SUPREME COURT RULES CHAPTER 7 DEBTOR'S RIGHT TO CONVERT TO CHAPTER 13 IS NOT ABSOLUTE

The United States Supreme Court held in a 5-4 decision that a Chapter 7 debtor who acted in bad faith by making a number of misleading or inaccurate statements and concealed a principal asset in his bankruptcy schedules forfeited his right to proceed under Chapter 13. This affirmed the decision of the First Circuit Court of Appeals in In re Marrama, 430 F.3d 474 (C.A.1 2005). Chapter 7 debtors do not have an absolute right to convert their cases to Chapter 13.The Court primarily considered two provisions of the Bankruptcy Code, subsections (a) and (d) of 11 U.S.C.A. § 706 relevant in determining what Justice Stevens, writing for the court, termed a “procedural anomaly.”

Relying on a Senate Committee Report, the debtor had contended that § 706(a) created an unqualified right of conversion as that report stated that ”…§ 706(a) "gives the debtor the one-time absolute right of conversion," It further noted that "[t]he policy of the provision is that the debtor should always be given the opportunity to repay his debts."

The Court, however, found the report's reference to an "absolute right" of conversion to be "more equivocal than petitioner suggests." The statement that a debtor should "always" have the right to proceed under Chapter 13 is inconsistent with the earlier recognition that it is only a one-time right that does not survive a previous conversion to, or filing under. "More importantly, the broad description of the right as 'absolute' fails to give full effect to the express limitation in subsection (d)," which expressly conditioned the debtor's right to convert on his ability to qualify as a "debtor" under Chapter 13. The court further relied on § 1307(c), which states that a Chapter 13 proceeding may be either dismissed or converted to a Chapter 7 proceeding "for cause". Justice Stevens explains that although there is no specific mention of pre-petition bad-faith conduct as a cause of dismissal, bankruptcy courts routinely treat dismissal for such conduct as implicitly authorized by the "for cause" language.

Writing in dissent, Justice Alito opined that the majority's imposition of a condition on the debtor's conversion right – namely, a bankruptcy judge's finding of good faith – was inconsistent with the Bankruptcy Code. He states that there was nothing in the Code suggesting that a bankruptcy judge has the discretion to override a debtor's exercise of the § 706(a) conversion right on a ground not set out in the Code.