Ending the Nonsense: The In Pari Delicto Doctrine Has Nothing to Do with What is § 541 Property of the Bankruptcy Estate

Abstract

The recent wave of disregard for corporate fiduciary responsibilities has provided numerous opportunities for courts to consider whether the corporations bankrupted by the unlawful acts of their principals should be prohibited by the in pari delicto doctrine from pursuing liability claims against third parties who contributed to the harm. In an array of recent cases, courts have reluctantly and apologetically, yet uniformly, permitted third parties who contributed to the demise of these corporations to escape liability because they felt § 541 of the Bankruptcy Code (the "Code") left them no other choice.

Section 541 provides that the filing of a bankruptcy petition creates an estate. With certain exceptions not relevant here, the estate is comprised of "all legal or equitable interests of the debtor in property as of the commencement of the case." Ignoring dissenting cries for good sense and fidelity to bankruptcy policy, the majorities in these cases have felt bound by this language to treat the bankruptcy estate as though it were an individual seeking to recover under state law from someone with whom it had been in cahoots. In this Article, I argue that § 541 makes no such demand, and these courts have missed the point. The focus should be not on the state law rights of the debtor on the date of bankruptcy, but on the property of the estate on that date-a very different matter. Properly conceived, that property should include claims against third parties who have participated in harming the estate, and the in pari delicto defense should be irrelevant.

Keywords: In Pari Delicto Doctrine, Section 541 of the Bankruptcy Code, sole actor rule, Scholes v. Lehman, Shearson Lehman Hutton, Inc. v. Wagoner, Hirsch v. Arthur Andersen & Co