RUBBER CHECKS MAY BE FRAUDULENT, BUT DEBT STILL GETS BOUNCED

September 10, 2004

Steven P. Garmisa
Hoey & Farina Attorney
garmisa@hoeyfarina.com
1-888-425-1212

Even though several rubber checks were presumed fraudulent under Illinois law, the debt was still dischargeable in bankruptcy pursuant to a 7th U.S. Circuit Court of Appeals holding that giving someone a check that the debtor knows won't be paid is not, by itself, a false representation.

Applying this analysis in ruling against a creditor, Bankruptcy Judge Jack B. Schmetterer's opinion also provides a useful review of the remedies that Illinois provides for bounced checks. In re Philopulos, 2004 WL 1763216 (Bankr. N.D. Ill., Aug 4).

The debtor, Andrew Philopulos, ran Beginnings Bar and Grill. Beginnings rented equipment from Nite Lite Signs and Balloons Inc.
According to a claim filed by Nite Lite, Philopulos paid for this equipment by handing over a series of checks that bounced. Objecting to a discharge of this debt, Nite Lite argued that Philopulos violated the Illinois Deceptive Practices Statute, 720 ILCS 5/17, and engaged in fraudulent conduct.

Based on the Illinois statute, Schmetterer agreed that there was a presumption of fraud. But the judge concluded that Nite Lite failed to prove the debt was not dischargeable. Here are some highlights of the judge's opinion (with various omissions not noted in the quoted text):

"Section 5/17-1 of the Illinois Criminal Code prescribes certain deceptive practices, including the issuance of bad checks.
"Specifically, the statute states: 'A person commits a deceptive practice when, with intent to defraud:

" '(d) With intent to obtain control over property or to pay for property, labor or services of another ... he issues or delivers a check or other order upon a real or fictitious depository for the payment of money, knowing that it will not be paid by the depository. Failure to have sufficient funds or credit with the depository when the check or other order is issued or delivered, or when such check or other order is presented for payment and dishonored on each of two occasions at least 7 days apart, is prima facie evidence that the offender knows that it will not be paid by the depository, and that he has the intent to defraud. In this paragraph (d), "property" includes rental property (real or personal).'
"If a party establishes the predicates of this section, civil liability is available under section 17-1a.

"Section 17-1a imposes significant penalties on those who write bad checks and holds that after certain collection efforts come up dry, the payee of a bad check may sue for the face value of the check, treble damages up to $1,500, and attorney fees and court costs.
"To recover damages, a plaintiff must show (1) that a defendant delivered a check to obtain personal property; (2) that the defendant knew at the time that the account was insufficient to pay the check; (3) that the defendant acted with the intent to defraud, (4) and that the defendant failed to pay on demand."

Schmetterer agreed that Philopulos violated this statute. The key question was whether the debt was dischargeable:

"Establishment of the debtor's fraudulent intent under the Illinois Deceptive Practices Act does not automatically render this debt non-dischargeable under 11 U.S.C. [sec]523. Whether a debt is dischargeable is a question of federal bankruptcy law.
"Exceptions to discharge are construed strictly against a creditor and liberally in favor of the debtor. The objecting creditor has the burden to prove exceptions to discharge by a preponderance of the evidence."

According to section 523(a)(2)(B):

"A discharge under section 727 of this title does not discharge an individual debtor from any debt for money, property, services, or an extension, renewal or refinancing of credit, to the extent obtained by the use of a statement in writing

"(i) that is materially false;
"(ii) respecting the debtor's or an insider's financial condition;
"(iii) on which the creditor to whom the debtor is liable for such money, property, services or credit reasonably relied; and
"(iv) that the debtor caused to be made or published with the intent to deceive."

"Nite Lite," Schmetterer explained, "must prove five elements: (1) the debtor made a statement in writing; (2) the statement was materially false; (3) the statement concerned the debtor's financial condition; (4) the debtor intended to deceive the creditor; and (5) the creditor reasonably relied on the statement.

"Nite Lite contends that the checks are statements respecting the debtor's financial condition and the debtor's tendering of the checks constituted a false representation that he had sufficient funds to cover the checks. Nite Lite relies on Total Television Inc. v. Lewsadder (In re Lewsadder), 84 B.R. 711 (Bankr. D. Ore. 1988), American Security Insurance Service Inc. v. Damiani (In re Damiani), 157 B.R. 17 (Bankr. N.D. Ohio 1993), and Bear Stearns & Co. v. Kurdoghlian (In re Kurdoghlian), 30 B.R. 500 (B.A.P. 9th Cir. 1983), for the proposition that the tender of a check is an implicit representation that sufficient funds exists to cover the check.

"These cases, however, conflict with the 7th Circuit's holding in [Goldberg Securities Inc. v. Scarlata (In re Scarlata), 979 F.2d 521, 524 (7th Cir. 1992)]. Scarlata held that the presentation of a check is not a representation of any kind and serves only to direct the drawee bank to pay the face amount to the bearer.

"Following the reasoning of Scarlata, a bad check is not a statement of any kind, much less a materially false statement about a debtor's financial condition. Nite Lite has therefore not satisfied the elements of dischargeability under section 523(a)(2)(B)."

"Plaintiff's complaint," Schmetterer noted, "pleaded 11 U.S.C. [sec]523 as a basis for relief, and did not specify reliance or actual fraud, false pretenses or misrepresentation under section 523(a)(2)(A). However, plaintiff did plead fraud under state law. Because plaintiff might argue for recovery under section 523(a)(2)(A) that provision will be discussed. It provides that a debtor will not be discharged from any debt obtained by false pretenses, false representations or actual fraud.

"To prove false pretenses and false representations, Nite Lite must prove by preponderance of evidence: (1) that the debtor made a false representation; (2) that the debtor possessed the requisite scienter; i.e. he actually intended to deceive Nite Lite; and (3) Nite Lite actually relied on the debtor's representations to its detriment.
"False pretenses has been defined as implied misrepresentations or conduct intended to create or foster a false impression. In contrast, a false representation is an express misrepresentation.

"The defendant's promises to hand over checks upon delivery from plaintiff and the issuance of those checks were not representations of any kind. Scarlata, 979 F.2d at 525; Microtech International Inc. v. Horwitz (In re Horwitz), 100 B.R. 395, 399-400 (Bankr. N.D. Ill. 1989) ('Debtor's issuance of checks to plaintiff, without more, does not constitute a false representation within the meaning of the Bankruptcy Code, section 523(a)(2)(A).').

"In order to establish a false representation, Nite Lite must prove that the debtor made an express representation that funds are available to satisfy the check. Here there was no evidence of any such oral or written representation by the debtor. Whenever [Nite Lite's representative] requested payment, the debtor replied that he expected funds to become available in the future. Plaintiff has failed to establish that the debtor made a false representation or false pretense before or at the times he offered the checks in return for deliveries.

"Actual fraud requires a plaintiff to prove that (1) a fraud occurred; (2) the debtor was guilty of intent to defraud; and (3) the fraud gave rise to the debt that is the subject of the discharge dispute. McClellan v. Cantrell, 217 F.3d 890, 893-894 (7th Cir. 2000).
"McClellan further explained that, 'Fraud is a generic term, which embraces all the multifarious means which human ingenuity can devise and which are resorted to by one individual to gain an advantage over another by false suggestions or by suppression of truth.'

"Since fraudulent intent rarely can be proven directly, it must be inferred from the surrounding circumstances. Proof of intent for purposes of section 523(a)(2)(A) must be measured by a debtor's subjective intention at the time of the transaction in which the debtor obtained the money, property or services. Therefore, subsequent acts of fraud or omission do not establish that the debtor had the requisite intent at the time to make any fraudulent representations. This is because the debtor may have had appropriate intention at the time of transaction, but failed to act because of a change in debtor's circumstances.

"Nite Lite contends that evidence of the debtor's fraudulent intent, other than the issued checks themselves, are the monthly statements of Beginnings' corporate bank account statements. These statements provide a general picture of account activity for the months in which Beginnings rented the equipment.

"Although the statements indicate that the balance for the corporate accounts at the end of the month was negative, the statements also show that the debtor made deposits into the accounts which were sufficient in absence of other draws on the account to pay the corporate checks in issue here. Moreover, the debtor was in business during this period receiving payments for services. This tends to negate fraudulent intent as to the checks given to plaintiff.

"Moreover, other corporate accounts existed. Therefore, the corporation's bank statements are not necessarily evidence of fraudulent intent, and plaintiff failed to establish actual fraud by a preponderance of evidence.

"Even though plaintiff proved that debtor violated the Illinois Deceptive Practices Act and established liability thereunder, it failed to show that this debt should be excepted from discharge under 11 U.S.C. [sec]523(a)(2)(B) or [sec]523(a)(2)(A)."

Back to Trial Notebook Main page