Pursuant to Section 727(a) of the Bankruptcy Code, an individual debtor can obtain a discharge of his pre-petition debts, see 11 U.S.C. Section 727(a). In general, the effect of a discharge is to relieve the debtor from all debts that arose before the date the debtor filed for bankruptcy protection, 11 U.S.C. Section 727(b). Notably, Section 523 of the Bankruptcy Code excepts certain types of pre-petition debts from discharge. In particular, Section 523(a)(2)(A) excepts from discharge any debt to the extent obtained by “actual fraud.” Recently, in McLammer v. Holmes (In re Holmes), Case No. 16-41808 (Bankr. W.D. Mo. May 4, 2017), the bankruptcy court held that certain debts owed by a married debtor to his extra-marital romantic partner were excepted from discharge because the debts had been obtained by actual fraud.

The U.S. Supreme Court has defined “actual fraud” in the nondischargeability context to encompass any act of moral turpitude or intentional wrong that is carried out with wrongful intent, as in Husky International Electric v. Ritz, 136 S.Ct. 1581 (2016). In nondischargeability actions, where a plaintiff-creditor must establish actual fraud by a preponderance of the evidence, courts will consider traditional factors, such as whether the debtor knowingly made false representations with the intent to deceive his creditor and whether the creditor justifiably relied on those false representations to her detriment.

In Holmes, the bankruptcy court considered an adversary complaint filed by the debtor's former paramour that requested a determination of nondischargeability with respect to an alleged debt incurred through the debtor's actual fraud. Specifically, the plaintiff alleged that the debtor pursued a romantic relationship with her in order to defraud her of her savings and to cause her to incur additional debt for the debtor's benefit. As the bankruptcy court recognized, the primary issue presented in the complaint was whether the debtor's promises to the plaintiff of a future relationship and future repayment of funds were fraudulent and whether the plaintiff's reliance on those promises was justified.

The court considered a significant amount of evidence and testimony from the plaintiff and debtor concerning the nature and history of their relationship. Most of the relevant facts were undisputed. The parties, both married to other people, worked together and began a romantic relationship in September 2013. Over the next year, the plaintiff gave the debtor significant amounts of money in the form of cash and checks, obtained two credit cards on which the debtor was an authorized signor, and purchased several vehicles for the debtor's use and benefit. To finance this spending, the plaintiff withdrew money from her savings and pension accounts and took a loan against her retirement account.

On numerous occasions during the relationship, the debtor told the plaintiff that he loved her, that he was going to divorce his then-wife, and that he wanted to marry her. The plaintiff further testified that she gave all of the money and property to the debtor at his request “for their life down the road” and upon his promise to repay the plaintiff after his divorce was final. According to the plaintiff, the debtor told her that after his divorce, he would be able to repay her from two certificates of deposit that he had inherited and that were to mature in the near future. He also showed her a parcel of real property that he claimed to own and intended to sell after his divorce. As the plaintiff explained, and the debtor did not refute, the debtor routinely promised to work out repayment after they were together and continually sealed his commitment with the phrase “love, trust and faith.”

Notwithstanding these assurances, by December 2013, the plaintiff became concerned about her ability to service her growing debt. She was also alarmed to discover the following month that the debtor had used one of her credit cards to purchase, among other things, a cruise for himself and his wife. When confronted about this charge, the debtor claimed to have used the plaintiff's credit card by mistake but went on the cruise with his wife because other family members were going. Mollified by this representation, the plaintiff agreed to work out a budget with her paramour pursuant to which he would pay $500 a month toward the credit card balances. They later revised this budget to include repayment on the numerous vehicles the plaintiff had purchased for the debtor's use, and an additional $1,000 toward repayment of the plaintiff's loan against her retirement account. To facilitate the repayment, the parties opened a joint checking account. While the debtor set up a direct deposit of $500 per week, he actually withdrew more money each month from the account than he put in.

In August 2014, the plaintiff discovered she was pregnant. Promising that they would have children together in the future, the debtor convinced the plaintiff to terminate the pregnancy. The pregnancy caused significant strain on the relationship between the parties. In October 2014, the plaintiff assisted the debtor in obtaining a new job with a different employer. Thereafter, the two had their last romantic encounter in mid-October. Then, according to the plaintiff, the debtor “vanished.”

Only after the relationship ended did the plaintiff discover the truth: the debtor's promised certificates of deposit actually belonged to the debtor's mother, who was apparently alive and well; the debtor did not own the real property that he had promised to sell; the debtor had significant, undisclosed criminal problems and restitution obligations; and despite the debtor's representations that he was using the plaintiff's money to facilitate his divorce, he never filed for divorce; to the contrary, the debtor's wife filed for divorce after she learned from the plaintiff about the affair.

Assessing the plaintiff's request that the debtor's repayment obligations to her be excepted from discharge, the court was tasked with determining whether the debtor's actions constituted actual fraud. Initially, the court concluded that whether the debtor in fact loved the plaintiff was not determinative. Rather, as the court noted, “the relevant questions here are whether [the debtor] meant it when he said he was using the money to facilitate his divorce and their future life together, and whether he misrepresented that he planned to repay her.”

Based on the evidence—most of which was undisputed, and crediting the plaintiff's testimony as to the rest—the court concluded that the debtor falsely represented to the plaintiff on numerous occasions that he had the means and intent to repay the plaintiff. Among other things, the court cited the debtor's promise to liquidate his certificates of deposit and the real property as examples of false representations made to encourage monetary advances from the plaintiff. The court also highlighted the debtor's promise—and then failure—to repay the plaintiff pursuant to the agreed-upon budget, labeling the promise a “materially false representation.”

The court also concluded that the debtor made these false representations with the intent to deceive the plaintiff and to obtain money from her. Noting that “direct proof of intent is nearly impossible to obtain,” the court looked to circumstantial evidence to establish the debtor's fraudulent intent. In particular, as evidence of the debtor's deceitful intent, the court focused on the fact that the debtor represented to the plaintiff that he was using the plaintiff's money to facilitate his divorce, but that he had never taken any action to file for divorce. Also contributing to the court's finding of wrongful intent was the fact that the parties' relationship existed only so long as the plaintiff continued to finance the debtor's lifestyle. Indeed, once the plaintiff became pregnant and her money ran out, the relationship ended abruptly. According to the court, these facts made “the conclusion that [the debtor] was lying to [the plaintiff] at least in part for her money … more reasonable and probable than any other that might be drawn.”

Finally, the court concluded that the plaintiff justifiably relied on the debtor's false representations. In its opinion, the court recognized that the standard applied to exceptions to discharge for actual fraud is “justifiable reliance,” which is a lower standard than “reasonable reliance.” Here, the court considered all of the facts and circumstances of the parties' relationship and concluded that it was understandable that the plaintiff, being very much in love, “did not see, at least initially, that the debtor was using her, even though it is now obvious in hindsight that he was.” Still, the court held that even if the plaintiff's reliance was initially justified, once she saw certain red flags, the plaintiff had a duty to investigate the veracity of the debtor's representations. Adopting an example historically expressed by the Supreme Court, the bankruptcy court noted that “when a person is presented with a horse with one eye, that person has an obligation to at least look at the horse.”

In this case, the court found that once the plaintiff became aware in January 2014 that the debtor used her credit card to book a cruise for himself and his wife, the plaintiff should have been on notice that something was amiss. To be sure, in response to this discovery and her growing fear that debtor couldn't repay her, the plaintiff requested that the debtor work out a budget to confirm his ability to repay her. After this point, the court concluded, the plaintiff was not justified in relying on any representations made by the debtor, and any money she subsequently lent him was at her peril. Accordingly, the court held that all amounts the debtor received from the plaintiff before Jan. 15, 2014, constituted a debt obtained by actual fraud that would be nondischargeable in the debtor's bankruptcy case.

While the facts and circumstance of Holmes may be somewhat unique, and the debtor's undisputed conduct particularly egregious, the more cynical reader might still object to the court's implicit holding that “love” is, under certain circumstances, synonymous with “justifiable reliance.” Still, the court's ultimate holding serves as a fair warning to all: in an amorous relationship, reliance on a lover's empty promises will reach a tipping point, at which time the victimized lover will no longer be legally justified in so relying. Instead, the law will require that the victim clear the smoke from his eyes and investigate the truth. Failure to do so could end with insult piling on top of injury, because the debt incurred by the unscrupulous debtor could well wind up being discharged in bankruptcy.

Rudolph J. Di Massa Jr., a partner at Duane Morris, is a member of the business reorganization and financial restructuring practice group. He concentrates his practice in the areas of commercial litigation and creditors' rights. Jarret P. Hitchings, an associate with the firm, practices in the area of commercial finance, financial restructuring, and business bankruptcy.

Pursuant to Section 727(a) of the Bankruptcy Code, an individual debtor can obtain a discharge of his pre-petition debts, see 11 U.S.C. Section 727(a). In general, the effect of a discharge is to relieve the debtor from all debts that arose before the date the debtor filed for bankruptcy protection, 11 U.S.C. Section 727(b). Notably, Section 523 of the Bankruptcy Code excepts certain types of pre-petition debts from discharge. In particular, Section 523(a)(2)(A) excepts from discharge any debt to the extent obtained by “actual fraud.” Recently, in McLammer v. Holmes (In re Holmes), Case No. 16-41808 (Bankr. W.D. Mo. May 4, 2017), the bankruptcy court held that certain debts owed by a married debtor to his extra-marital romantic partner were excepted from discharge because the debts had been obtained by actual fraud.

The U.S. Supreme Court has defined “actual fraud” in the nondischargeability context to encompass any act of moral turpitude or intentional wrong that is carried out with wrongful intent, as in Husky International Electric v. Ritz , 136 S.Ct. 1581 (2016). In nondischargeability actions, where a plaintiff-creditor must establish actual fraud by a preponderance of the evidence, courts will consider traditional factors, such as whether the debtor knowingly made false representations with the intent to deceive his creditor and whether the creditor justifiably relied on those false representations to her detriment.

In Holmes, the bankruptcy court considered an adversary complaint filed by the debtor's former paramour that requested a determination of nondischargeability with respect to an alleged debt incurred through the debtor's actual fraud. Specifically, the plaintiff alleged that the debtor pursued a romantic relationship with her in order to defraud her of her savings and to cause her to incur additional debt for the debtor's benefit. As the bankruptcy court recognized, the primary issue presented in the complaint was whether the debtor's promises to the plaintiff of a future relationship and future repayment of funds were fraudulent and whether the plaintiff's reliance on those promises was justified.

The court considered a significant amount of evidence and testimony from the plaintiff and debtor concerning the nature and history of their relationship. Most of the relevant facts were undisputed. The parties, both married to other people, worked together and began a romantic relationship in September 2013. Over the next year, the plaintiff gave the debtor significant amounts of money in the form of cash and checks, obtained two credit cards on which the debtor was an authorized signor, and purchased several vehicles for the debtor's use and benefit. To finance this spending, the plaintiff withdrew money from her savings and pension accounts and took a loan against her retirement account.

On numerous occasions during the relationship, the debtor told the plaintiff that he loved her, that he was going to divorce his then-wife, and that he wanted to marry her. The plaintiff further testified that she gave all of the money and property to the debtor at his request “for their life down the road” and upon his promise to repay the plaintiff after his divorce was final. According to the plaintiff, the debtor told her that after his divorce, he would be able to repay her from two certificates of deposit that he had inherited and that were to mature in the near future. He also showed her a parcel of real property that he claimed to own and intended to sell after his divorce. As the plaintiff explained, and the debtor did not refute, the debtor routinely promised to work out repayment after they were together and continually sealed his commitment with the phrase “love, trust and faith.”

Notwithstanding these assurances, by December 2013, the plaintiff became concerned about her ability to service her growing debt. She was also alarmed to discover the following month that the debtor had used one of her credit cards to purchase, among other things, a cruise for himself and his wife. When confronted about this charge, the debtor claimed to have used the plaintiff's credit card by mistake but went on the cruise with his wife because other family members were going. Mollified by this representation, the plaintiff agreed to work out a budget with her paramour pursuant to which he would pay $500 a month toward the credit card balances. They later revised this budget to include repayment on the numerous vehicles the plaintiff had purchased for the debtor's use, and an additional $1,000 toward repayment of the plaintiff's loan against her retirement account. To facilitate the repayment, the parties opened a joint checking account. While the debtor set up a direct deposit of $500 per week, he actually withdrew more money each month from the account than he put in.

In August 2014, the plaintiff discovered she was pregnant. Promising that they would have children together in the future, the debtor convinced the plaintiff to terminate the pregnancy. The pregnancy caused significant strain on the relationship between the parties. In October 2014, the plaintiff assisted the debtor in obtaining a new job with a different employer. Thereafter, the two had their last romantic encounter in mid-October. Then, according to the plaintiff, the debtor “vanished.”

Only after the relationship ended did the plaintiff discover the truth: the debtor's promised certificates of deposit actually belonged to the debtor's mother, who was apparently alive and well; the debtor did not own the real property that he had promised to sell; the debtor had significant, undisclosed criminal problems and restitution obligations; and despite the debtor's representations that he was using the plaintiff's money to facilitate his divorce, he never filed for divorce; to the contrary, the debtor's wife filed for divorce after she learned from the plaintiff about the affair.

Assessing the plaintiff's request that the debtor's repayment obligations to her be excepted from discharge, the court was tasked with determining whether the debtor's actions constituted actual fraud. Initially, the court concluded that whether the debtor in fact loved the plaintiff was not determinative. Rather, as the court noted, “the relevant questions here are whether [the debtor] meant it when he said he was using the money to facilitate his divorce and their future life together, and whether he misrepresented that he planned to repay her.”

Based on the evidence—most of which was undisputed, and crediting the plaintiff's testimony as to the rest—the court concluded that the debtor falsely represented to the plaintiff on numerous occasions that he had the means and intent to repay the plaintiff. Among other things, the court cited the debtor's promise to liquidate his certificates of deposit and the real property as examples of false representations made to encourage monetary advances from the plaintiff. The court also highlighted the debtor's promise—and then failure—to repay the plaintiff pursuant to the agreed-upon budget, labeling the promise a “materially false representation.”

The court also concluded that the debtor made these false representations with the intent to deceive the plaintiff and to obtain money from her. Noting that “direct proof of intent is nearly impossible to obtain,” the court looked to circumstantial evidence to establish the debtor's fraudulent intent. In particular, as evidence of the debtor's deceitful intent, the court focused on the fact that the debtor represented to the plaintiff that he was using the plaintiff's money to facilitate his divorce, but that he had never taken any action to file for divorce. Also contributing to the court's finding of wrongful intent was the fact that the parties' relationship existed only so long as the plaintiff continued to finance the debtor's lifestyle. Indeed, once the plaintiff became pregnant and her money ran out, the relationship ended abruptly. According to the court, these facts made “the conclusion that [the debtor] was lying to [the plaintiff] at least in part for her money … more reasonable and probable than any other that might be drawn.”

Finally, the court concluded that the plaintiff justifiably relied on the debtor's false representations. In its opinion, the court recognized that the standard applied to exceptions to discharge for actual fraud is “justifiable reliance,” which is a lower standard than “reasonable reliance.” Here, the court considered all of the facts and circumstances of the parties' relationship and concluded that it was understandable that the plaintiff, being very much in love, “did not see, at least initially, that the debtor was using her, even though it is now obvious in hindsight that he was.” Still, the court held that even if the plaintiff's reliance was initially justified, once she saw certain red flags, the plaintiff had a duty to investigate the veracity of the debtor's representations. Adopting an example historically expressed by the Supreme Court, the bankruptcy court noted that “when a person is presented with a horse with one eye, that person has an obligation to at least look at the horse.”

In this case, the court found that once the plaintiff became aware in January 2014 that the debtor used her credit card to book a cruise for himself and his wife, the plaintiff should have been on notice that something was amiss. To be sure, in response to this discovery and her growing fear that debtor couldn't repay her, the plaintiff requested that the debtor work out a budget to confirm his ability to repay her. After this point, the court concluded, the plaintiff was not justified in relying on any representations made by the debtor, and any money she subsequently lent him was at her peril. Accordingly, the court held that all amounts the debtor received from the plaintiff before Jan. 15, 2014, constituted a debt obtained by actual fraud that would be nondischargeable in the debtor's bankruptcy case.

While the facts and circumstance of Holmes may be somewhat unique, and the debtor's undisputed conduct particularly egregious, the more cynical reader might still object to the court's implicit holding that “love” is, under certain circumstances, synonymous with “justifiable reliance.” Still, the court's ultimate holding serves as a fair warning to all: in an amorous relationship, reliance on a lover's empty promises will reach a tipping point, at which time the victimized lover will no longer be legally justified in so relying. Instead, the law will require that the victim clear the smoke from his eyes and investigate the truth. Failure to do so could end with insult piling on top of injury, because the debt incurred by the unscrupulous debtor could well wind up being discharged in bankruptcy.

Rudolph J. Di Massa Jr., a partner at Duane Morris, is a member of the business reorganization and financial restructuring practice group. He concentrates his practice in the areas of commercial litigation and creditors' rights. Jarret P. Hitchings, an associate with the firm, practices in the area of commercial finance, financial restructuring, and business bankruptcy.