Recent Entries

Garnishment Preferences and the Debtor’s Interest in Property

Published on April 12, 2012 in Bankruptcy Filings. 0 Comments

By Milan Kubat, Esq.

In 2011, Bankruptcy Filings in the United States were down from 2010. Nevertheless, more than 1.3 million bankruptcy cases were filed. The effect on creditors and their recovery of bad debt continues to be an issue, not the least of which is the recovery of preferential payments by Trustees or Debtors in Possession in Chapter 7 and Chapter 11 proceedings. What initially may seem to be a recovery could end up being returned to the Bankruptcy Estate by the creditor when a debtor files for Bankruptcy.

One of the primary goals of a Chapter 7 Bankruptcy is the equitable treatment of creditors. Although that statement would seem oxymoronic, or at the very least quixotic to most creditors, there is some truth to it. Creditors, and most especially those holders of unsecured debt, would certainly argue that the filing of Chapter 7 would prevent any equitable treatment of a creditor’s claims. The voidable preference is, in fact, a notion of equality for all creditors of an insolvent debtor. A Bankruptcy Estate’s primary tool in this capacity is the Trustee’s strong-arm provision in 11 USC §547.

The Chapter 7 Bankruptcy Trustee or a Debtor in Possession has the power to avoid pre-petition preferential transfers. Use of this power constitutes a method by which, in certain circumstances, the Bankruptcy Estate may be enlarged for the benefit of unsecured creditors and to the detriment of other creditors. The purpose of avoiding power is designed to accomplish an equitable distribution of Bankruptcy Estate property in the order established by the Bankruptcy Code and to prevent the debtor from choosing (voluntarily or involuntarily) which creditors to repay.

A voidable preference occurs when there is a transfer of the debtor’s interest in property made to or for the benefit of a creditor, concerning an antecedent debt of the debtor, at a time when the debtor is insolvent and within 90 days prior to the filing of the Bankruptcy petition or up to one year before bankruptcy if the creditor is an insider [11 USC§547(b)(1-4)].  The transfer of the property is done when the debtor has acquired rights in the property transferred [11 USC§547(e)(3)].  The results are that the creditor receives a larger share than it would have obtained under the Bankruptcy Code if the transfer had not been made, and the estate had been liquidated under a Chapter 7 Bankruptcy [11 USC§547(b)(5)].  This is how the Trustee keeps the creditors on level footing.

One of the most common voidable preferences is the garnishment of a debtor’s bank account and or a debtor’s future wages/personal earnings. The key to determining whether the Trustee has rights to a garnishment is analysis of when the transfer of the property takes place. Combining 11 USC§547(e)(3) and 11 USC§547(b)(4) will determine whether the debtor had rights in the property transferred and when those rights vested in the debtor. The Trustee cannot acquire greater interest in property than that held by the debtor upon the bankruptcy petition filing date [Mayer v. United States (In re Reasonover), 236 B.R. 219, 226 (Bankr. E.D. Va. 1999)]. Ohio law is then used to determine when a lien is perfected and when a debtor has interest in the property at issue in the transfer [Battery One-Stop Ltd. V. Atari Corporation, 36 F.3d 493, 494 (6th Cir. 1994)].   

Example I. John Debtor owes ABC Bank $1,000.00 on a note. ABC Bank gets judgment against the Debtor for the amount on August 29th. To execute on the judgment, Bank files a notice of garnishment with the court which is then served on Debtor’s Credit Union on September 14. Credit Union answers the garnishment on September 17 stating that the debtor has $1,000.00 in his account. October 1st, the Credit Union sends the $1,000.00 to the court, which summarily sends the funds to ABC Bank which is received by the Bank on October 10th. John Debtor files bankruptcy on December 20th.

The above example is the typical bank account garnishment. Creditor bank has served the garnishment order and received an answer back from the Debtor’s credit union.  All of those actions occurred prior to the 90-day Bankruptcy preference period. However, the Creditor received the funds within the preference period. In the above example, the Trustee would have no interest in the funds even though they were recovered by the Creditor during the preference period.  The Sixth Circuit Court of Appeals determined that Ohio Garnishment Law (O.R.C. §2716.13) in conjunction with 11 USC§547(e) identifies the date when the transfer occurs as the date in which the garnishee (Credit Union in our example) is served with the garnishment order [Battery One-Stop at 497]. The court also determined that State Law controls when the garnishment is “perfected.” Ohio Revised Code §2716.13(B) provides that, upon service of an order of garnishment on a garnishee, the order binds the property of the judgment debtor in the possession of the garnishee from the time of service [Battery-One Stop at 496]. Because of that, no creditor can acquire a lien superior to the judgment creditor [Battery One-Stop at 496].  Thus, in the above example, the actual transfer date would be the date the garnishee (Credit Union) was served with the garnishment order and not when the funds finally made it to the Creditor (ABC Bank). The transfer is outside of the 90-day preference period. Upon that service date, the debtor has lost all property interest in those funds and they are considered property of the judgment creditor. The key to understanding this is that the funds were already in the bank account and not speculative future wages/earnings.

Example II. John Debtor owes ABC Bank $1,000.00 on a note. ABC Bank gets judgment against the Debtor for the amount on August 29th. To execute on the judgment, Bank files an order of garnishment and serves the Debtor’s employer XYZ Store on September 14th. Garnishee employer, in accordance with the order, pays the Court $300.00 on September 17th, then pays the Court another $350.00 on September 27th and another $350.00 on October 10th. John Debtor files bankruptcy on December 20th.

This is an example of a typical wage garnishment.  The question brought by this example is whether a garnishment order served outside the 90 day preference period protects wages that were actually withheld within the 90 day period from a preference action.  The answer to this is no, the Trustee would have a right to those funds. Once again the Sixth Circuit weighed in on this issue holding, where a garnishment lien was executed more than 90 days prior to a bankruptcy filing, the amount of the debtor’s wages garnished during the preference period are voidable transfers because the debtor does not acquire rights in his/her wages until he/she has earned them [Morehead v. State Farm Mutual Automobile Insurance Company (In re Morehead), 249 F.3d 445, 447 (6th Cir.2001)]. The Sixth Circuit acknowledged that 11 USC§547(e)(3) along with State Garnishment Law  provides that a transfer for purposes of obtaining a preferential transfer does not occur until the debtor acquires rights in the property, thus a transfer of wages can not occur for the purposes of preferential analysis until the wages are actually earned [Morehead at 449].   The Morehead case specifically addressed Kentucky Garnishment law, however, Ohio Bankruptcy courts have also adopted this reasoning. In reviewing the Ohio wage garnishment law, the Bankruptcy court held that, until the municipal court actually disburses a debtor’s garnished funds to a Creditor, the debtor still has an interest in those funds, which upon Bankruptcy filing, these funds pass on to the Chapter 7 Trustee [Van Wert Hospital v. French (In re Cummings) 266 B.R. 138, (No. Dist. Bankr Ohio, 2001)].  Although the creditor may have a lien interest in those funds, it does not eliminate the debtor’s ownership interest in the property [Id at 143].   The theory underlying this analysis is that the debtor does not have a property interest in his future wages until they are actually earned.

Those are two typical preference problems that creditors continue to see more and more frequently. With equity in real estate and vehicles becoming scarce, Trustees are now much more aggressive in recovering preferences from bank account garnishments and wage garnishments. With litigation costs on the rise and creditors trying to save as much money as possible, it is imperative to know when it is worth fighting the Trustee’s strong-arm powers and when it’s just smart to settle. The first step in garnishment preference avoidance analysis is the determination of when the funds are considered transferred from the debtor to the creditor. Although it may seem to be a lot of work to obtain this information, the savings to creditors could be substantial.

Milan is an Associate in the Bankruptcy Practice based in Brooklyn Heights, OH office of Weltman, Weinberg & Reis Co, LPA. He can be reached at 216.739.5647 or .

Foreclosure Fraud and the One Percent Interest

Published on April 6, 2012 in Bankruptcy Filings and Real Estate. 0 Comments

By Stephen R. Franks, Esq.

On March 16, 2012, Frederic Alan Gladle will be sentenced for his role in a nationwide foreclosure-rescue fraud scheme that charged homeowners facing foreclosure fees in exchange for fraudulently postponing foreclosure sales.   Gladle’s role in the scheme netted him more than $1.6 million in fees from homeowners and delayed the foreclosure sales of approximately 1,128 properties.  Gladle could be facing as much as seven years in federal prison as the crime of bankruptcy fraud carries a statutory maximum sentence of five years, and aggravated identity theft carries a mandatory sentence of two years.   

Gladle’s role involved orchestrating a scheme whereby homeowners facing an impending foreclosure sheriff’s sale, would deed a 1% interest in their property to a bankruptcy debtor. The bankrupt individuals would have no idea that they were receiving the interest in the property.  As a result of the 1% transfer, an automatic stay would be imposed.  The creation of the automatic stay would force the sheriff’s sale to be cancelled and relief from stay would then need to be sought in order to continue with the foreclosure process.  This scheme would then be repeated with another bankrupt debtor once relief from stay had been obtained.  The homeowner facing foreclosure would then find another debtor in bankruptcy and deed another 1% interest to that individual.  The cycle would begin again as the creditor would need to seek relief from stay in this bankruptcy case.  Many foreclosures were postponed for years as a result of this scheme.

Fortunately, Gladle was caught and is facing punishment for his involvement in the foreclosure fraud scheme.  However, there remain many similar schemes that continue to frustrate foreclosure efforts. In order to protect yourself from similar delays, the most important action you can take is to bring any suspicious activity to the attention of your attorney.  Your attorney can then review the foreclosure and transfers of property to help determine if the debtor is engaging in a scheme of foreclosure fraud.

Another pro-active action is to report any suspicious activity to the United States Trustee.  As part of the Financial Fraud Enforcement Task Force, the United States Trustees are actively working to investigate and prosecute financial crimes.   

Finally, if you believe that your loan is part of a foreclosure fraud scheme, request that your attorney file for In-Rem Relief from Stay.  In-Rem Relief is codified in Section 362(d)(4) of the Bankruptcy Code and provides that real property be excluded from any bankruptcy that is filed within two years subsequent to relief being obtained.  Therefore, the next time the borrower transfers the property to a bankruptcy debtor, no stay would go into effect as the property would not be included in that bankruptcy.  The two year bar gives creditors the time needed to complete a foreclosure sale.   

Stephen is an associate in the Bankruptcy Group based in the Brooklyn Heights office of Weltman, Weinberg & Reis Co., LPA. He can be reached at 216.739.5645 and .

 

Another Jurisdiction Allows Lien Stripping After Chapter 7 Discharge

Published on March 16, 2012 in Bankruptcy Filings and Real Estate. 0 Comments

The United States District Court for the Eastern District of California In Re Frazier has turned the tides on the split decisions in the Eastern District of California pertaining to the ability of a Debtor to strip second mortgages that have no value in a Chapter 13 proceeding after the Debtor has obtained a discharge in a Chapter 7 proceeding.  The District Court’s holding becomes another case in the Country where there is split authority whether the Debtor has the ability to strip a lien under these circumstances.  The Courts rational is that the ability to strip the lien is not based upon the Debtor’s lack of ability to obtain a discharge in the Chapter 13 due to the prior Chapter 7 discharge, but rather, is based upon the Debtor’s completion of all the requirements in a Chapter 13 case. 

As authority continues to be split around the Country, the chances of this case being brought to the Supreme Court seem very plausible.  In addition, we believe that we will see an increase in the Chapter 13 filings in the Eastern District of California after the Debtor has already obtained a discharge in a Chapter 7 case.  Chapter 20’s will once again be a proactive measure by Debtors in those Bankruptcy Courts. 

When faced with a situation where the Debtor is attempting to strip a lien in a Chapter 13 proceeding where the underlying obligation was previously discharged in a Chapter 7, it is crucial that the following steps be taken.  Confirm the value on the property by obtaining an appraisal.  Verify the outstanding balance on any mortgages ahead of the mortgage to be stripped to ensure that the amounts set forth by the Debtor are truly the amounts owed.  Finding $1.00 of equity will allow your mortgage to survive and be paid in full.  In addition, it may be time to determine whether the Chapter 13 proceeding was filed in good faith or solely for the purpose of stripping the second mortgage.  The status of the first mortgage on the property will play a large role. 

Weltman Weinberg and Reis Co., L.P.A. will continue to the monitor the case log throughout the Country as it pertains to the ability to strip a lien after the Debtor has obtained a Chapter 7 discharge.  Unfortunately, Chapter 20 proceedings may be alive and kicking once again. 

If you have any questions on this matter, please contact Alan C. Hochheiser, Managing Partner of the Bankruptcy Group at Weltman, Weinberg & Reis Co., LPA. Al can be reached at 216.739.5649 and .

Alabama County Files Largest Ever Chapter 9 Municipal Bankruptcy: Is This A Trend?

Published on November 17, 2011 in Bankruptcy Filings. 0 Comments

By Scott D. Fink, Esq.

Last week, Jefferson County, Alabama filed for bankruptcy relief under Chapter 9 of the Bankruptcy Code as case number 11-5736 in the Northern District of Alabama.   This represents the 12th municipal entity to file a Chapter 9 Bankruptcy this year, following on the heels of a recent Chapter 9 filing by the City of Harrisburg, Pennsylvania last month.[1]    Based on the total amount of debt scheduled, this case represents the largest municipal Bankruptcy filing in U.S. history[2] , rivaling the bankruptcy filed by Orange County, California (case number 94-22272 filed in the Central District of California on December 6, 1994).    Debts related to Jefferson County’s sewer system, alone, exceed $3.1 billion.  According to the County’s bankruptcy counsel, Kenneth Klee, the filing came as a result of the inability of the County and its creditors to reach a deal to restructure the County’s debt, despite negotiations over the past several months.   Jefferson County had previously defaulted on bonds, which were used to refinance the county’s sewer system.  “There was an impasse reached,”  Klee stated to Bloomberg News in an interview last week.  “None of the creditors — zero– signed up to the deal that we have been negotiating for six weeks.”
 
By seeking Chapter 9 relief, the County may now have the ability to restructure and renegotiate its debt obligations over creditors’ objections.  In addition, Chapter 9 gives the County the option of assuming or rejecting executory contracts, which potentially encompass a whole range of potential obligations, including ongoing service contracts, vendor agreements and perhaps even existing agreements with public employee unions.

Many other municipalities around the country will be watching this case closely, as they are faced with their own budget shortfalls, resulting from cuts in state and federal funding, as well as ever-increasing obligations for retirement benefits and health insurance for their workers and retirees.  Whether the decision to utilize Chapter 9 for debt relief becomes a trend or a cautionary tale remains to be seen.  We will continue to monitor the case as it progresses and will provide further updates as events warrant.

If you have any questions on this matter, please contact Mr. Scott Fink, Esq. Scott is an associate in the Bankruptcy Practice of Weltman, Weinberg & Reis Co., LPA located in the Brooklyn Heights office. He can be reached at 216.739.5644 and .

[1] Bloomberg News, November 9, 2011
[2] Id.

Bankruptcy Update: Recent Trends, New Rules and Revised Forms

Published on October 4, 2011 in Bankruptcy Filings, Federal Rules of Bankruptcy Procedure, Local Procedures & Rules and Proof of Claim. 0 Comments

NBKRC: Bankruptcies Down Thru Third Quarter 2011

According to statistics from the National Bankruptcy Research Center (NBKRC), bankruptcy filings have declined through the first three quarters of 2011.  Total consumer bankruptcy filings totaled 144,722, which was down approximately 10% from the first three quarters of 2010.  In addition, bankruptcy filings in September 2011 declined substantially, down 17% over the same period of last year.  Bankruptcy filings for September 2011 totaled 108,517.  Although filings continue to decline, the NBKRC still projects an estimated 1.35 million bankruptcies for 2011.  Many factors have contributed to the 2011 decline in bankruptcy filings, including the lack of available credit to consumers, foreclosure moratoriums and reduced spending by debtors. 

New Bankruptcy Rules and Forms effective December 1st: Is your organization ready?

On December 1, 2011, certain bankruptcy rule changes and new forms will become effective.  These changes primarily deal with the filing of a Proof of Claim and relate to mortgage creditors as well as debt buyers.  However, the change in the Proof of Claim form will affect all entities who file Proof of Claims in bankruptcy proceedings. 

The major change to the form involves attachments that are required to lay out certain fees and costs, and a breakdown of arrearages on the mortgage claims.  It also requires that mortgage creditors provide an escrow statement as of the date of the bankruptcy filing.  The new form provides for payment change notifications to be filed with the Court and the specific form that needs to be used. 

The new rule also changes the procedures that are necessary when a Trustee finishes paying a mortgage through a Chapter 13 Plan.  Weltman, Weinberg & Reis Co., L.P.A. (WWR) will be providing extensive information and training sessions for clients through webinars over the next two months to ensure that you are ready for the changes. 

In addition to the changes to the procedures and forms pertaining to Proof of Claims, there has also been a change in the Reaffirmation Agreement form.  The B240 form has been altered by a technical amendment to clarify some of the language on the form.  This does not affect the procedure and the information needed within the reaffirmation agreement itself.  The additional language is as follows and can be found in the form on the United States Courts website: 

“Even if you do not reaffirm and your personal liability on the debt is discharge because of the lien your Creditor may still have the right to take the property securing the lien if you do not pay the debt or default on it.  If the lien is on an item of personal property that is exempt under your State’s Law or that the Trustee has abandoned, you may redeem the item rather than reaffirm the debt.  To redeem, you must make a single payment to the Creditor equal to the amount of the allowed secured claim, as agreed by the parties or determined by the Court.”

The changes in this language indicate that the redemption, pursuant to 11 U.S.C. § 722, must be made by a single payment.  It also changes the language to say that “the amount of the allowed secured claim which is different from the current value of the property”.  This now becomes consistent with the language contained in § 722 of the Bankruptcy Code.  Although this change does not affect the information that must be included in the Reaffirmation Agreement as to balances, interest rates, monthly payments and arrearages, it is important when preparing a Reaffirmation Agreement after December 1, 2011, that the correct B240A-B alt form is used. 

WWR will continue to keep you advised as to breaking news and trends in bankruptcy proceedings.  Should you require further information please do not hesitate to contact Alan C. Hochheiser, Managing Partner of the Bankruptcy Group. Al can be reached at 216.739.5069 and .