Bad faith and involuntary bankruptcy

In re Forever Green Athletic Fields, Inc., No. 14-3906 (3d Cir. Oct. 16, 2015).

 Artificial turf (credit: Perfect Grass / flickr)

Artificial turf (credit: Perfect Grass / flickr)

Creditors can throw a debtor into bankruptcy against the debtor’s will. That is a formidable power, which is why the bankruptcy code imposes fairly strict requirements on creditors who want to see their debtor in bankruptcy court. Unless the debtor has a small number of creditors, an involuntary bankruptcy petition must be signed by at least three creditors with uncontested claims. And these creditors’ claims, when added together, must exceed the value of the creditors’ liens by more than $10,000.

But are these the only requirements for an involuntary bankruptcy petition? Can a petition meet these requirements and yet still be dismissed because it was filed in bad faith—for example, just to gain leverage in separate litigation? That’s the question the Third Circuit addresses today, in an appeal arising from an artificial-turf retailer’s involuntary bankruptcy.

The section of the bankruptcy code that deals with involuntary bankruptcy petitions lists the requirements for filing a petition. This list, the Third Circuit says, governs whether a petition may be filed at all. It doesn’t exhaust the reasons a petition may be dismissed. Bad faith is one of those reasons, particularly because the bankruptcy code also says that if a court dismisses an involuntary petition, it may award damages against any creditor “that filed the petition in bad faith.” The Third Circuit sees no reason why the code would allow damages but forbid dismissal against creditors that have filed a bad-faith petition. Besides, dismissal for a bad-faith petition is consistent with bankruptcy’s roots in equity.