Bankruptcy Law Preempts State Claim for Wrongful Use of Civil Proceedings
The Automatic Stay under U.S. Bankruptcy law is a powerful tool in the judicial system. By filing for bankruptcy, a person or entity immediately creates a cocoon of safety that is generally impenetrable without subjecting the offending party to punitive repercussions. In fact, even parties without knowledge of the bankruptcy filing may nevertheless face consequences from the presiding bankruptcy court for violating the Automatic Stay. Of course, this does not mean that parties can use a bankruptcy petition solely to protect themselves from outside pressures. The bankruptcy rules also allow a court to impose sanctions upon a party or its attorney if it the petition is found to have been filed frivolously. However, a Pennsylvania trial court recently reaffirmed that it remains within the bankruptcy court’s sole discretion to do so, and that any similar state court claim is preempted by federal law.
In this Pennsylvania action, a travel agency was sued by another travel agency for breach of contract in connection with a sale of assets that would have essentially led to a merger between the two agencies. While the breach of contract action was pending, the defendant agency filed for Chapter 7 Bankruptcy, instituting the Automatic Stay and halting all litigation. After the matter proceeded through bankruptcy court and ended with a bench trial, the plaintiff agency filed a state action for wrongful use of civil process based on the allegedly frivolous bankruptcy filing.
Although the bankruptcy court had already found that the petition was filed frivolously, the trial court held that the parallel state action was preempted by bankruptcy law. The court noted that there is a strong public policy favoring uniformity in the bankruptcy process, as well as a fear of chilling the legitimate use of bankruptcy protection for debtors. The court thus concluded that Pennsylvania remains in the majority of states, who find that any claim related to a frivolous bankruptcy petition may only be pursued within the Bankruptcy Court itself.
Even with this limitation on punishment for frivolous bankruptcy filings, it is still important for all attorneys to remember the power of the Automatic Stay is not to be wielded nonchalantly. It may be tempting to use this tool for some breathing room during difficult times, but doing so for this reason alone is dangerous. Even without state wrongful civil proceedings claim as a potential punishment, the bankruptcy court nevertheless retains the ability to sanction both the party and its attorneys for frivolous filings. Parties and attorneys alike should therefore proceed with caution in filing for bankruptcy, and ensure that it isn’t just a temporary break they are seeking with the petition.