United States of America c/o SSA v. Johnson
MEMORANDUM Opinion and Order written by the Honorable Matthew F. Kennelly on 3/12/2018: For the foregoing reasons, the Court directs the Clerk to enter judgment affirming the decision of the bankruptcy court. Mailed notice. (pjg, )
IN THE UNITED STATES DISTRICT COURT
FOR THE NORTHERN DISTRICT OF ILLINOIS
JOHN L. JOHNSON,
UNITED STATES OF AMERICA,
JOHN L. JOHNSON,
Case No. 17 C 5224
MEMORANDUM OPINION AND ORDER
MATTHEW F. KENNELLY, District Judge:
To recover retirement benefits that John L. Johnson fraudulently obtained, the
Social Security Administration (SSA) began to withhold disability-related benefits he
was receiving from a separate program. After Johnson declared bankruptcy, the
government asked the bankruptcy court to confirm that it could continue to withhold
funds irrespective of the automatic stay under 11 U.S.C. § 362(a). The SSA argued that
it could continue to withhold Johnson's disability benefit payments despite the automatic
stay, because the withholding was a recoupment and therefore was not subject to the
stay. The bankruptcy court disagreed. The government has appealed.
The Social Security system comprises multiple programs, including one that
provides support for disabled individuals (SSI) and another that provides support for
retired individuals (RIB). For years, John L. Johnson received SSI benefits. He then
began to collect RIB benefits to which he was not entitled through a fraudulentlyobtained second Social Security number. Though the precise dates of his scheme are
not clear from the record, it appears that the Office of the Inspector General of the SSA
notified Johnson that it was aware he had wrongly collected RIB benefits for thirty-nine
months between October 2011 and December 2014.
The SSA assessed a penalty of $57,905 against Johnson: $18,905, representing
the value of the wrongfully obtained benefits, plus $39,000, representing thirty-nine
$1,000 fines, one for each month in which Johnson wrongfully received RIB benefits.
The maximum penalty the SSA could have levied was $195,000. D.E. 6, Ex. 2 at 88
(Notice of Monetary Penalty). 1 Pursuant to regulation, the government began
withholding all of Johnson's monthly SSI payments to recover the amount of the
overpayment and penalties assessed against him.
Johnson filed a Chapter 13 bankruptcy petition on June 20, 2016. In connection
with this filing, Johnson declared that he was 68 years old, worked approximately twelve
hours per week given his poor health, earned $8.25 per hour, and could not regularly
afford food. D.E. 6, Ex. 2 at 110 (Decl. of Debtor).
A bankruptcy petition triggers an automatic stay of most proceedings against the
debtor. 11 U.S.C. § 362(a), (b). The SSA filed a motion before the bankruptcy court in
which it asked the court to rule that the automatic stay did not apply to its decision to
Because some of the exhibits are made up of multiple inconsistently-numbered
documents, the Court uses the ECF page numbering for ease of reference.
withhold Johnson's SSI benefits, because it was engaged in a recoupment to which the
automatic stay does not apply. On December 1, 2016, the bankruptcy court held that
the automatic stay applied; the court found that the SSA's withholding did not constitute
a recoupment. The bankruptcy court adopted the reasoning of the Third Circuit in Lee
v. Schweiker, 739 F.2d 870 (3d Cir. 1984), in which that court concluded that the SSA
could not use the doctrine of recoupment to recover Social Security overpayments, as
recoupment is generally limited to parties linked by contract. Id. at 875-76.
In the same motion, the SSA argued in the alternative that, even if the automatic
stay applied, the court should lift the stay to allow the agency to continue to collect
Johnson's debt. The bankruptcy court did not rule on that aspect of the SSA's motion in
December 2016 when it found that the automatic stay applied. Rather, the court denied
the request to lift the stay about six months later, on June 29, 2017, the same date that
it confirmed Johnson's Chapter 13 plan. The bankruptcy court separately found that
Johnson's debt to the SSA was non-dischargeable. On July 13, 2017, the government
appealed the bankruptcy court's order finding that the automatic stay applies.
Under bankruptcy procedure, a notice of appeal must be filed "within 14 days
after entry of the judgment, order, or decree being appealed." Fed. R. Bankr. P.
8002(a)(1). Johnson contends that the government's appeal is not timely because it
waited until July 2017 to appeal the bankruptcy court's December 1, 2016 order. The
government argues that its appeal is timely, because the December 1 order was not
final. It contends that the bankruptcy court did not enter a final order until June 29,
2017, when it denied the government's request for relief from the stay. D.E. 1, Ex. 3 at
10 (bankruptcy court docket). Courts generally treat a denial of relief from the automatic
stay as a final, appealable decision. Matter of Wade, 991 F.2d 402, 406 (7th Cir. 1993).
The government filed a notice of appeal within fourteen days of that date, specifically on
July 13, 2017. D.E. 1, Ex. 3 at 11. But on appeal, the government challenges not the
denial of relief from the automatic stay, but the bankruptcy court's June 2017
determination that the stay applied. If the fourteen-day period under Rule 8002(a)(1) is
measured from the June 29, 2017 order, the government's appeal is timely. If it is
measured from the December 1, 2016 order, the appeal is not timely.
The Court concludes the appeal is timely because the December 1 order
applying the automatic stay was not a final, appealable order. A district court has
appellate jurisdiction only over appeals from a bankruptcy court's "final judgments,
orders, and decrees." 28 U.S.C. § 158(a)(1). To determine whether an order in
bankruptcy court is final, the Court analyzes whether the order "resolves one of the
individual controversies that might exist as a standalone suit outside of the bankruptcy."
Germeraad v. Powers, 826 F.3d 962, 965 (7th Cir. 2016). See also Bullard v. Blue Hills
Bank, 135 S. Ct. 1686, 1692 (2015) (describing standard for final, appealable orders of
The court's order finding that the automatic stay applied was not final because it
did not resolve the controversy between the parties. By way of analogy, the
confirmation of a bankruptcy plan is final, because it "fixes" the rights of the parties, but
the denial of confirmation of a proposed plan is not final, because the parties' rights
remain "unsettled." Id. at 1692-93. Just as an order denying confirmation allows for the
possibility of discharge, an order confirming that an automatic stay applies (like the one
issued by the bankruptcy court in June 2016) still allows for the possibility of relief from
the stay. Id. at 1693. After the June 2016 order, the government still had the chance of
avoiding the stay through its request for relief from the stay, a question on which the
bankruptcy court deferred ruling. The Court finds unpersuasive Johnson's reliance on
Vitalich v. Bank of New York Mellon, 569 B.R. 502, 506 (N.D. Cal. 2016). Vitalich dealt
with an appeal of an order terminating an automatic stay, which unlike in this case
resolved the status of the stay. Id.
In sum, the bankruptcy court's December 2016 decision that the automatic stay
applied was not a final and appealable decision. The decision became final on June 29,
2017, when the court ruled on the remainder of the government's motion and denied its
request to lift the stay, thereby fixing the rights implicated by the stay. Thus this appeal
is timely because the government filed its notice of appeal within fourteen days of June
Johnson contends that the government cannot challenge the terms of his plan,
because the plan, once confirmed, has issue-preclusive effect. The government
responds that the plan does not preclude its efforts to recoup because it is silent on the
question of recoupment.
Issue preclusion, sometimes called collateral estoppel, prevents a party from
relitigating an issue "that has been actually litigated and decided in the initial litigation."
Barnett v. Stern, 909 F.2d 973, 977 n.5 (7th Cir. 1990) (federal preclusion law applies to
a prior action brought in a bankruptcy court). Johnson contends that "the order
confirming the plan is binding, and SSA must accept payments through it." Appellee's
Resp. Br. at 6.
The confirmation of the plan does not preclude the government from seeking
review of the plan through appellate review. A creditor may challenge a confirmed
bankruptcy plan on appeal. Bullard, 135 S. Ct. at 1692; Matter of Chappell, 984 F.2d
775, 782 (7th Cir. 1993). Thus if what Johnson is contending is that the plan effectively
denies recoupment, then the government unquestionably would be entitled to appeal
It is conceivable that Johnson is contending that the government appealed from
the wrong ruling, that is, it did not appeal from the decision to confirm the plan but
instead appealed from the decision to apply the automatic stay. But if Johnson is right
about the preclusive effect of the plan vis-à-vis recoupment, that aspect of the plan is
predicated on the bankruptcy court's earlier order concluding that the stay does not
apply. Johnson has provided no reasonable basis to preclude the government's appeal
from the specific decision it challenges simply because that decision was effectively
incorporated into the court-approved plan.
The government argues that the bankruptcy court wrongly held that the
automatic stay precluded the SSA from recovering the RIB benefits Johnson improperly
collected by withholding his monthly SSI payments. "A bankruptcy court's findings of
fact are reviewed for clear error, and its conclusions of law are reviewed de novo." In re
Midway Airlines, Inc., 383 F.3d 663, 668 (7th Cir. 2004).
The government contends that it was engaged in recoupment, which it argues is
not subject to the automatic stay. "Recoupment is a defense whereby the creditor
claims that a debtor's claim is based on a transaction in which the creditor has a claim
against the debtor, and equity demands that the debtor's claim cannot be considered
without taking account of the creditor's claim." In re Chapman, 265 B.R. 796, 807
(Bankr. N.D. Ill. 2001) (citation omitted). This defense, which is not expressly
referenced in the bankruptcy code, arises from principles of equity. A significant body of
authority holds that recoupment does not violate the automatic stay. See id. (collecting
cases). Recoupment is related to but different from the concept of setoff, which also
arises when a creditor and debtor are both indebted to the other. Setoff, unlike
recoupment, does not require the debts arise from the same transaction, and it is not
exempted from the automatic stay. 11 U.S.C. § 362(a)(7).
In In re Holyoke Nursing Home, Inc., 372 F.3d 1 (1st Cir. 2004), the First Circuit
offered two hypotheticals to explain the difference between recoupment and setoff. The
court's first example involved A, who purchased from B a truck worth $1000 and then
learned he would have to spend $100 to bring the truck to working condition. If A sent B
a check for $900, the $100 difference would amount to a recoupment, "because the
reciprocal obligations arose out of the same transaction, viz., the purchase-sale of the
truck." Id. at 3-4. The court's second example involved the same purchase of a truck
by A from B. Before buying the truck from B, A had sold B a bicycle for $100, which B
had never paid. If, in this situation, A sent B $900, deducting the $100 that B owed for
the bicycle, A would be engaging in a setoff, "because the mutual obligations did not
arise out of the same transaction, but from different transactions, viz., the sale of the
bicycle and the sale of the truck." Id. Under the law, the automatic stay under 11
U.S.C. § 362 does not apply to a recoupment, but it does apply to a setoff. Id.
The issue before the Court is whether the bankruptcy court correctly held that the
government was not engaged in recoupment when it withheld Johnson's SSI benefits to
recover the debt he incurred in the RIB program. The Court first lays out the parties'
competing arguments, then reviews the relevant law, and last provides its own analysis.
The government argues that recoupment may occur "when a statutory directive
requires an agency to recover prior overpayment debts from current benefit payments . .
. ." Appellant's Reply Br. at 5. The government relies on the fact that the Social
Security Act and regulations require the SSA to withhold Johnson's SSI benefits to
recover the fraudulently-obtained RIB payments he unlawfully collected. See, e.g., 42
U.S.C. § 404(a); 20 C.F.R. § 404.502. The government cites as support decisions by
the First, Ninth, and D.C. Circuits, all of which concluded that withholdings of
overpayments required by the Medicare statutes functioned as recoupments. (The
Court reviews these cases in the next section.) The government also argues that the
debts between Johnson and the SSA are connected by a "logical relationship," the
standard it urges the Court to adopt to analyze whether the competing debts arise from
the same transaction.
Johnson asserts that recoupment generally occurs between contractually-related
parties, not those linked by a social welfare program like Social Security. Johnson asks
the Court to apply a narrower standard for recoupment than the "logical relationship"
standard that the government endorses. He contends that his receipt of SSI benefits is
not logically related to his requirement to repay RIB benefits. Johnson also argues that,
even were the Court to adopt the logical relationship standard, it does not change the
fact that recoupment is still restricted to parties linked by contract. He therefore argues
the bankruptcy court correctly held that recoupment did not apply, as there is no
contractual relationship between the parties and the debts are not part of the same
When a creditor and debtor are mutually indebted, the creditor may recoup his or
her debt from the debtor despite bankruptcy, but only if the debts arise from the same
transaction. Chapman, 265 B.R. at 807. When analyzing whether two debts arise from
the same transaction, the circuit courts are split between two approaches: the "single
integrated transaction" standard and the "logically related" standard. The Seventh
Circuit has not yet addressed the question.
The Third Circuit has asked whether the debts are part of a "single integrated
transaction." Lee v. Schweiker, 739 F.2d 870 (3d Cir. 1984); In re Univ. Med. Ctr., 973
F.2d 1065 (3d Cir. 1992). In Lee, the Third Circuit held that the SSA could not recoup
overpayments made to a Social Security beneficiary who was in bankruptcy. Lee, 739
F.2d at 872, 875. Lee distinguished contractual transactions, which can give rise to
recoupment, from statutory arrangements, such as the Social Security program, which
cannot. Id. at 876. Johnson relies upon Lee to argue that the SSA cannot engage in
recoupment, as there is no contractual relationship between him and the SSA. Yet in a
subsequent case, the Third Circuit held that recoupment was appropriate for two claims
arising out of a "single integrated transaction," even if there was no "express contractual
right" to a recoupment. Univ. Med. Ctr., 973 F.2d at 1080, 1081.
At issue in University Medical Center was the "Medicare account reconciliation
process." Id. at 1080. Through the account reconciliation process, Medicare recovers
overpayments for medical services made in previous years by, effectively, underpaying
in subsequent years. Id. at 1080-81. The court held that the overpayments issued in
1985 were not part of a single integrated transaction with the payments made in 1988
from which amounts were withheld. Id. at 1081. "The 1988 payments were
independently determinable and were due for services completely distinct from those
reimbursed through the 1985 programs." Id. Because the debts arose from different
transactions, the Third Circuit held, the government was not engaged in recoupment,
and thus its effort to recover overpayments from the bankrupt provider was barred by
the automatic stay. Id. Johnson urges the Court to join the Third Circuit in confining
recoupment to contractual arrangements and to evaluate whether debts arise from the
same transaction under the "single integrated transaction" standard.
By contrast, in cases similar to University Medical Center (though dissimilar from
Lee), the First, Ninth and D.C. Circuits have determined whether action constitutes
recoupment by asking whether the debts are "logically related." In re TLC Hosps., Inc.,
224 F.3d 1008 (9th Cir. 2000); Holyoke Nursing Home, 372 F.3d at 5; United States v.
Consumer Health Servs. of Am., Inc., 108 F.3d 390 (D.C. Cir 1997). In TLC Hospitals,
the Ninth Circuit analyzed the same Medicare payment program the Third Circuit
reviewed in University Medical Center. TLC Hosps., 224 F.3d at 1011. The court
concluded that previous overpayments were logically related to subsequent
underpayments as "part of a continuous balancing process between the parties." Id. at
1012. Because the government's debt to Medicare providers logically related to the
Medicare provider's debt to the government—the overpayments, a strategy to
accommodate uncertain medical costs, were purposefully reconciled through later
underpayments—the Ninth Circuit concluded that the government sought a recoupment,
so the automatic stay did not apply. Id.
In assessing whether debts similar to those in TLC Hospitals were logically
related, the D.C. and First Circuits considered whether there was a statutory program
that connects the debts as part of a single, ongoing transaction. Holyoke Nursing
Home, 372 F.3d at 5, Consumer Health Servs. of Am., 108 F.3d at 392. Consumer
Health dealt with the same Medicare payment program that was at issue in University
Medical Center. Id. The D.C. Circuit held that the government could recoup
overpayments from a provider during the course of its bankruptcy case via withholding
from its ongoing payments to the provider under the same program. Id. The court
relied on the fact that in the relevant statute, "Congress rather clearly indicated that it
wanted a provider's stream of services to be considered one transaction for purposes of
any claim the government would have against the provider." Id. See also Holyoke
Nursing Home, 372 F.3d at 5 ("Congress contemplated that the Medicare provider
agreements would constitute a single, ongoing, and integrated transaction"). The
government urges the Court to adopt the "logical relationship" standard to assess
whether the debts arise from the same transaction and to consider Social Security's
The Court need not choose between the Third Circuit's narrower "single
integrated transaction" standard for when a recoupment occurs for purposes of
bankruptcy and the broader "logical relationship" standard used by the D.C., First, and
Ninth Circuits. Even under the broader standard, the attempt to recover Johnson's SSA
assessment by withholding his SSI benefits does not constitute recoupment. The RIBrelated debt that Johnson owes is not logically related to the SSI benefits that he now
collects. On one side of the ledger is the debt Johnson owes to the government, which
consists of the value of the RIB payments Johnson wrongly collected and an additional
penalty. D.E. 6, Ex. 2 at 87 (Notice of Monetary Penalty). RIB payments provide
support for retired individuals and are funded by the "Federal Old-Age and Survivors
Insurance Trust Fund." See 42 U.S.C. § 401. The debt, which arises from Johnson's
fraudulent conduct, is a fixed amount determined based on his past misconduct. On the
other side of the ledger is the SSA's monthly obligation to provide SSI benefits. SSI
payments provide support for disabled individuals and are funded by Congressional
appropriation. See 42 U.S.C. § 1381. The debt, which arises from a monthly
calculation determined by statute, can vary as the SSA recalculates the value of the
benefit. See id. § 1382.
Johnson's debt to SSA—the fixed amount of wrongly obtained RIB benefits—is
not logically related to the SSA's monthly debt to Johnson—the monthly value of his SSI
benefits. A claim that is "entirely separate" from another claim is not logically related to
that claim. Owen Equip. & Erection Co. v. Kroger, 437 U.S. 365, 376 (1978)
(addressing ancillary jurisdiction). Because the debts are not logically related, the Court
concludes that they do not arise from the same transaction. Thus the bankruptcy court
correctly concluded that the automatic stay applied to the SSA's attempt to recover
Johnson's debt, even though the bankruptcy court applied different reasoning.
The Court's application of the "logical relationship" standard is consistent with the
previously discussed decisions by the Ninth, First, and D.C. Circuits concerning
recoupment of overpayments under the Medicare program. The system of varying
Medicare payments purposefully links previous overpayments to subsequent
underpayments in a complex effort to reimburse providers for the uncertain costs of
medical procedures. TLC Hosps., 224 F.3d at 1013-14. A logical relationship existed
between the government's underpayments to the Medicare providers and the Medicare
providers' debt to the government for previous overpayments under the same
government program. Id. No such relationship exists between Johnson's debt arising
from his fraudulently-received RIB benefits and the government's ongoing SSI
payments to Johnson. Social Security does not enter into arrangements with its
beneficiaries in which it anticipates underpaying them as a logical consequence of
earlier fraudulent overpayments. See id. at 1011-12 (by compensating Medicare
providers on an estimated basis, "underpayments and overpayments are an expected
and inevitable result of this payment system."). And on a more basic level, SSI and RIB
are two separate benefit programs, not a single program like the one at issue in the
cases on which the government relies.
The Court acknowledges that the government relies on a statute that authorizes
withholding of benefits in the situation referenced here. In the Court's view, the
existence of such a statute is insufficient, without more, to make two otherwise
unrelated debts part of the same transaction, even under the "logical relationship" test
for when recoupment is authorized in bankruptcy. Finding otherwise would permit the
government to recoup during bankruptcy plainly unrelated debts simply because
Congress permits it to do so outside of bankruptcy—for example, a hypothetical statute
authorizing recoupment of long-past student loan debts from current Social Security
retirement benefits. Whatever one might think of such a statutory scheme as a matter
of policy, the question here is not whether a statute allows recovery of overpaid benefits
outside of bankruptcy, but whether that same statute is, without more, sufficient to allow
recoupment during bankruptcy, irrespective of the automatic stay. The Court concludes
that it is not. To put it another way, the two debts here are not logically related, and the
statute does not make them so. In this regard, the Court respectfully disagrees with the
holding in In re Wernick, No. 16-cv-5313, 2016 WL 7212508 (N.D. Ill. Dec. 13, 2016), in
which the court held, relying on the statutory scheme, that withholding Social Security
benefits to recover earlier overpayments is recoupment.
The Court does not and need not address whether the government's recovery of
the overpaid RIB benefits would meet the standard for a compulsory counterclaim.
Although the government correctly identifies common law recoupment as the historical
predecessor of the compulsory counterclaim, it does not follow that recoupment in
bankruptcy should be assessed under the same standard as the one used to determine
whether a counterclaim is compulsory under the Federal Rules of Civil Procedure. In
assessing recoupment in the bankruptcy context, the "logical relationship" standard is
appropriately construed narrowly, because recoupment, which favors the creditor who
invokes the doctrine over other creditors, is an exception to the general policy in
bankruptcy "favoring the equal treatment of creditors." Chapman, 265 B.R. at 807. By
contrast, in determining whether a counterclaim is compulsory, the "logical relationship"
standard is construed liberally to "carry out the philosophy of [Federal Rule of Civil
Procedure] 13(a)." Burlington Northern R. Co. v. Strong, 907 F.2d 707, 711 (7th Cir.
For the foregoing reasons, the Court directs the Clerk to enter judgment affirming
the decision of the bankruptcy court.
MATTHEW F. KENNELLY
United States District Judge
Date: March 12, 2018
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