After a debtor files bankruptcy, creditors may file a Proof of Claim (POC) with the bankruptcy court to assert that the debtor owes them money. When filing a Proof of Claim, the creditor must provide certain information and documentation to the bankruptcy court proving the debt is valid. The Fair Debt Collections Practices Act (FDCPA) prohibits debt collectors from engaging in false, deceptive, misleading or unfair practices. The question becomes, does a creditor violate the FDCPA when they file a Proof of Claim in a bankruptcy case where the statute of limitation has run?
One may think that filing a claim to get paid on a debt that is time barred by statue would obviously be deceptive or misleading. The Supreme Court in Midland Funding, LLC v. Johnson determined that filing a POC that is “time barred is not a false, deceptive, misleading unfair or unconscionable debt collection practice within the meaning of the Fair Debt Collections Practices Act.”
Whether a debt is collectable, in most cases, is a matter of state law. How a Statute-of-Limitations (SOL) effects a debt’s collectability is matter of state law. In some states, the SOL is merely an affirmative defense and does not automatically extinguish the debt. In other states, the SOL extinguishes the debt. In states where the SOL is an affirmative defense, the debtor must raise the argument, usually after being sued, and have the court rule on it. If the debtor fails to raise the SOL argument, then the debt becomes a judgment and is valid. In most cases, the debtor must raise the SOL argument early in the suit or risk losing it as an affirmative defense.
In the case before the Supreme Court, Alabama state law creates an affirmative defense that the debtor must raise, rather than extinguishing the debt. Therefore, even though he SOL had run, since the affirmative defense had never been raised, there was still a valid debt. Had state law been different, and automatically extinguished the debt, then perhaps SCOTUS would have ruled differently.
Another argument SCOTUS considered was whether the creditor has a “right to payment” or an “enforceable claim.” The debtor in Midland argued that because the creditor did not have an enforceable claim, meaning they would lose in state court, that they should not be permitted to file a Proof of claim. The Supreme Court disagreed. Just because the creditor would most likely lose in a state court trial, did not mean that they did not have a “right to payment” which is all that is required to file a Proof of Claim. The Supreme court went on to explain that the debtor in bankruptcy was still protected because the Trustee and/or debtor’s counsel could file an objection to a POC that was time barred.
Ultimately, the Midland case benefits creditors, but only to a limited degree. A debt collector that files a POC for an unextinguished, time-barred debt will not be sanctioned. However, creditors still need to be careful when filing a POC in a jurisdiction where the SOL extinguishes the debt – rather than merely creates an affirmative defense. Also, just because they can file the Proof of Claim, does not mean it will be paid out because the Trustee may still object to it. Certainly, with this decision, creditors will file time-barred claims, and in some cases, they will get paid out. It will place more work on debtor’s counsel and Trustees; but overall, I’m not sure it will not matter in most cases. Most Chapter 7 bankruptcies are “no asset” cases and Proof of Claims are rarely filed. Attorneys and Trustees will have to be more careful in reviewing the filed Proof of Claims in Chapter 13 bankruptcies and Chapter 7 asset cases.
