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Supposed Rejection of Arbitration Clause is Rejected

A clever debtor was nevertheless unsuccessful in trying to use the Bankruptcy Code to escape a well-drafted arbitration clause contained in a credit card agreement.  In Mines v. Galaxy Int;l Purchasing, Mines filed a putative class action contending that Galaxy violated Section 1692g(a)(2) of the FDCPA by failing to identify the current owner of his debt in its collection letter.  Galaxy argued that Mines was subject to an arbitration agreement, and it moved to compel arbitration.  Mines made numerous sallies against the arbitration clause, including some arising out of his chapter 7 bankruptcy.  These included:

  • that arbitration was inconsistent with the Bankruptcy Code;
  • rhat he had rejected the agreement to arbitrate in his case; and
  • that he had discharged the arbitration clause.

The Court easily rejected the first and third arguments.  Arbitration of a claim under the FDCPA that arose prior to bankruptcy does not conflict with the Bankruptcy Code.  Also, a Chapter 7 case results in the discharge of debts, not the discharge of contract provisions.

However, the rejection argument required more analysis.  The bankruptcy Code allows a debtor to reject an executory contract. In order for a contract to be “executory” and thus be subject to rejection, there must be obligations due on both sides.  In this case, the Debtor had borrowed all the money allowed under his credit limit and the creditor had closed the account.  Thus, there were no future obligations owed by the creditor to the debtor, and the contract was not “executory.”

This analysis was sound, but there are two other reasons why Mines; rejection argument should have failed.  Mines filed a Chapter 7 case.  The Bankruptcy Code allows a Trustee to assume or reject a contract.  Therefore, the fact that the Debtor scheduled the contract on his list of executory contracts and indicated an intent to reject was of no legal significance.  Furthermore, while rejection excuses the bankruptcy estate from further performance, it does not obliterate the contract.

Well-drafted arbitration agreements will frequently be enforceable notwithstanding bankruptcy.  A contrary outcome in Mines would have given debtors and their lawyers free reign to undermine the Federal Arbitration Act by inserting rejections of arbitration agreements ib every bankruptcy filing.