Debtors Melanio and Ellen Valdellon filed for Chapter 13 bankruptcy to save their home from foreclosure. They completed all plan payments, and the bankruptcy court entered a discharge order in June 2020. However, the creditor, PHH Mortgage Corporation, allegedly misapplied the trustee's payments. Instead of using the funds to cure the pre-petition arrears and reinstate the loan, the creditor applied the payments to the arrears while continuing to report the loan as delinquent on ongoing monthly payments. This misapplication led the creditor to refuse future payments and declare the loan in default, despite the discharge order. The Debtors sued for violation of the discharge injunction under 11 U.S.C. § 524(i). The Bankruptcy Court dismissed the case, but the Bankruptcy Appellate Panel reversed, holding that the Debtors had stated a valid claim and that emotional distress damages were a potential remedy. The creditor appealed to the Ninth Circuit.
The Ninth Circuit reviewed the case de novo, focusing on whether the creditor willfully failed to credit payments and whether emotional distress damages are permissible. The court found that the creditor's misapplication of payments was a willful violation of the discharge injunction. The court rejected the creditor's argument that the loan remained in default because the plan was not completed on time; the court noted that the Bankruptcy Court had already entered a final discharge order, which precluded a finding of default at the time the violation occurred. The court held that the discharge order established that the plan was completed and the arrears were satisfied. Regarding damages, the court addressed the impact of the Supreme Court's decision in Taggart v. Lorenzen. While Taggart emphasized that courts must look to 'traditional standards in equity practice' for contempt, the Ninth Circuit concluded that this does not limit remedies to pecuniary losses. Citing Leman v. Krentler-Arnold Hinge Last Co., the court reasoned that equity aims to provide full compensation, which includes non-pecuniary damages like emotional distress. The court determined that Taggart did not abrogate the Ninth Circuit's prior reasoning in In re Marino, which allowed such damages. A partial dissent by Judge Nelson argued that Taggart's 'old soil' analysis bars non-pecuniary damages in discharge cases, but the majority maintained that the purpose of the fresh start principle and traditional contempt law supports the award of emotional distress damages.
This decision affirms that creditors who misapply Chapter 13 plan payments in a way that prevents a debtor from receiving a discharge are liable for violations of the discharge injunction. Crucially, it establishes that debtors may seek compensatory damages for emotional distress resulting from such violations. The case is remanded to the Bankruptcy Court to determine the specific facts and whether to award damages, and if so, in what amount. The ruling leaves open the question of whether punitive damages are available, as the court declined to address that issue since it was not raised in the appeal.
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