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A debtor in an involuntary Chapter 7 bankruptcy case has made several unsuccessful attempts to dismiss the case, with the most recent attempt drawing a mild rebuke from the court. In re Viola, No. 4:11-cv-00817, order (N.D. Cal., Mar. 19, 2014). The district court held that the debtor lacked standing to challenge some parts of the case in that forum, and should have raised the issues in the bankruptcy court. It further found that he had not shown cause for relief from the bankruptcy court’s judgment or its own prior orders.

The court notes in its most recent order that the debtor is a “convicted fraudster.” A creditor filed an involuntary bankruptcy petition against him in March 2010. Creditors may file a petition against a person under either Chapter 7 or Chapter 11, provided that the creditors and the debtor meet various criteria set out at 11 U.S.C. § 303. The debtor commenced the present case in U.S. District Court almost a year later, in February 2011. He filed a motion to withdraw the reference from the bankruptcy court. District courts, by law, have original jurisdiction over bankruptcy proceedings, but generally refer them to the bankruptcy courts. A district court can withdraw the reference for cause, and it must do so if it determines that a case mixes questions of law involving bankruptcy and other areas. 28 U.S.C. § 157(d).

Several months later, the debtor filed a motion to stay the bankruptcy court’s order allowing the sale of certain vehicles that he owned, but the district court held that he lacked standing to bring that claim in district court. The debtor filed a motion for relief from judgment under Federal Rule of Civil Procedure 60(b) in November 2011. The court denied both the motion to withdraw the reference and the motion for relief from judgment in an order dated September 28, 2012. It held that his motion to withdraw the reference was untimely, coming almost a year after the commencement of the bankruptcy case. Since the bankruptcy court had handled numerous proceedings in the case, the district court held that withdrawing the reference would “likely have an adverse impact on judicial economy and the administration of justice.” Viola, order at 2, n. 1. Continue reading

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A district court recently ruled on an appeal of several bankruptcy court orders, holding that it lacked jurisdiction over the matter. Sain v. Isles at Bayshore Master Assoc., Inc., et al, No. 1:14-mc-20338, opinion (S.D. Fla., Jan. 31, 2014). In its opinion and order, the court reviewed the limited statutory basis for a district court’s jurisdiction over a bankruptcy appeal. The court found that the debtors’ appeal did not fit within the three types of situations defined by federal statute.

The debtors are a married couple who sought to strip off several liens from their homestead property, a condominium in Cutler Bay, Florida. “Lien stripping” is the process by which the amount of a secured claim that exceeds the value of the collateral is deemed unsecured debt. Three homeowners’ associations had filed liens on the condominium for unpaid assessments, which were subordinate to first and second mortgages. The debtors moved the court to rule that the total amount of these liens exceeded the equity in the condominium. The court declined to strip off the liens and denied the debtors’ motion for rehearing. The debtors appealed to the district court.

U.S. district courts may only hear appeals of three types of orders: “final judgments, orders, and decrees,” 28 U.S.C. § 158(a)(1); certain types of interlocutory orders in Chapter 11 cases, id. at § 158(a)(2); and other interlocutory orders “with leave of the court,” id. at § 158(a)(3), Fed. R. Bankr. P. 8001(b) and 8003. The Sain court first ruled that the bankruptcy court orders were not “final” within the meaning of § 158(a)(1). A final order, the court held, is one that “ends the litigation on the merits,” where the court cannot do anything else except “execute the judgment.” Catlin v. United States, 324 U.S. 229, 233 (1945), citing St. Louis, I.M. & S.R. Co. v. Southern Express Co., 108 U.S. 24, 28 (1883). Continue reading

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An inventive use of federal bankruptcy law enables some debtors to eliminate liens from their homes through a process known as “Chapter 20.” The name refers to the sum of 7 and 13, since the process uses both Chapter 7 and Chapter 13 proceedings. Not all courts agree that Chapter 20 lien stripping is permissible after the changes made by the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA). Federal courts in different parts of California have reached different conclusions about Chapter 20. The Fourth Circuit Court of Appeals on the East Coast joined the ranks of courts that have affirmed the process last year. In a 2-1 ruling, the court offered an overview of how Chapter 20 works and the objections against it. In re Davis, 716 F.3d 331 (4th Cir. 2013).

The court heard appeals brought by the bankruptcy trustees in two Chapter 13 cases. In both cases, the debtors initially filed Chapter 7 petitions and obtained final discharges. A discharge in a Chapter 7 case removes a debtor’s personal liability, but still allows a creditor to collect against any collateral. In both cases, the value of the debtors’ residences was significantly less than the amount of indebtedness secured by the homes. In one case, a home valued at $270,000 had first-, second-, and third-priority liens totaling more than $508,000. The debtors filed Chapter 13 petitions less than four years after their Chapter 7 discharges, seeking to strip the worthless, low-priority liens from their residences. The bankruptcy courts approved the debtors’ requests, and the trustees appealed.

Chapter 13 generally allows stripping of worthless liens against debtors’ homes, but it does not allow a final discharge of debt if the case was filed within four years of a Chapter 7 discharge. 11 U.S.C. § 1328(f)(1). A Chapter 20 proceeding works around this restriction, as the court describes. A court may determine that a low-priority lienholder’s claim is unsecured if the total value of all secured claims is greater than the value of the collateral. 11 U.S.C. § 506(a). Now that the lienholder is an unsecured creditor, the court has the authority to modify their rights, which includes stripping the lien from the property. Davis, 716 F.3d at 335, citing 11 U.S.C. § 1322(b)(2). Continue reading

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A married couple in a Chapter 13 bankruptcy proceeding filed a motion to value the lien on their homestead property, a condominium in Florida. This type of motion can be useful to debtors who believe that the value of their property is less than the total amount of claims secured by liens. A court can rule that the amount of secured claims in excess of the property’s value is unsecured in a process often known as “lien stripping.” The Florida couple’s case involved liens held by several homeowners’ associations (HOAs) for unpaid assessments. In re Sain, No. 13-13325, order (Bankr. S.D. Fla., Oct. 29, 2013). The court held that it could not strip off the assessments because of a particular feature of Florida law. It sustained the HOAs’ limited objection to the debtors’ motion.

A creditor’s secured claim on property owned by the bankruptcy estate is only secured up to the value of the secured property. The remainder of the claim is unsecured. 11 U.S.C. § 506. For example, if a creditor has a claim to real property, secured by a lien, in the amount of $200,000, but the value of the real property is $180,000, then $20,000 of the creditor’s claim is unsecured. A debtor may move the court to make a finding regarding the value of a creditor’s secured claim in order to determine the unsecured amount.

At the time the debtors filed their bankruptcy petition, their condominium was encumbered by first and second mortgages, as well as recorded liens from three HOAs involving unpaid assessments governed by Florida law. The debtors did not dispute the validity or amount of the HOAs’ liens, but claimed that the condominium had no equity in excess of the amount due to the holders of the two mortgages. They filed a “motion to value and determine secured status of lien on real property” asking the court to strip off the HOA liens. Continue reading

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Student loan debt is a growing burden for people in Los Angeles and all over the country, as the cost of higher education seems to grow faster than the job market. Student loan debt is also one of the few types of debt that is almost never subject to discharge in a bankruptcy case. A recent article in the Wall Street Journal gave several examples of the lengths to which educational lenders sometimes go to oppose discharge of these debts. Some of the stranger arguments did not convince the judges who decided those specific cases, but the mere fact that lenders feel comfortable raising them in court demonstrates the importance of having the help of a skilled and experienced personal bankruptcy lawyer.

Courts rarely discharge student loans at the end of a Chapter 7 or Chapter 13 case, because they are subject to their own separate rule. A debtor must prove that the debt would impose an “undue hardship” on them and their dependents. 11 U.S.C. § 523(a)(8). Courts have often interpreted the term “undue hardship” very strictly. The Brunner test, which most courts have adopted, requires a debtor to prove (1) that repaying the loan would leave the debtor unable to “maintain a minimal standard of living” on current income and expenses, (2) that “the state of affairs is likely to persist” for most or all of the repayment period due to “additional circumstances,” and (3) that the debtor “has made good faith efforts” at repayment. Brunner v. New York State Higher Educ. Serv. Corp., 831 F.2d 395, 396 (2nd Cir. 1987).

In one of the cases discussed in the Wall Street Journal article, a debtor sought to discharge a $2,500 student loan in a Chapter 7 proceeding. The lender, in arguing that the debtor had failed to reasonably maximize her income and minimize her expenses, noted that she had given birth to three children since taking out the loan, despite being unmarried and having health problems that interfered with her ability to work. In re Ivory, 269 B.R. 890, 910 (Bankr. N.D. Ala. 2001). The court rejected this argument and ruled for the debtor, stating that “[t]here is nothing in the Bankruptcy Code that suggests that Congress did not intend for student loan debtors to procreate.” Id. at 911. Continue reading

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Credit card debt can be incredibly stressful for people experiencing financial difficulties. High interest rates and late fees, along with increasingly high minimum payments, may make final payment of the debt seem impossible. The bankruptcy system may allow the discharge of some or all of a person’s credit card debt. It prevents discharge, however, of debt(s) incurred fraudulently or in bad faith, such as if a person charges a large amount to a credit card shortly before a planned bankruptcy filing.

Unsecured vs. Secured Debt

Most credit card debt is unsecured, meaning that the creditor does not have the right to repossess property, known as collateral, if the debtor defaults. In the case of a credit card issued by a retail store, the store may have the legal right to repossess whatever items the debtor purchased, although it is not always financially feasible to do so. Secured debt, such as a mortgage or car loan, generally receives higher priority for repayment from the bankruptcy estate than unsecured debt.

Bankruptcy Schedule F

Certain unsecured debts, such as child support or tax debt, are treated as “priority claims,” while the rest are “nonpriority claims.” A debtor filing for personal bankruptcy under Chapter 7 or Chapter 13 must complete Schedule F, which identifies creditors who have “unsecured nonpriority claims.” Most forms of credit card debt go on this schedule. Continue reading

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Student loans are not dischargeable in Chapter 7 or Chapter 13 bankruptcy, except in narrowly defined circumstances. A debtor must establish that continued payment of the student loan debt would cause “undue hardship” to them and their dependents. 11 U.S.C. § 523(a)(8). Most U.S. jurisdictions apply a three-part test to determine whether a debtor has met this burden. A student loan debtor is currently appealing the denial of discharge in a Chapter 7 case to the U.S. Supreme Court, arguing in part that the three-part test is improper, or alternatively that it should be modified. Tetzlaff v. Educ. Credit Mgt. Corp. (“Tetzlaff Petition”), No. 15-485, pet. for writ of cert. (Sup. Ct., Oct. 15, 2015).

Most federal appellate courts, including the Ninth Circuit, have adopted the Brunner test to determine whether a student loan debtor has met the statutory requirement of proving “undue hardship.” A debtor must prove, by a preponderance of evidence, that:

1. Based on their current levels of income and expense, repayment of the loans would prevent them from supporting themselves or their dependents at a “minimal standard of living”;
2. This situation is likely to continue for most or all of the repayment period; and
3. They have “made good faith efforts” to make timely payments on the debt. Brunner v. N.Y. State Higher Educ. Svcs. Corp., 831 F.2d 395, 396 (2d Cir. 1987).

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Under the federal Bankruptcy Code, certain debts are not eligible for discharge by a bankruptcy court at the end of a case. Nondischargeable debts include certain tax debts, 11 U.S.C. § 523(a)(1); spousal and child support, id. at § 523(a)(5); and debts that resulted from fraud, theft, and other deceptive or unlawful acts, id. at §§ 523(a)(2), (4), (6). For many, perhaps most nondischargeable debts, a rationale based on public policy seems clear. This might not be the case, however, with regard to student loans, including both public loans, which are backed by the federal government, and private loans. Rather than attempting to deduce a public benefit from making student loans nondischargeable, it is worth looking into how they became nondischargeable in the first place.

Student loans are only subject to discharge in bankruptcy if a debtor proves that continuing to make payments would cause an “undue hardship” to them and their dependents. 11 U.S.C. § 523(a)(8). No single legal standard applies throughout the country for determining whether a debtor has established “undue hardship.” The Ninth Circuit, which includes California, has adopted a three-part test known as the Brunner test, found in Brunner v. N.Y. State Higher Educ. Serv. Corp., 831 F.2d 395, 396 (2d Cir. 1987). Other circuits have adopted a test known as the “totality of the circumstances,” first developed in In re Andrews, 661 F.2d 702, 704. (8th Cir. 1981). Both tests require a court to examine a debtor’s financial situation and determine whether it is possible that conditions might improve enough to allow the debtor to continue paying the loans. In other words, bankruptcy courts must attempt to predict the future.

Student loans therefore differ in at least one important way from other nondischargeable debts because there is an exception provided in the statute itself. As noted earlier, most nondischargeable debts have some obvious justification, such as the fault of the debtor in the case of a debt incurred through fraud, or the need of a dependent in the case of child support. Student loans, as it turns out, became nondischargeable quite incrementally.

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Federal prosecutors filed bankruptcy fraud charges against a reality television star in October 2015, alleging that she attempted to conceal income from the court during a bankruptcy proceeding. United States v. Miller, No. 2:15-cr-00212, indictment (M.D. Pa., Oct. 13, 2015). The indictment lists a total of 20 counts:  two counts of bankruptcy fraud, five counts of concealing assets, and 13 counts of false declarations. The investigation reportedly began when a bankruptcy judge familiar with the defendant’s case saw her television show and began to doubt her claims. In the age of social media, and the associated climate of over-sharing details of our lives, full disclosure in bankruptcy cases and other legal proceedings takes on an ever greater importance.

When an individual or married couple files for bankruptcy, they must provide the bankruptcy court with a detailed accounting of their assets, debts, and income. The debtor presents this information on “schedules,” using forms provided by the court. Federal criminal law prohibits debtors from concealing assets from the court or the trustee, intentionally or knowingly failing to disclose material information to the court or trustee, making false statements, and a wide range of other fraudulent or deceptive acts. 18 U.S.C. § 152. A debtor who makes a false statement in the course of a bankruptcy proceeding may also be subject to prosecution for bankruptcy fraud. 18 U.S.C. § 157. A conviction under either statute can result in imprisonment for up to five years.

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A federal appellate case has the potential to make substantial changes to the way American bankruptcy courts handle student loans. Federal bankruptcy law does not allow courts to discharge student loan debt, unless the debtor can show that they and their dependents would suffer “undue hardship” if they were forced to repay the debt. 11 U.S.C. § 523(a)(8). The statute does not define “undue hardship,” so courts have had to apply their own interpretations. Most federal circuits have adopted the Brunner test, named for Brunner v. N.Y. State Higher Educ. Servs. Corp., 831 F.2d 395 (2d Cir. 1987), which uses a three-part test to establish “undue hardship.” The current case, Murphy v. Sallie Mae, et al., No. 14-1691 (1st Cir., Jun. 30, 2014), is in a circuit that has not expressly adopted any standard for “undue hardship.” This has made the case the center of a battle between consumer advocates on one side and student-loan lenders, with the support of the federal government, on the other.

The elements that a debtor must prove under the Brunner test made sense in 1987, but they are not necessarily as widely applicable in the world of 2015. A debtor must prove that they would not be able to maintain a basic standard of living, based on their current income and expenses, without discharge of the loans; that their current financial hardship is likely to continue for most of the repayment period; and that they have attempted to repay the loans in good faith. The second part of the test seems especially difficult, since it asks the court to predict the future, but the third part has also produced results that seem remarkably unjust.

The debtor in Murphy is 65 years old and has been out of work since he lost his job as the president of a manufacturing company in 2002. He has been unable to find work since that time. According to the district court that heard his case in 2014, he blamed his ongoing unemployment on his age and level of qualifications, as well as “the shrinking American manufacturing base.” Murphy v. Educ. Credit Mgt. Corp., 511 B.R. 1, 2 (D. Mass. 2014). From 2001 to 2007, he took out multiple loans, totaling more than $220,000, to finance his three children’s college educations.

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