Gambling Debts Unenforceable in Bankruptcy Court

In a refreshing and insightful opinion, the Wisconsin Bankruptcy Court determined that gambling debts could not be recovered in a bankruptcy court context. The case is In re Jafari --- B.R. ----, 2007 WL 4276535 (Bankr. W.D.Wis. Oct 16, 2007). (Westlaw subscription requred.)

The debtor had incurred debts on gambling markers at a casino in Nevada. The court determined that it was against public policy to enforce debts to gaming institutions.

I have had many clients come in with gambling addiction problems and I think this ruling makes good sense. Such debts should be unenforceable.

Ninth Circuit BAP: Means Test is Starting Point for Chapter 13

One of the raging debates in Chapter 13 bankruptcy circles is whether projected disposable income for above-median debtors (the amount to be paid to unsecured creditors) is determined using figures from Form 22C (commonly known as the means test) or Schedules I and J (actual income and expenses).

The Ninth Circuit BAP has weighed in on this argument with a Solomon-esque (splitting the baby) opinion. The case is In re Pak. Some courts have held that projected disposable income is whatever Schedules I and J say, just like under the old law. In my opinion, that argument does not make any sense because Congress intended something to happen when they changed the law in 2005. The other extreme says that projected disposable income is taken from Form 22C, end of story. This argument is more logical, but probably goes too far.

In Pak, the court determined that Form 22C is a starting point. If there has been a substantial change since the figures in Form 22C were used, then the court can take those figures into account. The rationale is that the word "projected" must mean something. Form 22C only uses income figures in the past. So, if the income significantly changes, the "projected" income would also change. This case at least makes some sense and gives some guidance. Unfortunately, however, there is another case at the Ninth Circuit Court of Appeals that will be decided soon that could overrule Pak. So, we cannot fully rely on the Pak decision in formulating Chapter 13 plans.

Hearings on Allowing Mortgage Modification in Chapter 13

The House Judiciary Committee is holding hearings on "Straightening Out the Mortgage Mess". The question is whether Sec. 1322(b)(2) should be amended to allow modification of home mortgages. Currently, that section does not allow modifications. The reason this prohibition was originally added was because without it, mortgage banks argued that the credit market would dry up for home mortgages.

Predictably, the bankrutpcy folks from NACBA and the National Bankruptcy Conference argued in favor of allowing modification and the Mortgage Banking Association argued against allowing modification.

Interestingly, however, an economist from Moody's, Mark M. Zandi, testified that "there is no reason to believe that the cost of mortgage credit across all mortgage loan products should rise" and that "[p]roperly designed, the legislation could reduce the number of foreclosures through early 2009 by at least 500,000." This has always been my biggest question: (1) would allowing mortgage modifications dry up credit and (2) if not, can Congress be convinced enough by this so that they are willing to pass legislation allowing modification of mortgages? I think that the answer to (1) is "no" for several reasons: (1) before the credit crisis, there was no problem getting a loan in the non-primary residence home mortgage market, (2) there has already been a tightening of credit across all sectors, so we should probably expect a loosening of the lenders want to make money in the future. With some solid data from economists concurring on this point, I think the legislation is in much better shape than it would have been otherwise.

Wells Fargo Agrees to Ground-Breaking Order Effective in All Districts

Wells Fargo, one of the larger mortgage servicers in the nation, agreed to an order in Louisiana Bankruptcy Court that requires Wells Fargo to take substantial steps to make sure that unauthorized fees and expenses are not tacked onto Chapter 13 cases. The full decision is In re Jones, No. 06-01093 (Bankr. E.D. La. Aug. 29, 2007), and can be found here.

The relevant text of the agreement ordered by the Court is as follows:

1. Upon the filing of a chapter 13 bankruptcy petition, the amounts outstanding on a debtor’s loan will be divided into two new, internal administrative accounts. The first account will contain the sums to be paid under debtor’s plan by the Chapter 13 Trustee; typically the pre-petition past due amounts including past due interest, costs, charges, and fees (“Account One”). The opening balance on Account One should directly correlate to the amounts reflected on Wells Fargo’s proof of claim. Account One will also include any amounts added by subsequent court order to the plan for payment by the Trustee during the case’s administration. All payments made by the Trustee will be applied to the reduction of the amounts owed on Account One.

The second account will reflect the principal amount due on the petition date (“Account Two”). No other sums should be owed on Account Two at the start of the case. Account Two will include post-petition interest accrual, post-petition property insurance or property tax expenditures, and other court authorized postpetition charges as provided in paragraph 2 below. A debtor’s regular monthly note payments will be posted to this account, reducing post-petition interest accrual, postpetition property and tax expenditures, and principal. The account’s first posting will typically be the first installment payment due on the loan following the petition date.

Wells Fargo may maintain, post-petition, its customary records on the loan provided that the two new internal accounts shall control the loan’s administration during the pendency of the case.

2. With the exception of post-petition property taxes and property insurance expenditures, Wells Fargo may provisionally accrue, but not assess or collect, any post-petition charges, fees, costs, etc. allowed by the note, security agreement and state law. Post-petition property tax and insurance expenditures may be assessed against debtor’s account and collected after the delivery of a ten day written notice to debtor, debtor’s counsel, and the Trustee. The assessment and collection of expenditures for post-petition property inspections and taxes will not require approval of the bankruptcy court unless a written objection is filed within ten days of the notice of assessment and collection. If authorized by Wells Fargo’s note, security agreement, and state law, the collection of amounts necessary to pay postpetition insurance and property tax expenditures may be made in advance through the use of escrow accounts. If escrows are utilized, Wells Fargo must give a written accounting of the amounts collected at the time it seeks to apply the escrowed funds to payment of the insurance or property tax expenditures.

As to Post-Petition Charges, annually, between January 1 and February 28 of each year during a case’s administration, Wells Fargo shall file with the Court and serve
upon the debtor, debtor’s counsel, and the Trustee, notice of any Post-Petition charges (which do not include property taxes or insurance), accrued in the preceding calendar year. The notice shall contain an itemization describing the charge, amount provisionally incurred, the date incurred, and if relevant, the name of the third party to whom the charge was paid. The notice will also provide a direct reference to the provisions of the note, security agreement, or state law under which Wells Fargo asserts its authority to assess each type of charge.

The notice shall also state that debtors, the Trustee, and any other interested party, shall have 30 days within which to object to any or all assessments outlined in the notice. It shall contain a statement to the effect that debtor may elect to add the charges to his plan with approval of the bankruptcy court, satisfy the charges directly outside the plan, or defer repayment until the conclusion of his case. If no objection to the amounts provisionally assessed is filed, or if filed, upon entry of an order approving some amount of the provisional charges, Wells Fargo may submit a proposed ex parte order authorizing assessment of the Post-Petition Charges as set forth in its notice or as approved by the court, as applicable. However, Wells Fargo may not collect on any approved Post-Petition Charges unless the debtor voluntarily delivers payment separate and above from that due as a regular monthly installment or obtains approval of the court to modify the plan and satisfy the amounts due through periodic payments by the Trustee. If the approved Post-Petition Charges are to be paid through the modified plan, they will be added to Account One and satisfied by the Trustee. If to be paid by the debtor, they may be added to Account Two.

If no provision for payment is made by a debtor, the collection of the approved Post-Petition Charges must be deferred until the close of the case or relief from the stay is obtained.

3. If Wells Fargo does not issue a notice of Post-Petition Charges, in accordance with paragraph 2, for any given year of the case’s administration, then Wells Fargo shall be prohibited from collecting or assessing any charges accrued against the debtor for that year and shall treat the debtor as fully current at the time of discharge.

4. Upon the issuance of a discharge, Wells Fargo shall adjust its permanent records to reflect the current nature of debtor’s account. Provided however, that if debtor elected to defer the payment of approved Post-Petition Charges until the conclusion of the case’s administration, then Wells Fargo shall be authorized to collect said sums in accordance with the provisions of its note, security instrument, and state law.

The court was deciding whether to impose massive punitive damages (in the millions of dollars). Wells Fargo said, "we'll agree to an order like this if you agree not to impose massive punitive damages." So, this order was entered. The order further states: "Wells Fargo also offered to memorialize this agreement into an order of the Court, enforceable in any case pending or subsequently filed before any court in the country." The court took them up on this offer and agreed not to impose a multi-million dollar punitive damage award.

If Wells Fargo fails to abide by this order in any case in the country, they could be subject to punitive damages, because they are disobeying a court order, and more than that, an agreed court order, and even more than that, an agreed court order entered for the purpose of avoiding multi-million dollar sanctions. Wells Fargo better comply or there will be a deluge of suits alleging violation of this agreement.

Bankruptcy Filings Are Increasing

I have noticed that I am getting quite a few new bankruptcy appointments now and I am wondering if that means bankruptcy filings will be picking up. So, I went to the stats page to see what the trends look like. I compared the 12 month period ending June 30, 2005 with the 12 month period ending June 30, 2007. The reason I used the June 30, 2005, date is that was before the unnatural surge in filings that we saw before October 17, 2005.

A couple of interesting points: (1) the filings for Sacramento have actually gone up (8051 for 2005 and 8313 for 2007); (2) the filings for Fresno are down significantly (5258 for 2005 and 3379 for 2007). Not including Fresno's filings, the total filings for the district would be equal. This leads us to ask a few questions. Why are the filings for Sacramento back to 2005 levels and the filings for Fresno not? Is this going to be a continuing trend or will it even out eventually?

My opinion is that the rise in filings for Sacramento is an indication that filings will eventually rise in Fresno. Sacramento is bigger than Fresno and is often ahead of Fresno on economic issues. Consequently, I don't think this will be a trend that is continuing and I think it is very likely that Fresno will see the same increase back to 2005 levels of filings within the next 6 months.

Stripping Off Junior Liens

One of the commonly known facts about bankruptcy is that in general you cannot modify a mortgage secured by your principal residence. This means that if you have an adjustable rate mortgage and the rate is going from 5% to 13% and your payment is going from $1500 to $2500, you generally can't change that by filing a bankruptcy. However, there is one option that has been irrelevant for the last several years due to the hot real estate market.

If a junior mortgage is wholly unsecured, i.e., there is no equity for that mortgage, the wholly unsecured mortgage may be stripped off and treated as an unsecured claim. Thus, if a house has a value of $200,000 and there are two deeds of trust, one on which there is $205,000 owing and one on which there is $40,000 owing. The second deed of trust with $40,000 owing could be stripped off and treated as an unsecured claim. In a Chapter 13 plan, this might mean that the $40,000 deed of trust could get nothing if the plan pays 0% to unsecured creditors.

With real estate values rising by 25% a year in the first five years of this decade, there were no opportunities to strip off mortgages, because all mortgages were at least partially secured. With some of the risky lending practices that were being used (100% financing and even 125% financing), however, that is changing now. A house that was 100% financed with two mortgages (80% and 20%) might be worth 80% of what it was worth when it was financed. Thus, the 20% mortgage might be stripped off and treated as unsecured.

This is an important right for debtors to consider in deciding whether they will be able to keep their home.

N.D Cal. - Applicable Committment Period is a Multiplier, not a Time Period

One of the requirements in a Chapter 13 case is that a debtor contribute all of his "projected disposable income" to unsecured creditors during the "applicable commitment period." The applicable commitment period is 3 years if the debtor's income is below median or 5 years if the debtor's income is above median. The projected disposable income is determined (primarily) by subtracting certain allowed expenses (based on IRS formulas) from the current monthly income (which is determined by looking at the last six months of income and averaging it). That gives the amount that is required to be paid. Sometimes, debtors are actually able to pay more than their projected disposable income every month and so the question arises. Let's say an above median debtor has projected monthly income of $100/mo. However, the debtor could pay $150/mo. If the debtor pays for 5 years at $100 per month, the total amount paid in will be $6,000. May the debtor pay $150 per month for 40 months (also $6,000), instead?

In In re Swan, --- B.R. ----, 2007 WL 1146485 (Bkrtcy.N.D.Cal., April 18, 2007) (Westlaw subscription required to view link), the Court said "yes." In that case, the total projected disposable income for 60 months would have been $3,570. The debtor proposed a plan that would pay a total of $18,900 over 36 months. The court allowed the debtor to pay the higher amount and finish the plan in 36 months.

The court recognized that there is a split of authority on this issue. The court's rationale is as follows:

Section 1325(b)(1)(B) states that a court may not confirm a plan unless it "provides that all of the debtor's projected disposable income to be received in the applicable commitment period beginning on the date that the first payment is due under the plan will be applied to make payments to unsecured creditors under the plan." 11 U.S.C. § 1325(b)(1)(B). According to the Code, the "applicable commitment period" that applies to Debtor is "not less than 5 years." 11 U.S.C. § 1325(b)(4)(A)(ii). Creditor contends that Debtor's Plan may only be shorter than 5 years if Debtor pays all allowed unsecured creditors in full, pursuant to § 1325(b)(4)(B). It is undisputed that the Plan does not provide for full payment of all allowed unsecured claims. Debtor argues that the statute does not require a fixed plan term, and that, because the Plan proposes to pay, over 36 months, an amount greater than Debtor's projected disposable income multiplied by 60 months, the Plan should be confirmed as proposed.

This issue has been described as a distinction between a "monetary" requirement and a "temporal" requirement. In re Brady, 361 B.R. 765, 2007 WL 549359, *9 (Bankr.D.N.J. Feb.13, 2007), citing Alane A. Becket and Thomas A. Lee, III, Applicable Commitment Period: Time or Money?, 25-MAR Am. Bankr. Inst. J. 16 (2006). Creditor espouses the view that the phrase "applicable commitment period" imposes a temporal requirement that Debtor must commit to a plan for a specific amount of time--in this case, five years. Some courts have adopted this position. Slusher, 359 B.R. at ----, 2007 WL 118009 at *11; In re Casey, 356 B.R. 519, 527 (Bankr.E.D.Wash.2006); In re Cushman, 350 B.R. 207, 212 (Bankr.D.S.C.2006); In re Davis, 348 B.R. 449, 458 (Bankr.E.D.Mich.2006); Dew, 344 B.R. at 661; McGuire, 342 B.R. at 615.

*10 Debtor takes the position that "applicable commitment period" constitutes a monetary requirement such that, in order to be confirmed, Debtor's three-year Plan must provide for payment of her projected disposable income multiplied by the applicable commitment period. In this case, the relevant calculation is $59.50 projected disposable income according to Form B22C multiplied by the 60 month applicable commitment period equals $3,570. Debtor argues that the Plan satisfies the requirements of the Code, and therefore may be confirmed, because it proposes to pay $18,900 over 36 months, which is over five times more than Debtor's projected disposable income over the applicable commitment period of $3,570. Cases supporting Debtor's position include Brady, and In re Fuger, 347 B.R. 94 (Bankr.D.Utah 2006). Bankruptcy Judge Keith M. Lundin takes the same view in his chapter 13 treatise. See 5 Keith M. Lundin, Chapter 13 Bankruptcy §§ 500.1 at 500-2 (3d ed. 2006)("The applicable commitment period does not require that the debtor actually make payments for any particular period of time. Rather it is the multiplier in a formula that determines the amount of disposable income that must be paid to unsecured creditors.")

The logic of Debtor's position is straightforward. Unsecured creditors will receive more under the Plan than is required by the Code. Specifically, in this case, unsecured creditors will receive more than five times what the Code requires ($18,900 compared with $3,570), and they will receive it more quickly under Debtor's three-year Plan than they would if the Court were to adopt Creditor's position, and require a five-year plan term. This is clearly to the benefit of all creditors. The unsecured creditors are not being paid interest, so the time value of money makes the disparity between what Debtor is offering to pay under the Plan--$18,900 over three years--and what unsecured creditors would be entitled to under Creditor's position--$3,570 over five years--even greater than it appears at first blush. Debtor's position also furthers the Code's fresh start policy, allowing Debtor to fulfill the obligations imposed by the Code in a shorter amount of time, receive a discharge, and move on.

In light of the extreme monetary disparity between the two positions, it is difficult to comprehend why Creditor has taken this position. Practically speaking, Creditor must be hoping for one of two events to occur. Creditor wants the Plan term extended to five, rather than three, years because the longer time period increases the likelihood either that (1) the Plan will be modified upward; or (2) Debtor will default on the Plan and Creditor will maintain an entitlement to the full amount of its claim. In this Court's experience of over sixteen years on the bench, the former is extremely rare. Accordingly, Creditor's reason for supporting this position appears to be its hope that the Plan will fail. The Court finds such reasoning unpersuasive. This reasoning contravenes the Code's fresh start policy. It also delays payment to other creditors, most of whom would likely prefer to receive payment over three years, rather than five. Moreover, if Debtor cannot keep up her Plan payments, she will likely convert to chapter 7--which would deprive creditors of a substantial portion of Debtor's Plan payments.

*11 [7] One court has held that the phrase "applicable commitment period" does not come into play where the debtor has no disposable income, but that, where the debtor has positive disposable income, the phrase mandates a specific plan length. In re Alexander, 344 B.R. 742, 751 (Bankr.E.D.N.C.2006). However, this is a distinction without a difference. Construction of the phrase "applicable commitment period" as a monetary requirement renders this distinction meaningless. The Code requires debtors to pay their projected disposable income over the applicable commitment period into the plan. Whether that amount is zero or greater than zero makes no difference, because in the end the effect is the same. Just as it makes no sense for a debtor to remain in chapter 13 where he has no disposable income and has paid his secured, administrative and priority claims in full, it likewise makes no sense for a debtor with some disposable income to remain in chapter 13 after he has paid the full amount required by the Code to his unsecured creditors. In both cases, the absurdity is having a debtor remain in chapter 13 awaiting discharge where, after a certain point, he has fulfilled all of the Code requirements and his plan payment is reduced to zero. The purpose of the Code is to provide debtors a fresh start and to ensure that creditors are paid as much as possible as soon as possible. It is not to incentivize people to remain in bankruptcy at the continued expense of their creditors, who could have received their plan payments much earlier, and at the expense of the bankruptcy system as a whole.

Some courts adopting Creditor's position have held that the language of § 1325(b)(1)(B) "clearly indicates" that, where there is an objection to confirmation and the debtor does not propose to pay unsecured creditors in full, above-median debtors must perform a plan of reorganization for 60 months. Cushman, 350 B.R. at 212; In re Schanuth, 342 B.R. 601, 607 (Bankr.W.D.Mo.2006). However, the statute does not specify a minimum plan term. The statute merely states that, in order to be confirmed, a plan must apply all of a debtor's projected disposable income during the applicable commitment period to make payments under the plan. Brady, 361 B.R. at ----, 2007 WL 549359 at *9. Accordingly, the Plan meets the requirements of the statute in that it applies all of (in fact, much more than) Debtor's projected disposable income ($59.50) during the applicable commitment period (60 months) to make payments under the Plan.

The rationales supporting the conclusion that the "applicable commitment period" is a temporal requirement are unpersuasive to this Court. In McGuire, the bankruptcy court cited three reasons for its conclusion. First, it reasoned that, because the disposable income calculation on Form B22C is "merely a starting point," and is not dispositive such that a court need not confirm a plan that proposes to pay the amount reported on Form B22C, "it follows that a court is not required to confirm a plan because it proposes to pay a total sum equal to the Form B22C amount multiplied by the applicable number of months." McGuire, 342 B.R. at 615. This reasoning is unhelpful because, while the Court need not reach the question of whether departure from Form B22C is permissible under the law, under the facts of this case, the amount of disposable income reported by Debtor on Form B22C in fact satisfies the requirements of the Code. [FN9] Therefore, the statement that a court "is not required to confirm a plan simply because the debtors propose a plan payment in the Form B22C amount," does not help answer the question of whether a court may do so when the amount of the Form B22C payment is not challenged as being too low.

*12 The second reason cited by the McGuire court was that "a monetary interpretation of ACP renders § 1325(b)(4)(B) meaningless." Id. That section states that the applicable commitment period "may be less than 3 or 5 years, whichever is applicable under subparagraph (A), but only if the plan provides for payment in full of all allowed unsecured claims over a shorter period." The contention that this section is rendered superfluous by a monetary interpretation of "applicable commitment period" assumes that it is inherent in the Code that a debtor who pays unsecured claims in full may complete a chapter 13 plan in less than 36 months. See Davis, 348 B.R. at 455: "Under this interpretation of ACP, § 1325(b)(4)(B) doesn't really state anything more than that a debtor does not have to pay more than 100% on his unsecured claims." The fact that the Code specifically provides that if a debtor pays 100% of his claims with interest that the court must confirm the plan regardless of the plan's length does not mean that a debtor may not do what the Debtor's Plan does here, i.e., pay the same amount to unsecured creditors that would be required over five years, in three years. Accordingly, the Court is not persuaded by this argument.

The third and final rationale used by the McGuire court to support its conclusion was that Congress did not express any intent to alter pre-BAPCPA practice on this issue by enacting the BAPCPA. McGuire, 342 B.R. at 615. Prior to BAPCPA, § 1325(b)(1)(B) required all of the debtor's projected disposable income received during the three-year period, beginning on the due date of the first payment, to be applied to the plan, and according to McGuire, debtors were not allowed to exit chapter 13 early unless they could establish extraordinary circumstances or creditors were paid in full. Id. Noting that the BAPCPA amendments in this regard only changed the phrase "the three year period" to "applicable commitment period", the McGuire court, following Schanuth, 342 B.R. at 608, discerned no clear intent on the part of Congress to alter the pre-BAPCPA practice. Id. The Court disagrees with McGuire's characterization of pre-BAPCPA law, particularly as it existed in this Circuit. Several pre-BAPCPA cases permitted debtors to payoff the plan balance and exit chapter 13 in less than 36 months without paying unsecured creditors in full. Fuger, 347 B.R. at 101, citing In re Sunahara, 326 B.R. 768 (B.A.P. 9th Cir .2005)(court may approve a plan modification allowing a debtor to complete plan in fewer than 36 months without paying unsecured claims in full); In re Richardson, 283 B.R. 783 (Bankr.D.Kan.2002); In re Forte, 341 B.R. 859 (Bankr.N.D.Ill.2005); In re Miller, 325 B.R. 539 (Bankr.W.D.Pa.2005). Accordingly, the lack of a clearly expressed Congressional intent to alter pre-BAPCPA law on this issue is at best an ambiguous rationale, since an interpretation of "applicable commitment period" as a monetary, rather than temporal, requirement is not necessarily inconsistent with pre-BAPCPA law. In the Ninth Circuit where, under Sunahara, debtors could modify their chapter 13 plans to pay off the plan balance in less than 36 months, this rationale actually lends additional support to Debtor's position.

*13 Some of the cases take a theoretical, but impractical approach to this issue that divorces the language of the Code from the realities of the debtor/creditor relationship. See e.g., Slusher, 359 B.R. at ----, 2007 WL 118009 at *8. There can be no question that in the vast majority of cases, creditors will be far better served under the monetary, rather than the temporal, approach. Creditors will be paid sooner under the monetary approach. This is of tremendous financial advantage, especially since unsecured creditors normally receive no interest on their claims. The present value of payments over three years is much greater than payment of the same amount of money spread out over five years. Plus, the risk of plan default is lower on a shorter plan--which means the creditors are much more likely to actually get paid, rather than having the debtor convert to chapter 7, in which case creditors are unlikely to receive any further payments. In sum, everyone benefits under the monetary approach in the vast majority of cases. More debtors will receive fresh starts more quickly. Creditors will be paid more money, more quickly, on their claims, and the entire bankruptcy system will be easier to administer and much more efficient.

This Court agrees with the Fuger court that "where the debtor's projected disposable income is consistent with the calculations on Form B22C, it makes little sense to hold the debtor hostage for 60 months where the debtor can satisfy the requirements of § 1325(b)(1)(B) in a shorter period." Fuger, 347 B.R. at 101. Accordingly, the Court holds that the phrase "applicable commitment period" does not dictate a minimum plan term, but requires only that the Debtor's projected disposable income be computed over that amount of time-- at least where, as here, Debtor's Plan provides for a term of at least three years. The Court finds that the Plan proposes to pay all of Debtor's projected disposable income over the sixty-month applicable commitment period to unsecured creditors, and therefore satisfies the requirements of § 1325(b)(1)(B). Alternatively, if this Court has the discretion to confirm Debtor's three-year Plan because it pays creditors what they would receive--in fact much more than what they would receive--under a five-year plan, the Court exercises its discretion to do so for the reasons set forth in this Memorandum Decision. Creditor's objection on this basis is overruled.

Ride-through is Still Alive, With a Twist

Before the advent of BAPCPA (2005), Chapter 7 debtors in the Ninth Circuit (which includes California) did not have to reaffirm a car loan in order to keep the car. As long as the debtor was current on payments, the debtor could keep the car, even if the installment contract stated that bankruptcy was an event of default. Things are different under BAPCPA, however. One of the sweeping changes made by BAPCPA was to require debtors to require debtors to reaffirm if they wish to keep a car.

Almost all car installment purchase agreements provide that bankruptcy is an event of default, thus allowing the creditor to repossess the car. Under prior law, these "ipso facto" (by the very fact) provisions had no effect. However, BAPCPA allows these provisions to have effect if the Debtor fails to either (1) timely file a statement of intention, or (2) timely fulfill that statement of intention. What this means is that if the debtor fails to timely file the statement of intention or follow through on the statement of intention, arguably, the creditor can repossess the car, even if the debtor is current.

This presents a significant conundrum often to debtors who are current on their car payments. The effect of reaffirmation is harsh. If you reaffirm, you probably can't discharge the debt in a subsequent bankruptcy, even if your car blows up or you lose your job and can't make the payments.

A recent case, however, indicates that the "ride-through" is still alive, if the debtor does everything he is supposed to do and the court declines to approve the reaffirmation agreement. The case is In re Moustafi, --- B.R. ----, 2007 WL 1592965 (Bkrtcy.D.Ariz.,2007). (Must have Westlaw to view.) In that case, the debtor timely filed the statement of intention and timely signed a reaffirmation agreement. The court declined to approve the reaffirmation agreement, because it was not in the debtor's best interest. Then the court stated that because the debtor had done everything that was required, 11 U.S.C. Sec. 521(d) does not allow the ipso facto clause to be valid. If the ipso facto clause is not valid, then there is no default and the creditor cannot repossess the car.

Negative Equity Does Not Count for 910 Claims

In In re Acaya, --- B.R. ----, 2007 WL 1492475 (Bkrtcy.N.D.Cal.,2007) (must have Westlaw subscription to view), the Northern District of California Bankruptcy Court determined that negative equity does not qualify as "purchase money" to protect what would otherwise be a 910 day creditor.

This is a situation that often happens. A debtor trades in his car, but he owes more than it is worth. The dealer allows him to take his "negative equity" with him to the next car he purchases. It is kind of like a reverse down payment. Instead of putting money down for the car, you take more debt with you that you add on to the car.

Under the old (pre 2005) law, debtors could cram down, i.e., pay only what the car is worth, in a Chapter 13 plan. Under the new law (2005 to present), if a car was purchased within the last 910 days, you have to pay the full amount owed on the car, not just what it was worth. However, you have to pay the full value of a "purchase money" loan. The court in Acaya determined that this roll-over of negative equity was not "purchase money" and therefore, it could be stripped off if the value of the car was less than what was owed.

Sale While in Foreclosure Rescinded 18 months After Contract and 14 months After Close of Escrow

In this case, In re Lloyd, --- B.R. ----, 2007 WL 1346553 (Bkrtcy.N.D.Cal.,2007), out of the Northern District of California, the Court held that a rescission of a home purchase contract was valid 18 months after the contract was signed and 14 months after close of escrow. The reason is that under the Home Equity Sales Contracts Act (HESCA), if a sale of a home in foreclosure is going to be completed, the seller needs to be given notice (next to his signature) stating that he has a 5-day right to rescind (cancel) the contract. That was not done in this case and the court found that the seller/debtor could rescind the contract and get his house back, even though the rescission was done over a year after close of escrow on the property.

Kansas Case Determines that 910 Claims Are Not Entitled to Interest!

This bankruptcy case out of Kansas, In re Kinsey, states that 910 car claims are not entitled to interest, because they are not "allowed secured claims" which would otherwise be entitled to interest under the Code. The case substantially relies on the Dewsnup v. Timm Supreme Court case. I am not aware of any other jurisdictions that have taken the same stance and I know that this issue has not been decided by the Fresno Bankruptcy Court. As a matter of practice, most Chapter 13 plans in the Fresno division contain the contract or Till interest rate.

New Chapter 13 Debt Limits

The new debt limits for Chapter 13 have been published. The new limit for unsecured debt is $336,900 and the new limit for secured debt is $1,010,650. These debt limits will go into effect on April 1, 2007. The old limits were $307,675 and $922,975, respectively. Click here for a link to the federal register with all of the new dollar amounts.

Part of New Bankrtupcy Law Ruled Unconstitutional

One of the provisions of the new bankruptcy law (the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 ("BAPCPA")) places limits and requirements on what an attorney may and may not say to clients considering bankruptcy. Some of these requirements are quite onerous. For example, 11 U.S.C. Sec. 526(a)(4) states as follows:

A debt relief agency shall not . . . advise an assisted person or prospective assisted person to incur more debt in contemplation of such person filing a case under this title or to pay an attorney or bankruptcy petition preparer fee or charge for services performed as part of preparing for or representing a debtor in a case under this title.

There are many legitimate instances where an attorney might advise a client to incur additional debt before filing bankruptcy. For example, courts have held that it is okay for a debtor to take steps to maximize his exemptions before filing bankruptcy. That might involve borrowing against a car to maximize the available homestead exemption. It does not hurt the lender on the car, because the borrower will have to reaffirm the debt and it allows the debtor to maximize the value of the exemption.

In Zelotes v. Martini, Case No. 3:05cv1591 in the United States District Court for the District of Connecticut, the Court recently ruled that these limitations on attorney speech are facially unconstitutional. The Court stated as follows:

Rather than changing the bankruptcy system by closing the loopholes, eliminating the incentives for opportunistic action or enacting penalties for those who take on such debt prior to filing for bankruptcy, Congress enacted § 526(a)(4), a prophylactic rule which prohibits attorneys from advising their clients to take on any additional debt in contemplation of bankruptcy, even when doing so would be lawful. As Plaintiff argues, and as both the Hersh and Olsen courts found, there are instances whereby taking on more debt in contemplation of bankruptcy would not constitute abuse of the bankruptcy system. Without delving too deep into the complexities of bankruptcy law, it is clear that the prohibition in § 526(a)(4), while addressing opportunistic abuses, could also ensnare lawful, financially prudent actions. The Hersh and Olsen courts noted examples where the prohibition could reach lawful and beneficial actions, including (1) “refinancing at a lower rate to reduce payments and forestall or even prevent entering bankruptcy,” (2) “taking on secured debt such as [a] loan on an automobile that would survive bankruptcy and also enable the debtor to continue to get to work and make payments,” (3) “taking out a loan to obtain the services of bankruptcy attorney, to pay the filing fee in a bankruptcy case or the conversion of a non-exempt asset to an exempt asset which is still allowed under the Bankruptcy code,” and (4) “refinanc[ing] a mortgage that allows a debtor to pay off the mortgage and other debts, such as credit card debt, in a chapter 13 where failure to refinance may only allow the debtor sufficient funds to pay off one or the other but not both.” Hersh, 347 B.R. at 24; Olsen, 2006 U.S. Dist. LEXIS 56197, at *20. Plaintiff cited these and other examples of lawful, financially prudent actions, including: (1) borrowing money from friends and family or taking out a secured loan to obtain the services of a bankruptcy attorney or to pay a filing fee, in order to (a) prevent a wage garnishment or attachment, (b) prevent a home foreclosure, repossession or associated costs or (c) avoid a preferential payment or fraudulent transfer to insiders; and (2) borrowing from friends and family or taking out a secured loan to finance the purchase of a new vehicle in order to (a) purchase a less expensive vehicle with lower monthly payments in order to maintain transportation, (b) obtain transportation and secure employment, (c) avoid the higher rate of interest—and therefore, potentially higher likelihood of default—which the debtor would face after filing for bankruptcy, (d) obtain a more economical and/or reliable vehicle in order to reduce average monthly expenses.

By prohibiting lawyers from advising clients to take a course of action that is lawful and in the client’s best financial interest, albeit a counterintuitive one, § 526(a)(4) prevents lawyers from giving clients the best and most complete advice. As Plaintiff argues, “[s]ection 526 chills the attorney’s very exercise of the advice and counsel function that is the defining feature of our profession.” (Pl.’s Opp. 11.) By prohibiting lawyers from advising clients to take lawful, prudent actions as well as abusive ones, § 526(a)(4) is overbroad and restricts attorney speech beyond what is “narrow and necessary” to further the governmental interest. Gentile, 501 U.S. at 1075; Hersh, 347 B.R. at 25 (citing In re R. M. J., 455 U.S. 191, 203, 102 S. Ct. 929, 71 L. Ed. 2d 64 (1982) (Even under intermediate scrutiny, “[s]tates may not place an absolute prohibition on certain types of potentially misleading information . . . if the information also may be presented in a way that is not deceptive.”); Conant v. Walters, 309 F.3d 629, 638-39 (9th Cir. 2002) (finding that government could not justify policy that threatened to punish a physician for recommending to a patient the medical use of marijuana on ground that such a recommendation might encourage illegal conduct by the patient)); Olsen, 2006 U.S. Dist. LEXIS 56197, at *21. Accordingly, the Court finds 11 U.S.C. § 526(a)(4) facially unconstitutional.

Click here for a PDF version of the decision.

Sue up or Shut up!

Have you ever received a letter threatening to sue to collect $388? Those fortunate souls who are unfamiliar with the court system might believe someone would actually sue to collect $388. But it is just not worth it and debt collectors know it. Here's an interesting article from Time regarding debt collectors who threatened to sue even when they knew suit was unlikely.

A class action was brought against the debt collectors alleging violation of the Fair Debt Collection Practices Act ("FDCPA"). The FDCPA prohibits debt collectors from making false or misleading statements in attempting to collect a debt. The debt collectors' letter stated that failure to pay the debt "could" result in a lawsuit. Thus, they claimed, the letters did not speak of an imminent lawsuit and did not violate the FDCPA. The District Court agreed with this reasoning and dismissed the claims. The Third Circuit Court of Appeals, however, did not agree and reversed the District Court, holding that the District Court must use a "least sophisticated debtor" standard of review in determining whether the statements were misleading.

Wall Street Journal on New Bankruptcy Law

The Wall Street Journal posted an article claiming (or at least inferring) the new bankruptcy law is a success and denigrating those who opposed the law.

Henry Sommer, president of the National Association of Bankruptcy Attorneys (and co-editor of Collier on Bankruptcy) posted the following response:

"I was not surprised to see the Journal's editorial page echo the financial services industry's talking points on the recent bankruptcy legislation. Unfortunately, you have your facts wrong. You don't state the source of your figures supposedly showing a decline in debtors' incomes, but the numbers most frequently being reported for debtors who have
filed in the last year reflect those debtors' "current monthly income," a new statutory term that excludes various types of income and therefore cannot meaningfully be compared to the income reported in cases filed before the legislation was enacted.

"In fact, our members report that the vaunted new means test is having negligible effects in terms of pushing higher income debtors into chapter 13 for the simple reason that there were never many debtors who could afford to pay their debts. The same types of debtors are filing chapter 7 cases as before the legislation. Consumer credit counselors, to whom every individual debtor must go before filing a bankruptcy case, also report that virtually
no debtors they see are able to pay their debts.

"The truth is that the biggest effect of the new law is the substantially increased cost of filing bankruptcy cases, borne by all debtors and acknowledged by everyone. These costs have limited access of lower income families to much-needed relief from financial problems caused by medical expenses, unemployment, and divorce. They are the result of unnecessarily
increased government bureaucracy and onerous new paperwork requirements, and would have been condemned by the Journal had they been imposed on businesses instead of struggling families."

My own view is that those who prophesied the end of bankruptcy before the bill took effect were engaging in a bit of hyperbole. The law has some serious problems and doesn't really fix a whole lot. It does make it harder and more expensive for people to file bankruptcy, simply because it creates more hoops to jump through. But (speaking from my own experience) the means test that the WSJ is boasting about in this article results in wildly inconsistent results. For example, let's say a salesman is paid on commission only. He usually makes about $12,000 a month. However, his commissions go down to about $6,000/month for five straight months before going back up to $12,000. The means test says he has to use $7,000 as his monthly income, even though he might make $12,000/month for the next year. Most likely, he will have expenses over $7,000/month and would satisfy the means test for Chapter 7 or have a low payment for Chapter 13. The WSJ's claim that the new law is successful is premature.

But, as anyone knows who has read something in the papers about their profession, newspaper reporters usually don't get deep enough into a topic to really understand it and consequently, they usually have at least some level of inaccuracy in their reporting.

Foreclosure Consultants Are Bad News

I have people come in my office frequently who have had this happen. They defaulted on their home loan and the house is going into foreclosure. They were contacted by someone who offered to help them get out of the default. They offer to help in different ways: (1) buying the house, (2) assuming the loan, (3) making payments until the borrower can refinance, and (4) getting a new loan for the borrower. Most of the time, however, they charge high (and hidden) fees and/or they buy the property for a fraction of what it is worth.

This is a group that was caught by the California Attorney General, but there are many more out there. Consumers need to know that there are laws protecting them against these predators. California Civil Code Sec. 2945, et seq. severely restricts what a foreclosure consultant can do and provides extensive remedies when a foreclosure consultant does not comply with the law. The Better Business Bureau provides an explanation of this law here.

If a foreclosure consultant has taken advantage of you, please call our office to arrange a free consultation (559.436.6575) or visit my website to schedule an appointment online.

QWR's and RESPA

One thing I have been seeing a lot of recently is mortgage companies hiding the ball on consumer loans in bankruptcy. For example, a mortgage company might allocate certain payments from a Chapter 13 Trustee to a "suspense account" and not to principal and interest as they should. Or maybe there is a substantial "escrow shortage" when there was no escrow account to begin with. If you try to get information from the companies just by calling them, it is often like a shell game and sometimes, you just need documentation of what happened. And mortgage companies are required to provide such information under the Real Estate Settlement Procedures Act ("RESPA"). The procedure to request such information is by means of a "qualified written request." You can see a sample request here.

Fool me once, fool me twice . . . but not three times

Bankruptcy Judge Whitney Rimel (of Fresno) issue an interesting opinion (In re Gay, No. 06-10472) recently on the issue of the circumstances under which the automatic stay can be reinstated. By way of background, the automatic stay goes into effect immediately upon the filing of a bankruptcy case. It prevents creditors from taking any action to collect a debt.

The new bankruptcy law (BAPCPA) made some changes to the automatic stay, including a provision that if you filed one bankruptcy within the year preceding the current filing and that filing was dismissed for any one of several reasons, the automatic stay expires after 30 days and another provision that if you filed had two bankruptcy cases dismissed within the last year, there is no automatic stay upon the filing. It can be reinstated upon a showing by clear and convincing evidence that the case was filed in good faith.

In In re Gay, there had been two previous dismissals. In considering whether the new case was filed in good faith, Judge Rimel looked primarily to the issue of whether there had been a change in circumstances. The debtors presented evidence that their income had stabilized since the previous filings. However, the court found this unpersuasive and determined that the debtors did not rebut by clear and convincing evidence the presumption that the third filing was not in good faith. Consequently, the stay was not reinstated and the debtors probably lost their home.

This should give anyone pause who is considering filing a bankruptcy case. If the case is dismissed, you may lose the automatic stay if you have to file again. This is especially a problem for debtors who represent themselves in bankruptcy. I had that issue with a client recently. He filed in pro per (without an attorney), did not comply with all of the requirements, and his case was dismissed. He immediately refiled and then hired me to get the automatic stay reinstated (which we did). He could have avoided a lot of problems by hiring an attorney to help him with the first case.

12 myths about bankruptcy

This article entitled 12 myths about bankruptcy has some good information. For additional myths, go to
http://www.fresnobklaw.com/myths.php.

New Bankruptcy Law: Credit Cards Before God?

Here is an article about a bankruptcy ruling out of New York that said a religious debtor was not allowed to use chartiable contributions as an expense; ergo, the debtor had to pay credit card debt for 5 years before he could again donate to the church. Click here for the full text of the decision. Most of the news articles on this don't do a very good job of explaining what actually happened.

Many people have heard of the "means test" that is part of the new bankruptcy law (BAPCPA). Essentially what happens is that a debtor's income is examined and if the debtor is above the median income for his state, the debtor has to use a set of IRS guidelines to determine whether the debtor has any disposable income that could be used to pay creditors. Debtors who are under the median income do not have to use the IRS standards. They use their actual expenses. The importance of what set of expenses you use is that if your expenses are more than your income, you qualify to file Chapter 7, and even if your expenses are less than your income, your expenses determine how much you have to pay per month in a Chapter 13. (This is a great oversimplification, but it states it in concise terms.)

Because of a furor over decisions like the Diagostino decision before BAPCPA, Congress enacted a law that allowed religious contributions to be counted as an expense. The Diagostino decision essentially says that by enacting BAPCPA, Congress undid that allowance for any debtor who is over median. So, now over-median debtors are not allowed to make charitable contributions while in a Chapter 13 case. Just for example, a single debtor in California is over median if he makes about $50,000 a year.

UPDATE: Orrin Hatch, a proponent of BAPCPA and senator from Utah, issued a press release stating his disagreement with the opinion. Then, he got a bill (Senate Bill 4044) passed by the Senate changing the law so that the Court's ruling would be overturned. The bill has been sent to the house, but probably will not be considered soon do to the impending election. But to hear Senator Hatch talk about it, he's saved the (tithing) world.