Experience – Transparency – Professionalism – Tenacity

Bankruptcy from a Chapter 7 Trustee

NEW HAMPSHIRE BAR ASSOCIATION ~ CLE
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THE FUNDAMENTALS OF BANKRUPTCY – 2011

March 30, 2011
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BANKRUPTCY FROM A

CHAPTER 7 TRUSTEE’S PERSPECTIVE
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Edmond J. Ford, Esq.
FORD & WEAVER, P.A.
10 Pleasant Street, Suite 400
Portsmouth New Hampshire 03801

603-433-2002
[email protected]

©  Ford & Weaver, P.A. 2011

BANKRUPTCY FROM A CHAPTER 7 TRUSTEE’S PERSPECTIVE

  1. Commencement of the Case:
    • Petition: A bankruptcy proceeding is “commenced by the filing in the bankruptcy court of a petition” 11 USC § 301. Petitions come in three (3) flavors:    a voluntary petition, 11 USC § 301; a joint petition 11 USC§ 302; and an involuntary petition 11 USC § 303.
    • Order for relief: When a voluntary case is commenced by the filing of a petition that commencement is “the order for relief” 11 USC § 301; 11 USC § 302; 11 USC § 302 (a). In involuntary proceeding, the order for relief is entered if: (a) the petition is not “timely controverted”,  11 U.S.C. §303(h) or; (b) if after trial, the court concludes that “the debtor is generally not paying such debtor’s debts as such debts become due unless such debts are the subject of a bonafide dispute as to liability or amount”, 11 U.S.C. §303(h)(1); or (c) “within 120 days before the date of the filing of the petition a custodian, other than a trustee, receiver, or agent appointed or authorized to take charge of less than substantially all of the property of the debtor for the purpose of enforcing a lien against such property, was appointed or took possession”   11 U.S.C. §303(h)(2).
    • Involuntary Petitions and continued operation until adjudication as a debtor under the code: In the involuntary proceeding, until there is an order for relief, the debtor is authorized to continue the operation of its business “as if involuntary case concerning the debtor had not been commenced.” 11 USC § 303 (f).   11 USC § 303 (f) gives rise to a so-called gap period claims.  See 11 USC § 502 (f).  The commencement of the involuntary petition triggers the automatic stay.  11 USC § 362 (a), and freezes the clock for the time period calculations for preference actions and fraudulent conveyance actions.  11 USC § 547(b)(4), 11 U.S.C. § 548(a)(1).
    • Involuntary Petitioners: An involuntary case may be brought by creditors holding non-contingent undisputed claims with an aggregate value not less than $14,425 greater than the value of any lien on the property of the debtor held for those claims.  11 U.S.C §303(b).  If there are more than 12 creditors of the alleged debtor then there must be three such petitioning creditors, if there are fewer than 12 creditors then there need be only one petitioning creditor.  Id.  If the Court dismisses the petition then the petitioning creditors may be ordered to pay the alleged debtor’s costs attorney’s fees, 11 U.S.C. §303(i)(1), and if the petition was in bad faith then also damages and punitive damages. 11 U.S.C § 303(i)(2).
    • Joint Petitions. A joint case is commenced by a single petition signed by the debtor and “such individual’s spouse” 11 USC §302 (a).   The bankruptcy code does not define the term “spouse”.  New Hampshire law defines a marriage and therefore “spouse” to permit same-sex spouses.  NH RSA 457:1-a.   The Federal Defense of Marriage Act, however, provides a definition applicable to any act of Congress.  By that definition “marriage” “means only a legal union between one man and one woman as husband and wife, and the word ‘spouse’ occurs only to a person of the opposite sex who is a husband or wife.”  1 U.S.C. § 7.  Whether that survives constitutional challenge is uncertain.   See e.g., In Re Levinson, 587 F.3rd 925 (9th Cir. 2009) (dealing with federal employee health benefits).
    • Consolidation Administrative and Substantive: When a joint case is commenced, there are, technically, two (2) different estates, and two (2) different cases. The cases are administratively consolidated, but until a separate order is entered they are not substantively consolidated.  The court is authorized to determine whether or not the estate’s court shall be “consolidated” and if so to what extent.  11 USC§ 302 (b). Compare, Logistics Info. Sys. v. Braunstein (In re Logistics Info. Sys.), 432 B.R. 1, 11-12 (D.Mass. 2010) (Noting two tests of substantive consolidation and finding both met in that proceeding.)  Generally in a corporate case the remedy of substantive consolidation is granted where either: (a) “if it is first established that the related debtors’ assets and liabilities are so intertwined that it would be impossible, or financially prohibitive, to disentangle their affairs.” quoting, Hemmingway Transport, 954 F.2d 1 (1st Cir 1992) at 12, n. 15. Or (b) the  so called “Auto-Train test [which] examines three factors, all of which must be met: (1) the movant must show a ‘substantial identity between the entities to be consolidated;’ (2) the movant must also demonstrate that ‘consolidation is necessary to avoid some harm or to realize some benefit;’ and (3) if a creditor will be prejudiced, the benefits of consolidation must heavily outweigh the harm” Id. at 25, citing, Drabkin v. Midland-Ross Corp. (In re Auto-Train Corp.), 810 F.2d 270, 276, 258 U.S. App. D.C. 151 (D.C. Cir. 1987).  Apparently in the corporate context consolidation is an all-or-nothing affair, but in the individual joint case context, the statute appears to contemplate some kind of partial consolidation.
    • Assets trigger consolidation issues: In the run-of-the-mill husband and wife joint case, consolidation issues arise when one of the estates has assets.  When an estate has assets, then that estate’s creditors receive a distribution.  Because there is no New Hampshire State law right for creditors of a spouse to receive payment from the assets of the other spouse, there is no authority in the bankruptcy code for a Trustee to distribute assets across all creditors.  The result is that if the schedules indicate a distinct body of creditors applicable to each debtor, the Trustee could conceivably end up paying some of those creditors in full returning a surplus to one debtor spouse, and nevertheless administering the other spouse’s case as a no asset estate.  If the estates are not consolidated and each has assets, then the Trustee will be required to file two tax returns, one for each estate.
    • Joint cases and exemptions: The fact that the husband and wife typically file a joint petition means that there are two cases, but the husband and wife are constrained to elect the same exemption scheme. 11 U.S.C. §522 (b)(2);  R.Bankr. P. 1015 (b).  If they cannot agree then they are forced into the Federal exemption scheme. Id.  It is not clear what exemption scheme would apply to newlyweds where one or both had recently moved to New Hampshire from another jurisdiction such that two different state schemes would apply.  It is conceivable that, if both debtors elected application of 11 USC §522(b)(3) they could use two different state schemes.
    • Future issues? The rules relating to substantive consolidation are litigated primarily in the Chapter 11 context. However, the same set of rules applies in the Chapter 7 context and, generally, the Trustee may seek substantive consolidation if the estates are so co-mingled as to make the separate administration of them impractical.     The possibility exists that the law in the business context that allows the consolidation of non-debtor entities with a debtor could be applied to a husband and wife.  See, generally, Logistics Info. Sys. v. Braunstein (In re Logistics Info. Sys.), 432 B.R. 1, 11-12 (D.Mass. 2010).   However, in the Chapter 7 context that argument seems to rarely, if ever, raised.
  1. The Petition And Schedules And Associated Papers.
    • Obligation of Truthfulness. The Debtor has an obligation of truthfulness and complete disclosure as a basic part of the bankruptcy bargain – fresh start for complete disclosure of assets to be liquidated by the Trustee.  The Debtor cannot evade that responsibility by relying on the debtor’s attorney to get it right.  McClure v. Cormier (In re Cormier), 2010 Bankr. LEXIS 2322  (1st B.A.P 2010)
    • What is due when. When filing a voluntary bankruptcy petition, the Debtor(s) files at least a skeleton petition.  R.Bankr. P. 1007 (a) (1) (Requiring the debtor file “with the petition a list containing the names and addresses of each of the creditors on Schedules E, F, G and H.”).   In a voluntary Chapter 11 the list of the twenty largest unsecured creditors is also due at the filing.  F.R.Bankr.P. 1007(d).  In an involuntary case the debtor is required to file the information for the creditor matrix within seven (7) days of the entry of an order for relief.  F.R. Bankr. P. 1007(a)(2).   If only a skeletal petition is filed, the balance of the papers is generally due (unless extended) within fourteen (14) days after the skeleton petition is filed.  F.R.Bankr. P. 1007(c).
    • Order of papers. The papers are to be filed in a particular order.  The order is given in LBR 1007-1(b).  Notwithstanding the way in which many computer programs default, the Statement of Financial Affairs, is, in the New Hampshire practice, collated first, followed by the Schedules and then the Declaration Concerning the Debtor’s Schedules.   See LBR 1007-1 (b).
    • Tax Returns and Pay advices. In addition to the papers, petitions and schedules, the debtor is required to provide to the Trustee tax returns and pay advices.  The pay advices that are due are the pay advices, or other evidence of payment received within sixty (60) days before the date of the filing of the petition.  11 U.S.C. § 521 (a)(1)(iv).  The local rule provides that such payment advices are not to be filed with the court, but that instead, payment advices are to be filed with the Trustee.  The bankruptcy rules require that the payment advices be filed within fourteen (14) days of the petition date.  R.Bankr. P. 1007 (c).  In view of the rule barring the filing with the court and requiring the filing with the Trustee, a reasonable interpretation is probably that the payment advices are due to the Trustee within fourteen (14) days of the filing.
    • What is a pay advice. Payment advices probably mean paystubs “from any employer of the debtor.” S.C. §521(a)(1)(B)(iv).    They probably exclude social security payments, disability payments, SSI payments, interest payments, or earnings from businesses.  In addition, the debtor is required to provide to the Trustee “a copy of the Federal income tax return required under applicable law (or at the election of the debtor, a transcript of such return) for the most recent tax year ending immediately before the commencement of the case and for which a federal income tax was filed.”  11 U.S.C. § 521(e) (2) (A) (I).
    • Tax Returns: The tax return requirement has several practice commentaries: First, it is not necessarily last year’s tax return.  It is the most recent tax year “for which a federal income tax return was filed”.   It does not require the filing of a tax return with the IRS that has not already been filed.   Second, the tax return is due to the Trustee “not later than seven (7) days before the date first set for the first meeting of creditors.”If you do not get the tax return, and the payment advices to the Trustee seven (7) days before the hearing, then a notation of that failure goes to the United States Trustee’s Office.  The United States Trustee’s Office may require the Trustee to continue the 341 Meeting so as to give it an opportunity to review the missing filing.
    • Tax Return failure. In my practice, I may continue the meeting, but I undertake the meeting in any event, asking my questions, and thereafter continuing the hearing subject to the understanding that it will be called and adjourned if the missing documentation is supplied.
    • Creditor copies of Tax Returns.The tax returns are subject to the unique requirement that if a creditor timely requests the tax returns, then the debtor is required to supply the tax returns both to the Trustee, and to the timely requesting creditor. The statute does not define “timely.” 11 U.S.C. §522(e)(2)(A)(ii).  It would seem to this Trustee that timely is implicitly at least, prior to the date that debtor’s counsel forwards the tax returns to the Trustee.  Thus, the sooner the debtor’s counsel gets the tax returns to the Trustee, the greater the likelihood the debtor’s counsel will be able to resist any request by creditors to provide to them the debtor’s tax return.
    • The Statement of Financial Affairs. The Statement of Financial Affairs are the series of questions and responses contained Form 7. In this presentation I am simply going to go through some of the items that are the most important to me as Trustee, and the ways in which people make errors with respect to them.
      • SOFA Question 1. First, the most important question to me is question number 1 in the Statement of Financial Affairs. As to the question, it asks about the debtor’s income for the year to date together with income for the last two calendar years.  There are several items about this which people seem to regularly mistake.
        • First, there should be three (3) years of information in the response: the current year and the preceding two (2) calendar years.
        • Second, it is, I suppose, unclear from the form of the question, whether one is to add up the income for those three (3) years and thus answer the question with simply one number. I have seen people do that and I cannot say that that response is entirely inaccurate.  However, the manner with which the statement is written, and the common way of responding to it is to provide at least three (3) different numbers (in some cases where you have a husband and wife the answer is six (6) different numbers and some attorneys will include the various different jobs which the two debtors have held over the past three years resulting in a multiplicities set of reports in response to the Statement of Financial Affairs question number 1.
        • The third way in which people regularly make a mistake in response to question number 1 is with respect to self-employed individuals. The debtor’s counsel seems to interpret the phrase “the gross amount of income” as the net income from the operation of the business.  My view of that is that the word gross means gross and therefore a proper response is to show the gross income from the operation of the business.   Careful counsel will often include both the gross income from the operation of the business and the net for each of the three reporting time periods.From a Trustee’s perspective the gross income is important because it leads to some idea of the possibility of funny business in the income.  If the gross income is $100,000.00 and the net is a loss of  $25,000.00, as Trustee, I am not likely to spend significant effort investigating.   If, on the other hand, the gross income is $3,000,000.00 and the net income is a loss of $25,000.00 then I will investigate because it would appear to me that there is some possibility that the business has serious value.
      • Question 3 – Payments to Creditors. Obviously, the Trustee will look at the payments to creditors for preferences. The preference analysis yields a number of observations.
        • First, payments in the ordinary course for credit cards are not going to be a likely source of recovery. Payments outside the ordinary course on credit cards (such as a lump sum payment so as to create a zero balance immediately before the bankruptcy petition so that the debtor can have a credit card which the debtor does not list) will create inquiry.  Most payments on mortgage loans and secured debt will not create inquiry; however, significant payments on a debt that is seriously under secured might create inquiry.
        • Payments of any kind to in-laws or family of more than $600.00 will almost undoubtedly create inquiry.
      • Question 5. Foreclosures and Returns. Question 5 will get some inquiry if it appears that there is something out of the ordinary course associated with the foreclosure (such as to a family member, a private lender, or the like).  A foreclosure sale shortly before the bankruptcy case might also create inquiry.  It is conceivable that if a foreclosure sale has been held, but with respect to which the deed has not been recorded, and the statutory protective period of 60 days passes without recording, creates a problem for the foreclosing bank.  See, N.H. RSA 479:26 (II) (protecting a the title of a purchaser at foreclosure from intervening liens if the foreclosure deed is filed within sixty days); andFord v. Federal Home Loan Mortgage Corp. (In Re Bishop) 2009 BNH 20 (Vaughn, J.) (Denying a motion to dismiss in action brought by the Chapter 7 Trustee under 11 U.S.C. § 544(a) where the foreclosure sale occurred pre petition, the deed was recorded post petition but after the 60 day period.)
      • Question 9. Payments to Debt Counseling or Bankruptcy. In response to question 9, there is often a disclosure of payments to credit relief companies.  Those payments typically are payments which can be recovered either for violation for the applicable statutory scheme, or as a fraudulent conveyance.   As a result, the debtor probably needs to list those payments both in question number 9, and in Schedule B in response to question 21.   Debtor and debtor’s counsel, might, and often do, consider exempting those claims.  It is not uncommon for the debtor to be able to recover the amounts paid to the debt settlement firm.
      • Other Transfers. Other transfers are, always of interest, especially if they are transfers to related parties.   So Question 10 (b) relating to self settled trusts is always of interest, but I have yet to see a response in question 10(b) other than “none”.
      • Property Held for another person. Question 14 deals with property held for another person.Here, 529 Plans are applicable, and it is not at all uncommon to see debtors list herein the accounts held by the debtor on behalf of a loved one.  The common situation is either a uniform gift to minor’s account where a parent holds money for a child, or an account put in joint name by an elderly relative of the debtor.  The elderly relative’s intention was to affect a form of estate planning without the use of counsel, probate, or trust or the like.  The difficulty there, however, is that the bank accounts typically permit the debtor to withdraw funds and even while the aged loved one is still alive.  Thus, the debtor has to establish to the satisfaction of the Trustee that the debtor holds mere legal title and has no equitable interest in the account.A debtor can make that showing.  Generally, in order to make that showing, at least to the satisfaction of this Trustee, the debtor has to establish (in my practice usually through the affidavit of the elderly loved one) that the money all came from the elderly loved one (that the money all came from the elderly loved one, that the money is all used for the elderly loved one’s expenses and affairs, that the debtor does not use the funds, or if the debtor does use the funds that the debtor uses the funds only to assist the elderly loved one in paying the elderly loved ones bills.  Upon that kind of showing it is generally my practice to accept the proposition that the debtor holds only legal title and not equitable title.   See e.g., 11 USC § 541(d); See also, eg. In re Goldstein, 135 B.R. 703(Bankr. S.D.Fla. 1992); Restatement of the Law Trusts §440 (“Where a transfer of property is made to one person and the purchase price is paid by another, a resulting trust arises in favor of the person by whom the purchase price is paid, except as stated in §§ 441, 442 and 444.”); Cf. Askenaizer v. May (In re Jewett), 2007 BNH 18, 2007 Bankr. LEXIS 1526 (Bankr. D.N.H. 2007) (Deasy, J., denying fraudulent transfer recovery on the grounds that the property conveyed was held in trust for the defendant / transferee).
      • Question 18 – Businesses. The final question in the Statement of Financial Affairs that usually triggers inquiry on my part is question number 18 which deals with the identification of any businesses in which the debtor has been involved. The debtor is required to list businesses with which the debtor is associated at any time in the six (6) years immediately preceding the commencement of the bankruptcy case.     The debtor is required to list the business if the debtor was an “officer, director, partner or managing executive of a corporation, partner in a partnership, sole proprietor, or self-employed.”   It is not enough to assert that the debtor does not have an interest in the business.  If the debtor was the secretary of the corporation then the debtor is required to disclose it in response to question 18.   The lack of disclosure in response to question 18 under circumstances where a disclosure is required, in my experience, is a prime red flag in connection with the possibility of hidden assets or other errors contained in the schedules.
    • Schedule A – Real Property.Real property listed on Schedule A. The debtor is required on Schedule A to list “all real property in which the debtor has any legal, equitable, or future interest . . .”
      • Partial Interests. First, the most common area of confusion with completing Schedule A for real property arises where the debtor holds only a partial interest in the property.  The Schedules actually require the debtor to disclose the “current value of debtor’s interest in the property.”   The Schedules do not require the disclosure of the value of the property as a whole.  Where the debtor has only a partial interest in the property, it is my practice as Trustee, to explore what the debtor meant in its disclosure on Schedule A.  Sometimes the debtor means the value of the whole property at $150,000.00 (implying that the debtor’s interest is only $75,000.00).  Sometimes the debtor means that the value of the debtor’s half interest is $150,000.00 and that the value of the whole property is $300,000.00.
      • Remainder Interests.  A second kind of problem that sometimes arises is where the debtor holds a remainder interest in property.  It is not uncommon for an elderly relative to convey property to themselves and their children and relations retaining for themselves a life estate and conveying to the children and relations a remainder interest.   In that circumstance, the debtor has a legal interest in property, the debtor simply does not yet have a possessory interest in the property.  That interest can be sold.  And so, the existence of that interest requires disclosure on Schedule A.
      • Equitable Interests from transfers that are actually fraudulent. When a debtor conveys property to others with the actual intent to hinder, delay or defraud creditors, then the debtor has and retains an equitable interest in the property. In Re Hayes, Rhode Island Deposit Economic Protection Corp. v Hayes, 229 BR 253 (1st Cir. BAP 1999) (retention of secret beneficial interest established by:  fraudulent conveyance, the debtor continues to live at the property; the debtor continues to treat the property as their “own in every respect by paying all the expenses and pledging it as collateral.”  At 257);In re Lawson, Hughes v. Lawson, 122 F.3d 1237 (9th Cir 1997) (Debtor transferred deed of trust to her mother on the day of judgment that was entered against her.  She continued to live there and pay all expenses and continued subordination of her mother’s interest as trustee as needed.  The trust deed  was a concealment of a secret beneficial interest warranting denial of discharge); Rosen v. Bezner, 996 F.2d 1527 (3rd Cir 1993) (transfer to wife and continued occupancy of the property as evidence intending to show [the debtor] did retain a secret interest. At 1531); In re Olivier, Thibodeaux v Olivier, 819 F.2d 550 (5th Cir 1987) (transferred a house to a friend after an auto accident where debtor retains possession, paying all expenses, paying insurance and paying no rent as retention of a secret beneficial interest); 5 Scott,Law of Trusts, § 470 (5th Edition 1989).Brown v. Brown (In re Brown), 2008 BNH 6; 2008 Bankr. LEXIS 1503 (Bankr.D.N.H. 2008) ( Deasy, J).
    • Schedule B Personal Property.Schedule B is in large part self-explanatory. It provides the debtor with a convenient list of all of the kinds of property the debtor may own.
      • Obligation to List even that which is valueless. However, it appears that many people simply do not take the hint.  For example, it is not at all uncommon for debtors (especially pro se debtors) to indicate “none” on things such as wearing apparel, cash on hand, or checking and savings accounts.  While, it may well be the case that the debtor’s clothes are of little or no value, nevertheless the correct answer is not none.From a Trustee’s perspective the issue on Schedule B, and the accuracy of the disclosures of clothing, books, cash on hand,  , is typically is not whether the Trustee is able to liquidate the assets and convert them in to funds for creditors, rather the accuracy of Schedule B is important as an indication of the general truthfulness and general seriousness with which the debtor’s take the exercise of filing this bankruptcy petition.  In addition, valueless items (such as stock in an insolvent corporation) may be important hints to the existence of the Debtor’s financial affairs.   For the purposes of criminal conviction, the definition of material is not necessarily limited by the value of the omitted asset:

“The standard to determine whether an omission is material is generally whether the “subject matter ‘bears a relationship to the bankrupt’s  business transactions or estate, or concerns the discovery of assets, business dealings, or the existence and disposition of his property.'” In re Tully, 818 F.2d at 111 (citing Chalik v. Moorefield (In re Chalik), 748 F.2d 616, 618 (11th Cir. 1984)).”   McClure v. Cormier (In re Cormier), 2010 Bankr. LEXIS 2322, n. 5 (1st Cir. B.A.P. 2010)

  • A number of assets could result in the possibility of recovery for the Trustee. They include:
    • Bank accounts. Here, a source of recovery (a source which I typically explore more regularly in a corporate case rather than an individual case) is the clearing of post petition checks.  In the corporate case it is not uncommon for the debtor to write checks, record them in the entity’s bank account and then file the Chapter 7 case.  The checks, however, have not cleared.  The post petition clearing of the checks is a transaction which the Trustee could avoid under 11 USC § 549.In an individual case it is somewhat more difficult because the bank accounts are typically exempted.  They are typically exempted under the wild card exemption and then the Trustee is faced with the problem of the exact meaning of 11 USC § 522(l).  11 USC § 522 (b) (1) provides that an individual debtor “may exempt from property of the estate.”   11 USC § 522 (l) provides that “unless a party in interest objects, the property claimed as exempt on such list is exempt.”  So theoretically at least, bank accounts are not property of the estate if they are claimed as exempt.  The question then becomes when are exempted bank accounts no longer property of the estate.  If they are no longer property of the estate from the outset, then, the Trustee may not avoid post petition checks clearing under 11 USC § 549 (a) inasmuch as it is not a transfer of property of the estate.  11 USC § 549 (a).   If, on the other hand, the bank account is property of the estate until the time period to file an objection to the claims of exemption is passed, then the debtor’s ability to use the bank accounts is theoretically a problem.  The time period in which to object is thirty (30) days.  FR Bankr P 4003 (b).Taylor v. Freeland & Kronz, 503 U.S. 638, 112 S.Ct. 1644, 118 L.Ed. 28 280 (1992) (Strictly limiting the Trustee’s right to object to the thirty day period of F.R.Bankr. R. 4003 even though the claim of exemption is not colorable.)
    • LLC assets. Another problem that occurs on a regular basis in an individual Chapter 7 Case  is the problem of wholly owned LLC’s.  In my opinion, the effect of the statute is to require that the debtor list on its Schedule B, the debtor’s membership interest in the limited liability company.  The assets of the limited liability company are not listed, rather, their net value would be listed.  In my opinion, the common practice differs.  The practice often includes all of the LLC’s various assets.  In the case of a self-employed tradesman it often makes sense because the tradesman seldom accurately segregates the LLC’s assets from his or her individual assets.  g., In re Desmond, 2005 BNH 0009 (Bankr.D.N.H. 2005) (Recognizing that dissolved Delaware LLC is nevertheless still a separate entity and that its assets are not the assets of the individual debtor and refusing to transfer venue of the bankruptcy case of the LLC).
  • Valuation standards.  On Schedule B in general, the practice is to value the assets at something similar to replacement value.  It is not precisely clear to this writer that the statute requires the use of replacement value in completing the schedules or whether some other valuation may be permissible.  The statute does require replacement value when determining the value of an allowed secured claim secured by personal property of an individual debtor in a chapter 7 or 13 proceeding.   11 USC § 506(a)(2).In such a proceeding the statute defines replacement value as follows: “with respect to property acquired for personal, family or household purposes, replacement value shall mean the price a retail merchant would charge for property of that kind considering the age and condition of the property at the time the value is determined.”See, Assocs. Commer. Corp. v. Rash, 520 U.S. 953, 117 S. Ct. 1879,138 L. Ed. 2d 148 (1997)(Valuation standard in Chapter 13 cram down is replacement value).  There is no similar reference to replacement in 11 USC § 521 (the source of the obligation to prepare statements and schedules).  Nor is there a similar valuation standard stated in the instructions on the official forms.   There is a requirement  (applicable to debt relief agencies only)  that a debt relief agency inform the debtor that  “all assets . . . are required to be completely and accurately disclosed  . . . and the replacement value of each asset as defined in section 506 must be stated in those documents [filed to commence the case] . . .”   11 U.S.C. §527(a)(2)(B) (emphasis supplied).   Since section 506 specifically limits the replacement value requirement to assets against which a creditor holds a lien it appears  reasonable for counsel to take the position that the valuation standard on Schedule B (with respect to items other than encumbered personal property i.e., vehicles) is some other standard such as liquidation value.
  • From a Trustee’s standpoint the question really is not what the standard is, but an adequate disclosure to the Trustee of the standard. After all, the Trustee is the one who has to liquidate.  Knowing that the debtor has a ring valued for insurance purposes at $10,000.00 has not, in my experience, resulted in the recovery of $9,250.00 in value for unsecured creditors (the exempt amount being $750).  Instead, it appears to regularly occur that the debtor has over valued that which they bought.
  • Schedule C Exemptions. Exemptions are claimed in Schedule C. The statutory scheme is that all property of the debtor wherever located, of any kind or nature, becomes property of the estate. 11 USC § 541(a).    The debtor is then authorized by 11 USC § 522 to exempt property from the estate, 11 USC § 522(b) (1).
    • Valuation standard: In contrast to § 521 and § 506, there is a relatively clear definition of value for exemptions: For the purposes of § 522 where the exemption is defined by reference to a value, value means “fair market value as of the date of the filing of the petition or, with respect to property that becomes property of the estate after such date, as of the date such property becomes property of the estate.” 11 USC § 522 (a) (emphasis added).   Even here there is an ambiguity since it seems likely that state law governs the valuation standard for state law exemptions.
    • Mechanics of exemption claim. The debtor claims such exemptions by filing Schedule C. If the debtor fails to file Schedule C the debtor has failed to claim any exemptions whatsoever.   11 USC § 522 (l) (“The debtor shall file a list of property that the debtor claims is exempt under the subsection (b) of this section.”)
    • A party in interest objects to the claim by filing an objection to the claim of exemption.  The objection to claim of exemption is due within thirty (30) days after the first meeting of creditors, or at the time the exemption is claimed.  FR Bankr P 4003 (b).   The Supreme Court has required that the claim of exemption be strictly made timely. Taylor v. Freeland & Kronz, 503 U.S. 638, 112 S.Ct. 1644, 118 L.Ed. 28 280 (1992) (Thomas, J) (Strictly limiting the Trustee’s right to object to the thirty day period of F.R.Bankr. R. 4003 even though the claim of exemption is not colorable.)  However, where the Debtor has claimed a value of an asset as exempt the Trustee preserves the right to the excess value.  Schwab v. Reilly, ______  S.Ct. ______, 130 S. Ct. 2652, 177 L.Ed. 2d 234 (2010, Thomas, J.)  (“We hold that, in cases such as this, an interested party need not object to an exemption claimed in this manner in order to preserve the estate’s ability to recover value in the asset beyond the dollar value the debtor expressly declared exempt.” At 2657).  In Schwab v. Reilly, the Supreme Court suggests that if the debtor wishes to exempt the entire item of property then some red flag must be used in the claims of exemption in Schedule C which would trigger the thirty day period of F.R.Bankr. P 4003. Id. at 130 S.Ct. 2668.
    • Effective date of exemption: It is not clear to this writer when the exemption becomes effective: when it the property claimed on Schedule C no longer property of the estate. There are at least three (3) ways of thinking about it.  It may be that it becomes effective as of the expiration of the thirty (30) day period.  Or, it may be that the exemption becomes effective immediately upon filing Schedule C and becomes no longer subject to challenge after the thirty (30) day passes; or it may be that it becomes effective when the case is closed or the property abandoned. See, Schwab v. Reilly, ______  Ct. ______, 130 S. Ct. 2652, 177 L.Ed. 2d 234 (2010, Thomas, J.)(Suggesting at fn. 21 that even an exempt interest in property may entitle the debtor only to money at the conclusion of the case and not the property itself).  Once property is exempted and no longer property of the estate, it is not clear to this writer how that property might subsequently be brought back in to the estate.
    • As applied to Personal Injury claims. The exemption is typically claimed in reference to a value. It is not at all uncommon for debtors to hold personal injury claims or other claims which are not yet subject to valuation and claim them as exempt and list the value as unknown.  The Supreme Court has suggested that at least where it is reasonably clear that the debtor is not attempting to except out the entire value of the piece of property the claim of exemption is limited to the dollar amount claimed, but if the  debtor clearly indicates an attempt to exempt the entire award or lists the amount of the claimed exemption as “unknown” then the Trustee has to object within thirty (30) days or lose the ability to challenge the exemption.  Taylor v. Freeland & Kronz, 503 U.S. 638, 112 S.Ct. 1644, 118 L.Ed. 28 280 (1992) (A wage discrimination claim) ;  Schwab v. Reilly, ______  Ct. ______, 130 S. Ct. 2652, 177 L.Ed. 2d 234 (2010, Thomas, J.)
    • Exemptions can be amended. The rules liberally permit amendments.  FR Bankr P 1009 (a) (“A voluntary petition, list, schedule, or statement may be amended by the debtor as a matter of course at any time before the case is closed.”)(emphasis added)  The court however may deny the amendment “where the amendment would prejudice creditors or where the debtor has acted in bad faith or concealed assets.”  Hannigan v. White (In Re Hannigan), 409 F.3d 480, 481 (1st Cir 2005); In Re Valentine, 2009 BNH 25, 2009 Bankr. Lexis 3192 (Bankr DNH 2009); In Re Wunderlich, 369 B.R. 80., 84 (Bankr D.N.H. 2007).  Thus, there are limits to the Debtor’s ability to amend.  Those limits are reached when the debtor either fails to disclose an asset or undervalues an asset which the Trustee subsequently liquidates.  The debtor’s subsequent attempt to amend his or her exemptions then can run in to some difficulty.
    • Exempt property is saved for the debtor even if the debtor receives no discharge. Once property is exempted, if the case is not dismissed, then without regard to whether or not a discharge is entered the property “is not liable during or after the case for any debt of the debtor that arose, or that it determined under § 502 of this title as if such debt had arisen, before the commencement of the case except . . .” 11 USC § 522 (c).  In general, that appears to mean that property which is exempted in a bankruptcy case (such as, for example, the house) cannot thereafter be levied, executed and sold except for .certain limited sorts of debt even though the debtor did not receive a discharge.  Exempt property may be liable for the following kinds of debts:  (1) certain taxes; (2) domestic support obligation; (3) debts owed to federally insured depository institutions arising from fraud or willful or malicious injury; (4) debts owed in connection with fraud in a scholarship program; (5) or a debt that is secured by a lien upon that property.  11 U.S.C. § 522 (c).  Thus, although the practice does not focus on it, the claim of exemption may have a significant effect especially in a case in which the debtor is otherwise not entitled to a discharge.  The usual run of the mill situation in which a debtor is not entitled to discharge is fraud or other false statements in connection with the filing of the bankruptcy petition.  However, one wonders whether or not a bankruptcy case filed to soon might nevertheless yield some protection for property of the debtor which the debtor may claim as exempt under either federal or state law.    Compare 11 USC § 727 (a)(8) (Barring a Chapter 7 discharge where the debtor has received a discharge in a Chapter 7 case commenced within eight (8) years before the filing of the petition).
    • Exempt property and recovery actions. A debtor, who has claimed exempt property, also has certain very limited rights to avoid preferences or fraudulent transfers or to recover when the Trustee avoids preferences or fraudulent transfers.  The limited rights are contained in 11 USC § 522 (g) (h).  Subsection (g) permits the debtor to exempt property recovered by the Trustee if the property could have been exempted if it had not been transferred and if the transfer was both not voluntary and not concealed or is a non possessory non purchase money interest in household furnishing, professional implements or health aids.  11 U.S.C. § 522(g). In addition, if the Trustee fails to seek the avoidance of such property, the debtor may avoid exempted property under 11 U.S.C. § 522 (h).
      • A key ingredient is that the transfer not be voluntary. So, for example, it appears, in my experience, to regularly occur that debtors (especially debtors who are not represented, or before they seek representation) attempt to protect their property by transferring property to a loved one.   Assume, the debtor gave his truck to his mother.  The truck had equity.  The debtor continued to use the truck.  The Trustee sought to avoid the transfer of the truck as a fraudulent conveyance.  The debtor could not use 11 USC § 522 (g) to protect the truck because the transfer was voluntary.That debtor would have been far better off listing the truck on his schedules, and claiming the exemption rather than attempting to beat the system.
    • Post petition exemption planning. There is some controversy relating to the appropriateness of pre petition exemption planning.   See, e.g., 11 USC § 526 (a) (4) (Barring a bankruptcy lawyer from advising a debtor to incur more debt in contemplation of filing the petition, or paying the attorney), See, Milavetz, Gallop &Milavetz, P.A. v. United States,  ____ U.S. ____, 130 S. Ct. 1324, 176 L. Ed. 2d 79  (2010). My experience suggests, however, that most debtors cannot be faulted for excessive exemption claims and planning.  Instead, they can be faulted for the failure to plan.  Commonly, for example, debtors tend to delay bankruptcy by drawing down IRA’s, or other retirement plan assets.   For example, selling a house which is benefitted by a homestead exemption which in New Hampshire is a maximum of approximately $200,000.00 and conceivably $216,000.00.   A debtor which recently lost their livelihood needs to “downsize” selling the house before the bankruptcy will result in the loss of the exemption.  Selling the house after the bankruptcy case will result in the availability of the exemption.So, post petition exemption planning is appropriate there.   The debtor should not sell the house until after the bankruptcy case.  The debtor may even consider utilizing the services of the Trustee to sell the house and consider waiving some portion of the exemption for the benefit of the estate to permit the Trustee to effect the sale.
      • Purchase and Sale Agreement. The debtor should also consider whether or not it is appropriate to execute the purchase and sale agreement in advance. An argument at least exists that the execution of a purchase and sale agreement in advance is a disclaimer of the Debtor’s intention to continue the occupancy, i.e., to reside there.  New Hampshire law provides that a “homestead right is established by actual physical possession of a property with an intent to occupy it as a home.”  In Re Evarts,2006 WL 2077361 at *2 (Bankr DNH 2006) (quoting, Currier v. Woodward, 62 NH 63, 64 (1882);But see, In Re Martin, 07-11062 MWV Order dated Sept. 12, 2007, rejecting that argument.)
    • Homestead Exemption – Divorce Issues: New Hampshire homestead.  NH RSA 480:1.  In re Eckols, 63 B.R. 523, 524  (Bankr. D.N.H. 1986).  Under RSA 480:1, an individual is entitled to the homestead exemption only if they have an interest in the property.  The New Hampshire Supreme Court has held that the individual must also “occupy” the property.   (citing Currier v. Woodward, 62 N.H. 63 (1882)).  In order to create occupancy for homestead purposes, there must be actual and physical occupancy.  Id.  This requirement and judicial precedent create some potential issued for the Trustee in a Chapter 7 case when the debtor is divorcing or divorced.
      • Occupancy: It is well settled law in New Hampshire that a divorcing or divorced spouse is not dispossessed of an existing homestead right because they leave the family household in contemplation of or as a result of divorce proceedings.  See In re Dubravsky, 374 F.R. 467, 468  (Bankr. D.N.H. 2007) (citing In re Eckols); But see In re Weza, 248 B.R 470, (Bankr. D.N.H. 2000) (upholding creditor’s objection to homestead exemption where parties had been legally separated for more than a decade and the debtor had “not lived at the property for the past six years”).  Thus, a Trustee’s objection to a debtor’s homestead exemption claim based on the fact a divorcing or divorced debtor does not reside at the property is not, without more, viable.
      • Ownership: A Trustee may have more success in asserting an objection to a homestead exemption claim based on the ownership prong of the RSA 480:1 requirement.
      • Marital Equitable Interest: During a marriage, a spouse is held to own an equitable interest in the marital home even if they lack an actual title interest.  In Re Visconti, at 426.  This equitable right continues until the entering of a final divorce decree.  at 427, fn2.  Where however, a divorce has been finalized, the debtor spouse may no longer meet the ownership test in this manner.  Rather the debtor must establish based on an individual ownership interest of the property.   In Re Visconti, at 426.
      • Real v. Personal Property considerations: To be eligible for the homestead exception, the interest involved must be in real property.  Again, in a non divorce setting there is likely to be no issue here.  In a divorce scenario however, there may be potential grounds for the Trustee to object to a homestead exemption claim.  Whether an interest granted by a divorce decree will qualify as protectable interest will depend on the wording of the decree itself and potentially on the other facts and circumstances of the case.  The mere existence of a divorce decree stipulating that a debtor will receive a portion of the proceeds upon sale of a family residence is not sufficient to convert a real property interest into a personal property interest.  In re Dubrovsky at 468 (citing Bower v. Deickler (in re Deickler), 1999 BNH 26, 9.  Thus, where a debtor executed a quit claim deed pursuant to a Divorce decree but claimed the exemption on “monies owed by ex-husband from former mrital (sic) home at time of sale,” the Trustee’s objection was overruled as under the terms of the Decree, the sale was set to occur approximately two years post Petition Date.  See In re Dubravsky.  In contrast, where title was conveyed to the non-debtor ex-spouse prior to the filing for divorce and the final divorce decree contemplated the immediate listing for sale of the family home (which sale was in fact completed by the ex-spouse one day after the debtor’s filing), the interest was held to be only monetary in nature and the debtor thus not entitled to homestead protection of the proceeds.  See In re Visconti.
    • Secured Debt. Schedule D, lists all of the debtor’s secured debt.  A couple of issues occasionally stand out.
      • Lack of Perfection. What do you do with the security interest that is unperfected?  While practices vary, the better rule is that in an unperfected security interest will survive unless the Trustee or some other person attempts to avoid that security interest.  In general the Trustee has the powers of a hypothetical attaching lien creditor, 11 USC § 544(a) (1).  A hypothetical attaching lien creditor will typically defeat an unperfected security interest.  The Trustee therefore has the power to avoid such a security interest.  11 USC § 544 (a) (“The Trustee or any creditor, the right and powers of, or may avoid any transfer of property of the debtor or any obligation incurred by the debtor that is avoidable by . . .”  attaching lien creditor)  The Trustee’s avoiding powers are limited, however.  Among other things, the Trustee may not bring an avoidance action under § 544 after the time that the case is closed or dismissed.  11 USC § 546 (a) (2).  The process for seeking to avoid a lien is an adversary proceeding commenced pursuant to F.R.Bankr. P. 7001 (2).  If the Trustee does not bring an adversary proceeding, then it is not avoided, and after the case closes, the lien survives.
      • From a Chapter 7 Trustee’s standpoint, the value of the collateral impacts upon the security interest.  The code provides that the determination of the secured status is based upon the value of the “creditors interest in the estate’s interest in the collateral” 11 USC § 506 (a) (1).   The value is “determined in light of the purpose of the valuation and the proposed disposition or use of the property, and in conjunction with any hearing on such disposition or use or plan affecting such creditor’s interest.” Id.  The valuation issue impacts the Trustee in two ways:
      • First, whether or not to liquidate the collateral. There, the Trustee is necessarily looking at the practical value of what the Trustee can obtain upon the sale of the property.  Thus, in most circumstances, from the Trustee’s perspective the valuation that is relevant is the liquidation value.
      • The second impact is in connection with the distribution in the event that the Trustee recovers assets for distribution to creditors. There, the Trustee typically objects to the secured claim on the grounds that the secured claim has another source of payment.  In point of fact, that standard objection by Trustees has little to recommend it in the statute.  A claim is allowed under 11USC § 502 (a) whether or not the claim is entitled to security.  The Trustee’s abandonment of the property does not cause the claim to be disallowed unless the claim is for a tax assessed against the property which exceeds the value of the interest of the estate in such property.  11 USC § 502 (b) (3).   Since there is no other provision that disallows the secured creditor’s claim, it would seem that the creditor is entitled to share even though Trustee’s routinely object.  See also. Ivanhoe Bldg. & Loan Asso. v. Orr, 295 U.S. 243, 55, S.Ct. 685, 79 L.Ed. 1419 (1935) (Allowing a creditor with a mortgage on non-estate property to prove the entire amount of the claim, and not the amount after foreclosure.)
      • Lien Stripping in Chapter 7. The United States Supreme Court in  Timm, 502 U.S. 410, 112 S. Ct. 773, 116 L. Ed. 2d 903 (1992) held that one may not strip down a secured claim in Chapter 7 to the value of the collateral.Cf.McNeal v. GMAC Mortg. Co. (In re McNeal), 2010 Bankr. LEXIS 1350(Bankr. N.D.Ga. 2010) (No strip off of completely unsecured mortgage, citing the conflicting opinions and concluding that is the majority rule); but see, Domestic Bank v. Mann (In re Mann), 249 B.R. 831 (1st. Cir. B.A.P. 2000) (Chapter 13 debtor can strip wholly unsecured junior mortgage from residence); E. Savings Bank, FSB v. LaFata (In re LaFata), 483 F.3d 13 (1st Cir. 2007) (Citing Mann  with approval). As a result, there is, from a Trustee’s perspective, little incentive to administer assets which are encumbered by liens in excess of their value.
      • Subordination of IRS Liens. The one exception to that rule is assets which are encumbered by liens to the United States Internal Revenue Service in situations where there are significant administrative claims which the Trustee might otherwise seek payment for. The power to subordinate tax liens isis contained in 11 USC§ 724 (b).  That section subordinates liens for taxes to certain administrative and priority claims.  11 USC § 724 (b) (2).  Basically  most priority claims that would have priority over a tax claim under 11 U.S.C. §507(a)(8) prime the IRS lien.  As an interesting side note, it is at least arguable that liens for things such as pension benefit guaranty corporation contributions are likewise subject to subordination.  11 USC § 724 (d); See e.g. 29 U.S.C. §1368(c)(1) (PBGC lien claim is determined and has priority in the same fashion as under 26 U.S.C. §6323).
      • Incomplete foreclosure sales. It seems to occur from time to time that the secured lenders fail to complete their foreclosures.  They start the foreclosure, the debtor leaves, and then sometimes fail to finish them.  Finishing means recording the deed within sixty (60) days.
        • The first comment on that is that the deed may be recorded within the sixty (60) days without seeking relief from the bankruptcy court at least in the context of a Chapter 7.In re Hazleton, 137 B.R. 560 (Bankr. D.N.H. 1992); In re Beeman, 235 B.R. 519 (Bankr. D.N.H.1999) (In a Chapter 13 stay relief is needed to record a foreclosure deed).
        • The second comment for this is that it is probably the case that the dropping of the hammer eliminates whatever interest the debtor may have in the property.Barrows v. Boles, 141 N.H. 382, 687 A.2d 979 (1996)  However, it strikes this Trustee that if the secured creditor waits more than sixty (60) days to record its foreclosure deed the purchaser will lose to the hypothetical attaching lien creditor who went on record on the date of the bankruptcy petition, and where the foreclosure deed is then recorded after the bankruptcy petition, the Trustee would prevail and be able to avoid the transfer by the foreclosure deed under 11 USC § 544.
        • The problem with that argument from the Trustee’s standpoint is that the purchaser at the foreclosure sale then has a claim against the estate in an amount likely equal to the bid at the foreclosure sale. That claim is likely secured by a lien on the property if the purchaser acted in good faith. 11 USC § 550 (e).
      • Priority Debt.Schedule E of the bankruptcy schedules requires the debtor to list priority debt.
        • Domestic support obligations. The Trustee required to notify any obligees of domestic support obligation of the bankruptcy case, and the entry of a discharge.  That means that the Trustee needs the current address for the obligees.  The current address means something more than in care of the applicable state collection agency.  It means the actual address of the ex spouse.
        • Taxes: Taxes are a generally priority claims.  That means that there are from time to time cases in which the Trustee’s efforts to liquidate property will be efforts to liquidate property solely for the benefit of the IRS.   While on the one hand that is legitimate conduct for the Trustee, occasionally in this district, the perception is that the Trustee and the bankruptcy court are not collection agents for the IRS and the Trustee may elect not to liquidate property if for the sole benefit of the IRS.
        • Tax Returns. The Chapter 7 Trustee is required to file any applicable tax returns.  Tax returns may be due for the estate.  In the context of an individual case, the creation of a bankruptcy estate creates a separate taxable entity.  If the separate taxable entity has assets, and if those assets exceed the standard exemptions, then the Trustee will be required to file a tax return for the estate.   If the Chapter 7 case is an entity, then the entity owes tax returns for prior years as well as during the period of the Trustee’s administration.  Thus the Trustee may end up with an obligation to file the taxes of the entity.  That sometimes is significant problems from the Trustee’s perspective because the taxes may be for a period with respect to the Trustee’s records is inadequate.   It may be a further problem because the work of preparing those tax returns may be significant and the estate may have limited funds for paying accountants to do so.
        • Tax impact of the sale of depreciated property: The Chapter 7 taxes also are implicated when the Trustee seeks to sell property in excess of its basis.  That happens from time to time either when the Trustee is incapable of determining the basis of the property, or where the property has been held for a significant period of time by the debtor.  If the property is a house which the debtor is entitled to the exemption the non recognition provided by the Internal Revenue Code.  See, 26 U.S.C. §121 (exclusion of up to $250,000 per spouse on sale of principal residence), then the Trustee can take advantage of that non recognition.In re Kerr, 237 B.R. 488 (D. Wa. 1999).   If, on the other hand, the property is an income property, then the Trustee has to obtain the debtor’s records relating to the basis of the property.  The Trustee is then required to compute and pay the taxes due upon the sale of the property.  The obligation on the part of the Trustee to pay those taxes means that the Trustee may be less likely to administer an asset even though there appears to be equity in it.  It also means that the debtor may be able to avoid post petition tax obligations if the debtor can set it up in such a fashion that the Trustee liquidates the property rather than abandoning the property subject to a foreclosure sale by a secured creditor.   A foreclosure sale by the secured creditor may create a tax liability for the debtor which arises post petition and is therefore not discharged.See, 26 U.S.C. § 1398(f) (transfer from estate to debtor is not taxable at least on termination of the estate); In Re Olson, 930 F.2d 6 (8th 1991) (Abandonment is not taxable and upon abandonment the gain from foreclosure is taxed to the debtor);Terjen v. Santoro (In re Terjen), 1994 U.S. App. LEXIS 20711 (4th Cir. 1994) (“second, an abandonment such as occurred in this case is not a taxable event under I.R.C. § 1398(f) (1988)” at *3)but see, In re A.J. Lane & Co., 133 B.R. 264 (Bankr. D. Mass. 1991) (barring Trustee from abandoning and arguing that abandonment other than on termination of the estate is a taxable event).
      • Schedule F. Schedule F contains the list of all unsecured creditors.  From the Trustee’s perspective this list is relatively innocuous.   The issues that arise in connection with it are three:  I tend to look at the total as an addition of any problems in any case.   I look at medical bills and an addition of potential personal injury claims.  In unusual cases I will look for a private loan creditor who will give me a different perspective on what happened.
      • Schedule I . Schedule I includes the income of the debtor.  The income and Schedule J of the debtor, at least from the Trustee’s perspective, important basically for determining whether there is some likelihood of finding hidden assets.  Schedule I would indicate that the total income for the debtor is disability income or social security income suggests that there is no hope in the proceeding.  If Schedule I  indicates significant income means that the case requires closer scrutiny.  If the debtor is married and his or her spouse is not filing Schedule I requires the disclosure of the spouse’s income.
  1. Problems Of The Estate
    • Section 541 inclusions.The definition of property of the estate starts from Section 541. The basic rule is that property of the estate includes “all legal or equitable interests of the debtor in property as of the commencement of he case.”11 U.S.C. §541(a)(1).
    • Proceeds and profits. Property of the estate includes “proceeds, products, offspring, rents, profits of, or from property of the estate, except such as are earnings from services performed by an individual debtor after commencement of the case.”  11 USC § 541 (a) (6); But see, 11 U.S.C. §1306(a)(2) (bringing post petition earnings into the estate in a Chapter 13 case).  The implications of the rule that the property of the estate includes profits from property of the estate but excludes earnings from services performed by an individual means that, for example, rents from an investment property are also property of the estate, however services performed by a debtor in a Chapter 7 case “after the commencement of the case” and the earnings there from are not property of the estate.   Earnings from services performed by the debtor before the commencement of the case are property of the estate.  Thus, in the case of a lawyer, work and process is property of the estate.  However, fees generated from post petition work are not property of the estate.In the lawyers’ context, the difficult issues are things such as contingent fees.  There, the estate is entitled some portion of the fee, and the lawyer is entitled to some portion of the fee.
      • In the context of real estate agents, it is reasonably clear that where the real estate agent has earned the commission, then the commission is property of the estate.  Commissions are earned when the realtor has produced a buyer willing, ready and able to perform.  Thus, in the context of realtors, the post petition “earnings” which are really the post petition collection of commissions earned pre petition are, probably property of the bankruptcy estate.
      • In a Chapter 13 case, some or all post petition earnings are property of the estate.  11 U.S.C. §1306(a)(2) (bringing post petition earnings up to the date of closing, dismissal or conversion, into the estate in a Chapter 13 case); but see,  11 U.S.C. §1327 (b) (confirmation vests all property of the estate in the debtor.  Note that confirmation, if it occurs, happens before closing, dismissal or conversion). When a Chapter 13case is converted, property of the subsequent Chapter 7 estate consists only of the “property of the estate, as of the date of filing of the petition, that remains in the possession of or is under the control of the debtor on the date of conversion.”  11 U.S.C. §348(f)(1)(A).  Thus a converted case almost undoubtedly has less property than the original filing.
    • Property of the estate also includes certain property acquired after the commencement of the case. Property acquired after the commencement of the case that is property of the estate is property acquired by “bequest, devise, or inheritance”. Thus, if somebody dies within 180 days and leaves the debtor an inheritance, then that becomes property of the estate.  11 USC § 541 (a) (5).
    • Property that the debtor became “entitled to acquire within 180 days” after the filing of the bankruptcy case “as a result of a property settlement agreement with the debtor’s spouse, or of an interlocutory or final divorce decree” is  property of the estate.  11 U.S.C. §541 (a) (5) (B).
    • Life Insurance. Property that the debtor became entitled to acquire within 180 days of the petition date “as a beneficiary of a life insurance policy or of a death benefit plan” is property of the estate. 11 U.S.C. §541 (a) (5) (C).
    • Divorce. Section 541 Property of the Estate.In general, the current state of the law on interplay between New Hampshire marital law and the property of the bankruptcy estate is probably articulated in In Re Skorich, 332 B.R. 77 (Bankr D.N.H. 2005) (Skorich I).   In Skorich I the bankruptcy court held that the non debtor spouse, upon the commencement of a divorce proceeding has an equitable interest in the debtor spouse’s property.   Skorich I.The equitable interest in the debtor spouse’s property can be defeated by an attaching lien creditor and therefore by the Trustee under the strong arm powers 11 U.S.C. § 544 (b).
    • Divorce and Preferences. The non debtor spouse does not, however have a claim against the debtor spouse for the marital property. And as a result transfers prior to the commencement of the bankruptcy case which deprived the debtor spouse of title to property are not subject to challenge under the preference powers of the Trustee under 11 USC § 547.    In re Skorich, Ford v. Skorich, 42 F.3d 21 (1st Cir. 2007) (Sorich II).  In Skorich I  both the bankruptcy court, and the district court and court of appeals agree that the non debtor spouse equitable interest in the debtor spouse’s property is not a claim, but merely a form of property interest.
    • Divorce and stay relief. The usual practice, when a debtor spouse is a party to a divorce proceeding which began before the bankruptcy case, is that the non debtor spouse is specifically granted limited relief from the automatic stay to proceed in the family court on the issues of the equitable division of property under state law.  See, e.g., In Re Skorich,332 BR 77 (Bankr. D.N.H. 2005).   The divorce decree which is thereafter obtained then works on the property which is exempted from the estate.     Property which is not, however, exempted from the estate is property which the Trustee can administer pursuant to the effects of the Trustee’s strong arm powers under 11 USC § 544 (b).  Id.
  2. Discharge Issues.
    • Adversary Proceeding .Discharge litigation brought by a Trustee is generally brought under 11 USC § 727. An objection to discharge is an adversary proceeding except in the event that the objection to discharge is brought on the grounds that the debtor has been granted a discharge within the prohibited time (8 years for a prior Chapter 7 case, or 6 years for a prior Chapter 13 case).  11 USC § 727 (a) (7) and (8). F.R.Bankr. P. 7001 (4).   The Chapter 7 Trustee typically brings an objection to discharge either as part of a fraudulent conveyance claim or because the debtor has been untruthful to the Trustee.
    • A cause of action objecting to a debtor’s discharge (whether brought by a Trustee or any other litigant) is subject to special rules relating to dismissal.  A plaintiff cannot dismiss an objection to discharge by virtue of some settlement with the debtor simply on its own motion.  Instead, notice is required to be given to the Trustee, the United States Trustee “and such other persons as the court may direct, and [dismissal may be] only on order of the court containing terms and conditions which the court deems proper.” F.R.Bankr. R. 7041. The general concept is a debtor cannot buy his or her discharge.  If the litigant has chosen to end the litigation, the court will regularly provide an opportunity either for the Chapter 7 Trustee or for the United States Trustee’s Office to continue the litigation in that litigant’s stead.
    • Transfers within one year. One ground for objection to discharge which is relatively easy to plan for is the transfer by the debtor of property of the debtor within one year of the date of filing of the petition with the actual intent to hinder, delay or defraud a creditor or an officer of the estate.  11 USC § 727 (a) (2).   In essence, in any case in which the Trustee has a cause of action against the debtor or the debtor in the third party in a transfer which the Trustee believes is undertaken with actual fraud, then if that transfer occurred within one year before the filing of the bankruptcy case, the debtor may not be entitled to a discharge.  That is easy to plan around from the debtor’s counsel’s perspective.  The debtor’s counsel simply lists the transfer (and discloses the potential equitable interest, and then waits to make sure the bankruptcy petition is filed more than one year after the transfer occurred.)Compare,In re Bajgar, 104 F.3d 495 (Post petition re conveyance back of transferred property is no cure)
  3. Attorney Clients Privilege Issues.
    • In general, in a corporate Chapter 7 case the attorney client privilege may be waived by the Trustee. Commodity Futures Trading Commission v Weintraub 471 US 343, 105 S.Ct. 1986, 85 L.Ed. 2d 372 (1985).  That analysis probably does not apply to the counsel to a Chapter 7 debtor.   In Re Hunt, 153 B.R. 445 (N.D. Tex. 1992) (In a chapter 11 plan).  The amendments to the Bankruptcy Code enacted in 2005, commonly referred to as BAPCPA appear on their face to limit the very existence of an attorney client privilege by outlawing certain advice. See,  11 USC § 526 (a) (4) (Barring a debt relief agency from advising a prospective debtor to incur debt either in contemplation of the bankruptcy or to pay the attorney).  See, Milavetz, Gallop and Milavetz v. United States,  _____ U.S. _____, 130 S. Ct 1324, 176 L.Ed. 2d 79 (2010) (limiting the scope of that prohibition to forbid “only advice to undertake actions to abuse the bankruptcy system” at 1334).
  4. Jurisdiction
    • Bankruptcy Jurisdiction in the District Court. The United States District Courts have jurisdiction over all cases arising in, under or related to a case proceeding under title 11.   28 USC § 1334.  The    jurisdiction is exclusive as to all “cases under Title 11.”  28 U.S.C. §1334(a).  That jurisdiction is original but not exclusive as to “all civil proceedings arising under title 11, or arising in or related to cases under title 11.”  28 U.S.C. §1334(a).     The District Courts are authorized to refer “all cases under title 11 and any or all proceedings arising under title 11 or arising in or related to a case under title 11” to the Bankruptcy Judges for the district.  11 U.S.C. §157(a).
    • Reference of Title 11 Proceedings to the Bankruptcy Court. The United States District Court for the District of New Hampshire has referred all cases arising under title 11 or all cases arising in or related to title 11 to the bankruptcy court. Standing Order BK-1, dated January 18, 1994 “In re Referral of Title 11 Proceedings to the United States Judges for this District.” http://www.nhd.uscourts.gov/pdf/oo/BK-1.pdf. (the “Reference Order”); See also,R. 77.4(a).  The Reference Order also empowers the bankruptcy judges for this district to “hear and determine all cases filed under title 111 and all ‘core proceedings’ as defined in [11 U.S.C. §158(b).” Id.
    • Related to jurisdiction. The ability of the Bankruptcy Court to hear a matter in the first instance depends on whether the matter is related to a proceeding pending under title 11.  In the First Circuit, the test as to whether or not a matter is “related” is “whether the outcome of the proceeding could conceivably have any effect on the estate being administered in bankruptcy.” In re: G.S.F. Corp., 938 F.2d 1467, 1475 (1st 1991) quoting, Pacor v. Higgins, 743 F.2d 984, 994 (3d Cir. 1984. The District  Court for the District of New Hampshirehas followed that “Pacor test” in two cases. The first such case is Balzotti v.RAD Investments, Inc., 273 B.R. 327 (D.N.H. 2002). There, the Court extended related-to jurisdiction to third parties which “could conceivably have any effect on the estate.” Balzotti v. RAD Investments, Inc., 273 B.R. 327, 329 (D.N.H. 2002). This Court reiterated the test, although not finding related-to jurisdiction, in Marotta, Gund, Budd & Dzera, LLC v. Costa, 340 B.R. 661, 669 (D.N.H. 2006) (reiterating that “the 1st Cir. uses this formulation of the standard for ‘related-to’ jurisdiction known as the ‘Pacor test.’”).
    • Core and Non-core proceedings.  The bankruptcy court’s jurisdiction is divided into two (2) kinds:   Core and Non Core.  Core jurisdiction is not exactly defined in the statue except  by example: 28 USC § 157(b)(2).   “A core proceeding is generally one that arises under title 11 or arises in a case under title.” Ford v. Clement, (In Re Beckmeyer),  1999 BNH 10, 1999 Bankr. LEXIS 1879 (Bankr. D.N.H. 1999). Non Core jurisdiction is anything else.
    • Trustee Accounts Receivable collection Actions. The Trustee also frequently faces the problem of collection accounts receivable.   The bankruptcy court’s jurisdiction over receivables actions is somewhat limited.  First, it is not core.   28 USC § 157(b).  Ford v. Clement, (In Re Beckmeyer),  1999 BNH 10, 1999 Bankr. LEXIS 1879 (Bankr. D.N.H. 1999); f.,  Northern Pipeline Constr. Co. v. Marathon Pipe Line Co., 458 U.S. 50, 102 S. Ct. 2858, 73 L. Ed. 2d 598 (1982);  If the amount of the receivable is under $11,725.00 then venue in the federal courts is not necessarily in the District of New Hampshire but may instead be in the defendant’s home residence.  28 USC § 1409 (b).
    • Pleading Core / Non core. Because of the distinction between Core and Non Core, bankruptcy litigation has a slightly modified version of Rule 8. F.R. Bankr. P. 7008. Generally Rule 8 requires admissions or denials and a short plain statement of the facts given rise to the cause of action.  One typically is not required under Federal Rules of Pleading to admit or deny legal conclusions.  That rule is limited in the bankruptcy court in that F.R. Bankr. P. 7008 requires one to admit or deny the allegation as to whether or not the proceeding is a Core proceeding and if the pleader seeks to deny that the proceeding is a Core proceeding, then the pleader must assert whether the pleader assents to the entry of final order by the bankruptcy court
    • Motion to withdraw the reference. The motion to withdraw the reference is filed in the first instance with the bankruptcy court. R. 77.4(d). The bankruptcy court then makes it report and recommendation. Id.   The parties have fourteen (14) days to file any objections to the bankruptcy court’s report  and recommendation.  Id. The report recommendation together with objections is forwarded to the district court. Id.  The district court then enters the final order on the withdrawal of the reference. Id.  The motion to withdraw the reference does not stay any proceedings in the bankruptcy court.  Id.   It is not uncommon for the report  and recommendation to recommend that the bankruptcy court retain  the matter through discovery. Although the statute does not state any standard, most courts require that motions for permissive withdrawal be filed at the first reasonable opportunity. Boyajian v. DeFusco (In Re Giorgio), 50 B.R. 327  D.Bankr.R.I. 1985); In Re Baldwin United Corp., 57 B.R. 751 (S.D.Oh. 1085).
    • Jury Trials. Bankruptcy courts are courts of limited jurisdiction.  They are not Article 3 courts (bankruptcy judges are not life tenured).  That was the essence of the defect noted by the Supreme Court in striking down the original jurisdictional scheme of the Bankruptcy Code of 1978. Northern Pipeline Constr. Co. v. Marathon Pipe Line Co., 458 U.S. 50, 102 S. Ct. 2858, 73 L. Ed. 2d 598 (1982).  Nevertheless, the rules in our jurisdiction do permit a bankruptcy court to conduct a jury trial if it is a matter which “may be heard by a bankruptcy judge under 28 U.S.C. §157.”  LR 77.4(e).  The potential for a jury trial is sometimes used as a grounds to withdraw the reference even if it is a core proceeding (such as an action under 11 USC §548).  Defendants have a right to trial by jury in a fraudulent transfer action when they have not submitted to the jurisdiction of the bankruptcy court by filing a proof of claim against the debtor estate. Granfinanciera S.A. v. Nordberg, 492 U.S. 33, 58-59, 109 S.Ct. 2782, 106 L.Ed. 2d 26 (1989) (Fraudulent conveyance claim is entitled to jury trial); Langenkamp v. Culp, 498 U.S. 42, 45 111 S.Ct. 330, 112 L.Ed. 2d 343(1990) (Filing proof of claim consents to jurisdiction and waives jury trial right).
    • A bankruptcy trustee may also consider whether or not to remove pre petition litigation.  The bankruptcy trustee has a limited period of time after the filing of the petition to remove ongoing litigation then pending in state court.  F.R9027(a)(2).  Generally if the Trustee seeks to remove a pre-existing litigation in which the Debtor is the plaintiff, then the trustee has to do so within 90 days after the order for relief.  F.R.Bankr. P. 9027(a)(2).  Such removal is effected by notice.  F.R.Bankr. P 9027(a)(1).
  5. Litigation: Fraudulent Conveyances.
    • Pleading Standards. Bankruptcy litigation is federal litigation and as a result, the more exacting pleading standards established by the recent Supreme Court decisions in Twombley and Iqbal Further, fraudulent conveyance claims are subject to the particularity requirements of Fed. R. Civ. P. 9(b).   Judge Barbardoro articulated the standard recently as follows:

The Supreme Court’s decisions in Bell Atl. Corp. v. Twombly, 550 U.S. 544, 127 S. Ct. 1955, 167 L. Ed. 2d 929 (2007), and Ashcroft v. Iqbal, 129 S. Ct. 1937, 173 L. Ed. 2d 868 (2009), establish the appropriate structure for analyzing the sufficiency of pleadings. Those cases describe a “two-pronged approach” that first identifies “pleadings that, because they are no more than conclusions, are not entitled to the assumption of truth.” Iqbal, 129 S. Ct. at 1950. The second step then requires courts to look at the remaining well-pleaded factual allegations, assume their veracity, and “determine whether they plausibly  [*7] give rise to an entitlement to relief.” Id.

A claim is facially plausible when it pleads “factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged. The plausibility standard is not akin to a “probability requirement,’ but it asks me for more than a sheer possibility that a defendant has acted unlawfully.” Id. at 1949 (citations omitted). In deciding a motion to dismiss, I must accept all well-pleaded factual allegations in the complaint as true, drawing all reasonable inferences in the plaintiff’s favor. Alt. Energy, Inc. v. St. Paul Fire & Marine Ins. Co., 267 F.3d 30, 33 (1st Cir. 2001).

Bourne v. Stewart Title Guaranty Co., 2011 DNH 29; 2011 U.S. Dist. LEXIS 16202 (Feb. 16, 2011); See also, FIA v. Finnerty,  418 B.R. 1 (Bankr. D.N.H. 2009) (Not ruling on dismissal but noting concerns where neither party moved to dismiss); , FIA Card Services, N.A. v. Karagianis (In re Karagianis), 2009 BNH 036 (2009).

  • Basic Structure: two fraudulent conveyance regimes. In a fraudulent conveyance action, the Trustee may proceed under either 11 USC § 548 or 11 USC § 544(b).  11 USC § 544(b) permits the Trustee to avoid a transfer under the applicable state law (most often the Uniform Fraudulent Transfer Act – NH RSA 545-A).
    • Under 11 USC § 548, a Trustee may generally avoid any fraudulent conveyance which occurs within two (2) years of the date of the bankruptcy case. In the case of certain self-settled trusts where the debtor is a beneficiary and the trust was created with the actual intent to hinder, delay or defraud any creditor, the look back period is ten (10) years. 11 USC §548(e).
    • 11 USC § 544(b) permits the Trustee to avoid a transfer which is avoidable by any unsecured creditor in the case under the applicable state law. This leads to two primary differences:  (a) the state law requires that the Trustee find an actual creditor into whose shoes to step;  (b) the state law look back period is four (4) years.  RSA 545-A9(I).
  • Types of fraudulent transfers.  Generally either regime creates two kinds of fraudulent transfers: transfers that are constructively fraudulent and transfers that are fraudulent because they are made with the actual intent to hinder delay or defraud.  Generally a transfer is constructively fraudulent if it is made for less than reasonably equivalent value, at a time that the debtor was insolvent (or became insolvent as a result of the transfer, or was left with unreasonably small capital).  A transfer is actually fraudulent whether or not reasonably equivalent value was given in exchange if it was made with subjective bad intent.  The bad intent may be proved by reference to certain badges of fraud.
  • State Law – Two classes of unsecured creditors. The state law creates two difference classes of creditor plaintiffs.   Creditors that exist at the time of the transfer and creditors that come into being after the transfer.  Only creditors that exist at the time of the transfer may avoid a constructively fraudulent transfer. NH RSA  545-A:5 (I).   Transfers which were made with the actual intent to hinder, delay or defraud creditors may be avoided by either a present creditor, or a creditor whose debt arose after the transfer.  NH RSA 545-A:4 I.
  • State Law – Importance of the unsecured creditor – Trustee’s perspective. , therefore, in order to take advantage of the four year statute of limitations where the Trustee seeks to avoid a constructively fraudulent transfer(i.e. for less than reasonably equivalent value),  the Trustee then has to find an actual creditor who was a creditor at the time of the transfer. 11 USC §544 (b) (1); NH RSA §545-A:5(I).   Further, the claim upon which the Trustee relies must be “allowable.”  11 USC § 544 (b) (1).   See, e.g., Ford v. Blaine (In Re Mann), 2006 BNH 32 (Bankr. D.N.H. 2006) (Claim under §544(b) dismissed where the creditor claim relied upon by the trustee was disallowed.)
  • Basic elements: The basic elements of a fraudulent conveyance are reasonably familiar: a transfer for less than reasonably equivalent value at a time when the debtor was insolvent or when the debtor had less than sufficient capital, or became insolvent by virtue of the transfer is generally a fraudulent transfer under the constructive fraud prong.   11 USC § 548 (a) (1) (B); or if the transfer is challenged on actual intent grounds, a plaintiff must establish  actual intent to hinder, delay or defraud a creditor to show a transfer was an actually fraudulent conveyance.  The actual intent to hinder, delay or defraud creditors need not be a successful attempt.
    • Undoing the damage: exemptions? In my experience debtors seem to think that they can get away with it and thus not uncommonly (especially before retaining counsel) attempt to transfer assets to friends, to protect the same.   It frequently does not work.  Debtor’s counsel then often argues that there is no harm no foul since the asset could have been protected by an exemption if the transfer had not occurred.  As indicated at §2.12.8 above that argument fails.
  • Who is the Defendant and what is recovered? From the Trustee’s perspective a related, and perhaps more important issue is from whom can the Trustee recover and what can the Trustee recover?   The answers to those two questions are given in 11 USC § 550.  Under 11 USC § 550, the Trustee can recover “from the initial transferee” and from “any immediate or mediate transferee of such initial transferee.” 11 USC § 550 (a).  The recovery is of the property transferred or “if the court so orders, the value of such property.”  The recovery is automatically preserved for the benefit of the estate.  11 U.S.C. § 551.   That means that if the recovery is of a first mortgage then the second mortgage does not fall into first place but instead the estate recovers.
  • Lender exposure under § 550. Banks or other lenders are often either the initial transferee or a subsequent transferee.  The situation is regularly litigated with extensive opinions in the context of corporate leveraged buyouts:  was the bank an initial transferee, or not, and if it is not an initial transferee, does the bank have the benefit of the defenses of a subsequent transferee?
  • Defenses in § 550(b) The defenses of a subsequent transferee are given in 11 USC § 550 (b). The Trustee may not recover from a subsequent transferee who takes for value and in good faith “without knowledge of the voidability the transfer voided.” 11 USC § 550 (b) (1).   Note that the absolute bar of 11 USC §550(b) is not available to an initial transferee. The good faith defense of 11 USC § 550 (b) (1) may be objective or subjective.  An argument can be made that it is a subjective standard since otherwise the phrase “without knowledge of the avoidability of the transfer avoided” would be surplusage.
  • The issue arises in the context of certain kinds of financing. An example is In Re Lemery Building Company, Inc., BK  04-11455 – JMD.  Lemery Building Company was engaged in a real estate development which was failing.  Lemery Building Company conveyed the project to a related entity.  The conveyance to the related entity was allegedly for less than reasonably equivalent value.  The related entity sought financing from a bank.  The bank provided the financing to the new entity.  The Trustee sought to avoid the transfer to the related entity, and included the bank as a defendant on the theory that the bank was a subsequent transferee.  The Trustee’s theory was that the bank knew, or should have known, that the transfer was for less than reasonably equivalent value at the time the debtor was insolvent and therefore should have known that the transfer was a fraud on creditors.   The Bank’s first line of defense would be the bar against recovery of 11 USC § 550 (b).  If that defense fails, then the bank’s second line of defense would be 11 USC § 550 (e) which grants to a “good faith transferee from whom the Trustee may recover under subsection (a) of this section” a lien which lien is equal to the cost of the improvements made, or if less the increase in value of a result of the improvements, or the payment of any debt secured by a lien upon the property. 11 USC § 550 (e).
  • Good Faith and the State law cause of action. A similar defense of good faith exists under State law. Under State law the creditor may recover a judgment for the value of the asset transferred against the first transferee or against “any subsequent transferee other than a good faith transferee who took for value . . .”  NH RSA 545-A: 8(II) (b).   See, generally, Hayes v Palm Seedling Partners, -A 916 F 2d 258 (9th Cir. 1990) defining good faith for the purposes of § 548 (c).
  • Proving Insolvency and actual intent in the run of the mill Chapter 7. Fraudulent conveyances have significant evidentiary hurdles for a Trustee. The initial hurdles are to establish that at the time of the transfer that the debtor was insolvent, or to establish that at the time of the transfer that the debtor was intended to hinder, delay or defraud creditors.  It is surprising how easy it is to get that testimony at the first meeting of creditors.  Typically where a transfer which appears to be potentially fraudulent is disclosed at the first meeting of creditors the debtor is not at all sensitive to the issue and practically volunteers a statement of his or her intent.   It has occurred to me more than once that a debtor, engaged in business where the business is failing has transferred the house to his wife.  It is sometimes harder to get testimony about the debtor’s insolvency at the time of the transfer but often that comes as easily: debtors often want to explain that they did not file a bankruptcy petition because they wanted to but because they had to.  A story about their long suffering economic travails establishes that they had to, but it also establishes that they were insolvent for years before they filed.
  1. Litigation: Preferences.
    • Definition: A preference is a conveyance made: for the benefit of a creditor; on account of an antecedent debt; while the debtor was insolvent; either within ninety (90) days of the date of the filing or in the case of an insider within one (1) year of the date of the filing.  11 USC § 547.   The preference recovery with respect to insiders is duplicated by a potential fraudulent advantage recovery with respect to those same insiders under the New Hampshire Fraudulent Transfer Statute NH RSA 545-A: (II).
    • Starting Point: From the Chapter 7 Trustee’s perspective the response to the Statement of Financial Affairs question number 3 is the beginning step in investigating for preferential transfers.   By far the vast majority of the transfers reported in response to this question are not subject to any realistic challenge.  There are several common reasons for this fact.
      • Dollar Limits. The first is that if the transfer is less than $600.00 in a consumer case, or less than $5,850.00 in a non consumer case, the transfer may not be challenged. 11 USC § 547 (c) (8) (9).
      • Secured Loan payments. In addition, debtor’s often report transfers or payments made to their banks. A payment on account of a secured loan is difficult to challenge without a showing that the bank is “under water” (and thus in reality partially unsecured.)
      • Ordinary course defense. In addition, the bank has the defense of ordinary course.  The current state of the ordinary course defense is provided in 11 USC § 547 (c) (2).  A payment may not be recovered if the debt was incurred by the debtor in the ordinary course of the business or financial affairs of the debtor and the transferee, and the payment was made either in the ordinary course of business of the debtor and the transferee or made in accordance with ordinary business terms.  It might be possible to challenge the ordinary course defense for a mortgage loan on the grounds that debtors do not get mortgage loans every day.  However, it strikes this Trustee that that argument is going to be difficult and probably not worth the potential recovery.
      • Credit Card Payments. The other source of ninety (90) day payments are payments to credit cards. Credit card payments generate two different kinds of fact patterns.
        • Regular monthly payments. The first is the regular monthly minimum payments. Regular monthly minimum payments are reasonably and clearly immune from preference recovery because they are made in the ordinary course (and it would seem that obtaining a credit card is in the ordinary course of the financial affairs of most consumer debtors).
        • Lump sum payments. The second fact pattern that is frequent in credit card situations is the debtor obtaining cash from some source (for example a house sale) and then paying off their credit cards and nevertheless still being unable to manage their financial affairs and thereafter filing. That situation is regularly the source of recovery for a Chapter 7 Trustee.
      • New Value Defense. In the non Chapter 7 individual case a current issue is the new value defense. The statute provides that a transfer is not avoidable “to the extent that after such transfer, such creditor gave new value to or for the benefit of the debtor – (a) not secured by an otherwise unavoidable security interest; and (b) on account of which new value the debtor did not make an otherwise unavoidable transfer to or for the benefit of such creditors.”  11USC §547(c)(4).
      • The issue that has arisen is whether or not so-called “paid new value” is a defense.  The phrase “paid new value” is somewhat deceptive shorthand.   It means new value delivered to the debtor which was paid for by the debtor but paid for by the debtor in a transfer which was “avoidable”.  For example, if the debtor made a payment otherwise avoidable as a preference on day 90 and the creditor then shipped on day 89 new goods and the debtor then made a transfer to the creditor on day 55 which transfer is avoidable as a preference and on day 54 the creditor shipped new goods again, the issue is does the creditor get the defense of the 2 new shipments or only of the 1 new shipment? Judge Deasy’s answer in the Amherst Technologies case is that the creditor gets the defense of both new shipments because the phrase “otherwise unavoidable” refers to a transfer which is unavoidable except for the new value defense:

In other words, subsequent shipments by a creditor, which enlarge the debtor’s estate, are defenses to a trustee’s preference recovery even if the debtor has later paid for those shipments, which reduces the debtor’s estate, if the repayment of the subsequent new value would itself be avoidable and recoverable as a preference by the debtor but for the application of the new value defense.

In re Amherst Technologies, LLC, Bogodanov v. Avnet, 2010 BNH 27, at 18 (September 3, 2010),( appeal pending)

  1. Litigation: Motions to Sell Free and Clear
    • Generally: A common form of bankruptcy litigation is the motion to sell property free and clear of liens, claims, encumbrances and interests. The motion is governed by 11 USC § 363 (f).   Under 11 USC § 363 (f), there are five (5) scenarios in which such a sale is permissible.  The Trustee is authorized to effect the sale if non bankruptcy law permits the sale free and clear, the holder of the interest consents, the interest is a lien and the price at which the property is sold is greater than the aggregate value of all liens, the interest is in bonafide dispute, or the holder of such interest could be compelled to accept money satisfaction of the interest.  11 USC § 363 (f).
    • Current Trustee Issues: The impact of 11 USC § 363 (f) (particularly in the current market) probably means  that if the property is under water, it will be difficult if not impossible for the Trustee to sell the property free and clear.  If, on the other hand, there is a dispute with the primary lien holder, and the dispute rises to the level of a “bonafide” dispute, then the Trustee can sell the property with the interests to attach to the proceeds.
    • Co-owner issues: In addition to the sale free and clear, the Trustee also has the ability to sell free and clear of a co-owner’s interest.   11 USC § 363 (h).   The Trustee has to make an additional showing in connection with a co-owner.   It must first, be shown that the partition of the property is impracticable.  Second, that the sale of only the debtor’s interest will result in a value significantly less for the estate than the sale of all interest.  Third that “the benefit to the estate of a sale of such property free of the interest of co-owner outweighs the detriment if any to such co-owner.”
      • Sales under 11 USC § 363 (h) are not done by motion.  Instead they are required to be done by adversary proceeding FR Bankr. P. 7001 (3).
      • Trustee issue – life estate. It is not uncommon for the Trustee to be in a situation of having a debtor to whom Granma has conveyed a life interest in the property.  There is at least an issue about whether or not the Granma’s interest can sold.  After all, the statute on its terms limits the ability to sell co-owner’s interest to the interest of “tenant in common, joint tenant or tenant by the entirety.”
      • Trustee issue – non filing spouse. The other situation that is reasonably common is the non filing spouse.  Again, the Trustee has to make the same showing and essentially sue the non filing spouse.