Recent Bankruptcy Decisions from the First Circuit

Analysis of “Bad Faith Dismissal” in a Chapter 13 Bankruptcy case:

In re LILLIAN M. O'NEAL, (Chapter 13), 2011 Bankr. LEXIS 2074 (Bankr. D. Mass. 5/23/11)(Joan N. Feeney, Bankruptcy Judge). [PRIOR HISTORY: In re O'Neal, 2007 Bankr. LEXIS 4019 (Bankr. D. Mass., Nov. 27, 2007)]. 

Debtor filed a petition under Chapter 13 of the Bankruptcy Code, and the debtor's brother filed a motion to dismiss the debtor's case, contending that the case should be dismissed because the debtor failed to note in her petition that she declared Chapter 13 bankruptcy in 2007, and because she filed her case in bad faith. The debtor opposed her brother's motion.  The debtor declared Chapter 13 bankruptcy in November 2010, and she proposed a plan for repaying her creditors that paid general unsecured creditors a dividend of 16.08% on claims totaling $216,417. The debtor's brother filed a motion to dismiss the debtor's case, claiming, inter alia, that the debtor filed the case in bad faith to avoid orders issued by a state probate court. The court applied the "totality of the circumstances" test and found that the debtor's brother did not meet his burden of proving that the case should be dismissed under 11 U.S.C.S. § 1307. None of the grounds for dismissing a Chapter 13 bankruptcy case that were listed in §1307(c) were present in this case, and the debtor's failure to list her earlier bankruptcy case, while significant, was rectified through an amendment she made to her petition. The debtor had substantial unsecured debt arising from deficiency claims of mortgagees and credit card debt, and her brother's assertion that the debtor's case was a forum shopping ploy to evade the rulings of the state probate court was simplistic in view of the debtor's need to address sizable claims held by unsecured creditors.

OUTCOME: The court stated that it would enter an order denying the brother's motion to dismiss.

The United States Supreme Court has recognized that bad faith may constitute cause for dismissal or conversion. Additionally, the United States Bankruptcy Appellate Panel for the First Circuit has observed that it is well established that lack of good faith (or bad faith) is "cause" for dismissal or conversion of a Chapter 13 case under 11 U.S.C.S. § 1307(c).  Courts differ in their approach to determining a debtor's good faith, but the majority favor a "totality of the circumstances" test to determine whether a debtor lacked good faith in filing a Chapter 13 bankruptcy petition for purposes of 11 U.S.C.S. § 1307(c). The United States Bankruptcy Appellate Panel for the First Circuit originally did not adopt a totality of the circumstances approach to determine lack of good faith, but instead advocated an examination of only the circumstances relevant to the debtor's proposed plan and post-filing conduct. However, in the five years since the panel's decision in In re Keach, the bankruptcy courts in the First Circuit expanded Keach's examination of a debtor's lack of good faith to include both pre-petition and post-petition conduct of the debtor. The panel then implicitly adopted the totality of the circumstances test to determine lack of good faith by affirming a bankruptcy court's decision granting a Chapter 7 trustee's motion to reconvert a Chapter 13 case to Chapter 7, for cause, based on the totality of circumstances test. Thus, the majority of the bankruptcy judges in the First Circuit have followed the totality of the circumstances approach.  In applying the totality of the circumstances test to determine whether a Chapter 13 bankruptcy petition has been filed in bad faith, bankruptcy courts generally consider the following factors: (1) the debtor's accuracy in stating her debts and expenses; (2) the debtor's honesty in the bankruptcy process, including whether she has attempted to mislead the court and whether she has made any misrepresentations; (3) whether the Bankruptcy Code is being unfairly manipulated; (4) the type of debt sought to be discharged; (5) whether the debt would be dischargeable in a Chapter 7 bankruptcy case; and (6) the debtor's motivation and sincerity in seeking Chapter 13 relief. A finding of bad faith does not require fraudulent intent by the debtor.  The factors enumerated by the United States Bankruptcy Appellate Panel for the First Circuit in In re Cabral, by the United States Bankruptcy Court for the District of New Hampshire in In re Dicey, and by the United States Bankruptcy Court for the District of Massachusetts in In re Virden, for determining whether a Chapter 13 bankruptcy petition has been filed in bad faith, do not specifically include two of the factors considered by the United States Bankruptcy Court for the District of Massachusetts in In re Fleury, and adopted by the United States Bankruptcy Court for the District of Massachusetts in In re Sullivan, namely, a debtor's history of filings and dismissals and whether a debtor only intended to defeat state court litigation. However, those two factors would certainly be considered in determining whether a debtor is unfairly manipulating the Bankruptcy Code and in considering the debtor's motivation and sincerity in seeking Chapter 13 relief. The hallmark of the totality of the circumstances test is that the factors to be considered may vary in each case. The bottom line is whether a debtor is attempting to thwart his creditors, or is making an honest effort to repay them to the best of his ability.   The moving party under 11 U.S.C.S. § 1307(c) bears the burden of proof.  

Pro se debtor required to follow Appellate Rules:

In re: MELANIE CARA ERESIAN, (Chapter 7), 2011 Bankr. LEXIS 2093 (Bankr. D. Mass. May 23, 2011)(Henry J. Boroff, Bankruptcy Judge).

Credit Union filed an involuntary petition against the debtor, who answered requesting that the petition be dismissed as numerically deficient.  Numerous procedural matters followed as well as appeals. Certain appeals dismissed for the debtor’s failure to file the Statement of Issues and the Record Designation.

Settlement Approved:

In re Baden (Chapter 7), 2011 Bankr. LEXIS 2008 (Bankr. D. Mass. May 20, 2011)(William H. Hillman, Bankruptcy Judge).

Petitioner debtor and respondent creditor, a bank, entered into a stipulation in order to resolve a lawsuit, which they presented to the bankruptcy court for its approval. The creditor had extended commercial loans to the debtor secured by mortgages on certain real property. After the creditor sued the debtor in state court for damages and then for contempt, the debtor filed a Chapter 11 petition, which was converted to a Chapter 7 case.  After conversion of the debtor's case, the bankruptcy court granted the creditor relief from the automatic stay, permitting continuation of the state court case. The debtor's property was sold at public auction, with a remaining deficiency claim. The creditor's potential claims against the debtor included the debtor's intentional violation of a state court injunction by directing tenants to pay rent to him instead of the creditor in a certain amount and resulting damages. In the stipulation, the debtor agreed to pay the creditor $ 41,651 in installments and to grant the creditor a non-priority unsecured claim in the amount of $ 345,891, which included the deficiency and settlement amounts, although only the settlement amount was non-dischargeable. In the event that the debtor defaulted in the timely payment of any installment due under the stipulation, the creditor was permitted to immediately accelerate the remaining unpaid balance. The debtor granted the creditor a mortgage on certain real property to secure all amounts due under the stipulation. In addition, the parties agreed to file a stipulation of dismissal without prejudice in the state court case.  The bankruptcy court approved the parties stipulated settlement.

 

Borrower’s right of rescission is time barred; use of “recoupment” in context of a bankruptcy case is not fungible with the use of recoupment in a Massachusetts State Court action:

KELLY v. DEUTSCHE BANK NATIONAL TRUST COMPANY, as trustee for Soundview Home Loan Trust, 2011 U.S. Dist. LEXIS 61983 (D. Mass. June 9, 2011)(Richard G. Stearns, District Judge).

District Court dimisses debtor's consumer action against mortgagee.  This case arises from plaintiff John A. Kelly's attempt to save his home from foreclosure by invoking a rescission of the underlying mortgage. On March 7, 2011, defendant bank, which bank moved to dismiss all claims.

On December 30, 2005, Kelly refinanced the mortgage on his single family and Kelly later defaulted on his mortgage payments. The bank commenced foreclosure proceedings and scheduled a foreclosure sale for February 16, 2011. On February 4, 2011, Kelly filed the instant lawsuit in Middlesex Superior Court. On February 28, 2011, the case was removed to the federal district court on diversity grounds. According to the complaint, the mortgage loan was a consumer credit transaction subject to a three business-day right of rescission per the MCCCDA (Mass. Consumer Credit Cost Disclosure Act). Count I alleges that Kelly has a right of rescission under the MCCCDA by way of recoupment because the bank failed to provide him with two copies of the notice of his right to cancel the transaction. Count II alleges that the defendant lacks the power to initiate  a foreclosure under Massachusetts law because it is neither the holder of the underlying promissory note nor a transferee of the note with the rights of a holder. Count III alleges in the alternative that the defendant did not acquire the note and/or mortgage in accordance with the terms of the Pooling and Servicing Agreement (PSA) and is therefore not a valid assignee. Defendant moves to dismiss the Complaint on grounds of lack of subject-matter jurisdiction, Fed. R. Civ. P. 12(b)(1), and failure to state a claim, Fed. R. Civ. P. 12(b)(6).

Count I:  Defendant first argues that Kelly fails to state a claim upon which relief can be granted because any right of rescission is time-barred by the MCCCDA. Under the MCCCDA, if the statutorily required disclosures are not provided at or delivered following the closing, a plaintiff's "right of rescission shall expire four years after the date of consummation  of the transaction or upon the sale of the property, whichever occurs first . . . ." ; and, maintains that Kelly's right of rescission has expired because the loan transaction was consummated on December 30, 2005, and he did not attempt to invoke the right to rescind until the filing of this action on February 4, 2011.  For his part, Kelly argues that the four-year limitations period does not apply because he seeks rescission by way of recoupment. In support of this argument, Kelly points to the MCCCDA, which explicitly notes that "[n]othing in this section shall be construed so as to affect a consumer's right of recoupment under the laws of the commonwealth." Kelly reasons that the only way to construe  this section to give full effect to its provisions is to read it as requiring that an affirmative act of rescission by a debtor occur within the four-year limitations period, while permitting a defensive action of recoupment to be filed by the debtor at any time. Kelly argues that two bankruptcy court decisions, In re Fidler and In re Maxwell, support his position, but the cases were raised in context of bankruptcy cases where the debtor claimed recoupment as a defenses or offset to a creditors proof of claim or motion for relief from the automatic stay, circumstances in which the bankruptcy court h as broad equitable powers to revise or extinguish a creditor’s rights at law.

Here, the common-law doctrine of recoupment "allows a defendant to 'defend' against a claim by asserting - up to the amount of the claim - the defendant's own claim against the plaintiff growing out of the same transaction. The affirmative defense of recoupment, properly applied, may only serve "to reduce or extinguish the plaintiff's claim, but it can not result in an affirmative recovery for the defendant." Here, Kelly is not asserting recoupment as a defense, but is attempting to use it to obtain affirmative relief (cancellation of his debt).  The strict demarcation between law and equity was abolished in Massachusetts on July 1, 1974, and with it the doctrine of recoupment, which is now supplanted by a single civil action in which the counterclaim performs the function of recoupment.  The doctrine of recoupment, however, remains viable in bankruptcy law, where all actions are equitable in nature.

Moreover, at law "a party requesting rescission must 'restore or offer to restore all that he received' through the contract, although it 'has been held that, where complete restoration is not possible, rescission may, nevertheless, be granted upon such equitable conditions as would amply protect the rights of the defendant.' Even where, as here, rescission allegedly results from a "defendant's wrongful actions, '[i]n the absence of special circumstances rendering it inequitable the defendant will, in general, be entitled to credit for payments made by [him] . . . ." To extinguish a substantial debt over an arguably immaterial ministerial error, as Kelly seeks, would accomplish  the opposite of equity by conferring on him an unjustly enriching gain at his creditor's expense. The court finds that as a matter of law, Kelly's right of rescission has long expired under the MCCCDA's statute of limitations, and that he may not revive the action by restyling what in effect is a counterclaim as a recoupment. Defendant’s motion to dismiss Count I consequently will be allowed.

Count II:  Defendant next argues that Count II should be dismissed because Kelly lacks standing to challenge its right to initiate a foreclosure, which was granted.

Count III:  Lastly, Defendant argues that Kelly lacks standing to challenge its authority to foreclose under Massachusetts state law because he is neither a party to the PSA nor an intended third-party beneficiary.  Because Kelly has not made the requisite showing by pleading or otherwise, motion to dismiss Count III will be allowed.