Meet the Wilcoxes, Marvin and Pamela. Marvin and Pamela were investors in a Ponzi scheme operated by Marsha Schubert, who defrauded investors out of more than $9 million. Instead of investing participants’ money legitimately, Schubert would use the money to pay out “profits” to other participants. These “profits” were solely the product of the Ponzi scheme—there were no legitimate profitable investments. The Wilcoxes benefited from the scheme, in the form of purported profits, to the tune of $500,000. The Oklahoma Department of Securities brought a state court action against the Wilcoxes and others who had benefited from the Ponzi scheme, alleging that they were liable for unjust enrichment and arguing that they should be required to disgorge any profits they received from the scheme. The state court ruled in favor of the Department of Securities and ordered the Wilcoxes to repay those funds. After the state court ruled in favor of the Department of Securities, the Wilcoxes filed a Chapter 7 bankruptcy action seeking discharge of their debts— including the state court judgment requiring them to disgorge their profits from the Ponzi scheme.

Violations of securities laws, of which Schubert’s Ponzi scheme is just one example, often create losers: those who are harmed by a particular violation. But they can also create winners like the Wilcoxes: third parties who, through knowledge of the violation or through dumb luck—but not through any personal wrongdoing—benefit from the violation. These winners are usually not allowed to keep those ill-gotten gains and are required to disgorge their profits. In the meantime, though, their good fortune may turn bad—they could become insolvent and might file for bankruptcy.

In general, an individual debtor can discharge his debts in bankruptcy. But Congress has created several debt-specific exceptions to discharge. For instance, a debtor cannot discharge debts incurred through fraud or as a result of an intentional tort. With the passage of the Sarbanes-Oxley Act, Congress added another debt-specific discharge exception to the Bankruptcy Code: debts for the violation of federal or state securities laws cannot be discharged in bankruptcy. But the provision is ambiguous: Is the exception limited to debts incurred by securities violators directly, or does it also apply to the debts of third parties that indirectly benefit from a securities violation?

Several courts have dealt with this issue, appealing to statutory text, legislative intent, and general policy considerations. This Comment takes a different tack, starting from the premise that the right of discharge functions to allocate risk between debtors and creditors.

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