Wednesday, April 19, 2006

Chapter 13 Plans, Substantial Abuse and Related Issues Addressed

Much of the pre-effective date discussion about BAPCPA focused on the impact of the new "means-testing" provisions -- providing a mechanical formula for determining whether a Chapter 7 filing is an "abuse" subject to dismissal, and setting forth a minimum standard for disposable income which must be contributed to Chapter 13 plans. Yet there has thus far been minimal case law addressing their implementation. We highlighted one such decision a couple weeks ago in the post "Questions on Means Testing Answered," which discussed the Hardacre case, 2006 WL 541028. Now a couple more decisions can be added to the discussion.

One of the issues addressed in Hardacre was whether a debtor's "projected disposable income," which must be devoted to a Chapter 13 plan under Section 1325(b), is the same thing as the "disposable income" calculated based on the debtor's income for the six months prior to the petition date. The definition of "disposable income" used in 1325(b)(2) incorporates the term "current monthly income," which in turn is defined under Section 101(10A) based on the 6-month pre-filing period. The Hardacre court concluded that "projected disposable income" meant something different from "disposable income," and necessarily requires review of the debtor's current income at time of confirmation rather than the prepetition income.

In In re Jass, 2006 WL 871235 (Bankr. D. Utah 3/22/06), Judge Thurman agreed. In so doing, Judge Thurman provides a useful roadmap for statutory interpretation:

In interpreting a new statute, the Court must begin with the language of the statute itself, asking whether the language of the statute is plain. If so, the Court should generally enforce that language, giving each word its common usage. The Court's inquiry should end with the language of the statute unless 1) a literal application of the statutory language would be at odds with the manifest intent of the legislature; 2) a literal application of the statutory language would produce an absurd result; or 3) the statutory language is ambiguous.
Following this roadmap, Judge Thurman looked first to the language of the amended Code. He applied two assumptions: first, that the Court should give meaning to every word in a statute; and second, that the Court should presume that Congress acts "intentionally and purposefully when it includes particular language in one section of a statute but omits it in another." Applying these assumptions, Judge Thurman found Section 1325(b)(1)(B) to be clear: "projected disposable income" has to mean something different than "disposable income", because otherwise the word "projected" would have no meaning. The word "projected" is future-oriented and necessarily modifies the term "disposable income," requiring the court to consider both future and historical finances of the debtor.

Although Judge Thurman did not believe it necessary to go beyond the statutory language to reach this result, he nonetheless considered alternative methods of statutory interpretation. Where necessary to interpret a statute, Judge Thurman noted, courts can also consider a clear manifestation of congressional intent, the policy underlying a statute, and a preference against surplusage. None of these considerations would have altered the Jass holding. As for a clear expression of Congressional intent, Judge Thurman noted that the first place to look is in the Congressional record - however, the record for the BAPCPA amendments is "little more than a gloss of the statutory language of BAPCPA." Looking to what changes were in fact made, though, Judge Thurman noted that the concepts of "projected disposable income" and the term "disposable income" were not new to BAPCPA; rather, the only thing new was the specific definition of "disposable income". Under pre-BAPCPA practice, courts had previously held that "disposable income" was merely a starting point for determining "projected disposable income" for purposes of 1325. Since Congress did not remove the word "projected' from Section 1325(b)(1)(B), nor add it to the definition of "disposable income" in 1325(b)(2), the Court concluded that Congress did not intend to alter pre-BAPCPA law recognizing a difference between "disposable income" and "projected disposable income".

A contrary interpretation, he found, would be inconsistent with the overarching policy of the Bankruptcy Code to provide a debtor with a fresh start -- a policy which he found still existed, even if "the changes to the Code under the BAPCPA serve to benefit creditors." Moreover, to not interpret "projected disposable income" as something different from "disposable income" would render the word "projected" to be surplusage -- an interpretation which should be avoided.

Consistent with this interpretation, the Court found that the debtor's disposable income during the six months prior to filing was merely a "starting point" for determining the "projected disposable income" for purposes of 1325(b). Although the "disposable income" would be presumed to be accurate, the debtor could overcome that presumption by showing a substantial change in circumstances. To determine whether circumstances existed to justify consideration of "projected disposable income" other than the established "disposable income," the Jass court looks to 11 U.S.C. 707(b)(2)(B), which lays out the circumstances which can overcome a presumption of "abuse" for purposes of a Chapter 7 filing. On this point, the Jass decision puts some more meat on the bones of the Hardacre decision, and provides a specific mechanism for determining whether, as a matter of fact, the debtor's "projected disposable income" is indeed different from his or her "disposable income" for the six months prior to filing.

On another Chapter 13 issue, the court in In re Clay, 2006 WL 768812 (Bankr. D. Utah 3/15/06) (again Judge Thurman) held that the pre-BAPCPA practice of paying secured creditors "outside the plan" remains viable in the BAPCPA regime. Before BAPCPA, it was generally accepted that a debtor could choose to pay a secured creditor directly, rather than through a plan, so long as the creditor was paid pursuant to its contract terms. The Chapter 13 trustee in Clay attempted to argue that the BAPCPA amendments precluded that practice. Judge Thurman determined that he would only stray from the pre-BAPCPA practice, which was confirmed in published opinions, if the BAPCPA changes required a new rule of law. He found they did not.

The Trustee argued first that the provisions of 1325(a)(5) require that a plan provide for payments of secured creditors' claims through the plan in equal monthly amounts. The court rejected the notion that this requirement was intended to preclude the pre-BAPCPA practice of paying creditors directly, consistent with prior rulings that it only applied to secured claims "provided for by the plan" (language which is still used in the BAPCPA provisions).

He also rejected the argument that amendments to Section 1326(a)(1) evidenced an intent to overrule the practice. The amendments require a debtor to pay adequate protection payments to a creditor secured by personal property, and to provide the trustee with evidence of such payment. Indeed, the court found that the provision, which requires adequate protection payments to be made "directly to a creditor," evidenced a Congressional intent to allow debtors to continue making payments to secured creditors directly under the terms of their contract.

Other changes as well ratified the Court's conclusion. For instance, the Code had already provided that a residential mortgage could not be "stripped down," with courts universally recognizing in response that debtors could pay mortgage creditors directly. With this background, in BAPCPA, Congress implemented a similar restriction on strip-down of certain purchase money vehicle loans, with the apparent intention that the debtor could still elect to pay the loan directly according to its terms.

Accordingly, the court in Clay held that the practice of paying secured creditors directly, rather than through a Chapter 13 plan, remains alive and well -- much to the chagrin of Chapter 13 trustees who would rather make the disbursements themselves.

On a final note we'll mention a case which addresses a pre-BAPCPA "substantial abuse" issue, but looks to the BAPCPA amendments for guidance. In re Mars, 2006 WL 861663 (Bankr. W. D. Mich. 3/28/06). Mr. Mars was retired, and between social security and part-time earnings received $1,475 per month net of taxes. His wife was a 64-year old minister who earned$1,900 per month net of taxes and also was provided a parsonage, with a value of $400 per month. She was hoping to retire in a year and had chronic health problems. The debtors' monthly expenses were $3,384 per month, which probably underestimated unreimbursed business expenses. Although their monthly expenses were equal to their net cash earnings, the US Trustee moved to dismiss the case under 11 U.S.C. 707(b) alleging that the filing was a "substantial abuse" because the debtors, by doing some "modest belt tightening" and taking advantage of some Chapter 13 benefits, could supposedly pay a $5,800 dividend to unsecured creditors over 36 months.

In BAPCPA, Congress replaced the 707(b) "substantial abuse" provisions, which typically required an evaluation of the totality of the circumstances, with a more mechanical evaluation of whether "abuse" exists, creating a presumption of abuse if the debtor's monthly income exceeds certain aggregate allowed expenses. The Mars court found that BAPCPA was helpful in offering "clues" as to what Congress meant when it referred to "substantial abuse" in the predecessor version of the statute. In particular, it indicated that if a filing is presumed abusive under BAPCPA if income exceeds the allowed budget by more than $166 / month, then presumably "some multiple of that different must exist in order for the abuse to be deemed substantial" for purposes of the predecessor version.

In comparing the old and new versions of 707(b), the court made three observations: (1) under the old version (perhaps unlike the new), the court is not precluded from looking at factors other than the ability to confirm a Chapter 13 plan; (2) a debtor's income must be "significantly higher" than the statutory budget under the new regime to constitute a "substantial abuse" under the old version; and (3) it is appropriate to focus on the debtor's total income in excess of the expenses of a theoretical "similarly situated person in the debtor's community" (i.e., what the means test tries to capture) rather than on the particular spending choices the particular debtor has actually made. Such a focus appropriately "remove[s] the court from the private lives of those who appear before it," and permits a general determination of a fair division of future income between creditors and the debtor, instead of a subjective scrutiny of a debtor's personal choices as to how he spends his share of that allotment.

Applying this approach to the case before it, the court found that the circumstances did not present a case of "substantial abuse," and denied the US Trustee's motion to dismiss. Such flexibility may well not exist under the BAPCPA regime.

Section 366’s Requirements Have Not Changed for Some Debtors

Our prior post, “New Subsection 366(c) Protects Utility's Bargaining Power”, discussed the first case to interpret newly enacted subsection 366(c). The post discussed new barriers for chapter 11 debtors who seek to insure that utilities do not discontinue service following a bankruptcy filing under BAPCPA, on account of new requirements defining adequate assurance of payment and new procedures that take away the debtor’s bargaining power. A subsequent case interpreting the new subsection, In re Astle, 2006 WL 626184 (Bankr. D. Idaho 2006), makes clear that the more onerous forms of adequate assurance required under new section 366(c)(1)(A) apply only to chapter 11 cases. Thus, under Astle, pre-BAPCPA law will continue to govern the assurance of payment that a non-chapter 11 debtor must provide to secure continuity of utility service. Moreover, the decision arguably relieves non-chapter 11 debtors from the procedural uncertainties discussed in the prior posting, by implying that all of the changes to section 366 apply only to chapter 11 cases.

The Astles filed a “family farmer” bankruptcy under chapter 12 in November 2005 . Idaho Power, the Astles’ pre-petition power provider, refused to continue to provide power post-petition unless the Astles prepaid a deposit of $44,162, an amount equal to the Astles projected 2006 utility charges. Unwilling (and unable) to pay this large sum upfront, the Astles moved the bankruptcy court for a determination that a first priority lien in their 220 head dairy herd constituted adequate assurance of payment of the projected 2006 post-petition utility charges. Idaho Power objected to the Astels' motion, arguing that, as a provider of utility service, it was entitled to one of the forms of adequate assurance specified in new subsection 366(c)(1)(A), such as a cash deposit, a letter of credit, or a surety bond.

The court granted the Astles' motion, holding that section 366(c)(1)(A) does not apply to the Astles' case, which was filed under chapter 12. Rather, the court held that the onerous forms of adequate assurance found in new subsection apply only to chapter 11 cases. The first priority lien in the amount of $44,162 (in a herd valued at $390,000) constituted adequate assurance of payment under 366(b), the applicable section in this case, since, under pre-BAPCPA case law, adequate assurance of payment “does not require an absolute guarantee of payment. What is required is that the utility will be protected from unreasonable risk of nonpayment.”

To reach this conclusion, Judge Myers focused on the plain language of new subsection 366(c), rejecting legislative history as unnecessary because “Section 366(c)’s language and meaning are plain enough”. (This is probably true as to the section’s applicability to non-chapter 11 cases. But, as discussed in the prior posting “New Subsection 366(c) Protects Utility's Bargaining Power” the same cannot be said regarding its meaning in chapter 11 cases where the new subsection does apply). The court focused on the language of section 366(c)(1)(A), which states: “For purposes of this subsection, the term ‘assurance of payment’ means-- (i) a cash deposit; (ii) a letter of credit; (iii) a certificate of deposit; . . .”. (emphasis added). The court focused on Congress’ use of “this subsection”, rather than “this section”, and concluded that the language “is referring to subsection (c) alone.”

To determine what cases subsection (c) applies to, Judge Myers looked to section 366(c)(2), which “is itself limiting” in that it states: “Subject to paragraphs (3) and (4), with respect to a case filed under chapter 11, a utility referred to in subsection (a) may alter, refuse, or discontinue utility service, if during the 30-day period beginning on the date of the filing of the petition, the utility does not receive from the debtor or the trustee adequate assurance of payment for utility service that is satisfactory to the utility.” Thus, Judge Myers found that section 366(c)(1)(A) together with 366(c)(2) together indicate that the newly specified forms of adequate assurance of payment apply only to chapter 11 cases.

Judge Myers’ decision should give non-chapter 11 debtors substantial comfort in bargaining with utilities to continue service post-petition. Moreover, the decision has implications for newly added subsection 366(c)(4), which gives utilities a right to set off against a debtor’s pre-petition security deposit. This provision is also limiting, as it states: “with respect to a case subject to this subsection, a utility may recover or set off against a security deposit . . .”, (emphasis added), and thus may only apply to chapter 11 debtors as well.

Dude, Where's My Car? Most Courts Hold Purchase Money Vehicle Loans Still Secured Under BAPCPA

We previously reported in Another Take on Purchase Money Vehicle Loans on a decision from Judge Walker in the Southern District of Georgia holding that the effect of BAPCPA amendments to 11 U.S.C. 1325 is to render claims arising from purchase money loans made within 910 days of bankruptcy for vehicles acquired for the debtor's personal use to be entirely unsecured claims. In re Carver, 2006 WL 563321 (Bankr. S.D. Ga. 3/6/06). The amendment, which I refer to as 1325(a)(*) because Congress didn't see fit to give it a number, provides that "section 506 shall not apply" to 910-day claims. While some courts had held that this provision merely precluded the "strip-down" of such vehicle loans in a Chapter 13 plan into secured and unsecured claims under Section 506(a), see Strip Tease? No More Stripping Down Many Auto Loans, the Carver case instead held that if 506 did not apply, such claims must be deemed wholly unsecured (although they were still entered to special treatment).

Now a fellow judge of the Southern District of Georgia has ruled contrary to Carver, and held, like the majority of the courts that have addressed the issue, that 1325(a)(*) merely prohibits bifurcation, and effectively mandates that 910-day claims be treated as wholly secured. In re Brown, 2006 WL 775648 (Bankr. S.D. Ga. 3/27/06). In Brown, Judge Dalis addressed multiple cases which all presented the same fact pattern: the debtors had purchased vehicles for personal use within 910 days of filing bankruptcy; the lenders filed proofs of claim listing the debts as 100% secured; no objections were filed to the claims; the debtors' plans proposed to pay the claims without interest; and the lenders objected to confirmation, contending that they had to receive the present value of their claims under 11 U.S.C. 1325.

The Brown court rejected the argument (adopted by Judge Walker in Carver) that the language of 1325(a)(*) that "section 506 shall not apply" meant that the lenders' claims could not be treated as secured claims. To the contrary, Judge Dalis found that 506 is not intended to provide the definition of an allowed secured claim. Rather, other Code sections provide such definitions: Section 502 governs whether a claim is deemed "allowed" (including, such as here, where no objection is filed); and Section 101(37) establishes that a debt is "secured" by a lien (providing that the term "lien" means a charge against or interest in property "to secure payment of a debt"). Because the claims at issue were "allowed" under 502, and "secured" by recourse to underlying collateral, they were "allowed secured claims" -- which, under 1325(a)(5), must receive present value under a Chapter 13 plan.

Thus, like In re Johnson, 2006 WL 270231; In re Robinson, 2006 WL 349801; and In re Wright, 2006 WL 547824, mentioned in prior posts, Judge Dalis in Brown concludes that 910-day claims must be treated as fully secured claims entitled to present value, but are subject to modification with respect to the interest rate necessary to meet the present value requirement.

On a related note, a judge in Utah has recently held that a Chapter 13 plan must pay the full present value of a 910-day claim, even where the creditor does not object to lesser treatment. In re Montoya, 2006 WL 931562 (Bankr. D. Utah 4/10/06). In Montoya, the debtor's Chapter 13 plan proposed to bifurcate a 910-day claim a la 506(a)(1), notwithstanding the 1325(a)(*) amendment. The creditor, despite this new BAPCPA ammunition, did not file a proof of claim and did not object to the debtor's plan. Notwithstanding the lack of any objection, Judge Boulden held that the debtor's plan could not be confirmed.

Joining the majority, Judge Boulden agreed that the effect of 1325(a)(*) is to require that for purposes of 1325(a)(5), 910-day claims must be treated as fully secured. She also noted the general principle that if a plan is properly noticed and otherwise meets the requirements of 1325(a), "the Court may deem a secured creditor's silence to constitute acceptance of a plan and the plan may be confirmed." The reason for this "implied acceptance" is because Chapter 13, unlike Chapter 11, has no balloting mechanism to evidence a creditor's acceptance. Thus, the judicial doctrine of "implied acceptance" "fills the drafting gap in the Code."

Despite the principle of implied acceptance, however, Judge Boulden found that even in the absence of a creditor objection, a plan that proposed to bifurcate a 910-day claim could not be confirmed: "Creditors are entitled to rely on the few unambiguous provisions of the BAPCPA for their treatment. They should not be required to scour every Chapter 13 plan to ensure that provisions of the BAPCPA specifically inapplicable to them will not be inserted in a proposed plan in the debtor's hope that the improper secured creditor treatment will become res judicata."

She alternatively ruled that even if implied consent were applicable, the Plan could still not be confirmed because it did not satisfy 1325(a)(1)'s requirement that the plan "complies with the provisions of this chapter and with the other applicable provisions of this title." She ruled that "The offending provision presents no less a bar to confirmation than failing to pay priority claims in full, proposing a plan in bad faith, or proposing a plan that is not feasible."

This "You Snooze, You're Fine" principle is arguably inconsistent with the fact that satisfaction of the present value requirement of Section 1325(a)(5)(B) is only one of three distinct options for dealing with a secured claim in a Chapter 13 plan (subsections (A) - acceptance; (B) - present value; and (C) - surrender, are linked by a disjunctive "or"). The first option, in 1325(a)(5)(A), is that "the holder of such claim has accepted the plan." If the failure to object to a Chapter 13 plan is a deemed acceptance (and it generally is understood to be), then there seems to be no reason to even reach the present value requirement of 1325(a)(5)(B). A creditor is always free to take less than they might otherwise be entitled to under the Code, and if they acquiesce to such treatment then the Chapter 13 plan might not violate any provision of the Code.

Indeed it is possible that a secured lender might be financially motivated to accept such treatment, particularly if the alternative is that the debtor will surrender the vehicle -- which might leave the lender with no deficiency claim at all. See Purchase Money Vehicle Creditors Get No Claim Upon Surrender.

Tuesday, April 18, 2006

You Say Strike It, I Say Dismiss It - What Happens When an Ineligible Debtor Files

Certain elements of the new BAPCPA pre-filing credit counseling requirements are clear in their effect: generally, under 11 U.S.C. 109(h), a debtor who fails to obtain counseling before filing for bankruptcy will be deemed ineligible, with a limited extension available for debtors who certify that they face exigent circumstances and that they requested but were unable to obtain counseling from an approved agency within five days after requesting it. What is less clear, though, is what should happen if the debtor has not complied with these requirements. Does the case get dismissed? If so, and the debtor then obtains the required counseling and refiles, he or she may find that the bankruptcy relief they get may be limited -- in particular, the provisions for termination of the automatic stay after 30 days under 11 U.S.C. 362(c)(3) may be triggered by the prior dismissed case.

In order to address this concern, some courts have suggested that the initial filing ought to be stricken rather than dismissed, on the theory that a filing by an ineligible debtor is void ab initio and no case is commenced. This fixes the 362(c)(3) problem, but creates its own set of problems: if no case is commenced by such a filing, does that mean that no automatic stay is (or was) in effect as a result of the initial filing? If so, are creditors free to simply pursue their remedies regardless of a bankruptcy filing if the debtor has not completed the counseling necessary to satisfy the eligibility requirements?

While courts grapple with the question of striking or dismissing, there is little doubt that Congress has no intention of calling the whole thing off, so we will take a closer look at the cases on both sides of the debate. We first highlighted the issue in the Got Credit Counseling? post, where we mentioned the Hubbard, 333 B.R. 377, Valdez, 335 B.R. 801, and Rios, 336 B.R. 177 cases, all of which have effectively held that a filing by a debtor who has not completed the counseling requirements should be stricken, such that it will not count as a prior case in the event of a subsequent filing (the Valdez case actually "dismisses" rather than "strikes", but nonetheless makes clear that it will not be considered as a "case in which the individual was a debtor" for purposes of a later filing). Since those decisions were issued, several more courts have taken on the issue, with varying results.

The most rigorous argument for striking was made recently in In re Salazar, 2006 WL 827842 (Bankr. S.D. Tex. 3/29/06). In Salazar, Judge Isgur (not one to be shy about venturing opinions construing BAPCPA) presented the question in terms of whether the automatic stay should be regarded as having been invoked by an ineligible debtor's filing. He finds the answer to be clear:

"The legal question is: Did Congress intend to impose an eligibility requirement on putative debtors, but also intend for an ineligible person to receive the benefits of the automatic stay? The answer is: It is impossible to believe that Congress specifically identified people to exclude from the bankruptcy process, yet permitted those same people to benefit from bankruptcy's most powerful protection: the automatic stay."

Judge Isgur supports this conclusion with an analysis of three relevant statutes:
Section 362 says that "a petition filed under section 301, 302 or 303 ... operates as a stay ..."
Section 302 says that "a case under a chapter of this title is commenced by the filing with the bankruptcy court of a single petition under such chapter by an individual that may be a debtor under such chapter ..." (302 applies to joint cases, 301 uses similar language for an individual case)
Section 109 addresses "who may be a debtor," and specifies in 109(h) that "an individual may not be a debtor under this title unless such individual ..." has completed the pre-filing credit counseling.

From these three sections, Judge Isgur draws the following "syllogism": (1) individuals who have not received counseling and do not qualify for a waiver are ineligible to be debtors under 109; (2) only eligible debtors may file a petition under 302; therefore (3) without the filing of a petition under 302, the automatic stay provisions in 362 are not invoked.

*(Close readers may note a possible flaw in the syllogism, which will be discussed further below.)

Judge Isgur readily acknowledged that this interpretation may create uncertainty, since it raises questions of whether the filing of a petition really does trigger the protections of the automatic stay. Yet he noted several examples where the law tolerates uncertainty (i.e., adverse possession, unrecorded tax liens, preferences and fraudulent conveyances, and more on point, the multitude -- 28, with the BAPCPA amendments -- of exceptions to the automatic stay). Particularly in light of the "proliferation of exceptions" to the automatic stay, Judge Isgur found "no reason why certainty must trump policy." Since, under his reading, "Congress intended to make certain people ineligible to file bankruptcy," he found it implausible that Congress "specifically identified people to exclude from the bankruptcy process, yet permitted those same people to benefit from bankruptcy's most powerful protection: the automatic stay." (Judge Isgur's take on the legislative intent may be accurate but seems more cynical than many members of Congress might admit; others, such as in Rios, have more generously suggested that the intent was to ensure that potential debtors are advised of the alternatives to bankruptcy before filing).

Judge Isgur finds support for his interpretation in the amendments to Section 521 of the Code. The amendments include a provision, 521(i), that calls for the "automatic" dismissal of a case if the debtor fails to timely file certain papers. They also include a provision, 521(b), requiring the filing of a certificate confirming that the debtor obtained the required counseling. The failure to file the counseling certificate is not listed as one of the things that triggers an automatic dismissal, however - an omission which Judge Isgur finds is explainable only because Congress intended that a filing without completing the counseling requirement could not even validly commence a case subject to dismissal.

The Salazar decision rejects the argument that a contrary intention is demonstrated by the amendment to 362(b)(21) of the Code. 362(b)(21) creates an exception to the automatic stay for the foreclosure of real estate "if the debtor is ineligible under section 109(g) to be a debtor". [109(g) creates a 180 day prejudice period if a prior case was dismissed for willful failure to abide by orders or to properly prosecute the bankruptcy case, or if the debtor voluntarily dismissed after a stay relief motion was filed]. The debtor in Salazar argued that such an exception would be unnecessary, and mere surplusage, if the filing by an ineligible debtor did not trigger the stay in the first place. Noting a split of authority in the decided cases on whether a filing in violation of 109(g) is void ab initio, Judge Isgur concluded instead that 362(b)(21) was adopted "with the apparent intent to legislatively overrule courts that were misapplying the statute as written." Even if it were treated as surplusage, though, the court held that it should not give meaning to surplusage if doing so would be demonstrably at odds with the legislative intent, citing Lamie v. U.S. Trustee, 540 U.S. 526 (2004).

Accordingly, Judge Isgur in Salazar struck the debtors' petition and determined that no automatic stay arose as a result of the filing of their petition. Although he found the difference between "striking" and "dismissing" to be merely semantic, he did note that "There is a difference between a bankruptcy case and a bankruptcypetition." The consequences of dismissing a "case" under a provision such as 11 U.S.C. 707, are different from the consequences of dismissing a "petition" under 11 U.S.C. 109. "Dismissal of a petition amounts to dismissal of a 'case' prior to the case's commencement" such that no stay is ever in effect (but with the additional effect that a petition dismissed under 109 is not a "case pending within the preceding 1-year period" for purposes of 362(c)(3) and (4)). The distinction between a "case" and a "petition" will be discussed more below too.

A similar result was reached in the case of In re Calderon, 2006 WL 871477 (Bankr. S.D. Fla. 3/8/06) (the first published opinion from our former partner at KT&T, now newly appointed Judge Laurel Isicoff), where Judge Isicoff held that an individual who filed without completing the counseling requirements was not eligible to be a debtor, therefore no case was commenced, and in a subsequent case the filing would not constitute a "case of the debtor" for purposes of the 362(c)(3) stay termination provisions.

The Salazar opinion was certified for direct appeal to the Fifth Circuit Court of Appeals under the new provisions for direct certification under 28 U.S.C. 158(d)(2), and an appeal was filed on April 12.

Meanwhile, the opposite conclusion has been reached in several other decisions, the most recent and thorough of which may be In re Seaman, Case No. 05-40032 (Bankr. E.D.N.Y. 3/30/06) (no Westlaw cite available yet). In Seaman, Judge Strong noted that 109(h) is silent as to the appropriate resolution for cases where the debtor is ineligible due to noncompliance with the counseling requirements. In the absence of specific statutory guidance, she looked to decisions construing analogous provisions of the Bankruptcy Code.

Indeed, before the BAPCPA amendments, a debtor could be ineligible under 109 for a variety of reasons other than failure to complete the counseling requirements. One example is where a debtor files a Chapter 13 petition but is not eligible for relief under that chapter under 109(e), either because they do not have regular income or because they have debts that exceed the statutory limits. Judge Strong notes that courts have "with apparent unanimity" concluded that when a Chapter 13 petition is filed by a debtor ineligible for relief under that provision, a case is nonetheless commenced which can either be voluntarily converted or dismissed. Likewise, courts have dismissed, rather than stricken, cases filed by petitioners who are ineligible because of their corporate or entity status. Judge Strong also notes that courts have dismissed, rather than stricken, cases filed by petitioners who are ineligible under 109(g) (although she fails to note the conflicting opinions on the issue).

Judge Strong then turned to the several cases that had evaluated whether to strike, or dismiss, a petition filed without complying with the pre-filing counseling requirements, including Hubbard, Rios, and Valdez, as well as In re Ross, 338 B.R. 134 (Bankr. N.D. Ga. 2/8/06), In re Tomco, 2006 WL 459347 (Bankr. W.D. Pa. 2/27/06), and an unpublished opinion in In re Taylor, Case No. 05-35381DM (Bankr. N.D. Cal. 3/9/06). While those first three opinions held that striking was the appropriate disposition, Ross, Tomco and Taylor concluded to the contrary that dismissal rather than striking was warranted.

In Ross, Judge Bonapfel noted that the BAPCPA amendments did not provide any different consequence for 109(h) ineligibility than for any other type of ineligibility, and that there was no indication of an intent to establish a new rule. As a result, 109(h) ineligibility should be treated like any other type of ineligibility. Like Judge Strong, Judge Bonapfel also noted that courts uniformly recognize that a Chapter 13 filing by an ineligible debtor still commences a case. While he noted the split of authority on 109(g) ineligibility, he recognized that courts had formulated a variety of ways to deal with serial filing abuse, such as through annulment of the stay, dismissals with prejudice, and in rem stay relief orders. As a result, he found that 109(g) was not jurisdictional such that a filing by a debtor who was not eligible under its terms still commences a case that is not a "nullity" or void ab initio. Unlike Judge Isgur, Judge Bonapfel found this interpretation to be ratified by the 362(b)(21) amendment creating an exception to the stay for real estate foreclosures against debtors ineligible under 109(g) -- if such a filing were void ab initio, there would be no reason for the amendment.

Since there was no evidence that Congress intended to treat 109(h) ineligibility any differently than any other form of ineligibility, it follows that a filing by a debtor ineligible under 109(h) is effective and is not a nullity or void ab initio. While recognizing that this may implicate the 362(c)(3) and (4) provisions in a later case, Judge Bonapfel suggests that treating an ineligible filing as void ab initio might result in a "pyrrhic victory" in the meantime if a creditor completes a repossession or foreclosure because no stay is in effect.

The Tomco case also concludes that dismissal rather than striking is appropriate. Judge Deller initially noted the "profound" effects of the new pre-filing counseling requirement and the practical difficulties they present. Most debtors, he notes, are not meeting with lawyers well in advance of a potential filing to figure out their options -- instead, they are usually trying to negotiate with their lenders or landlords, trying to refinance their debtors, or busily trying to supplement their income. They typically will have little funds with which to hire counsel because their income is being used for family expenses. Then, when efforts to resolve their financial problems fail, "the honest debtor is caught by surprise by the nuances of the credit counseling briefing provisions of the 2005 Act and finds that bankruptcy relief may be beyond his or her reach." Nonetheless, Judge Deller rejected the earlier decisions, such as Rios, which struck petitions filed by debtors who had not fulfilled the counseling requirements, which he believed were rationalizing their result on equitable grounds in light of the concern that the filing would create a "strike" for purposes of a subsequent filing and the 362 "not-so-automatic stay" termination provisions.

Although Congress did not amend Section 707 of the Code (dealing with "cause" for dismissal) to include ineligibility, he found found that such a failure was not indicative of any particular intention on the part of Congress; rather, there is no need to specify that ineligibility would be "cause" for dismissal (particularly since 707 is drafted as a non-exclusive list). He also rejected the notion that the language of Section 301 (that a case is commenced by the filing of a petition "by an entity that may be a debtor" under such chapter) suggests that if the debtor is ineligible, no case is "commenced." Rather, Judge Deller was of the view that the word "may" has an "expansive connotation" which as used in ordinary common parlance simply means "might" or expresses a "possibility". As such, any individual "had the possibility of being a debtor", but has to obtain the credit counseling "to be certain." (This explanation is not entirely convincing, especially since Section 109 is in fact called "Who may be a debtor." It doesn't seem to be too much of a leap to conclude that the "may be a debtor" as used in Section 301 is the same "may be a debtor" as defined in Section 109).

The Tomco court rejected the notion that ineligibility impacts the determination of whether a case is "commenced," expressing concern with the possibility that if such a filing is deemed void ab initio, there would be no stay whatsoever in effect. He was unwilling to impose the risk on the debtor or its creditors that a creditor might take unilateral action after a petition was filed in the absence of a court order or express statutory provision providing otherwise. Like Judge Bonapfel in Ross, Judge Deller also found that the amendment to 362(b)(21) confirmed that Congress did not regard filings by ineligible debtors as void ab initio. Since Congress "is presumed to know the state of existing law when it enacts legislation," the creation of an additional stay exception evidences an understanding that a bankruptcy filing in violation of 109 nonetheless commences a case and results in an automatic stay.

The Taylor case likewise concluded that dismissal rather than striking was the appropriate result "under ordinary principles of statutory construction," and suggested that the potential consequences in a subsequent filing might not be "as draconian as they first appear" because a dismissal under 109(h) would not appear to establish a presumed lack of good faith for purposes of 362(c)(3) and (4) (under which the stay can be preserved upon a showing of good faith).

After digesting all these decisions, Judge Strong in Seaman concluded that dismissal rather than striking was appropriate: (1) eligibility is not jurisdictional -- until a court determines that a petitioner is ineligible, a case is commenced by the filing of a petition and cannot be a nullity; (2) dismissal for ineligibility under 109(h) comports with other sections of the Bankruptcy Code and BAPCPA as a whole -- other ineligibility provisions are regarded as warranting dismissal rather than striking, and a conclusion that no case is commenced would make the amendment to 362(b)(21) superfluous; (3) the legislative history suggests that Congress intended to discourage abuse of the bankruptcy system and in particular to address the serial filing problem by requiring pre-filing counseling -- striking, however, could result in abuse of the automatic stay by permitting a debtor to get a temporary stay until the time a petition is stricken, again and again; (4) striking might prevent a debtor from realizing the benefits of bankruptcy through a subsequent filing if no stay goes into effect and a creditor takes action before the new filing; meanwhile, even if the petition is dismissed, a good faith debtor could still get full bankruptcy protection by moving to reinstate the stay in a subsequent filing.

So what's the right answer? My two cents -- remember that "syllogism" in Salazar which led to the conclusion that a filing of a petition by an ineligible debtor does not trigger the automatic stay? Here's where I think the flaw is. Section 362 says that "a petition filed under section 301, 302 or 303" operates as a stay. But 301, 302 and 303 do not actually say that a petition may only be filed by an eligible debtor; rather, what they is that "a case is commenced" by the filing of a petition by an eligible debtor. Thus, the filing of a petition by an ineligible debtor can trigger the automatic stay under 362 (which refers to the filing of a petition, not to the commencement of a case), but that petition will not commence a "case" unless the petitioner is eligible. So the stay would be in effect temporarily pending determination of eligibility, but if the debtor is determined not to be eligible, then the petition would be dismissed (or stricken, if you prefer), and would not be regarded as a "previous case" for purposes of 362(c)(3) or (4). To the extent this presents an opportunity for abuse by debtors seeking to take advantage of the temporary stay, courts could remedy such abuse in the same ways they have dealt with serial filings before -- through retroactive annulment of the stay, dismissals with prejudice, in rem stay relief orders, and so on. Would it work?

Conviction Not Required to Prompt Homestead Exemption Cap for "Criminal Act"

In prior posts, we have discussed the new BAPCPA provisions imposing a dollar cap on the homestead exemption which can be claimed by debtors. In a matter of first impression, however, Judge William C. Hillman in In re Larson, 2006 WL 891532 (Bankr.D.Mass. 4/5/06) was faced with the issue of whether the $125,000 exemption cap provided by new Section 522(q)(1)(B)(iv), which is applied to debts arising from certain "criminal acts" causing death or serious physical injury within the prior 5 years, required a conviction or a certain level of culpability for such act.

In Larson, the debtor was involved in a tragic automobile accident in September 2002, wherein the passenger in the vehicle she hit did not survive. The debtor was charged with motor vehicular homicide by negligent operation under Massachusetts state law. Judge Hillman noted that the state court transcript (which was attached to the objection to exemption and in which the debtor admitted sufficient facts regarding the act in state court) revealed that the state court judge found facts sufficient to find the debtor guilty. The state court judge continued the matter without a finding for one year during which time the debtor was placed on supervised probation. In addition, the driver of the other automobile obtained a $1,000,000 civil judgment against the debtor.

When the debtor filed her voluntary Chapter 7 petition on October 11, 2005, she listed on Schedule A a single family residence with a market value of $544,000 subject to a secured claim of approximately $87,000. On Schedule C, the debtor claimed an exemption of $500,000 for the residence under Massachusetts law. The Chapter 7 trustee and the driver of the other automobile filed objections to the claimed homestead exemption and argued that the $500,000 claimed exemption must be reduced to $125,000 pursuant to new Section 522(q)(1)(B)(iv) since the automobile accident debt arose from a "criminal act" that caused death to another individual within the preceding 5 years. (Note: unlike most of the BAPCPA provisions which became effective in October 2005, 522(q) became applicable immediately upon the effective date of BAPCPA back in April 2005) .

The debtor responded that neither the Bankruptcy Code nor BAPCPA define "criminal act," and that Congress must have meant to include conduct involving something greater than negligence. The debtor pointed to legislative history that included an earlier version of the statute providing that the language in Section 522(q)(1) should be construed liberally to encompass misconduct that rises above mere negligence. In fact, the debtor opined that Congress may have even intended that the "criminal act" requirement could be met only by means of a conviction, which did not occur in this case. In addition, the debtor argued that, under Massachusetts law, her charge involving negligence was lesser than reckless conduct. Finally, the debtor argued that the homestead cap should not apply because her claimed homestead was necessary for her support under new Section 522(q)(2).

As a threshold matter, Judge Hillman noted that the statutory list found in 522(q)(1)(B)(iv) reducing the homestead cap was disjunctive, and that he only needed to find that such debt arose from a "criminal act," not needing to find that the act was also an intentional tort and willful/reckless conduct. Judge Hillman surveyed various case law including Massachusetts law which recognized that the phrase "criminal act" does not require a conviction or a certain level of culpability. Most pointedly, Judge Hillman found that Congress did not specifically require a conviction for purposes of Section 522(q)(1)(B)(iv), but did so in Section 522(q)(1)(A), which provides that a homestead exemption be reduced to $125,000 if the court determines after notice and a hearing that the debtor has been "convicted" of a felony which demonstrates that the bankruptcy filing was an abuse. Judge Hillman followed the long-standing principle of statutory construction that the inclusion of particular language in one section but the omission of such language in another is intentional and done with purpose. Based on the above-described findings, Judge Hillman found the term "criminal act" clear and did not lead to an absurd result and, as such, he did not need to look to legislative history.

Since the record evidence indisputable established that the debtor had committed the act at issue, Judge Hillman found that the cap applied and scheduled a further evidentiary hearing where the debtor may present evidence as to whether the difference between her claimed and capped homestead is necessary for her support pursuant to Section 522(q)(2).

Monday, April 10, 2006

Credit Counseling Not "Adequate" For Debtors Who Can't Understand It

We've previously noted here that at least one point of agreement in interpreting the BAPCPA amendments is that judges have little flexibility in considering filings by debtors who have not satisfied the pre-filing credit counseling requirement of 11 U.S.C. 109(h). See "Got Credit Counseling?" A recent decision by Judge A. Jay Cristol, In re Petit-Louis, 338 B.R. 132 (Bankr.S.D.Fla. 3/1/06), however, holds that the requirement cannot be imposed on a debtor who has very limited English-speaking ability, where no approved counseling agency had counselors who spoke the debtor's language.

In Petit-Louis, Judge Cristol waived the pre-petition credit counseling requirement because, notwithstanding considerable effort, the Creole-speaking Mr. Petit-Louis was unable to find a single credit counseling agency in the Southern District of Florida which could provide counseling to him in Creole. Judge Cristol concluded that Mr. Petit-Louis’s inability to obtain counseling in Creole, combined with the fact that he could not afford to hire a translator, created a barrier to the bankruptcy court that Congress did not intend to create when it mandated that debtors complete a credit counseling course before filing. (The debtor had obtained a waiver of the filing fee under the new in forma pauperis filing provisions authorized by the new Act).

Prior to filing, Mr. Petit-Louis contacted every single certified credit counseling agency in the Southern District of Florida to determine whether the agency could provide credit counseling in Creole. Not one agency could do so. For this reason, Mr. Petit-Louis filed his voluntary petition for chapter 7 and attached a letter explaining his efforts to obtain credit counseling and requesting a waiver of the requirement based on unavailability in his district.

In response to Mr. Petit-Louis’s waiver request, the U.S. Trustee argued that the Office of the U.S. Trustee had not decertified the Southern District of Florida pursuant to its authority under Section 109(h)(2), and that she did not have authority to waive the requirement for individual debtors such as Mr. Petit-Louis. Judge Cristol looked to Section 109(h)(2), which provides that the pre-filing credit counseling requirement shall not apply to debtors who reside in districts in which the United States trustee determines that there are not agencies “reasonably able to provide adequate services” to debtors. He stated that this provision “places the obligation for providing the credit counseling in a meaningful way upon the Office of the United States Trustee”.

The U.S. Trustee contended that her office has provided meaningful access to potential debtors because there are ten approved credit counseling agencies in the Southern District of Florida. To the extent the agencies do not provide counseling in Creole, the debtor can access any of the agencies by hiring an interpreter. Judge Cristol rejected the U.S. Trustee’s position that Mr. Petit-Louis should be required to pay for a translator for the credit counseling course. He stated that a debtor who cannot pay the filing fee “obviously… could not pay for a certified interpreter and Congress has provided in forma pauperis for such Debtors”. The court had found (without objection from the U.S. Trustee) that Mr. Petit-Louis, who had a total family income of less than $17,000 per year to support a family of six, qualified for the filing fee waiver. Judge Cristol found that Congress did not intend for Mr. Petit-Louis to be precluded access to the bankruptcy court simply because he could not afford to hire a translator.

The U.S. Trustee has filed a nineteen page motion for reconsideration of the waiver. The motion for reconsideration is based on the U.S. Trustee’s (mis)understanding that Judge Cristol waived the counseling requirement pursuant to Section 109(h)(3)’s exigent circumstances waiver. The U.S. Trustee contends that the court lacks authority to permanently waive the credit counseling requirement under Section 109(h)(3) and that Mr. Petit-Louis failed to file a “Certification”, as required by the provision, anyway. The Certification requirements are discussed in the previous post "Got Credit Counseling?" The U.S. Trustee's motion for reconsideration remains pending.

(In the interest of full disclosure, I should advise that my firm colleagues Lisa Keyfetz and John Kozyak are providing pro bono assistance to Mr. Petit-Louis and Legal Services of Greater Miami in responding to the U.S. Trustee's motion for reconsideration).

Thursday, April 06, 2006

Questions on Means Testing Answered

Among the most talked-about provisions of the new Bankruptcy Reform Act were the new "means-testing" provisions, intended to curb perceived abuses of the bankruptcy process. In one of the first published decisions on the complicated new provisions, In re Hardacre, __ B.R. __, 2006 WL 541028 (Bankr. N.D. Tex. 3/6/06) provides a helpful explanation of the impact and implementation of means-testing; clarifies what "projected disposable income" means, as that phrase is used in the amendments; and holds that debtors may not "double-dip" by taking multiple deductions from disposable income for mortgage and car expenses.

Judge Nelms explains first how means-testing is used to determine whether a Chapter 7 filing is a "substantial abuse" calling for dismissal under 11 U.S.C. 707(b). Where the statute previously failed to define "substantial abuse" and courts would typically consider the totality of the circumstances, that discretion has now been replaced with a mathematical formula. The debtor's current monthly income is calculated, then reduced by certain living expenses, and the difference is multiplied by 60. If the "income available for creditors," as Judge Nelms calls it, is greater than $10,000, abuse is presumed. If it is less than $6,000, abuse is not presumed. If it is between $6,000 and $10,000, abuse is presumed only if the income exceeds 25% of the debtor's non-priority unsecured claims. The presumption may be overcome if the debtor demonstrates "special circumstances." If a presumption arises, that court may dismiss the case, or if the debtor consents, convert it to Chapter 11 or 13.

Hardacre was filed as a Chapter 13 so substantial abuse was not an issue. But the means-testing provisions still were relevant because 11 U.S.C. 1325, which governs confirmation of a Chapter 13 plan, requires that if there is an objection to the plan, the debtor must commit all the debtor's "projected disposable income" during the "applicable commitment period" to payment of unsecured claims. If the debtor's annual income exceeds the median family income (as reported by the Census Bureau) for similar sized households in her state, then the "applicable commitment period" for the Chapter 13 plan is at least five years, unless creditors can be paid in full in a shorter time (if annual income does not exceed the median income, then the "applicable commitment period" is 3 years). Moreover, if the debtor's annual income exceeds the median income, then the permitted expenses considered for calculating "disposable income" are determining using the means test.

Judge Nelms noted that the phrase "projected disposable income" is subject to conflicting interpretations. 1325(b)(2) defines "disposable income" as "current monthly income" less certain expenses. But "current monthly income" is defined in 11 U.S.C. 101(10A) as the debtor's average income for the 6 months prior to the petition date. This can lead to anomalous results, to say the least: a debtor anticipating a significant increase in future income is incentivised to file quickly (so that the income which must be committed to the plan is based on her prior rather than future earnings), while a debtor who experiences a substantial loss of income around the time of filing might be unable to confirm a plan because she cannot devote the amount of "projected disposable income" necessary based on her prepetition income level.

After taking a close look at the statute, Judge Nelms concluded that "projected disposable income" for purposes of 1325(b) is based on the debtor's post-petition income rather than the prior six months. First, the use of "projected" before "disposable income" suggests Congress intended something other than "disposable income," under the traditional presumption that Congress acts intentionally when it uses different language in different sections of a statute. Second, the statute refers to projected disposable income "to be received" in the applicable commitment period -- language which would be superfluous (perhaps nonsensical) if Congress was referring to the debtor's pre-petition income. Finally, 1325(b)(1) requires the court to determine whether the debtor is committing all of her projected disposable income "as of the effective date of the plan." Again, the language indicates that the court should consider current income, rather than historical income.

Having resolved that riddle, Judge Nelms turned to the issue of allowed expenses. To determine the expenses which may be deducted from gross income to get to "projected disposable income," 707(b)(2)(A)(ii) permits the debtor to deduct standard expense allowances developed by the IRS. (The IRS uses them to evaluate a taxpayer's ability to pay delinquent taxes). There are "National Standards" that the IRS has determined to be reasonable expenditures for food, housekeeping supplies, apparel and services, personal care products and services, and miscellaneous expenses. There are also "Local Standards" for transportation and housing costs. Transportation costs include both ownership costs (allowances for lease or purchase expenses for up to two cars) and operating costs (amounts deemed necessary to operate up to two cars). Then, just to make it a little more complicated, the debtor is also allowed under 707(b)(2)(A)(iii) a deduction for average monthly payments on secured debts.

The debtor in Hardacre contended that she was entitled (indeed, specifically directed by the statutory language) to deduct for the standard housing and auto ownership allowances under (ii), and deduct for her actual mortgage and auto loan payments under (iii), to determine her disposable income. The debtor pointed out that 707(b)(2)(A) says the debtor's current monthly income is to be reduced by the amounts determined "under clauses (ii), (iii), and (iv) [payments on priority claims]," and that the use of the conjunctive "and" clearly indicated that debtors should deduct expenses under each of the clauses, even if there was some overlap.

The Chapter 13 trustee, in response, contended that such "double-dipping" was not allowed. The trustee pointed to 707(b)(2)(A)(ii)(I), which says that "Notwithstanding any other provision of this clause, any monthly expenses of the debtor shall not include any payment for debts." Judge Nelms found the meaning of this statement "anything but plain," but set out to figure out what it meant in the context of the rest of the statute, noting that "Statutory construction is a holistic endeavor."

Judge Nelms starts with the premise that the plain meaning of statutory language will control unless it is demonstrably at odds with the drafters' intentions; if a statute is ambiguous, then, Judge Nelms infers that the court clearly may reject a construction that is inconsistent with the legislative intent. Accordingly, he found it appropriate to recognize that the Congressional intent in passing the means test was to ensure that debtors who can repay some portion of their unsecured debts be required to do so.

With this guidance, Judge Nelms noted that the phrase "shall not include" as used in the above provision was open to two readings: either it could mean that in calculating the monthly expense deductions under the Local Standards for housing and auto ownership, the court should disregard any payments for debts (the debtor's position); or it could mean that the expense allowances under the Local Standards should be reduced by payments for debts (the trustee's position).

The court found the debtor's interpretation untenable because it would render the sentence above completely superfluous. The Local Standards are not based on the actual debt payments made by the debtor but are based solely on the IRS standards. If the language were construed as the debtor hoped, it would merely be instructing the court to disregard actual expenses that are not included in the Local Standards in any event. Such an interpretation would violate the rule that every word in a statute is presumed to have meaning.

The Hardacre court then turned to the alternative interpretation: that the expense allowances under the Local Standards should be reduced by payments for debts. This opened up yet another question -- which debts? Judge Nelms determined that it could not possibly mean all debt payments, because the very purpose of the means test is to determine the amount of money available to pay unsecured creditors in a plan. Since the Local Standards were issued by the IRS, Judge Nelms looked to the types of "debt payments" that could reduce allowances under the IRS standards. The way the IRS applies its standards, the taxpayer is allowed to deduct either the amount in the Local Standards or "the amount actually spent." From this, Judge Nelms concluded that the "payments for debts" in the language at issue was intended to refer to secured debts related to mortgage or car ownership expenses (as provided in (iii)).

We're not done with the questions, though: if the Local Standards deductions must be reduced by payments on home or car secured debts, does the debtor get the greater or the lesser of these? If the Local Standards exceed the actual payments, is the debtor limited to the actual payments? And if the actual payments are over the Local Standards, do the Standards impose a cap? Judge Nelms concluded that the debtor had to be entitled to take the greater of the two. The only way to get to a contrary result, he found, was if the Local Standards allowance under (ii) could be reduced to a negative number by debt payments and then subtracted from the secured debt allowance under (iii) -- something which he did not believe was contemplated by the statute.

The Hardacre decision makes a valiant attempt to provide some much-needed clarity to the means-testing provisions as they relate to Chapter 13 plan confirmation.

Tuesday, April 04, 2006

Purchase Money Vehicle Creditors Get No Claim Upon Surrender

In prior posts, we've discussed the new BAPCPA provisions that provide special treatment for secured loans made within 910 days of bankruptcy to acquire a vehicle for the debtor's personal use ("910-day claims"). See Strip Tease? No More Stripping Down Many Auto Loans; Another Take on Purchase Money Vehicle Loans. With one exception (In re Carver,2006 WL 563321), most courts have held that the amendment to 11 U.S.C. 1325(a) requires that such claims be treated as secured claims for the full amount of the claim. In re Johnson, 2006 WL 270231; In re Robinson, 2006 WL 349801; In re Wright, 2006 WL 547824.

None of those cases answer the question that is posed in In re Ezell, 338 B.R. 330 (Bankr. E.D. Tenn. 3/13/06): what is the effect of the new 1325(a)(*) provision when the debtor elects to surrender the vehicle instead of retain it? As discussed earlier, 1325(a)(*) states that 11 U.S.C. 506 (which provides, among other things, for the bifurcation of an undersecured claim into a secured portion for the value of the collateral and an unsecured portion for the deficiency) does not apply to 910-day claims. This is clearly an important question: the litigants in Ezell were joined by an amicus group of several lender intervenors, as well as the National Association of Consumer Bankruptcy Attorneys. The Ezell court held that if such a claim must be regarded as fully secured because 506 does not apply, then the claim has to be deemed fully satisfied when the collateral is surrendered.

Judge Stair in Ezell first discusses what happened to vehicle loans under pre-BAPCPA law. Generally, the debtor had three options: (1) the debtor and creditor could agree on terms; (2) the debtor could surrender the vehicle under 1325(a)(5)(C), in which case the creditor would sell the vehicle collateral, apply the sale proceeds to the debt, and have an unsecured claim for the deficiency; or (3) the debtor could retain the collateral under 1325(a)(5)(B)and "strip down" the lender's claim by providing in his Chapter 13 plan for a secured claim for the collateral value as of the petition date, and an unsecured claim for the deficiency. Thus, pre-BAPCPA, the 506(a) bifurcation provision "came into play" both when the debtor retained the vehicle and crammed down the plan, and when the debtor surrendered the vehicle. The Ezell court was unconvinced by the creditor's argument that 506(a) had no application when collateral was surrendered under pre-BAPCPA 1325(a)(5)(C).

Then, Judge Stair notes that the new BAPCPA provision (which we've referred to as 1325(a)(*), and he refers to as the "Anti-Cramdown Paragraph") precludes the use of 506 to reduce or bifurcate a 910-day claim into secured and unsecured components. As a result, unless the claim is subject to reduction for other reasons, the creditor's allowed secured claim must be fixed at the full amount of the debt. Thus if the debtor seeks to retain the vehicle, the plan must provide for the full amount of the claim to be paid as a secured claim over the life of the plan (as detailed in prior posts, this is consistent with the holding of several other cases addressing the amendment). For purposes of surrender as well, Judge Stair held that the claim must also be presumed to be fully secured, with the result being that there can be no deficiency claim:

It only stands to reason that the same analysis is true when applied to surrender under Revised s. 1325(a)95)(C) -- the creditor is fully secured, and surrender therefore satisfies the creditor's allowed claim in full.
Although Judge Stair did not find the language particularly ambiguous, he acknowledged that "because of its construction, Revised s. 1325(a) is, at best, confusing." He turned to the legislative history to evaluate his interpretation. Although it provided no "particular insight" helpful to the court, he also did not find any evidence that his interpretation was inconsistent with congressional intent. The legislative history only confirms that Congress intended to prevent bifurcation of 910-day claims, but provides no further clarification. Accordingly, "The court has no choice but to interpret the Anti-Cramdown Paragraph as written, i.e., that it applies to both Revised s. 1325(a)(5)(B) [retention of collateral] and (C) [surrender of collateral]." He noted:

To apply the Anti-Cramdown Paragraph only to Revised s. 1325(a)(5)(B), but not to Revised s. 1325(a)(5)(C), would allow a secured creditor, upon surrender of its collateral, to bifurcate its claim into different secured and unsecured components, contrary to its unambiguous mandate that Revised s. 506 "shall not apply to a claim described in [Revised s. 1325(a)(5)]."

Accordingly, a 910-day creditor whose collateral is surrendered cannot pursue a deficiency claim, regardless of the amount actually realized from the liquidation of the collateral: "Because application of s. 506(a) is entirely removed from the picture, there can be no deficiency balance, either secured or unsecured, and surrender satisfies an allowed claim in full."

It's hard to imagine that the credit lobby actually intended for the changes to1325(a) to preclude deficiency claims on surrendered vehicles, but it appears to be a logical -- even fair! -- reading of the statute. As Judge Stair notes, "A creditor whose allowed secured claim falls within the terms of the Anti-Cramdown Paragraph is no more or less disadvantaged by the debtor's surrender of its collateral ... than is the debtor who, if he or she chooses to retain the collateral, must ... pay the full amount of the debt in satisfaction of the creditor's allowed secured claim." Chalk this one up to the Law of Unintended Consequences?

Monday, April 03, 2006

Another Take on Purchase Money Vehicle Loans

Earlier, we discussed here several recent decisions on BAPCPA amendments to 11 U.S.C. 1325(a) dealing with the treatment of purchase-money auto loans made within 910 days of bankruptcy. See Strip Tease? No More Stripping Down Many Auto Loans. In the Johnson case, 2006 WL 270231, a debtor had unsuccessfully argued that such loans must be treated under the new provision as special unsecured loans that must get paid the liquidation value of the vehicle collateral. That argument didn't fly in the Johnson case, but a variation on it has been adopted in In re Carver, __ B.R. __, 2006 WL 563321 (Bankr. S.D. Ga. 3/6/06).

As described in the prior post, the two earlier cases which have addressed the provision conclude that for loans made on vehicles acquired for personal use within 910 days of bankruptcy ("910-day claims"), such loans cannot be "stripped down" to the value of the collateral and treated as secured claims for the collateral value and unsecured loans for the balance. Rather, the debtor is required to pay the full value of the claim, with flexibility only to modify the term and interest rate under a Chapter 13 plan.

Carver, like the previous cases, notes many of the confusing and apparently sloppy drafting issues presented by 1325(a): it has no alphanumeric designation and "merely dangles at the end of s. 1325(a)," and it omits the word "period" when it refers to "the 910-day [period] preceding the date of the filing of the petition..." Unlike the other cases, though, Judge Walker in Carver finds that the provision of 1325(a)(*) (as I refer to the un-numbered addition) providing that "section 506 shall not apply" to 910-day claims means that they are not secured claims.

According to Carver, without application of s. 506(a), a claim "is merely an allowed claim; it cannot be a secured claim." As a result, 1325(a)(*) "must be read to provide that for purposes of 1325(a)(5), a 910 claim is not a secured claim and therefore not subject to the treatment provided in that paragraph." [1325(a)(5) specifies the treatment that must be afforded to secured claims under a Chapter 13 plan]. Judge Walker rejected the creditor's contention that a claim secured by collateral is "inherently a secured claim," finding such "conversational terminology" useless in the context of the Bankruptcy Code where the allocation of money depends on the classification of a claim according to "precise terminology." In reaching his conclusion, Judge Walker reviews several years' worth of the history of the amendment, including predecessor versions which would have given such claims fully secured status (by requiring that the collateral be valued as the balance due on the debt). Since such provisions ultimately were rejected, Judge Walker concludes that such treatment was not intended by the legislation as it was ultimately passed.

Of course, the question remains of how such claims are to be treated. Judge Walker notes that by creating a special provision solely for 910-day claims, "Congress has demonstrated an intent to treat them differently than other unsecured or secured claims, but it has not provided a basis for treating them preferentially." Since he finds no basis for treating such claims as secured claims, "The Court is left with a claim that is not to be treated as unsecured (pro rata distribution) and not to be treated as secured (paid in full with interest)." Carver attempts to resolve this conundrum by seeking "to craft a rule consistent with the Court's understanding of congressional intent on this issue."

Using Section 1111(b) as a guide, Judge Walker determines that the rule should be that in a Chapter 13 plan, "a 910 claim must receive the greater of (1) the full amount of the claim without interest; or (2) the amount the creditor would receive if the claim were bifurcated and crammed down (i.e., secured portion paid with interest and unsecured portion paid pro rata)." In the case before the court, the claim was for $15,000 and the collateral was valued by the debtor at $14,500, who proposed to pay the creditor its claim in full without interest (i.e., $15,000). Since the creditor would likely receive greater than $15,000 if its claim were bifurcated ($14,500 plus interest over the life of the plan would presumably exceed $15,000, without even considering any distribution on the $500 unsecured claim), the court denied confirmation of the debtor's plan.

The rule in Carver is an interesting one, but it's unclear where it comes from. It has no clear basis in any of the language of the Code, either that which existed prior to amendment or in the BAPCPA amendments itself. The confusion, it seems, is in presuming that 506(a) provides the sole source for defining what a secured claim is, rather than treating 506(a) as merely a means for bifurcating an under-secured claim into a secured and unsecured portion. This presumption seems inconsistent with the general principle, fairly consistently recognized and applied, that liens and other secured interests are determined according to non-bankruptcy law and generally pass through bankruptcy unaffected. See, e.g., Dewsnup v. Timm, 502 U.S. 410 (1992).

Meanwhile, a couple other principles identified in the last post have been re-confirmed by additional decisions which, unlike Carver, hold that a 910-day claim must be treated as a secured claim:

In In re Jackson, __ B.R. __, 2006 WL 563317 (Bankr. M.D. Ga. 3/6/06), the court, like in In re Horn, __ B.R. __, 2006 WL 416314 (Bankr. M.D. Ala. 2/23/06), confirmed that the 910-day provisions do not apply where the vehicle has not been purchased for the debtor's personal use. In Jackson, Judge Walker rejected the creditor's argument that a sales contract which stated that the vehicle was purchased for "personal, family or household use" precluded the debtor from contesting that the vehicle was "acquired for the personal use of the debtor" (the language used in 11 U.S.C. 1325(a)(*)). In fact, the debtor had acquired the vehicle at issue to replace his wife's previous car, the wife was always the primary driver, and the debtor had primary use of another vehicle.

The court noted that while Congress has used the phrase "personal, family or household purpose" in other sections of the Bankruptcy Code, it elected not to use that language in 1325(a)(*), instead choosing the more narrow "personal use of the debtor." Under traditional principles of statutory interpretation, "it is generally presumed that Congress acts intentionally and purposefully when it includes particular language in one section of a statute but omits it in another." Accordingly, the Jackson court concluded that 1325(a)(*) only applied to vehicles acquired for the use of the debtor and not to vehicles acquired for family or household use by someone other than the debtor. As a result, the lender did not have the protections of 1325(a)(*).

In In re Wright, __ B.R. __, 2006 WL 547824 (Bankr. M.D. Ala. 2/28/06), the court confirmed, like in In re Robinson, __ B.R. __, 2006 WL 349801, that the BAPCPA amendments do not abrogate Till v. SCS Credit Corp., and thus do not preclude a debtor from altering the interest rate to be applied to such a claim.

While some courts are ending up on the same page, the Carver decision demonstrates that the language of 1325(a)(*) will vex courts and litigants as they struggle to give effect to both the language Congress has chosen and the intent it has expressed. The confusion in applying 1325(a)(*) when the debtor elects to surrender the vehicle will be discussed in the next post.

Sunday, April 02, 2006

BAPCPA Business Changes Not Easy to Decipher Either

There's been much talk about the difficulties of interpreting some of the language used by Congress in amending many bankruptcy consumer provisions. The BAPCPA changes to business bankruptcies have not yet generated as much discussion. But as issues are coming up in the business cases filed after BAPCPA's effective date, courts and litigators are finding that - lo and behold! - some of the business provisions are equally abstruse (if not obtuse).

In In re TCR of Denver, LLC, 2006 WL 626156 (Bankr. D. Col. 2/17/06), Judge Brooks took a close look at the amendments to 11 U.S.C. 1112 dealing with conversion or dismissal. It wasn't pretty. (He was aided by amusing briefs written in verse by creditor's and debtor's counsel, which you can read here: Creditor's Brief; Debtor's Brief). In amending 1112(b), Congress intended to, and did, a couple things: (1) instead of providing that a court "may" dismiss or convert if cause is demonstrated, it provided that the court "shall" dismiss or convert "absent unusual circumstances"; and (2) it changed, and added to, the list of factors that are included in the definition of "cause" for conversion or dismissal in 1112(b)(4). Congress also did one more thing it perhaps didn't intend to do: where the predecessor version of the statute used the disjunctive "or" in the final item of the list of what is included as being "cause," the amended version uses the conjunctive "and". As a result, Judge Brooks was required to consider whether amended 1112(b) requires a movant seeking conversion or dismissal to demonstrate all of the elements listed in 1112(b)(4) to establish cause to convert or dismiss. He noted:

This is a case where the language of BAPCPA passed by Congress tends to defy logic and clash with common sense. This is an example of a specific revision to the Bankruptcy Code, if followed by the Court and applied as Congress seems to intend - i.e., by way of strict construction - would result in an absurd decision and totally unworkable precedent. These drafting problems have the potential of bringing the bankruptcy system to a halt while debtors, creditors, and the courts try to figure out just exactly what Congress intended. This Court would add that the largely overlooked changes to the bankruptcy provisions related to non-consumer cases, such as this case presently before the Court, may sometimes equal the poor crafting of the consumer provisions. Moreover, serious and consequential questions may be looming on the horizon because of inartful drafting.
Although the "common-sense" reading of amended 1112(b), and the reading dictated by traditional rules of construction, would result in an interpretation that required a "perfect storm" of all of the listed elements in order to establish cause, Judge Brooks concluded that such an interpretation could not be adopted. The "Plain Meaning Rule" did not apply here because it would lead to an absurd result: if all of the elements were required, virtually no case would ever qualify for conversion or dismissal. For instance, one of the listed elements is the failure to pay a domestic support obligation; since no corporate debtor would have such an obligation, no corporate debtor would satisfy all the elements.

Moreover, Judge Brooks noted that the terms "and" and "or" (or should I say "and" or "or"?) have a history of "lax" and "inappropriate" use in legislative drafting (citing Norman Singer, Statutes and Statutory Construction). As a result, where the word "and" is used inadvertently, and the intent or purpose appears to require the word "or," the statute may be regarded as a drafting error which may be rectified by a judicial construction. (I wonder whether such a rule typically holds equally true where Congress has specifically amended a statute to change an "or" to an "and").

Ultimately, Judge Brooks concludes that a disjunctive reading of 1112(b)(4) is supported by the statute's use of the word "includes" as the lead-in to the list. This interpretation was consistent with the "scant" legislative history indicating that Congress intended to make the provisions for conversion or dismissal "broader, more strict as to debtors, and more encompassing" -- an intent that would be directly contradicted by requiring all the listed elements to be demonstrated before a case could be converted or dismissed. Such an intent is evident in the change from "may" to "shall," which clearly tilts in favor of dimsissal or conversion and limits judicial discretion, and the addition of several more factors to the list of what may constitute "cause." Accordingly, Judge Brooks concludes that a movant need not demonstrate all the elements listed in 1112(b)(4) before seeking conversion or dismissal of a Chapter 11 case.

In fairness to Congress, the mysterious change from "or" to "and" may not really be so mysterious after all, as even under a plain reading it does not necessarily change the meaning of the statute. Since the lead-in to the list says that cause "includes" the following elements, the use of "and" doesn't (at least to me) suggest even under a "common-sense" reading that they all must be present. If someone were to say that the category of fruits includes apples, pears, grapes, and kiwis, not many people would think that something must simultaneously be an apple, pear, grape and kiwi in order to be a fruit.

Nonetheless, the 1112(b) changes are yet one more example of how the BAPCPA amendments have created more, rather than less, confusion in the practice of bankruptcy law. Judge Brooks cites to prescient commentary from Judge Keith Lundin, published shortly before BAPCPA went effective:

Whether by design or default, bankruptcy practitioners and judges will spend decades unraveling cross-references that lead nowhere and interpreting new terms of art that fail to communicate. If the drafters intended to make bankruptcy more complicated and expensive by making the bankruptcy law less coherent and more difficult of application, they succeeded.
Hon. Keith M. Lundin, Ten Principles of BAPCPA: Not What Was Advertised, 24 Am. Bankr. Inst. J. 1, 70 (Sept. 2005). Congress would have done well to follow the advice of the March Hare in Alice in Wonderland.*

*The Hatter opened his eyes very wide on hearing this; but all he SAID was, `Why is a raven like a writing-desk?'
`Come, we shall have some fun now!' thought Alice. `I'm glad they've begun asking riddles.--I believe I can guess that,' she added aloud.
`Do you mean that you think you can find out the answer to it?' said the March Hare.
`Exactly so,' said Alice.
`Then you should say what you mean,' the March Hare went on.
`I do,' Alice hastily replied; `at least--at least I mean what I say--that's the same thing, you know.'
`Not the same thing a bit!' said the Hatter. `You might just as well say that "I see what I eat" is the same thing as "I eat what I see"!'
`You might just as well say,' added the March Hare, `that "I like what I get" is the same thing as "I get what I like"!'
`You might just as well say,' added the Dormouse, who seemed to be talking in his sleep, `that "I breathe when I sleep" is the same thing as "I sleep when I breathe"!'
`It IS the same thing with you,' said the Hatter, and here the conversation dropped, and the party sat silent for a minute, while Alice thought over all she could remember about ravens and writing-desks, which wasn't much.

(Who can tell how a raven is like a writing desk?)