Wednesday, October 8, 2008

Ch. 13 Debtors with Fully Secured Vehicle Claim May Later Surrender Vehicle & Modify Plan to Treat Deficiency Balance as a General Unsecured Claim

By Andrew Toth-Fejel, Bankruptcy Litigation Support for Attorneys,

In re Berendt
Oregon Bankruptcy Case No. 07-35054-elp13

September 22, 2008

The Holding
In an unpublished letter opinion Judge Perris held that if a Chapter 13 plan had treated a claim as fully secured, then "following post-confirmation surrender of [the] collateral, a Chapter 13 debtor may modify a plan to terminate payments on the secured claim and treat any deficiency as unsecured."

Interestingly, in so ruling she rejected the rationale of an 6th Circuit Court of Appeals opinion, In re Nolan, 232 F.3d 528 (6th Cir. 2000), apparently the only circuit court to have ruled on this issue, instead finding "particularly persuasive" an Indiana bankruptcy judge's opinion, Bank One, NA v. Leuellen, 322 B.R. 648 (S.D. Ind. 2005) This Bulletin summarizes her analysis, and gives the perspectives of the attorneys. Miles Monson of Anderson & Monson, P.C. represents the creditor, Clackamas Community Federal Credit Union; Matthew Casper of Oliveros & O'Brien, P.C. represents the debtors, Timothy & Kara Berendt.

Essential Facts
The Berendts filed a Chapter 13 case and the plan was confirmed with the Clackamas Community Federal Credit Union as a fully secured creditor being paid outside the plan. Because Kara Berendt was unable to find employment, the debtors surrendered the vehicle to the creditor, which was unable to sell it without a deficiency balance. The Berendts proposed a modified plan which treated the credit union as a general unsecured creditor. The credit union objected.

Judge Perris' Analysis
The judge started by acknowledging that the "cases are deeply split over whether § 1329 allows modification of a confirmed chapter 13 plan to account for the surrender and sale of collateral that leaves a deficiency, when the plan had treated the claim as fully secured." She cites Nolan as the primary opinion not allowing such modification and the above Leuellen opinion as her primary support to the contrary. She notes that treatises have also split on the issue, with Norton Bankruptcy Law and Practice against permitting this kind of modification while Collier on Bankruptcy and Chapter 13 Bankruptcy by Judge Keith Lundin allowing it.

Without discussing or refuting the Nolan opinion's arguments she merely said she disagreed with it, and found Leuellen "particularly persuasive" but did not explicitly say what was persuasive about it. She explained her lack of detailed analysis with this: "In light of the extensive opinions that have been written on this subject, I will give only a brief explanation of why I reach that conclusion."

Her "brief explanation" is a statutory one:

1) § 1329(a)(1) allows modified plans to "increase or reduce the amount of payments on claims of a particular class provided for by the plan." So debtors are allowed to modify payments to a formerly secured claim down to $0.

2) The Code and Rules permit objections to claims at any time, and also permits, at any time, valuations of collateral to determine the extent to which a claim is secured.

3) § 1325(a)(5)(C) clearly permits surrender of collateral as one way to treat a secured claim in a plan, and this is incorporated by 1329(b)(1) into plan modifications.

4) Lastly she states that "§ 1323(c) "also specifically applies to post-confirmation modifications", and "contemplates that a secured creditor's rights can be changed under a modification." (This argument is an odd one and perhaps inaccurate: section 1323 is entitled "Modification of plan before confirmation" and, contrary to what she said, nothing in it seems to specifically apply to POST-confirmation modifications instead of PRE-modification ones. Titles may not be part of the actual statutory language, but I see nothing in the actual language that shows that the subsection "specifically applies" to post-confirmation modifications. )

Her holding is:
For these reasons, I conclude that there is no impediment to modification of a confirmed chapter 13 plan to reflect the surrender of collateral and its sale for less than the amount of the debt. This includes treating the claim as partially secured up to the value of the collateral and partially unsecured for the deficiency. I agree with the courts that hold that the creditor’s interests are protected at initial confirmation by the requirement of adequate protection and at modification by the bankruptcy court’s discretion to deny confirmation if the debtors have acted in other than good faith with regard to the collateral.
Judge Perris concluded by giving the creditor five days to ask for an evidentiary hearing in case it believed there were unresolved issues of fact that undercut her analysis of the legal issue.

The credit union subsequently decided not to ask for an evidentiary hearing, and an order has now been entered overruling its objection.

The Creditor's Attorney's Perspective
Miles Monson informed me yesterday that the credit union has decided not to appeal. On the merits, he believes that the Fifth Circuit Nolan opinion lays out the argument well, how it is fundamentally a question of who should carry the risk: should the debtor or the creditor carry the risks of the collateral's depreciation and diminution or total loss in value after the confirmed plan determines the collateral's value? He believes that Nolan makes a very good case why the debtors should bear these risks, and so should not be able to change the secured claim through a surrender and post-confirmation modification. Mr. Monson believes the statutory ambiguity means that the issue is heading for in a split in the Circuits and will eventually need to be decided by the Supreme Court, but acknowledges that would be many years away.

The Debtors' Attorney's Perspective
Matt Casper was not surprised that the credit union decided not to appeal given the small amount at issue and the fact that it has already spent $1,440 on repairing the vehicle while selling it for only $1,500. And he said he was not surprised that Judge Perris did not follow Nolan in spite of it being the only Circuit opinion on the issue, because there are a number of lower court opinions within the 9th Circuit criticizing Nolan, although Judge Perris did not refer in her letter opinion to them. As for the risk-carrying argument, he says, "The creditor is in no worse position now than before the filing of the petition, had the vehicle been surrendered then. Creditors always carry the risk that borrowers will at any time have to surrender the collateral and file a bankruptcy on the deficiency balance." He doesn't see why that should be different just because the borrower is in a Chapter 13 case and paying the creditor directly, outside the plan.

Mr. Casper noted that the trustee has also objected to the modified plan, apparently not wanting to pay the credit union's deficiency balance as an unsecured claim, thereby diluting distributions to the pool of allowed unsecured claims. The hearing on this objection is scheduled for October 15. If the result is interesting, I will report on it in a future Bulletin.

The Bottom Line
Even with an unpublished letter opinion, Judge Perris is certainly signaling her opinion on this issue. She presumably made a point of putting it on the bankruptcy court website so that practitioners would read it. The immediate question is whether the other four Oregon judges agree with her holding since they are not legally bound by it. I am guessing that as the senior judge she may be signaling to the others the direction that she believes this issue should go in the Oregon District, but on the other hand they may well be communicating about this more directly. Is this an issue appropriate for the next Circle of Love (Consumer Bankruptcy Committee of Debtor-Creditor Section) meeting? If anyone has more information about the other judges' treatment of this issue, please contact me and I'll include it an update.

by: Andrew Toth-Fejel
Bankruptcy Litigation Support for Attorneys

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