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In sickness, health and bankruptcy: Wife fights to discharge debt for husband’s fraud

She consented to the sale of a home in San Francisco but wants the Supreme Court to exonerate her for misrepresentations that her spouse made to the buyer.

WASHINGTON (CN) — The Supreme Court appeared unlikely Tuesday to let a California woman off the hook for fraudulent omissions her husband made to a buyer when the couple flipped a house in San Francisco for $2.1 million.

“You have enough involvement for the state to impose liability because you have been a member of a partnership and the other one of the other partners has committed fraud. You’ve gotten the benefits of that, and you need to be stuck with the burdens as well,” Justice Elena Kagan noted at oral arguments this morning, addressing counsel for the wife.

The high court took up the case in May, agreeing to review a Ninth Circuit decision that said, “regardless of her knowledge of the fraud," Kate Bartenwerfer could not discharge a fraud-related debt imputed to her by her husband and partner.

Bartenwerfer and her husband had paid about $900,000 for the house in San Francisco's Noe Valley neighborhood in 2005 and sold it for more than twice that amount three years later to Kieran Buckley. In 2012, a jury found that the sellers concealed the property's history of water leaks, among other issues, and entered a special verdict that pushed the Bartenwerfers into bankruptcy.

In her petition to the Supreme Court, the wife emphasizes that she had no hand in remodeling of the house at 549 28th Street.

“She never lived in the renovated Property; she never saw and did not possess or maintain the construction permits; she never interacted with contractors, laborers, architects, or consultants; she never asked for or reviewed construction plans or drawings; and she never asked for or reviewed invoices or estimates for construction work,” attorneys Iain Macdonald and Reno Fernandez of the firm Macdonald Fernandez detailed.

Bartenwerfer wants the Supreme Court to hold her husband alone responsible for the nondischargeable judgment of $539.157.70 entered by the bankruptcy court.

Sarah Harris of Williams & Connolly represented Bartenwerfer at Tuesday's hearing, explaining that bankruptcy law is meant to give unfortunate debtors a fresh start by extinguishing all their debts.

“The code does not bar unwitting debtors like petitioner from discharging debts for others,” she said.

“Congress did not irrationally bar debtors who committed no fraud themselves from discharging debts for others’ fraud,” the lawyer continued. She said a ruling against Bartenwerfer could harm “unsophisticated spouses who do not realize routine transactions in marriage, like selling homes, create business partnerships in the eyes of the law.”

Justice Ketanji Brown Jackson appeared skeptical.

“How do we get out of vicarious liability?” the Biden appointee asked.

Harris noted the outcome would be different for buyers savvy enough to sell property through a corporate entity.

“Most people who are sophisticated enough to know that they're actually forming a partnership also know to form an LLC in order to avoid liability," she said. "So the people on whom this rule actually fall today are people who don't know they're forming partnerships."

Zachary Tripp, an attorney for Buckley with the firm Weil Gotshal & Manges, argued before the court that Bartenwerfer's liability is mandated under bankruptcy law. 

“Petitioner obtained my client’s money by means of an actual fraud, and she's fully liable for fraud or fraud on the bedrock principles of partnership law,” he said.

Justice Amy Coney Barrett dubbed Tripp’s take “a good argument on the text" and said the language cuts in [his] favor.”

Justice Clarence Thomas posed a hypothetical.

“Would you conclude that, if her husband had included their infant child in the partnership or an adolescent child in the partnership, that the debt would also be nondischargeable as to that partner?” he asked.

Tripp affirmed.

Justice Samuel Alito also seemed to think the home buyer’s attorney made a strong case.

“I’m just trying to find something you're not comfortable with,” he said to Tripp. “What's not clear to me was if Bartenwerfer obtained access to the funds involved through fraud, even if it's vicarious liability, she obtained access through vicarious liability, and the statute requires fraud.”

“You are relying on a semantic reading of this language, and I think you're right, but in context, you could mean something very different,” Alito said.

Tripp encouraged the justices to stick closely to the text on this point.

“The weighty decision of when a state is going to attach an idiosyncratic vicarious liability rule is the imposition of liability in the first place,” he said.

“She is culpable under this very basic sense that it is actually her fraud. She stood to benefit from it, in partnership law forever,” Tripp continued, speaking in reference to Bartenwerfer.

The lawyer also authored Buckley's opposition brief.

Erica Ross, assistant to the U.S. solicitor general, urged the court to affirm for the buyer.

Bartenwerfer’s lawyers said Tuesday that the outcome of this case could have major ramifications for every joint transaction involving married partners and couples. Her reading would not remove liability from someone who knowingly commits fraud, Harris emphasized.

“That person can never discharge the debt and bankruptcy. What you're talking about here is whether the person who did not know of the fraud, and wasn't participating in it, can also be on the hook forever for lifelong debt,” she said.

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