp., No. 97-1387, 2006 U.S. Dist. LEXIS 11959, at *15 (W.D. La. Mar. 1, 2006) (quoting Pub. L. 109-8, §1404 (2005)).
 In re Chan, 355 B.R. 494, 504 (Bankr. E.D. Pa. 2006).
 In re Disbrow, 2019 Bankr. LEXIS 2902, at *50-51 (Bankr. S.D. Fla. Apr. 22, 2019).
 In re Chan, 355 B.R. 494, 505 (Bankr. E.D. Pa. 2006).