What is a Revocation or Denial of a Bankruptcy Discharge: Section 727 Adversary Proceedings?

If you file for bankruptcy, you must be honest and transparent about all your financial activity before, during, and after the petition is filed. For Chapter 7 and Chapter 11 bankruptcies, the ramifications of any kind of dishonesty can be especially severe. If Section 727 adversary proceedings are filed, the entire discharge can be denied or revoked if certain fraudulent activities can be proven by a creditor or the bankruptcy trustee.

Consequences of Denial or Revocation of a Discharge Under 727

In our previous blog post about Section 523 adversary proceedings, we explained how a creditor can object to discharge of a specific debt. Proceedings under Section 727 of the Bankruptcy Code have even more serious consequences.

If a creditor or the bankruptcy trustee files under Section 727, the entire discharge can be denied or revoked. The effect is even worse than if the bankruptcy was never filed. Denial or revocation under Section 727 is sometimes referred to as “bankruptcy hell” — for good reason. Consequences include the following:

• The debtor is still legally responsible for all debts.
• The trustee still administers the debtor’s assets.
• The debtor loses all non-exempt property, which is used to pay creditor claims.
• After non-exempt assets are liquidated and creditors are paid, the debtor is still legally responsible for paying remaining unpaid debts.
• Creditors can pursue state law claims to collect the remaining debts.
• The trustee controls all assets — the debtor cannot use them to pay legal fees or settle claims.

Section 727 was designed to protect the integrity of the bankruptcy process. It penalizes debtors severely for specific conduct that is fraudulent or disrupts the process.

Reasons a Creditor or the Trustee Can File a Section 727 Petition

Actions filed under Section 727 are adversary proceedings within a bankruptcy case. A creditor or the bankruptcy trustee files the action, which is a separate proceeding within the bankruptcy case. Section 727 proceedings are a type of bankruptcy litigation.

There are numerous reasons set out in Section 727 for filing a request for denial of a discharge. Most of the provisions include some type of fraudulent conduct, including these subsections:

Section 727(a)(2)

A request for denial of the discharge can be filed if, with the intention of hindering or defrauding a creditor or the trustee, the debtor took the following actions (or caused them to be taken) with regard to his or her property (within one year before the date of filing) or property of the bankruptcy estate (after filing of the petition):

• Transfer
• Removal
• Destruction
• Mutilation
• Concealment

Section 727(a)(3)

A petition can be filed if the debtor took action to destroy, conceal, falsify, or mutilate financial or business records or failed to keep or preserve those records, unless the conduct or failure to act was justified under all the circumstances of the case. The records include papers, documents, books, and other records that can be used to substantiate the debtor’s financial condition or business transaction.

Section 727(a)(4)

If, in connection with a bankruptcy case, a debtor knowingly and fraudulently does any of the following, a creditor or the trustee can file an action under Section 727:

• Makes a false oath or account;
• Presents or uses a false claim;
• Gives, offers, receives, or attempts to obtain money, property, or an advantage, or a promise of an advantage, property, or money, for acting or refraining from acting; or
• Withholds from the trustee any documents relating to the debtor’s assets or financial affairs.

Section 727(a)(5)

An action can be filed under Section 727 if the debtor fails to offer a satisfactory explanation for any loss or deficiency of assets.

Section 727(a)(6)

A request for denial of discharge can be made if the debtor refuses to:

• Obey an order of the bankruptcy court, other than an order to testify or respond to a material question approved by the court;
• Testify or answer a material question approved by the court, on a ground other than the privilege against self-incrimination; or
• Respond to a material question or testify, if granted immunity on the matter after revoking the privilege against self-incrimination.

Objections to Discharge Under Section 727

During pendency of the bankruptcy case, the trustee, a creditor, or the United States trustee can object to the granting of a discharge under Section 727, for any of the reasons set forth in the section. In addition, a creditor can ask the court to have the trustee examine the debtor’s conduct to determine whether a basis exists for denial of the discharge.

If a request for denial of the discharge is filed, the court will hold a hearing to determine the facts and circumstances relevant to the request. The party filing the objection has the burden of demonstrating the required elements to justify denial of the discharge under Section 727.

Request for Revocation of a Discharge Under Section 727

After a discharge has been granted, the trustee, a creditor, or the United States trustee can ask the bankruptcy court to revoke a discharge previously granted, on the grounds set forth in Section 727(a), if:

• The discharge was obtained through the debtor’s fraud, and the requesting party was unaware of the fraud until after the discharge was granted;
• The debtor acquired or became entitled to acquire property belonging to the bankruptcy estate and knowingly and fraudulently failed to deliver the property to the trustee or report the acquisition or entitlement to the trustee;
• The debtor committed a violation of Section 727(a)(6); or
• The debtor failed to explain a material misstatement in an audit or failed to make records requested for an audit available for inspection.

A request for revocation of a discharge can be filed within one year after the discharge was granted. For a revocation request filed on the basis of the last reason above (material misstatement or failure to provide records), the request can be filed either one year after the discharge was granted or one year after the date case was closed, whichever is later.

Importance of Understanding Section 727

While most bankruptcy cases do not include any adversary proceedings at all — and rarely involve a Section 727 request to deny the discharge — it is essential for anyone contemplating bankruptcy to understand the message of Section 727: Debtor honesty and transparency are critical to a successful bankruptcy case.

To avoid running afoul of any of the integrity provisions in the Bankruptcy Code, you must be very careful to:

• Be honest and truthful with your bankruptcy attorney every step of the way.
• Maintain all documents and records that may relate to your bankruptcy — and keep them before, during, and after the petition is filed.
• Be candid and truthful with everyone involved in your bankruptcy case, including the trustee and the bankruptcy judge.

Talk With an Experienced Burr Ridge, Illinois Bankruptcy Attorney

Modestas Law Offices assists clients with Chapter 7 and Chapter 13 bankruptcy cases. In some situations, we also represent clients, including creditors, in bankruptcy adversary proceedings.

We serve Illinois clients in Chicago, Cook County, DuPage County, and Will County. To accommodate clients who are busy during weekdays, we are available to meet in the evening and on weekends. Contact us to schedule your initial free consultation.