Bankruptcy and Undue Hardship

Bankruptcy and Undue Hardship

Undue hardship is a legal definition of a circumstance that fully or partially exempts a person from a legal obligation so as to avoid an unreasonable or disproportionate burden or obstacle. What amounts to undue hardship has been considered by many courts. One of these cases is the case of Dr Pearlman (Trustee of), 1993 CanLII 2643 (BC SC).
The facts surrounding the bankruptcy may be summarized as follows. Dr. Pearlman is a medical doctor and continues to have a successful practice. He is 62 years of age. He is married and his wife is a part-time realtor earning a modest income. They have three children; the youngest is in her third year of medical school at the University of British Columbia.

In 1986 Dr. Pearlman began investing monies in a company called Invasion Record Corp. that is partly owned by his son Michael who is also a medical practitioner. By September of 1991, the bankrupt had advanced approximately CAD 1.8 million to the company. The majority of the monies were his but some of the monies were obtained from friends, business acquaintances, and patients. According to the documents filed, there were five such individuals who are owed the following amounts:

1. Person A. . . . . . . . $70,000
2. Person B. . . ……… $16,500
3. Person C………… ….$67,000
4. Person D . . . ……….$50,000
5. Person E………… $20,000

In November of 1991, the bankrupt filed a proposal which, if successful, would have resulted in all of the creditors recovering the total amount of the monies advanced. The proposal was accepted and approved by the Court in 1992. However, the bankrupt soon defaulted on payments and the trustee recommended that an absolute order of discharge should be issued. The reason for this was that a secured creditor held an assignment on the bankrupt’s monthly revenues (which implies that there will not be any funds for unsecure creditors as the persons above). The trustee concluded that the bankrupt made an honest but mistaken belief in his son and the creditors knew of the speculative nature of the investment.

Though several creditors objected to the absolute discharge and the court concluded that it always has the discretion to refuse an application for an absolute discharge. In its reasoning, some of the facts that would tend to support the bankrupt’s application for an absolute discharge include his advancing age, his cooperation with the trustee, his assisting the trustee in maximizing the returns on assets that have been sold for the benefit of the creditors, and the fact that the requested consent to judgment in the amount of CAD 150,000 represents a negligible benefit to the creditors and may amount to undue hardship on the bankrupt, depending on his continued difficulties with the practice and the medical college.

However, in awarding a conditional discharge, the court stated that would be a mockery of the bankruptcy system to allow Dr Pearlman to go through bankruptcy with such high expenses and without making a significant contribution towards the claims of his creditors. Thus it would not represent undue hardship to stipulate that a percentage (15%) of the gross income or net income of the bankrupt be paid to the bankruptcy estate for a period of three years. The net result will be, based on current income levels, a payment to the trustee for the benefit of the creditors of approximately CAD 102,000.

This case highlights the importance of consulting a Licensed Insolvency Trustee, since insolvency proceedings have many variables that need to be considered.