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Buying bk debt just got a little dicer!


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Looks like this court gave 'em 1 bite at the apple-dammit! Wish they'd hit 'em with that maximum $500K fine! Jail would have been nice too.


Claims Purchaser Violated Rule 9011 in Filing Proof of Claim

In an opinion examining "the standard operating procedures of one creditor whose entire business centers on [the] purchasing and filing of bankruptcy claims and the receipt of dividends on account of such claims," an Ohio bankruptcy court has ruled that the claimant violated its obligation under F.R.B.P. 9011 to make a reasonable inquiry prior to filing its proof of claim against the Chapter 7 debtors. The court declined to award sanctions, however, finding that none were warranted in light of the time and energy devoted by the claimant's senior management in response to the court's show cause order.

After purchasing, at a significant discount, a portfolio of alleged bankruptcy claims, the claimant filed a proof of claim against the Chapter 7 debtor-husband for "money loaned." The debtors, who had not identified in their schedules any claim for the claimant or for the entity identified in the claimant's proof of claim as the originating creditor, objected, asserting that, to their knowledge, they did not have any indebtedness to the originating creditor and, hence, to the claimant. The court directed the claimant to find the supporting documentation for its claim, and stated that it was not going to simply allow the claimant to withdraw its claim. The claimant, however, purported to withdraw its proof of claim, thereby ignoring a specific court order as well as F.R.B.P. 3006, the bankruptcy rule governing withdrawal of claims. The court then entered a show cause order directing the claimant, which filed numerous claims in this and other bankruptcy courts, to explain fully its routine for filing proofs of claim in bankruptcy cases and raising the issue of whether Rule 9011 sanctions should be assessed against it for having filed an unsubstantiated claim. In response, the claimant filed a pre-hearing brief, accompanied by the sworn declarations of its president/chief operating officer, its operations manager, and its in-house attorney, and a show cause hearing was held.

The court began its opinion by noting the "exponential increase" in the trading of bankruptcy claims that has occurred over the last two decades, fueled, at least in part, by technological developments such as electronic case filing (ECF) and proprietary software that is able to conduct searches with limited human attention. "Once a fairly low-volume activity restricted to chapter 11 cases (and primarily undertaken to achieve strategic influence in chapter 11 cases), claims trading now also routinely occurs through the purchase and sale of `claims portfolios' in consumer cases," the court observed. "Apparently lost in the fast-paced world of selling and purchasing bankruptcy claims has been attention to compliance with long-established bankruptcy procedures for filing proofs of claim," the court stated, adding that the claimant would have this and other bankruptcy courts accept "industry standards" as excusing its noncompliance with F.R.B.P. 3001, the bankruptcy rule governing proofs of claim, and its failure to fully complete Form 10, the official form adopted in conjunction with that rule. "Thus, this case poses the central question whether an industry that has grown up solely to operate within the bankruptcy system can expect courts to ignore procedural rules that were in place prior to the birth of the industry because compliance with those rules would not promote maximum efficiency for the claims trading industry."

Rule 9011(B) focuses upon the circumstances surrounding the filing of a document that is later subjected to Rule 9011 scrutiny, the court explained. Rule 9011(B) provides, in pertinent part, that, "y presenting to the court (whether by signing, filing, submitting, or later advocating) a petition, pleading, written motion, or other paper, an attorney or unrepresented party is certifying that to the best of the person's knowledge, information, and belief, formed after an inquiry reasonable under the circumstances . . . (2) the claims, defenses, and other legal contentions therein are warranted by existing law or by a nonfrivolous argument for the extension, modification, or reversal of existing law or the establishment of new law; [and] (3) the allegations and other factual contentions have evidentiary support or, if specifically so identified, are likely to have evidentiary support after a reasonable opportunity for further investigation or discovery."

With respect to the claimant's proof of claim, "there are several circumstances that significantly trouble this Court and suggest that [the claimant] did not make the requisite reasonable inquiry before filing," the court concluded. First, the court found, "reasonable inquiry on the part of an assignee of a consumer claim before filing a proof of claim requires consideration of whether the debtor has included a related claim in its schedules." When the claim asserted by the assignee bears no resemblance to the claims listed in the debtor's bankruptcy schedules, the assignee should note that red flag and "consider what, if anything, supports its current right to assert a claim." The optimal response to such a red flag, the court noted, would be for the assignee to obtain and review the originating documents prior to filing its proof of claim. "If a purported claim holder cannot articulate the minimal amount of information called for in Official Form 10, it needs to read the legend at the bottom of that form," the court cautioned, noting that the legend states that the penalty for presenting a fraudulent claim is a fine of up to $500,000.00 or imprisonment for up to five years, or both.

Here, the court reiterated, the claimant's claim was not reflected in the debtors' schedules, nor had the debtors listed the originating creditor or any of the assignees in the chain of assignments, including the claimant. Although the claimant's description of its current protocols might have been read as saying that the claimant reviewed the debtors' schedules to determine whether they had scheduled a claim that resembled the assigned claim, "the described protocols actually seem to focus only on proofreading." The court added that it was confident that the claimant, an entity that was sophisticated enough to figure out how to make a profit on bankruptcy claims, "will find and implement a technology that allows efficient review of debtors' schedules."

Rule 3001© states that, when a claim is based on a writing, "the original or a duplicate shall be filed with the proof of claim," unless the writing has been lost or destroyed, in which case "a statement of the circumstances of the loss or destruction shall be filed with the claim." In the case at bar, the claimant provided neither the originating documents nor a Rule 3001© statement of circumstances. Moreover, although the claimant characterized its claim as one for "money loaned," it "did not provide the requested date on which the claim arose or any available information regarding the claim's vintage, and did not answer the specific question whether interest or other surcharges were included in the claim." This information was omitted from Form 10, the court observed, even though the claimant had received the information from the assignor when it purchased the portfolio containing the alleged claim against the debtors. "These errors and omissions by [the claimant] suggest, at best, that [the claimant] had little concern for evaluating the validity of its asserted claim or for conveying its claim accurately to the Debtors or other interested parties."

Next, the bankruptcy court considered the claimant's haste in filing its proof of claim as a circumstance relevant to the Rule 9011 inquiry. The claimant filed its proof of claim well before the bar date and before attempting to obtain supporting documentation for the claim. Only after the debtors filed their objection did the claimant request from its assignor documents that supported its proof of claim. "A policy of filing a proof of claim without having possession of the supporting documents, but withdrawing the claim if the debtor subsequently files an objection to the claim's validity smacks of gamesmanship and creates an unacceptable risk that distributions to other creditors will be unfairly reduced," the court commented. "Perhaps further evidence of this gamesmanship is the decision by [the claimant] to cancel its request for documents in support of the claim at 9:32 a.m. on [the date in question] and yet later that same day to file with the Court a request for an extension of time purportedly to allow the opportunity to locate supporting documents."

The lack of meaningful representations in the chain of assignment as to the validity of the claim against the debtors also weighed in favor of finding a Rule 9011 violation, the court determined. Although the claimant asserted that it reasonably relied on representations made by its assignor concerning the validity of the claim, the court found that no such representations had been made. Neither the "forward flow agreement" between the assignor and the claimant nor the purchase agreement executed when the assignor purchased the relevant asset portfolio contained any representations or warranties by the seller(s). Neither the claimant nor its assignor could point to anyone with personal knowledge that the debtor had an unfulfilled obligation to the purported originating creditor, nor had the claimant or its assignor produced any custodian for business documents evidencing such an obligation. "In the absence of anyone with such personal knowledge or reliable business records, and given that the Debtors did not schedule any obligation relating to [the originating creditor] . . . a reasonable inquiry into the facts should have included possession and review of alleged transactional documents between [the debtor] and [the originating creditor] or some reliable proxy for those documents," the court stated.

Finally, the claimant cited several cases holding that, under Rule 3001, a claim is not disallowed for failure to attach the relevant transactional documents to Form 10 but, at worst, simply loses its prima facie status, and, at best, retains its prima facie status pursuant to § 502(a). If a claim is not subject to automatic disallowance in the Sixth Circuit for failure to attach supporting documents at the time of filing, then a fortiori such claim should not be subject to sanctions, the claimant argued. The bankruptcy court disagreed. "[R]ules of claim administration created by Section 502(a) and Rule 3001 – and the case law developed under those authorities – are not dispositive of the Rule 9011 question," the court explained. "Whether the form of a proof of claim and its attachments (or lack thereof) creates prima facie evidence of a claim does not control the question whether under the circumstances it was reasonable for [the claimant] to file the claim in the first place."

Consequently, the court concluded that the claimant did not fulfill its Rule 9011 obligations in filing its proof of claim without having possession of the underlying transactional documents or any reliable proxy for such documents. "As a prospective matter," the court warned, "[the claimant] and other purchasers in the claims trading industry should understand that this Court views the filing, without review of originating documents, of a proof of claim by an assignee/purchaser to fall short of reasonable inquiry under Rule 9011 when the obligation has not been scheduled by the debtors and the purchase of the claim was not accompanied by reliable representations of claim validity." In the case at bar, however, "ecause of the time and energy that [the claimant's] senior management devoted in response to this Court's show cause order . . . the Court [did] not view any further sanctions to be necessary." In re Wingerter, 2007 WL 2932809 (Bkrtcy.N.D.Ohio, Judge Shea-Stonum).


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