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Relationship Between Fiduciary Duty In and Out of Bankruptcy and Non-Dischargeability

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In re Stewart; Case No. 07-10860-RGM; March 7th, 2008

This case was before Judge Mayer on a motion for summary judgment filed by the debtor. The Plaintiff in this case filed an adversary proceeding asserting that a judgment it had obtained in District Court in Oregon was nondischargeable under §§523(a)(4) and (a)(6) of the Bankruptcy Code.

Secton 523(a)(4) and its predecessors have long narrowly construed the scope of fiduciary relationships encompassed by them. There must be a technical or express trust which predates and exists apart from the act creating the liability. Agents, bailees, brokers, factors, partners and similarly situated persons are generally excluded. 4 Collier on Bankruptcy ¶523.10[1][d]. See KMK Factoring, LLC v. McKnew(In re McKnew), 270 B.R. 593, 624 (Bankr.E.D.Va. 2001). The court determined that the debtor’s duty in this case was akin to the fiduciary duty partners owe each other and does not fall within the parameters of §523(a)(4). The court notes that while there is a fiduciary duty, it is not a pre-existing trust relationship.

The court also noted that the debtor’s argument with respect to punitive damages, which argued that because the arbitrator found that the debtor lacked the necessary willfulness or reckless disregard the debt cannot be dischargeable under §523(6). Importantly the court points out that the arbitrator used a different standard of proof (“clear and convincing” instead of “preponderance of the evidence”) and was therefore not dispositive with respect to the nondischargeability.

The court finished with an enlightening footnote, citing the Supreme Court, that pointed out that the validity of a creditor’s claim is determined by rules of state law and the issue of nondischargeability is a matter of federal law governed by the Bankruptcy Code. Grogan v. Garner, 498 U.S. 279 (1991).

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