Section 523(a) Exceptions to Discharge, Previously Only Applicable to Individual Debtors, are Applicable to Subchapter V Small Business Debtors

Elizabeth Allhusen 

St. John's University School of Law 

American Bankruptcy Institute Law Review Staff


In Subchapter V of the Bankruptcy Code, section 1192(2) sets forth the applicable standard for small business debtors to obtain a discharge of its debts.[1] Specifically, a small business debtor under section 1192(2), is able to discharge all debts, except those specified in section 523(a).[2] Section 523(a) states that  “a discharge under section 727, 1141, 1192, 1228(a), 1228(b), or 1328(b) of this title does not discharge an individual debtor” from twenty-one specified kinds of debts.[3] In In re Cleary Packaging, LCC, the United States Court of Appeals for the Fourth Circuit found that “the debtors” referenced in section 1192(2) include both individual and corporate debtors. Thus, Subchapter V small business debtors are subject to the exceptions to discharge listed in section 523(a).[4]

In the instant case, the dispute over discharge exception arises out of a $4 million judgment that Cantwell-Cleary, a small business office products wholesaler, obtained against its former director, president, and CEO. Thereafter, Cleary Jr. started his own business, Cleary Packaging, LLC, in direct violation of noncompetition agreements.[5] In June 2021, Cantwell-Cleary obtained a judgment against Cleary Packaging for, among other things, intentional contract interference and tortious interference with business relations.[6]

As a result of the judgment, Cleary Packaging filed for bankruptcy relief under Subchapter V of the Bankruptcy Code, as a small business debtor.[7] Subsequently, Cantwell-Cleary filed an adversary proceeding seeking to except the judgment from the discharge, contending that under section 1192(2), small business debtors are not permitted to discharge “any debt . . . of the kind specified in section 523(a).”[8] The bankruptcy court dismissed Cantwell Cleary’s complaint. The bankruptcy court found that the section 523(a) discharge exceptions incorporated under section 1192(2) are only applicable to individual debtors, not corporate debtors.[9]

On direct appeal, the Court of Appeals for the Fourth Circuit reversed and remanded the bankruptcy court’s decision.[10]  The issue before the Fourth Circuit was whether the dischargeability exceptions, based on section 1192(2)’s reference to section 523(a), apply only to individual debtors or extend to both individual and corporate debtors.[11] The lack of clarity derives from the introductory language of section 523(a), which only refers to individual debtors and does not refer to any type of corporate debtor.[12]  The Fourth Circuit found that section 523(a) should be read in tandem with section 1192(2).  Reading the two statutes together, the Fourth Circuit reasoned that section 1192(2) must apply to both individual and corporate debtors.[13] The Court interpreted that the cross-reference from section 1192(2) to section 523(a) is intended to refer to the “kind of debt” and not the “kind of debtor.”[14] The Court explained that although the statutory construction yields a “discordant” or “clumsy” relationship between the two provisions, the cross-reference is employed as a congressional shorthand so as to not reiterate all twenty-one types of nondischargeable debts.[15]

 In addition to a strict textual analysis, the Fourth Circuit also based its conclusion on the adherence to fairness and equity principles.[16] The Fourth Circuit stated that the Bankruptcy Code should not reward corporate debtors with a loophole to circumvent liability incurred in circumstances of fraud or other injuries.[17] To do so would give small business debtors “greater priority over creditors than would ordinarily apply” in violation of section 523(a)’s public policy considerations.[18]

 Accordingly, the Fourth Circuit found that Cleary Packaging, as a Subchapter V corporate debtor, should be subject to the dischargeability exceptions listed in section 523(a).[19] The Fourth Circuit remanded the case to the bankruptcy court to determine whether Cleary Packaging’s actions caused “willful and malicious injury” to Cantwell-Cleary, such that they would not be dischargeable pursuant to section 523(a)(6) under the Bankruptcy Code.[20]

[1] 11 U.S.C. § 1192(2).

[2] Id.

[3] 11 U.S.C. § 523(a). 

[4] See Cantwell-Cleary Co. v. Cleary Packaging, LLC (In re Cleary Packaging, LCC), 36 F. 4th 509, 515 (4th Cir. 2022).

[5] See id.

[6] See id.

[7] See id. at 511.

[8] See id. at 511.

[9] See id. at 513; In re Cleary Packaging, LLC, 630 B.R. 466 (Bankr. D. Md. 2021).

[10] See In re Cleary Packaging, LLC, 36 F. 4th at 518. 

[11] See id. at 515.

[12] See id. (stating that “. . . § 523(a) provides that § 1192(2) along with five other discharge sections of the Bankruptcy Code ‘does not discharge an individual debtor’ from a list of 21 specified debts. . . .”). 

[13] See id.

[14] Id. at 515.

[15] See id. at 515.

[16] See id. at 513.

[17] See id. at 518.

[18] See id.

[19] See id.

[20] See id.