Sherman v. Securities & Exchange Commission (In Re Sherman)
658 F.3d 1009
9th Cir.2011Background
- Debtor Richard Sherman sought Chapter 7 relief while an SEC disgorgement order remained pending.
- SEC v. Whitworth-era disgorgement required Sherman to return $581,313.43 plus interest, representing unearned contingency fees.
- Sherman acted as an attorney for clients in the enforcement action and held funds in a client trust/escrow context.
- Sherman had not been found to have violated securities laws himself and the disgorgement did not rest on his own securities violations.
- District court held the § 523(a)(19) exception applied broadly; bankruptcy court held it did not apply when the debtor did not commit the securities violation.
Issues
| Issue | Plaintiff's Argument | Defendant's Argument | Held |
|---|---|---|---|
| Whether § 523(a)(19) discharges debts for securities violations if the debtor did not commit the violation | Sherman (P) argues § 523(a)(19) applies only to those who violated securities laws | SEC (D) argues § 523(a)(19) applies to debts arising from securities violations even if the debtor did not commit the violation | Discharge prohibited only if the debtor caused the violation |
| What constitutes 'for' a securities violation in § 523(a)(19)(A)(i) | 'For' should be read narrowly to require debtor-violation | 'For' should be read broadly to cover any debt arising from securities violations | Debt is 'for' a securities violation only when the debtor is responsible for the wrongdoing |
| Role of legislative history and bankruptcy policy in interpreting § 523(a)(19) | Policy supports treating innocent recipients as non-discharged only if they are guilty | Policy supports deterring securities fraud by denying discharge | Policy and history support narrow reading: innocent third parties may be discharged |
Key Cases Cited
- In re Sherman, 491 F.3d 948 (9th Cir.2007) (discussed disgorgement and nominal defendant concept in Sherman I)
- SEC v. Colello, 139 F.3d 674 (9th Cir.1998) (nominal defendant theory; disgorgement for funds held not as property of the estate)
- Ghomeshi v. Sabban, 600 F.3d 1219 (9th Cir.2010) (illustrates debtor involvement required for § 523(a)(2)(A) insights; supports debtor-focused view)
- Cantrell, 329 F.3d 1119 (9th Cir.2003) (fiduciary-related discharge limits; supports debtor-focused approach)
- Kawaauhau v. Geiger, 523 U.S. 57 (1998) (discharge exceptions construed narrowly)
- Jett v. Sicroff, 401 F.3d 1101 (9th Cir.2005) (strict construction of discharge exceptions)
- Grogan v. Garner, 498 U.S. 279 (1991) (fresh-start policy in bankruptcy)
- Sabban (In re Sabban), 600 F.3d 1219 (9th Cir.2010) (debtor must prove representations; relevance to § 523(a)(2)(A))