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Recently, lenders/credit unions in Pennsylvania have been advised by debtors of their intentions and wishes to reaffirm unsecured lines of credit and/or visa loans in order to maintain their good relationship with the lending institution. With increasingly stringent lending practices and approval on loans being harder to secure, debtors are doing so in the hopes that the debtor(s)’ bankruptcy filing does not affect their chances in the future with such lending institution to receive approval on additional loans.
Upon such requests being received, the lenders/credit unions have been requesting reaffirmation agreements be prepared and sent to the debtors(s) and/or their counsel for review and execution. If feasible, the debtors(s) and their counsels are executing such reaffirmation agreements, even though this technically thwarts the act of Chapter 7 bankruptcy itself; to discharge all unsecured debt and to allow the debtor a clean start.
The issue arises when the reaffirmation agreement is filed with the court. The bankruptcy court in the Western District of Pennsylvania is declined to approve such reaffirmation agreements. The court is scheduling hearings on such agreements and even upon the agreement and recommendation of both parties and their counsels; the courts are not issuing orders to approve the reaffirmation of any unsecured debt. As explained by one judge in the Western District of PA, regardless of the reason for wanting to reaffirm, he would not approve (even if it did not pose an undue hardship on the debtor) an agreement to reaffirm an unsecured debt, as the debtor filed bankruptcy in order to discharge such debts. Generally, in his opinion, what would be the point of filing bankruptcy, if upon discharge the debtor still owed thousands of dollars in unsecured credit card debt? The judge went on to say that he could not see any instance where he would approve such an agreement.
Upon review of 11 U.S.C. §524(m)(1) and (2), the code is clear that approval based on presumption of undue hardship does not apply to credit unions. Whether or not these sections leave room for discretion for the judge to deny based not upon presumption of undue hardship but based solely upon the fact of the debt being unsecured is left undetermined and such order could be appealable.
While the good intentions of the debtor(s) may be to maintain responsibility for his/her debts to certain lenders/credit unions, and likewise of the lender to try and collect upon a debt that nonetheless would be discharged, the courts, regardless of the intentions and/or reasoning of the parties, are not willing to reach beyond and approve such agreements.
If you have any questions on this matter, please contact Ms. Keri P. Claeys, Esq. Keri is an associate in the bankruptcy group located in the Pittsburgh office of Weltman, Weinberg & Reis Co., LPA. She can be reached at 412-338-7102 or .
In a previous advisory, titled “Lien Stripping Prohibited if Debtor is Ineligible for Discharge”, the discussion centered on emerging case law that prohibits a debtor from stripping liens on wholly unsecured mortgage claims when that debtor is ineligible for a Chapter 13 discharge. A recent case out of the Northern District of Illinois Bankruptcy Court adds another barrier to stripping wholly unsecured liens – when property is held in a tenancy by the entirety, and only one spouse seeks to strip the lien.[1]
In this case, both the husband and the wife filed a Chapter 13 bankruptcy, but the husband was ineligible for a Chapter 13 discharge because he received a Chapter 7 discharge within four years of filing the case. The wife, however, was eligible for a discharge, and so could conceivably strip the lien. The plan proposed to strip the second mortgage as wholly unsecured, and an adversary proceeding was filed to determine the secured status of the mortgage lien. If the husband could not strip the lien, the question became: could the wife do it for both, or only as to her interest? The creditor argued that she could not do either, and the court agreed.
Most states recognize tenancy by the entirety as a form of property ownership. Each state may vary its characteristics. But the fundamental aspect remains the same – only married couples may hold property in a tenancy by the entirety. This is an ancient form of property ownership which, while it recognizes two individuals as owners of a property, it also recognizes only one tenant of the property, that is, the marriage. In other words, neither spouse has an individual slice of the property. Both together own it all.
Spouses may only affect the property by acting together, but individually they cannot. For example, neither can mortgage the property without the other’s consent, but together they both can. Conversely, a creditor cannot hold a lien on only one spouse’s interest, only on the whole of the marital entity’s interest, the whole property.
Using this reasoning, the judge held that when property is held as a tenancy by the entirety, a lien strip may occur only when both spouses are acting as one. In this case both spouses signed the note and granted a second mortgage on their residence. But, because only one spouse could conceivably strip the lien due to the other’s ineligibility for discharge, neither spouse could do it.
When only one spouse seeks to strip a lien, determine whether the property is held in a tenancy by the entirety. If only one spouse seeks to strip a lien, research whether the property is held in a tenancy by the entireties. If both spouses seek to strip a lien, verify that neither is ineligible for a discharge. Consult with your local bankruptcy counsel to review the state law as to tenancy by the entirety and advise you how to proceed.
If you have any questions on this matter, please contact Monette W. Cope, Esq. Monette is a junior partner in the bankruptcy department of Weltman, Weinberg & Reis Co., LPA located in the Chicago office. She can be reached at 312.253.9614 or .
[1]Erdmann v. Charter One Bank (In re Erdmann), 2011 Bankr. LEXIS 845 (Bankr. N.D. Ill. Mar. 10, 2011)
Chapter 13 debtors who are ineligible for a discharge may not strip mortgage liens, even if the liens are wholly unsecured. This is a growing consensus among a majority of bankruptcy courts, and is a result of the interplay between two Bankruptcy Code provisions enacted in the 2005 BAPCPA amendments.
The first provision is that a debtor is not eligible for a discharge in Chapter 13 if the case is filed less than four years after obtaining a discharge in a Chapter 7, 11 or 12,[1] or less than two years after a discharge in a Chapter 13.[2] Previously, there were no grounds to deny discharge in Chapter 13 if a debtor was a frequent filer, or more to the point here, filed a “Chapter 20.” A “Chapter 20” is obtaining a Chapter 7 discharge as to all unsecured debt, and then filing a Chapter 13 to cure defaults on secured debt to avoid repossessions and foreclosures.
The second provision is that a secured creditor has the right to retain its lien on an “allowed secured claim” until the earlier of 1) payment in full of the balance under non-bankruptcy law, or 2) a Chapter 13 discharge.[3] This was enacted to end common plan provisions that required release of a lien before a Chapter 13 discharge or payment of any unsecured portion once the secured portion of a claim was paid. If the case was later converted or dismissed, the creditor had lost its lien.
Combined, these two provisions work to prohibit lien stripping when a debtor is ineligible for a Chapter 13 discharge. If a lien must remain until the earlier of discharge or payment in full of the non-bankruptcy balance, then the earlier event will be full payment because no discharge will be entered. This operates to prohibit lien stripping when the debtor is ineligible for a discharge– the lien must remain until the underlying claim is paid in full, even if it is wholly unsecured.
Debtors have claimed that they can avoid the lien retention statute if a mortgage is wholly unsecured by arguing a wholly unsecured mortgage lien is an unsecured claim in actuality and the statute only applies to “allowed secured claims”. Likewise, by calling such a claim unsecured because of the absence of any equity, they have also argued that the lien is void by operation of law under 11 U.S.C. § 506(d), which states: “To the extent that a lien secures a claim against the debtor that is not an allowed secured claim, such lien is void.” (Emphasis added.) Neither one of these arguments has been successful.
A recent case decided in the Northern District of Illinois,[4] rebuffed this reasoning using established case law and explained what an “allowed secured claim” is. Claim “allowance” is the process of putting a claim in line for payment. A claim is allowed unless it is objected to.[5] Claims may only be disallowed on specific grounds enumerated in the Bankruptcy Code.[6] A secured claim may not be disallowed simply because there is no equity in the collateral. Hence, when any secured claim is filed, it is “allowed”.
A claim is a “secured claim” if a creditor has recourse to collateral, most commonly in the form of a lien.[7] The value of the lien is a separate issue,[8] and does not determine whether the claim is “secured” or not. If a claim has an underlying lien, it is a “secured claim”.
A wholly unsecured mortgage claim is an “allowed secured claim” because it is allowed and because it has recourse to real estate by the lien. Thus, debtors may not declare such a claim “void” under 506(d) or skirt the lien retention requirement by claiming an unsecured mortgage lien is not an “allowed secured claim”.
This is a powerful tool when a debtor is not eligible for a discharge. It will prevent the stripping and discharge of wholly unsecured liens. Only the Ninth Circuit has case law that allows lien stripping when a debtor is not eligible for a Chapter 13 discharge.[9] If a debtor files a Chapter 13 and seeks to strip a lien within four years of obtaining a Chapter 7 discharge or within two years of obtaining a Chapter 13 discharge, creditors should consult with their bankruptcy counsel to determine whether to object to the proposed lien strip.
If you have any questions on this matter, please contact Monette W. Cope, Esq. Monette is a junior partner in the bankruptcy department of Weltman, Weinberg & Reis Co., LPA located in the Chicago office. She can be reached directly at 312.253.9614 or via email at .
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[1] 11 U.S.C. § 1328(f)(1).
[2] 11 U.S.C. § 1328(f)(2).
[3] 11 U.S.C. § 1325(a)(5)(B)(i).
[4] In re Fenn, 428 B.R. 494 (Bankr. N.D. Ill. 2010)
[5] 11 U.S.C. § 502(a)
[6] 11 U.S.C. § 502(b)
[7] Dewsnup v. Timm, 502 U.S. 410, 417 (1992)
[8] 11 U.S.C. § 506(a)
[9] In re Tran, 431 B.R. 230, 235 (Bankr. N.D. Cal. 2010)
On April 5, 2011, the Senate Judiciary Committee passed a bill to establish a National Loss Mitigation Program in Bankruptcy Cases. By a vote of 10-8, the bill sponsored by Senator Whitehouse of Rhode Island will move onto the Senate. Senate Bill 222 will allow bankruptcy judges under 11 USC 105 to establish loss mitigation programs in bankruptcy cases. The bill mirrors the Model Loss Mitigation Program that has been in place in Rhode Island for the last several years. The Program gives the Debtor the opportunity to request Loss Mitigation Opportunities with his or her creditors at any time prior to discharge in a Chapter 7 or any time during a Chapter 13. This may have major implications on the administration of bankruptcy cases by delaying discharges and confirmations of Chapter 13 plans. In addition, Motions for Relief from Stay on Real Property could be put on hold until loss mitigation is completed.
Loss Mitigation discussions can be a very good process for both Creditors and Debtors. However, if not implemented in a fashion to prevent abuses, such as being used to slow down a bankruptcy case and allow a debtor to live in his or house for a longer period of time without payment, the program could have negative consequences.
The prognosis of the bill passing in the Senate is strong. However, it will have much more difficulty in the Republican controlled House, and the chances of passage do not look good.
Weltman, Weinberg & Reis will continue to monitor the status of this legislation and provide regular updates to our clients.
If you have any questions on this matter, please contact Alan C. Hochheiser, Esq. Alan is the Managing Partner of the Bankruptcy Practice Group of Weltman, Weinberg & Reis co., LPA located in the Brooklyn Heights, Ohio office. He can be reached directly at 216.739.5649 or .
Following the trend of a majority of the Circuit Courts, the United States Bankruptcy Court for the District of New Jersey concludes that a Chapter 7 debtor may not void a lien under §506(d) where the claim is wholly unsecured. This is an important decision for creditors as it solidifies the principle that a wholly unsecured lien on real property will survive a Chapter 7 bankruptcy unaffected. For example, a Chapter 7 debtor owns real property with a fair market value of $125,000, which is encumbered by two liens. The first mortgage is in the amount of $150,000 and the second is in the amount of $35,000. Based on the ruling of a majority of jurisdictions, the second mortgage (which is wholly unsecured) would survive the bankruptcy unscathed.
In this New Jersey case, a Chapter 7 debtor filed a motion to reclassify a wholly unsecured second mortgage on his primary residence from a secured claim to unsecured, relying on §506(a) and (d). Section 506(a) bifurcates and reclassifies claims into secured and unsecured status. The claim is secured to the extent of the value of the creditor’s interest in the property, and unsecured to the extent that the amount of the claim exceeds the value of the creditor’s interest in the property. Section 506(d) provides for a mechanism to avoid a lien that secures a claim that is not an allowed secured claim.
The court observed that although the debtor’s motion was styled as a motion to “reclassify,” the debtor was actually attempting to void the lien under §506(d). Citing to the Supreme Court’s decision in Nobelman v. American Savings Bank and the Third Circuit’s ruling in In re McDonald, the Chapter 7 debtor attempts to draw a distinction between “stripping off” and “stripping down” a wholly unsecured lien. However, the court rejects the debtor’s argument, concluding that the Supreme Court’s decision in Dewsnup v. Timm, precludes the voiding of a lien under §506(d) in a Chapter 7 case where the claim is wholly unsecured.
To reach this conclusion, the court analyzes several Supreme Court and Circuit Court decisions. In Dewsnup, a Chapter 7 debtor sought to avoid the unsecured portion of a mortgagee’s lien. Reading §506(a) and §506(d) together, the debtor argued that because under §506(a), a claim is secured only to the extent of the judicially determined value of the real property on which the lien is fixed, a debtor can void the lien pursuant to §506(d) to the extent the claim is no longer secured and thus is not an “allowed secured claim.” The Supreme Court disagreed and held that §506(d) does not allow debtor’s proposed “strip down,” because the mortgagee’s claim is secured by the lien and has been fully allowed pursuant to §502, and therefore, cannot be classified as “not an allowed secured claim” for the purposes of §506(d). The Court rejected the debtor’s position that the words “allowed secured claim” must take the same meaning in 506(d) as in 506(a), that is to be read as allowed “secured claim.” The Court reasoned that Congress must have had a full understanding of the pre-Code rule that liens pass through the bankruptcy unaffected, and, “given the ambiguity in the text, the Court was not convinced that Congress intended to depart from that rule.” 502 U.S. 410, 112 S. Ct. 773, 116 L.Ed. 2d 903, (1992). “The words in 506(d) need not be read as indivisible terms of art defined by reference to 506(a) but should be read term-by-term to refer to any claim that was, first, allowed—as in the case at hand has been pursuant to 11 U.S.C 502—and second, secured, thereby voiding liens only when the claims they secure have not been allowed.” Id. at 417.
In Nobelman v. American Savings Bank, a Chapter 13 debtor, relying on §506, sought to bifurcate an understated claim, make regular payments toward the “secured” portion of the claim, while paying zero to unsecured creditors, which included the bifurcated “unsecured” portion of the claim. Nobelman v. American Savings Bank, 508 U.S. 324, 113 S. Ct. 2106, 124 L.Ed.2d 228 (1993). The Supreme Court held that the debtor’s proposed plan is prohibited under §1322(b)(2), which provides that a Chapter 13 plan may “modify the rights of holders of secured claims, other than a claim secured by a security interest in real property that is the debtor’s principal residence.” In other words, this section prohibits the modification of an undersecured claim against a debtor’s principal residence. Id. at 328. The court again looked at the wording of the statute and concluded that the use of the phrase “claim secured …by” instead of “secured claim,” in §1322(b)(2), indicates an intent to “encompass both portions of the undersecured claim.” Id. at 331.
Thus, under Nobelman, if there is some value in the debtor’s principal residence to which the creditor’s lien may attach, the antimodification provision in §1322(b)(2) will protect the creditor’s rights as they relate to both the secured and unsecured portions of the claim.
The question presented by this New Jersey debtor is whether a “strip off” rather than a “strip down” of a wholly unsecured lien is permissible in a Chapter 7 case. A majority of courts addressing this issue concluded that there is essentially no distinction between “stripping off” and “stripping down” wholly unsecured liens, and that both actions are prohibited by the Supreme Court’s decision in Dewsnup.
The vast majority of courts do not allow the avoidance of wholly unsecured or undersecured liens in Chapter 7 proceedings. However, a minority of courts still reason that Dewsnup is limited by its facts to the application of cases of partially secured claims, and, therefore, allow the avoidance of wholly secured claims.
In Ryan v. Homecomings Fin. Network, 253 F.3d 778 (2001), the Fourth Circuit Court of Appeals held that although junior lien holders have limited opportunity to recover their unsecured claims, the parties bargained for their positions with knowledge that a superior lien existed. Nonetheless, “under a Chapter 7 proceeding, they are entitled to their lien position until foreclosure or other permissible final disposition is had.” Id.
In In re Talbert, 344 F.3d 555, the Sixth Circuit set forth three bases for the Supreme Court’s holding in Dewsnup: “(1) any increase in the value of the property from the date of the judicially determined valuation to the time of the foreclosure sale should accrue to the creditor” (otherwise it would create a “windfall for debtors); “(2) the mortgagor and mortgagee bargained that a consensual lien would remain with the property until foreclosure; and (3) liens on real property survive bankruptcy unaffected.”
Applying these principles, the court held that to allow a “strip off” would be in contradiction to the pre-Code rule that real property liens pass through the bankruptcy unaffected. Additionally, a “strip off would rob the mortgagee of the bargain it struck with the mortgagor”, i.e., that the consensual lien would remain with the property until foreclosure.
In In re Laskin, the Ninth Circuit Bankruptcy Panel drew a distinction between the application of §506(d) in a Chapter 7 and that in a Chapter 13. The court noted that unlike in a Chapter 13, where the claim must be allowed or disallowed to determine what is paid through the plan, and where the determination of a creditor’s secured status is relevant, “the allowance of a secured claim, or determination of secured status is meaningless in a Chapter 7 where the trustee is not disposing of putative collateral.” In re Laskin, 222 B.R. 872 (B.A.P. 9th Cir. 1998).
Rejecting the debtor’s argument that Nobelman and McDonald compel the voiding of a lien in a Chapter 7 where the lien does not attach to some existing value in the property, the New Jersey Bankruptcy court reasoned that the question of voiding a lien on a wholly unsecured claim depends on whether the debtor’s case is filed under Chapter 7 or Chapter 13. In Chapter 13, there must first be a determination whether a junior lien holder has a secured claim for purposes of §1322(b)(2). In a Chapter 7 context, determination of the value in the collateral is irrelevant for purposes of §506(d), as long as the claim is allowed under §502. Thus, the court concluded that in the instant matter, the claim sought to be avoided is both allowed and secured by the debtor’s property.
A major policy consideration in rejecting the debtor’s position is the implication “strip down or strip off” would have on the creditor’s right in the property. The courts conclude that even the “fresh start” policy cannot justify an impairment of the creditors’ property rights because the fresh start does not extend to a claim against the property, but rather, is limited to a discharge of personal liability of the debtor. Another consideration for disallowing the relief sought by the debtor is the potential windfall a “strip off” would create. Because the unsecured creditor would lose any increase in the value of the property by the time of the foreclosure sale, the increase in value would accrue to the benefit of the debtor.
This is an important decision because it precludes debtors from divesting the creditors’ of their rights in the property. This decision supports the principle that wholly unsecured liens pass through the Chapter 7 bankruptcy unaffected.
As more and more courts consider this issue, Weltman, Weinberg & Reis Co., LPA will continue to monitor the status of the lien avoidance cases and keep you apprised of the trends and new developments in the law.
If you have any questions on this matter, please contact Ms. Karina Velter, Esq. Karina is an associate in the Bankruptcy Group of the Weltman, Weinberg & Reis Co., LPA Philadelphia office. Karina can be reached at (215) 599-1500 or via email at .
