90 Second Lesson: What is the “In Pari Delicto” Defense?

Question

Harvey W. wrote, asking, “I’m concerned I will be sued by a bankruptcy trustee for some things I did when I was a director and officer of a company. A friend from my country club mentioned something about the in pari delicto defense. Can you explain what that is?”

Answer

In pari delicto is Latin for “in equal fault.” It’s essentially a particularized application of the more general equitable doctrine of unclean hands, and it bars a plaintiff who has been damaged from its own intentional wrongdoing from recovering those damages from “another party whose equal or lesser fault contributed to the loss.”¹

If a bankruptcy trustee (or a debtor in possession, post-confirmation estate, or liquidating trust (collectively, a “fiduciary”)²) sues you for something you did (or failed to do) while you were a director or officer of the company of which it is trustee, then you may have an in pari delicto defense.

Assuming that what you did was legally actionable, Harvey, the question of whether you can use the defense may depend on whether your former company (the debtor) benefited from your wrongful act. If so, that action may be imputed to the company, and an in pari delicto defense may bar the claim.

But if you acted adversely to the interests of the corporate debtor, an in pari delicto defense cannot be established. This would be the case if your bad act involved you (1) acting outside the scope of your employment; (2) breaching your fiduciary duties; or (3) acting in your own self-interest.

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[Editors’ Note: This 90 Second Lesson is based, in substantial part, on material reprinted from “Commercial Bankruptcy Litigation 2d” and “Strategic Alternatives For and Against Distressed Businesses,” with permission of Thomson Reuters. If you are a Westlaw subscriber, you can read more about this particular subject here. This is part of our irregular series in which we answer readers’ questions. If you have a question, submit it to [email protected], and we will try to answer it.

To learn more about this and related topics, you may want to attend the following webinars:

• The Intersection of Bankruptcy and…Labor/Employment Law
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1. Rosenbach v. Diversified Grp., 85 A.D.3d 569, 570 (N.Y. App. Div. 2011 1st Dep’t 2011).
2. The defense, however, does not apply to receivers, at least according to the Seventh Circuit. See Corporate Restructuring 2017: Why Some Attorneys See Rising Rates, but Most Don’t, footnote 15, citing Choles v. Lehmann, 56 F.3d 750, 754 (7th Cir. 1995).