Clients sometimes ask whether filing bankruptcy can protect them from Federal Trade Commission scrutiny. The saga of Joseph Rensin and his company BlueHippo provides an opportunity to review the limited protection bankruptcy provides from the FTC. For more on the underlying case see our prior blog posts here and here.
Rensin, the owner of BlueHippo, has succeeded – at least temporarily – in his latest effort to avoid paying the $13.4 million judgment entered in the FTC’s decade-long litigation against the defendants. The Second Circuit held that the district court violated the Bankruptcy Code’s automatic stay by holding Rensin in contempt after he had filed for bankruptcy relief.
Prior to Rensin’s bankruptcy filing, the FTC sought an order from the district court holding Rensin in contempt for failure to comply with the $13.4 million judgment. The district court held an evidentiary hearing, and set a schedule for post-hearing briefing. Rensin filed a Chapter 7 bankruptcy petition two days before his post-hearing brief was due. Rensin sought to hold the post-hearing briefing in abeyance in light of his bankruptcy filing, but the district court ruled that the automatic stay did not apply under the “governmental unit” exception (aka the “police powers” exception) to the automatic stay.
The Second Circuit disagreed, holding that the FTC’s efforts to enforce a money judgment that had already been entered did not fall within the “governmental unit” exception.
So what falls within the exception and what does not? First, some background on the automatic stay.
The Bankruptcy Code’s automatic stay – 11 U.S.C. § 362(a) – stays the commencement or continuation of nearly all legal proceedings against a debtor, including the enforcement of a money judgment, that were or could have been commenced prior to the bankruptcy filing. As its name implies, the stay takes effect automatically and immediately upon the filing of bankruptcy petition. The purpose of the automatic stay is to give the debtor a breathing spell from its creditors and prevent the dissipation of the debtor’s assets during the administration of the bankruptcy case. The stay thereby ensures that disputes concerning property of the bankruptcy estate are centralized under a single forum – the bankruptcy court – so that the debtor’s reorganization or liquidation efforts can proceed efficiently and its assets distributed equitably for the benefit of all creditors.
While the automatic stay is far-reaching, it is not unlimited. For instance, it does not automatically apply to pre-bankruptcy litigation against a debtor’s affiliates. There are also several statutory exceptions to the automatic stay furthering various policy objectives, including the “governmental unit” exception. Under this exception, “governmental units,” including the FTC, are not stayed from commencing or continuing actions “to enforce such governmental unit’s . . . police and regulatory power, including the enforcement of a judgment other than a money judgment, obtained in an action or proceeding by the governmental unit to enforce such governmental unit’s . . . police or regulatory power.” See 11 U.S.C. § 362(b)(4). The Second Circuit has explained that the exception serves to prevent debtors from frustrating essential governmental functions by seeking refuge in bankruptcy court.
As the Second Circuit’s recent ruling confirms, the exception is also not without limits. The “governmental unit” exception permits the FTC and other government agencies to pursue the entry of a money judgment against the debtor, as long as the judgment is entered to enforce the unit’s police or regulatory powers. However, efforts to enforce or collect a money judgment are excepted from the exception.
A line is therefore drawn at the entry of judgment. Once liability has been established and a money judgment entered, the FTC’s efforts to collect on that judgment do not fall within the “governmental unit” exception. At that point, the governmental unit is no longer acting in its police or regulatory capacity, but is instead seeking to vindicate its own interests. So for now, the litigation continues “just a little bit longer.”