United Student Aid Funds, Inc. v. Espinosa

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Argued December 1, 2009.

Authorship: Bryan Henderson of Stanford Law School

Docket: 08-1134

Issue: Where a debtor declares to discharge a student loan debt in his Chapter 13 bankruptcy plan, has the debtor satisfied the due process requirements of Mullane v. Cent. Hanover Bank & Trust Co, and does the fact that the debtor failed to initiate an adversary proceeding render the enforceability of the discharge order under 11 U.S.C. 1327(a)inapplicable?

Contents

Briefs and Documents

Oral Argument

Transcript (December 1, 2009)

Merits Briefs

Amicus Briefs

Certiorari-Stage Documents

Oral Argument Recap

At oral argument in United Student Aid Funds v. Espinosa, the Court grappled with whether an order discharging student loan debt absent an adversary hearing and a finding of undue hardship—in clear contravention of the Bankruptcy Code—is void. The creditor in this case sought relief from a discharge order six years after it was entered and ten years after the initial bankruptcy plan was confirmed. While all the justices agreed that the bankruptcy court erred, many justices seemed reluctant to upset a court order so many years after it was entered. No consensus emerged, however, concerning resolution of the case.

Justices Sotomayor and Breyer were concerned that an order could only be void if the court lacked jurisdiction to enter it. Justice Breyer declared that USAF didn’t “have much precedential support” to classify noncompliance with the Code as the kind of thing for which a court would lack jurisdiction. But later in the argument, Justice Breyer admitted to a “lack of understanding” about how a judgment could be void under the Rules of Civil Procedure, and Justice Sotomayor expressed agreement with Justice Kennedy’s doubts about whether only a lack of jurisdiction could render an order void.

The advocates faced a parade of hypotheticals as three justices—Ginsburg, Stevens, and Kennedy—tried to determine whether the creditor could ever waive his right to an undue hardship hearing. Arguing for USAF, Madeleine C. Wanslee insisted that such a hearing was always required. At one point, Justice Kennedy opined that it is an “astounding conclusion that you are simply writing out the doctrine of waiver altogether.” However, Assistant to the Solicitor General Toby Heyntens, arguing on behalf of the United States as an amicus in support of petitioner, subsequently pointed out that the Court had previously deemed the student loan exceptions “self-executing” (which would foreclose the possibility that the hardship hearing could be waived); this policy made sense, Heyntens continued, because of the public interest at stake in Department of Education loan guarantees. The Chief Justice expressed doubt that the Code, properly read, was self-executing—a view expressed by no other justice.

Justice Ginsburg seemed to adopt the government’s argument that no finding of voidness under the Rules of Civil Procedure was required because, under the Bankruptcy Code, the debt was simply not discharged. Ginsburg also pressed Michael Meehan, arguing for respondent Francisco Espinosa, on the effect that the Court’s decision in this case might have on other kinds of debt deemed nondischargeable by the Code, including child support arrears and taxes. When Meehan admitted that absent objection, such debt could be discharged, Ginsburg grew agitated, asking “then why do we have this third category [of non-dischargeable debt]?” Justice Kennedy seemed conflicted on this point: he noted that requiring objections would put a “tremendous burden on already overburdened systems,” but at the same time he acknowledged that requiring a “charade hearing is equally off-putting.”

Although Justice Alito was silent for much of the argument, it appeared that he was attempting to lay the groundwork for a consensus decision, as he queried whether lawyers including student debt in Chapter 13 plans could be sanctioned. Such a finding would allow the Court to avoid finding that the old orders were open to attack, yet prevent new lawyers from prospectively including nondischargable debt in bankruptcy plans. Alito’s idea drew some support from Justices Breyer and Scalia. It remains to be seen whether this view or another will garner five votes, however.

Argument Preview

In United Student Aid Funds, Inc. v. Espinosa (No. 08-1134), the Court will construe the Bankruptcy Code for the third time this Term. The question before the Court in Espinosa is whether a bankruptcy court’s orders confirming a debtor’s plan and, subsequently, discharging the debtor’s student loan debt are valid when the debtor has not demonstrated undue hardship. The court may also consider whether the due process standard established in Mullane v. Central Hanover Bank & Trust (1950) is met when a debtor fails to meet the heightened notice procedures mandated by the Federal Rules of Bankruptcy Procedure.

During 1988 and 1989, respondent Francisco J. Espinosa obtained four federally guaranteed student loans totaling over thirteen thousand dollars. In 1992, Espinosa filed for Chapter 13 Bankruptcy, identifying the student loans as his only debt. In his bankruptcy plan, which he mailed to petitioner United Student Aid Funds (“USAF”), the holder of his loans, Espinosa proposed to repay only the principal owed on the loans.

USAF filed a proof of claim in the bankruptcy court for $17,832.15, representing both the principal and the accrued interest on the loans. The bankruptcy court, however, entered a confirmation order approving Espinosa’s plan as submitted – that is, requiring him to repay only $13,250. The court did not make an undue hardship finding as required by the Code, nor did Espinosa initiate an adversary proceeding as required by the Rules. Instead, the bankruptcy trustee sent USAF a form notice indicating that the repayment amount approved by the court differed from the amount that USAF had claimed.

After Espinosa completed the payments required by the plan, the bankruptcy court entered a discharge order that enjoined Espinosa’s creditors from attempting to collect on his debts – again, without any finding of an undue hardship with regard to his student loans. Three years later, USAF indirectly sought to collect the additional money owed to it by Espinosa by garnishing Espinosa’s federal income tax refunds.

Espinosa subsequently reopened his bankruptcy case, seeking an order that would prohibit creditors from collecting his discharged debts. USAF then sought relief from the original confirmation order, arguing that it had been entered in violation of the Code and Rules and was thus void. The bankruptcy court ruled in Espinosa’s favor, but the district court reversed. It held that the confirmation order was void and remanded the case for an adversary hearing to determine whether Espinosa faced undue hardship.

After an initial remand, the Ninth Circuit reversed and remanded. In its view, USAF’s argument that the violation of the Bankruptcy Code and Rules rendered the confirmation and discharge orders void was foreclosed by its 1999 decision holding that a discharge is a final judgment which can only be challenged on direct appeal. It also rejected USAF’s alternative argument that Mullane’s requirement of “notice reasonably calculated under the circumstances” was not satisfied absent service of a complaint and summons.

After its petition for rehearing en banc was denied, USAF filed a petition for certiorari in which it argued that review was warranted because the Ninth Circuit’s decision allowing “discharge by declaration” both conflicted with the decisions of other circuits and directly contradicted the Court’s acknowledgement in dicta in Tennessee Student Assistance Corp. v. Hood that the Code’s undue hardship provision is “self-executing” – that is, unless a debtor secures a hardship determination, a discharge order cannot include student loan debt. The Court granted cert. on June 15, 2009.

In its brief on the merits, USAF relies on the text of the Code and the Court’s acknowledgement in Hood that student debt is non-dischargeable absent an undue hardship determination, which must in turn be obtained through an adversary proceeding. Because the court’s confirmation of the plan including student debt exceeded the authority granted to it by law, its judgment was thus void and could be attacked under the Federal Rules of Civil Procedure. USAF argues that neither the confirmation nor the discharge order is res judicata because the Code’s finality provision—§ 1327(a)—does not apply to provisions that are contrary to law. The statutory construction principle that the specific governs the general supports this proposition, as construing the finality provision to trump the limitations on discharge would render those limitations partially ineffective.

USAF also argues that the undesirable effects of the Ninth Circuit’s rule would not be limited to the student loan context; rather, the rule would – in conflict with Congress’s express judgment that some debts are nondischargable – allow other debts, such as debts from unpaid taxes and customs, certain torts judgments, and fines included in criminal sentences, to be discharged “by declaration.” Finally, USAF argues that due process demands compliance with heightened procedural requirements – such as the requirement that an undue hardship declaration be obtained only through an adversary proceeding – and that Espinosa’s failure to follow the Rules renders the confirmation order void.

Espinosa (as well as his amici, Chapter 13 Trustees) counters by emphasizing the important reliance interest of trustees and creditors in the finality of confirmed plans and arguing that the Code’s finality provision precludes USAF’s attack on the confirmation order. Espinosa relies on Traveler’s Indemnity Co. v. Bailey, in which the Court recently held that plaintiffs could not bring suit twenty years after the bankruptcy court issued an injunction even if the bankruptcy court exceeded its jurisdictional power in so doing. Espinosa also dismisses the textual argument, made by the U.S. in its amicus brief, that student debt simply cannot be discharged without an undue hardship determination as not properly before the Court. Finally, Espinosa argues that USAF’s due process argument fails because heightened procedural requirements can be waived, and the actual notice which USAF undisputedly received meets the constitutional minimum.

In its reply brief, USAF adopts the argument, made by the United States in its amicus brief, that Congress created a tripartite ordering of debts under the Code: debts that are fully dischargeable, debts that are dischargeable unless the creditor objects, and debts that are excluded from discharge. Absent a hardship determination, student loan debt falls into the third category. Funds notes that Traveler’s and the other cases on which Espinosa and his amici rely prohibit collateral attacks on a judgment, not direct attacks on a judgment – attacks not barred by res judicata. Finally, USAF reiterates that requiring creditors to object to the inclusion of nondischargeable debts in a Chapter 13 plan would result in “thousands upon thousands” of pro forma objections, leading to additional expenses for both creditors and debtors.

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