In every Bankruptcy case, creditors or other interested parties can bring a lawsuit (also called Adversary Proceedings) against those filing for bankruptcy (debtors). The Bankruptcy Code,, however, specifies narrow circumstances where these case can be filed in the Bankruptcy Court.
Under Section 523(a)(4) of the Federal Bankruptcy Code an individual cannot obtain a bankruptcy discharge from a debt “for fraud or defalcation while acting in a fiduciary capacity, embezzlement, or larceny.” Defalcation is the nonfraudulent breach of a fiduciary duty.
The Supreme Court of the United States, in Bullock v. BankChampaign, N.A., recently determined what the term “defalcation” means, as it had been defined in multiple ways in the past. Justice Breyer, who wrote the decision on behalf of the Court, held that where the conduct “does not involve bad faith, moral turpitude, or other immoral conduct, the term requires an intentional wrong.” The intentional wrong includes not only conduct that the fiduciary knows is improper but also reckless conduct. The includes behavior that consists of conscious recklessness (willful blindness).
What all that means is that even if the defendant debtor shows that he had no actual intent to commit a wrong against a person for whom he owes a fiduciary duty, a Bankruptcy Court can find liability when a person acts without regard to the consequences of his actions, and those actions cause harm to a now creditor in bankruptcy.