Last month's issue of the ABI Journal contained an article in the On the Edge column: "Unsecured Claims and Rule 3001: How Much 'Writing' or Supporting Information Is Required?,"¹ which argued that certain large institutional creditors (namely credit card lenders and debt buyers) need not comply with the long-established claims process under the Bankruptcy Rules. The article suggests that card issuers and debt buyers can avoid compliance with the "writing" and "itemization" requirements in Rule 3001 by ignoring their written cardmember agreements with debtors and instead submitting claims based on an "open-account" implied contract theory.

No matter how such claims are characterized, the unavoidable conclusion is that a credit card account is based on a writing, and there is no exception in Rule 3001 to the document-production requirement based on the theory of liability a claimant ultimately elects to pursue. In addition, the article ignores black-letter law holding that an "implied" contract theory cannot be used when there is an express contract between the parties. Far more troubling, though, the article fails to mention that creditors who rely on an "implied" contract theory may not also claim entitlement to pre-petition interest, late fees, over-the-limit fees and other charges that derive from the cardmember agreement and that compose a substantial portion of defaulted credit card debt.

Importance of Playing by the Rules

Bankruptcy Rule 3001 is not complicated or burdensome, and has operated for years without controversy. It requires that when a claim is based on a writing, an original or duplicate of the writing must be filed with the proof of claim.² Rule 3001(a) states that the proof of claim "shall conform substantially to the appropriate official form," and the instructions contained on the claim form (Official Form 10) state that the claimant must attach supporting documents.³ If the total amount claimed includes interest or other charges, Official Form 10 also requires that the claimant check the appropriate box and attach an itemized statement of all interest or additional charges.

Claimants who comply with these simple rules are rewarded under the claims process. A proof of claim executed and filed in accordance with the rules "shall constitute prima facie evidence of the validity and amount of the claim."⁴ In addition, a properly filed proof of claim is deemed allowed under §502(a) of the Code unless a party in interest objects.

The failure to attach writings to a proof of claim alone does not compel disallowance of the claim. But an unsubstantiated claim is facially defective and not entitled to the presumption of validity.⁵ Without this presumption, a facially defective claim provides evidence to "dispute its own validity" and shall be disallowed upon a general objection.⁶

The Rule 3001 compliance issue has become a "hot topic" primarily because of the rapid expansion in the market for sale of charged-off debt.⁷ Preferring not to deal directly with customer bankruptcies, many credit card companies and other creditors are increasingly selling their bankruptcy accounts to debt buyers for pennies on the dollar.⁸

This growth of the debt-buying industry has transformed the bankruptcy-claims process. Driven by the economics of the assignment process, debt buyers in particular have given short shrift to the Bankruptcy Rules. Rather than attaching cardmember agreements, promissory notes and account statements to proofs of claim, and providing itemized statements of interest and additional charges, debt buyers have been attaching to the claim form a one-page "Accounting Summary" that provides the debtor's name and account number and merely restates the balance owed listed in paragraph 4 on Official Form 10.⁹ Proofs of claim are filed in this manner without any actual review of loan documents or account statements because the supporting documents required by Rule 3001 are not provided to debt buyers.¹⁰

To obscure its obligation to comply with Rule 3001, one major debt buyer filing thousands of claims nationwide is presently not checking the box in paragraph 4 on Official Form 10 that confirms that the total amount claimed includes interest or other charges, even though this creditor is undeniably seeking interest and other charges, and admits this by adding language in another section of the claim form: "Claim may include contractual interest and/or late charges." Rather than directly state the basis for its claim, this same debt buyer is also no longer checking the most commonly used boxes in paragraph 1 on Official Form 10 for "money loaned," "service performed" or "goods sold," but is now checking the "other" box and inserting the description "credit card debt." Finally, this debt buyer has gone so far as to alter the instructions in paragraph 8 on Official Form 10 under "Supporting Documents" by eliminating the mandatory attachment requirement and adding a self-serving statement that copies of account statements are available upon request.

Some in the bankruptcy community may not find anything wrong with these practices. But the system is designed with the intent that trustees, debtors and their counsel, and other creditors will monitor the claims process for abuse. To this end, Rule 3001 strikes the proper balance between efficiency and fairness. It ensures that creditors may gain the presumption of validity with minimal effort and cost. At the same time, the process provides sufficient notice for interested parties to evaluate claims for potential objections.

When claims based on a writing are submitted without documentation and without itemization, the purpose of Rule 3001 is subverted as the parties charged with policing the claims process are denied necessary information.¹¹ In addition, affording prima facie validity to such claims can only "lead to abuses of the claim system."¹² Strict compliance with Rule 3001 is necessary to ensure that an appropriate "sifting process" occurs in the evaluation of claims, otherwise "unmeritorious or excessive claims might dilute the participation of the legitimate claimants."¹³

Credit Card Debt Is Based on a Writing

The On the Edge article contends that credit card issuers and debt buyers do not have to provide documentation if they pursue claims under an "open-account" rather than a "breach-of-contract" theory. This implies that an "open-account" claim is not based on a contract theory. On the contrary, open-account claims are typically "founded upon contract" and require proof of the "necessary elements of a contract action."¹⁴

More important, the theory upon which a creditor asserts a claim does not determine the need for compliance with Rule 3001's writing and itemization requirements. Rule 3001 does not state that writings must be attached only if the creditor's claim is based on a particular theory, nor does it provide an exception for "open-accounts" or any other theory of liability. Such an exception would of course swallow the rule, as many claimants could demand presumptive validity of claims filed without documentation simply by stating when challenged that the claim is based on a quasi-contract, quantum meruit or unjust enrichment theory. The plain language of Rule 3001 requires that if the claim is based on a writing, it must be filed with the proof of claim.

And there can be no question that a writing provides the contractual basis for credit card debt. In fact, the typical cardmember agreement is the controlling document that carefully delineates the rights and responsibilities between the card issuer and borrower. It specifies that use of the card is an affirmation of the contract terms contained in the written cardmember agreement (and its periodic amendments). For example, the court in Grasso v. First USA Bank¹⁵ held that the cardmember agreement constituted the binding written contract between the parties based on the following language (found with slight variations in most cardmember agreements):

This is the Agreement that establishes the terms of your Card-member Account ("Account") with [Lender]. Any use of your Card or Account confirms your acceptance of the terms and conditions of this Agreement.¹⁶

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The bankruptcy claims process should not be turned on its head to help facilitate the business model of those who purchase bankruptcy debt.

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The On the Edge article suggests that even though an express written contract exists, the credit card creditor may put the contract aside and instead "rely on a contract implied in law." However, creditors in most jurisdictions are not permitted to make such an election. An action on an "open account" may be based on an express or implied contract, but if an enforceable express contract exists between the parties on the relevant subject matter, the creditor cannot recover under an implied contract.¹⁷ This is quite appropriate, as an implied-in-law contract is a legal fiction that should not be imposed by a court to subvert the express intent of the parties.

Does an Implied Contract Claim Really Help Debt Buyers?

The On the Edge article fails to differentiate between the procedural requirements for obtaining a prima facie valid claim under the Bankruptcy Rules and the substantive elements of a cause of action under state law to prove up a claim if and when a presumption of validity is rebutted upon objection. Card lenders and debt buyers must first comply with Rule 3001 if they desire a claim to be presumptively valid. The open-account theory does not transform an unsubstantiated and undocumented claim into a presumptively valid claim. It merely provides the creditor with a different burden in proving the elements of its claim if an objection proceeds to hearing.

In addition, an open-account theory used on a credit card account may not achieve the result sought by debt buyers in lessening pleading or proof burdens. To plead a prima facie cause of action on open account in some jurisdictions, the plaintiff must file an affidavit verifying that the amount claimed is true and correct.¹⁸ Most debt buyers would be unable or reluctant to do this since they do not have supporting documentation, have no personal knowledge of the accounts in question or the selling creditor's accounting practices, and are not able to generate account reports in the ordinary course of business. In other jurisdictions, even an affidavit summarily affirming the balance due is not sufficient to obtain the burden-shifting associated with prima facie validity.¹⁹ For example, an Ohio court has held that a credit card lender must provide, even on an open account, documentation of the "charges, debits or credits" so as to permit the defendant and the court to calculate the balance owed.²⁰

If these concerns are not enough to make debt buyers reconsider use of open account and implied contract theories to avoid Rule 3001, perhaps they may wish to think carefully about the substantive legal effect of distancing themselves from the cardmember agreement. Without this writing, card lenders have no legal claim to the substantial interest charges, late fees, bad-check charges, over-the-limit fees and other costs included in virtually all credit card claims.²¹ Moreover, prejudgment interest and costs may not be recovered in many jurisdictions on claims based on quantum meruit and implied contract, absent a specific statutory entitlement, because of the unliquidated nature of such claims.²² Thus, a claim that includes interest filed by a credit card claimant who has disavowed the cardmember agreement is self-contradictory and should be disallowed.

Conclusion

The bankruptcy claims process should not be turned on its head to help facilitate the business model of those who purchase bankruptcy debt. As ordered by the court in the recent In re Henry case, card lenders and buyers of card debt should be required to attach to proofs of claim the following minimum documentation:

• Sufficient number of monthly account statements to show how total amount has been calculated; and
• Copy of the agreement authorizing the charges and fees included in the claim.²³

Use of an implied-contract theory should not be permitted as a means to circumvent the requirements of Rule 3001. Creditors who nevertheless proceed on this theory should clearly state on proofs of claim that an implied contract is the basis for the claim. They must also strip from the claim all interest and other fees that derive from any express contract. Finally, claims based on an implied contract should not be given prima facie validity and should be disallowed by bankruptcy courts if not asserted for a legitimate purpose.

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Footnotes

¹ Jurs, S. Andrew, ABI Journal, Vol. XXIII, No. 5, June 2004. Return to article

² Fed. R. Bankr. P. 3001(c). If the writing has been lost or destroyed, a statement describing the loss or destruction must be filed. Return to article

³ The instructions state: "You must attach to this proof of claim form copies of documents that show the debtor owes the debt claimed or, if the documents are too lengthy, a summary of those documents. If the documents are not available, you must attach an explanation of why they are not available." Return to article

⁴ Fed. R. Bankr. P. 3001(f). Return to article

⁵ See In re Consolidated Pioneer Mortgage, 178 B.R. 222 (B.A.P. 9th Cir. 1995); In re Chain, 255 B.R. 278 (Bankr. D. Conn. 2000); In re Lindell Drop Forge Co., 111 B.R. 137 (Bankr. W.D. Mich. 1990). Return to article

⁶ In re Circle J. Dairy, 112 B.R. 297, 300 (W.D. Ark. 1989). Return to article

⁷ In comments submitted to the Federal Trade Commission, the Debt Buyers Association reported that the amount of debt sold had grown from $1.3 billion in 1993 to $25 billion in 2000. See http://www.ftc.gov/os/comments/dncpapercomments/04/debtbuyersassociation.pdf. In 2003, out of the estimated $75 billion in total debt sold, $43 billion was charged-off credit card debt. See Waggoner, Darren, "Debt Buyers in the Public Eye," http://www.creditcollectionsworld.com/cgi-bin/readstory2.pl?story=20040601CCRU262.xml. Return to article

⁸ For example, one debt buyer purchased $8 billion of consumer bankruptcy debt last year, paying between a fraction of a cent to 3.5 cents on the dollar for chapter 7 debt and between 6 to 12 cents on the dollar for chapter 13 debt. See "Firm Finds Gold in Heaps of Debt," Puget Sound Business Journal (Feb. 4, 2004). Return to article

⁹ See In re Henry, slip. op., Bk. No. 03-25104 (Bankr. W.D. Wash. filed Apr. 14, 2004). Return to article

¹⁰ Debt buyers are given a computer disk from the selling creditor containing the account summary information used to generate the proof of claim. Documentation and other information may be provided only upon request. Return to article

¹¹ In re Trail Ends Lodge Inc., 51 B.R. 209 (D. Vt. 1985). Return to article

¹² In re Circle J. Dairy, 112 B.R. 297, 301 (W.D. Ark. 1989). Although hardly an empirical study, counsel for consumer debtors have reported that objections to debt buyers' unsubstantiated claims are often followed up with an amended claim at a lower amount in which questionable fees are removed. Return to article

¹³ Gardner v. State of N.J., 329 U.S. 565 (1947). Return to article

¹⁴ Asset Acceptance Corp. v. Proctor, 156 Ohio App.3d 60, 804 N.E.2d 975 (2004). In addition, the plaintiff must "prove that the contract involves a transaction that usually forms the subject of a book account." Id. See, also, 1 Am. Jur. 2d Accounts and Accounting, §8. Return to article

¹⁵ 713 A.2d 304 (Del. 1998). Return to article

¹⁶ 713 A.2d at 309. A credit card may not be issued except "in response to a request or application therefore." 15 U.S.C. §1642. The consumer becomes bound by the cardmember agreement by accepting the card issuer's solicitation, as reflected in the relevant language on the Grasso solicitation: "I understand that the use of any card issued in connection with this offer will constitute my acceptance of and will be subject to the terms and conditions of the [lender] member agreement that will be sent with the card.... I agree to be responsible for all charges incurred according to the cardmember agreement." 713 A.2d at 305. Return to article

¹⁷ 17 A. Am. Jur. 2d Contracts §13. See, e.g., Clark-Fitzpatrick v. Long Is., 516 N.E.2d 190 (N.Y. 1987). Return to article

¹⁸ See, e.g., Tex. R. Civ. P. 185. A Texas court has held that an open-account action under this procedural rule may not be brought on a credit card account because no goods or services are directly provided by the card lender, especially in regard to a cash advance, which is a "pure loan of money." Bird v. First Deposit Nat. Bank, 994 S.W.2d 280, 282 (Tex.App.-El Paso 1999, pet. denied). Return to article

¹⁹ It is hard to conceive how there can ever be prima facie validity applied to a claim based on an implied contract, since this theory requires that a court impose a contract based on equitable principles after hearing evidence at trial. Return to article

²⁰ Asset Acceptance Corp. v. Proctor, 156 Ohio App.3d 60, 64, 804 N.E.2d 975 (2004) (plaintiff must plead and prove an account that "begins with a balance, preferably at zero" and the "item or items, dated and identifiable by number or otherwise, representing charges, or debits and credits"). Return to article

²¹ In In re Blair, No. 02-1140 (Bankr. W.D.N.C. filed Feb. 10, 2004), the court ordered that a credit card issuer may no longer file proofs of claim without itemization. As findings of fact in the order, claims filed in 18 separate debtor cases are broken down as between principal and interest and fees. In most all of the claims, interest and fees comprise more than half of the total claim. For example, in Case No. 03-20018, the creditor filed a claim in the amount of $943.58, of which $199.63 is listed as principal and $743.95 is listed as interest and fees. In Case No. 03-100157, a claim of $1,011.97 is comprised of $273.33 in principal and $738.64 in interest and fees. Return to article

²² 22 Am. Jur. 2d Damages §468. See, e.g., Farmah v. Farmah, 348 N.C. 586, 500 S.E.2d 662 (N.C. 1998). Return to article

²³ See In re Henry, slip. op., Bk. No. 03-25104 (Bankr. W.D. Wash. Apr. 14, 2004). Return to article