Monthly Archive for July, 2009

Still Looming: Bankruptcy Reform and Cramdown

Published
by
Beth Schenz
on July 24, 2009
in Bankruptcy Act 2009 and Real Estate
. 0 Comments

On July 23, 2009, the Senate Committee on the Judiciary, Subcommittee on Administrative Oversight and the Courts scheduled a hearing on “The Worsening Foreclosure Crisis: Is It Time to Reconsider Bankruptcy Reform?” Due to the rise in foreclosures and continuing high level of unemployment, Democratic senators are attempting to revisit the bankruptcy reform that would allow debtors to “cramdown” their mortgage debt to the value of the real property.

Those who presented testimony before the Committed were as follows:

Proponents for the Cramdown

Alys Cohen, staff attorney for the National Consumer Law Center, indicated that, “[u]nless HAMP both increases its reach and mandates principal reductions, Congress should pass legislation to allow bankruptcy judges to modify home loans in bankruptcy and also should consider further reforms to the servicing industry.”

Adam J. Levitin, Associate Professor of Law at Georgetown University Law Center opined that bankruptcy cramdowns are the only tool left to stabilize the foreclosure crisis. Mr. Levitin stated, “[b]ankruptcy courts are capable of immediately handling a large volume of filings, and the bankruptcy automatic stay would function like a foreclosure moratorium until cases could be sorted through.”

Proponent Against the Cramdown

Mark A. Calabria, Ph.D., Director of Financial Regulation Studies at the Cato Institute, stated that, “[i]t is not exploding ARMs or predatory lending that drives the current wave of foreclosures, but negative equity driven by house prices declines coupled with adverse income shocks that are the main driver of defaults on primary residences. Defaults on speculative properties continue to represent a large share of foreclosures. Accordingly for any plan to be successful it must address both negative equity and reductions in earnings. Cramdown fails on both accounts.”

General Comments

Richard Genirberg, J.D., M.B.A., M.A., who represents consumers and creditors in Chapter 7 and Chapter 13 bankruptcy cases offered that cramming down residential real estate loans would benefit his debtor clients. Also, Mr. Genirberg stated that, “[l]egislating cramdown of residential real estate would create a veritable ‘license to steal’ from mortgagees. Mr. Genirberg suggested Congress needed to decide what would be beneficial for the American economy.

The Ranking Member of the Committee, Senator Jeff Sessions (R-Alabama) opposes such cramdown provision. However, Senator Richard J. Durbin (D-Illinois) continues to press for mortgage cramdowns in bankruptcy. Congress is expected to break for recess in the second week in August, 2009.

Can A Debtor Cram Down Negative Equity Financed Through A Newly Purchased Vehicle?

Published
by
David Yunghans
on July 13, 2009
in Motor Vehicle
. 0 Comments

Negative equity is created when a debtor owes more on a trade-in than the actual value of the trade-in.  This negative equity is then rolled into the purchase of the new vehicle.  Under the 910-day rule, debtors cannot cram down a purchase money security interest in a motor vehicle acquired for the personal use of the debtor incurred within 910 days of filing for bankruptcy, or a debt incurred during the 1-year period preceding that filing.  An initial reading of the 910-day rule favors creditors, as debtors cannot cram down a newly purchased vehicle to the replacement value.  However, the rule as interpreted by many bankruptcy courts has created a murky area of law. 

Debtor attorneys have successfully argued that a new vehicle loan containing negative equity can be crammed down, as the negative equity is not considered purchase money securing the loan.  Although debtor attorneys at first were successful in arguing that negative equity is not purchase money, several Circuit Courts of Appeal have now held the opposite.   The 11th, 2nd, and most recently the 4th Circuit Courts of Appeal have ruled in favor of creditors. The issue is currently before the 6th Circuit Court of Appeals.

The three lines of analysis courts have followed in determining whether negative equity is purchase money are: 1) dual-status rule, 2) transformation rule, and 3) negative equity is purchase money.  Under the dual-status rule, a debtor can cram down the amount of negative equity financed in the purchase of the new vehicle.  Under the transformation rule, the financing of negative equity “transforms” the entire loan into non-purchase money, therefore the debtor can cram-down the loan amount to the actual fair market value of the vehicle.  Lastly, courts have held the negative equity rolled into the new loan is purchase money and cannot be crammed down.

Courts ruling that negative equity is purchase money follow their state law definition of purchase money under Article 9 of the Uniform Commercial Code.  Most recently in the Southern District of Ohio, Judge Hopkins ruled that, “as long as some portion of the transaction is secured by a purchase money security”, the loan cannot be crammed down.  This ruling has taken the interpretation of what is considered purchase money one step further. In favor of creditors, the ruling relied upon the plan language of the statute rather than state or federal law.

Although interpretation of the 910-day rule by bankruptcy courts has created murky waters, which creditors must navigate, the rulings of the Circuit Courts indicate the waters again may become passable.  It seems that soon the majority rule will likely hold negative equity as purchase money, which cannot be crammed down. 

If you have any questions on this information, please contact David H. Yunghans, Esq., an associate focused on bankruptcy located in the Cincinnati office of Weltman, Weinberg & Reis Co., L.P.A. David can be reached at (513) 723-2211 or via e-mail at dyunghans@weltman.com.