Case Law News from NACBA and their important work through Amicus Briefs in Consumer Bankruptcy Cases

Amicus Project Update

November, 2013

Inherited IRA's to be decided:

Cert. Granted

The Supreme Court has granted certiorari in the case of Clark v. Rameker (In re Clark), No. 13-299. In that case, the Seventh Circuit created a split in the circuits when it held that a debtor may not exempt her inherited IRA in bankruptcy. In re Clark, No. 12-1241 & 12-1255 (April 23, 2013). The Fifth Circuit had reached the opposite conclusion in Chilton v. Moser, 674 F.3d 486 (5th Cir. 2012). NCBRC will file an amicus brief on behalf of the NACBA membership in this important case.

Fees upon frivolous appeal sought:

Debtor Moves for Fees on Frivolous Appeal. The debtor in In re Murray, No. 13-34 (B.A.P. 10th Cir.), has moved for fees and costs against the trustee for filing a frivolous appeal. The case involves the question of the constitutionality of Kansas’s bankruptcy specific exemption—an issue upon which the trustee has consistently lost in the bankruptcy court, In re Westby, 473 B.R. 392 (Bankr. D. Kan. 2012), the district court, In re Lea, 2013 W.L. 4431267 (D. Kan. 2013), and the BAP, In re Westby, 486 B.R. 509 (B.A.P. 10th Cir. 2013).Although the trustee filed an appeal of the Westby case to the Tenth Circuit, she later dismissed it, Williamson v. Westby (In re Westby), Case No. 13-3044 (10th Cir. 3/29/13), and, instead, sought another bite at the apple in the BAP with Murray. The trustee’s likelihood of success at the circuit level was further diminished when the Sixth Circuit upheld the constitutionality of state bankruptcy specific exemptions in In Re Schafer, 689 F.3d 601 (6th Cir. 2012), cert. den. sub nom. Richardson v. Schafer, 133 S. Ct. 1244 (2013). In the meantime, as a result of the trustee’s decision to pick away at individual cases in the lower courts rather than seek decisive resolution in the Circuit Court, some debtors have been forced, for financial reasons, to settle the issue at the outset thereby losing the benefit of the exemption. NCBRC was involved in Schafer and has been involved in a number of the cases coming out of the Kansas court on this issue, filing amicus briefs and assisting with debtor’s briefs.

Carving out an equity exception to the debtor's fully encumbered homestead:

Fourth Circuit Allows Trustee/IRS Carve-Out Agreement In an unpublished, per curiam, opinion the Fourth Circuit found that the trustee could sell the debtors’ fully encumbered homestead despite the fact that the debtors were entitled to an exemption for the property. In re Reeves, No. 12-2127 (Nov. 20, 2013). The debtors’ residence was fully encumbered by a first mortgage lien and a tax lien. Under North Carolina law, the debtors claimed an exemption in their homestead in the amount of $60,000.00. The trustee objected to the exemption on the basis that the debtors had no equity in the property. After the bankruptcy court overruled the objection, the trustee moved to sell the property explaining that the IRS had agreed to “carve out” a portion of its share of the proceeds to benefit the bankruptcy estate. The debtors objected to the sale arguing that allowance of the exemption effectively removed the property from the estate. The bankruptcy court disagreed finding that the exemption was as to the debtors’ “interest” in the property rather than in the property itself. The district court affirmed. On appeal, the Fourth Circuit relied on Schwab v. Reilly, 130 S. Ct. 2652, 2661-63 (2010) for the distinction between an “asset” and the “interest” in that asset, finding that the exemption applied only to the latter and did not result in removal of the entire asset from the bankruptcy estate. The court went on to reject the debtors’ argument, which was more fully elucidated in NACBA’s amicus brief, that where an asset is fully encumbered the trustee must abandon it and a side agreement with a creditor to circumvent that rule is not a legitimate exercise of the trustee’s power. In a short discussion notable for its lack of in-depth analysis, the court found simply that the agreement between the IRS and the trustee “assigned equity” to the asset for the benefit of the estate. As an unpublished opinion this decision is not precedential.

Extent of Lien Avoidance Posers:

Argued: In re Traverse, No. 13-9002 (1st Cir.) Issue: Whether upon avoidance of a lien the trustee gains the debtor’s power to sell the property for which the debtor has claimed a homestead exemption, or whether the trustee’s powers are limited to what the lienholder could have done. Argument date: October 10, 2013. NCBRC filed an amicus brief on behalf of the NACBA membership.

Surcharging Homestead Exemption:

Set for Argument:

Law v. Seigel, No. 12-5196 (U.S.S.Ct.) Issue: Whether the debtor’s homestead exemption may be surcharged as a result of the debtor’s failure to comply with discovery. Argument date: January 13, 2014. NCBRC filed an amicus brief on behalf of the NACBA membership.

NACBA advises that the Supreme Court will decide if the debtor's homestead exemption can by surcharged with costs incurred by the Ch. 7 trustee due to debtor's alleged misconduct, to resolve a split among the Circuits.

NACBA Defends Debtor's Homestead Exemption in U.S. Supreme Court

The NACBA membership filed an amicus brief in the case of Law v. Seigel (In re Law), No. 12-5196 (Sept 3, 2013), in defense of the debtor’s homestead exemption. In that case, the lower court, ostensibly pursuant to its power under section 105(a), imposed the surcharge to pay trustee fees resulting from litigation necessitated by debtor misconduct. See Law v. Siegel (In re Law), 435 Fed. Appx. 697, 2011 WL 2181198 (9th Cir. 2011).

The brief argues that while section 105(a) grants equitable power to the court to effectuate the terms of the Bankruptcy Code, it does not permit the court to contravene other sections of the Code or bypass its otherwise applicable provisions. In sections 522(c) and (k) Congress specified that exempt property cannot be used to pay pre-petition debts or administrative expenses. In addition, in sections 522(o) and (q), Congress specified conditions under which a homestead exemption may be compromised as a result of debtor’s misconduct. Section 105(a) permits a court to use its equitable power to “carry out the provisions” of the Code, not to override or contradict them. The brief points out that the court has other methods of sanctioning debtor misconduct. Section 727 contemplates denial or revocation of discharge of specific debts in the face of misconduct. Rule 9011 permits imposition of traditional litigation sanctions against a wayward debtor.

In the alternative, the brief seeks to minimize the damage of a potentially unfavorable decision by asking the Court to allow such equitable action by a lower court only under unusual circumstances where: “(1) the debtor has engaged in misconduct that actually injured one or more creditors by depriving them of estate assets to which they were entitled; (2) the misconduct involved an intentional effort to conceal or dissipate estate assets so as to keep them from creditors; (3) the surcharge is no greater than necessary to remedy the harm to creditors caused by the misconduct (i.e., is remedial rather than punitive); and (4) no other available remedy is adequate.”

The Supreme Court’s decision can be expected to resolve the split between the first and ninth circuits, see Malley v. Agin, 693 F.3d 28, 30 (1st Cir. 2012); Latman v. Burdette, 366 F.3d 774, 785 & n.8 (9th Cir. 2004) (permitting surcharge), and the tenth circuit, see In Re Scrivner, 535 F.3d 1258 (10th Cir.2008) (not permitting surcharge).

The National Consumer Bankruptcy Rights Center has been active in cases around the country – Read about these cases by clicking on the links below:

Petition for Cert. Filed in Inherited IRA Case

Reeves (4th) and Traverse (1st) -- Moving Forward

Please consider making a contribution to the National Consumer Bankruptcy Rights Center to advance this important work.

Case law updates from NACBA

Creditor Must Return Repossessed Vehicle upon Bankruptcy Filing

The Second Circuit upheld sanctions against vehicle loan creditor, SEFCU, for refusing to return debtor’s repossessed vehicle without a court order and adequate protection.Weber v. SEFCU, No. 12-1632 (May 8, 2013). SEFCU had lawfully repossessed the debtor’s pick-up truck pursuant to the loan agreement but when the debtor filed for bankruptcy SEFCU refused to return the car. The bankruptcy court determined that SEFCU’s actions did not violate the automatic stay. The district court reversed. Weber v. SEFCU, 477 B.R. 308 (N.D.N.Y. 2012).

On appeal, the Second Circuit walked through the relevant statutory provisions beginning with section 541(a)(1) which provides that upon the filing of the petition, the bankruptcy estate consists of “all [debtor’s] legal or equitable interests in property.” Under New York law, a debtor retains an equitable interest in repossessed property due to his right to redeem, and “under United States v. Whiting Pools, Inc., 462 U.S. 198 (1983), the filing of Weber’s bankruptcy petition transformed the equitable interest into a possessory interest held by Weber’s estate.” Section 542’s mandatory turnover obligation, in conjunction with section 1306(b)’s provision that the debtor retains possession of chapter 13 estate property, required SEFCU to return the vehicle to the debtor without further action.

The court rejected SEFCU’s argument that it did not “exercise control” over the vehicle in violation of section 362. In so holding, the court found that Manufacturers & Traders Trust Co. v. Alberto (In re Alberto), 271 B.R. 223 (N.D. N.Y. 2001), which held that the repossessed property did not become part of the estate until such affirmative step was taken, was erroneously decided. Additionally, SEFCU’s reliance on Alberto did not make its actions any less “willful” within the meaning of section 362. Willfulness requires only knowledge of the bankruptcy and intentional actions that amount to an unlawful exercise of control.

NCBRC filed an amicus brief on behalf of NACBA.

Inherited IRA Exemption Issue Unsettled by Seventh Circuit

In a departure from the majority of courts, the Seventh Circuit found that debtors cannot exempt inherited IRAs. In re Clark, No. 12-1241 & 12-1255 (April 23, 2013). Section 522(b)(3)(C) permits debtors to exempt“[r]etirement funds to the extent that those funds are in a fund or account that is exempt from taxation under section 401, 403, 408, 408A, 414, 457, or 501(a) of the Internal Revenue Code of 1986.” In Clark, the debtor’s mother had an IRA which, upon her death, was transferred to the debtor into one of the tax exempt accounts specified by the Code. As the Fifth Circuit, the BAPs for the Eighth and Ninth Circuits, and many lower courts have found, such accounts may be exempted in bankruptcy. See, e.g., Chilton v. Moser, 674 F.3d 486 (5th Cir. 2012); Mullen v. Hamlin, 465 B.R 863 (B.A.P. 9th Cir. 2012); Doeling v. Nessa, 426 B.R. 312 (B.A.P. 8th Cir. 2010).

The Seventh Circuit, however, found otherwise. The court’s decision turned on its interpretation of “retirement funds” which it found were no longer “retirement” once they transferred to the debtor’s account. In so holding, the court noted that the debtor did not contribute the funds in contemplation of retirement and that inherited IRAs receive different treatment under the Tax Code. The court expressed its distaste for the outcome that would have resulted from permitting the exemption, saying: “To treat this account as exempt under § 522(b)(3)(C) would be to shelter from creditors a pot of money that can be freely used for current consumption.”

NCBRC filed an amicus brief in this case on behalf of the NACBA membership arguing that the plain language of the Code sets forth only two requirements for the exemption to apply: 1) that the funds in the account represent retirement funds when contributed, and 2) that upon the death of the owner the funds be transferred to a tax exempt account specified in the exemption statute. The majority of appellate courts have agreed with this analysis.

On May 6, 2013, the debtor filed a petition for rehearing en banc.

Fourth Circuit Permits Chapter 20 Lien Strip

The Fourth Circuit is the first circuit court to find that a debtor may strip a wholly unsecured lien in chapter 13 where no discharge is available. In re Davis, No. 12-1184 (May 10, 2013).

Applying the standards applicable in any chapter 13 bankruptcy, both the bankruptcy and district courts held that strip-off was appropriate. The Fourth Circuit agreed finding that the unavailability of discharge does not alter the analysis used when considering whether the debtor is entitled to a lien strip and that, where a lien is deemed valueless under section 506, it may be stripped through the mechanism provided by section 1322(b). Section 1325(a)(5), which provides that a lien survives until it is either paid in full or the debtor is discharged, does not alter this analysis because that section applies only to allowed secured claims, and wholly unsecured liens are not “secured.” The court found that the strip-off becomes permanent upon completion of the plan.

One judge dissented on the grounds that the definition of “allowed secured claim” in section 1325(a)(5), applies to liens that are valueless under section 506(a), and, further, that allowing strip-off in chapter 20 treats the secured creditor less favorably than unsecured creditors. However, as noted by the majority, the difference in treatment between secured and unsecured creditors is a function of the different treatment of in rem and in personam claims in bankruptcy and is, therefore, incidental to the question of lien stripping in chapter 20.

This issue is currently under consideration in the Ninth, Litton Loan v. Blendheim, No. 13-35354, and Eleventh Circuits, Wells Fargo v. Scantling, No. 13-10558, where the lower courts each found that the lien strip was not contingent on the availability of discharge. While NACBA did not participate in this case, NACBA has been involved in this issue at the lower court levels raising the same arguments that were relied on by the Fourth Circuit.See, e.g., In re Fair, No. 10-1128 (E.D. Wisc. April 19, 2011).

Ninth Circuit Denies Petition for Rehearing en Banc

The Ninth Circuit has denied the trustee’s request for en banc rehearing in In re Welsh, No. 12-60009 (9th Cir.). On March 25, 2013, the court affirmed the district court’s finding that social security income may not be considered in PDI nor may a court assess the necessity of items securing debts for which payments have been deducted from PDI. The trustee sought a rehearing on April 8, and the court denied the petition on May 13, 2013. With respect to the decision on the merits of the appeal NCBRC filed an amicus brief on behalf of NACBA.

Argued

In re Schieffer, No. 12-1974 (C.D. Cal.)

Issue: Whether court erred in dismissing chapter 13 case after it granted Wells Fargo's motion for loan modification but the trustee never sought plan modification and debtor defaulted on modified mortgage but was compliant with unmodified plan terms.

Argument date: April 15, 2013

NCBRC assisted with the debtor’s brief.

To make a request for assistance from the amicus committee contact Lisa Sharon at amicus.admin@nacba.org.

Inherited IRA's are protected as an exempt asset under the Bankruptcy Code

Fifth Circuit, apparently the first Circuit Court to address this, ruled this week than an inherited IRA is an exempt asset:

In the matter of: JANICE ELAINE CHILTON; ROBERT GREGG CHILTON, Debtors. ROBERT GREGG CHILTON AND JANICE ELAINE CHILTON, Appellees, v. CHRISTOPHER MOSER, Appellant.
No. 11-40377
UNITED STATES COURT OF APPEALS FOR THE FIFTH CIRCUIT
2012 U.S. App. LEXIS 5140

March 12, 2012, Filed
PRIOR HISTORY:  
Appeal from the United States United States District Court for the Eastern District of Texas.

Chilton v. Moser, 444 B.R. 548, 2011 U.S. Dist. Lexis 27002 (E.D. Tex. 2011).

PROCEDURAL POSTURE: Appellant Chapter 7 trustee sought judicial review of a decision by the United States United States District Court for the Eastern District of Texas to reverse a bankruptcy court's ruling that an inherited Individual Retirement Account (IRA) did not qualify for exemption under 11 U.S.C. Section 522(d)(12).

OVERVIEW: The question of whether an inherited IRA satisfied the two requirements of Section 522(d)(12) was a question of first impression for the United States Court of Appeals for the Fifth Circuit and its sister circuits. The $170,000 contained in the inherited IRA constituted retirement funds as that phrase was used in Section 522(d)(12). While the parties agreed that the debtors' inherited IRA was tax exempt, they disagreed over which section of the Internal Revenue Code rendered it exempt. The trustee contended that inherited IRAs were tax exempt pursuant to 26 U.S.C. Section 402(c)(11)(A). The debtors responded by arguing that the inherited IRA was tax exempt pursuant to 26 U.S.C. Section 408(e). Since the transfer of the IRA took place before the debtors filed for bankruptcy, the issue was which provision rendered the inherited IRA exempt from taxation subsequent to the transfer.  Section 408 rendered the inherited IRA  exempt from taxation following its transfer from the deceased to the debtors. Because Section 408 was one of the sections named in Section 522(d)(12), inherited IRAs are contained in an account that is exempt from taxation as that phrase is used in Section 522(d)(12).

OUTCOME: The judgment of the district court was affirmed.