Judge Marvin Isgur of the Southern District of Texas has rejected application of a per se vicarious disqualification rule in a case involving Bracewell Giuliani. No. 07-32417, In re Cygnus Oil and Gas Corporation, (Bankr. S.D. Tex. 5/29/07). In the Cygnus case, a Bracewell partner owed 100,000 shares of the debtor and has served as a director for four months during the year prior to bankruptcy. Under the language of 11 U.S.C. §101(14), the individual partner was clearly not a disinterested person entitled to be employed. If the interested status of the partner was imputed to the firm, then the firm itself would not be disinterested and could not be employed.
Judge Isgur noted that the Delaware Bankruptcy Court had applied the per se rule of vicarious disqualification. In re Essential Therapeutics, Inc., 295 B.R. 203 (Bankr. D. Del. 2003). That court found that in the “current climate of distrust of officers and directors” the corporate leadership could be subjected to interrogation for their role making it “impossible” for a firm employing such an officer or director to adequately represent the debtor’s interests.
Going out on a limb, Judge Isgur pointed out that the Ninth Circuit BAP had rejected a per se approach to vicarious disqualification. In re S.S. Retail Stores Corp., 211 B.R. 699 (9th Cir. BAP 1997). Moving on to more solid ground, the court found that the statutory language did not support the pre se rule. Judge Isgur stated:
“Rules of statutory interpretation direct the Court to ‘presume that a legislature says in a statute what it means and means in a statute what it says there.’ (citation omitted). On examination of §101(14), this Court, in accordance with the majority of circuits addressing this issue, finds that no per se rule of disqualification exists under the Bankruptcy Code. ‘Person’ is defined in §101(41) as including an ‘individual, partnership, and corporation.’ (citation omitted). The Code is unambiguous. Section 101(14) by its plain language applies to any ‘person.’ ‘Person’ specifically refers to Bracewell. McBride is the equity holder and was the Cygnus director—not Bracewell. Had Congress intended to impute a single member’s disqualification to her entire firm, it would have done so. (citation omitted). Accordingly, the Court find that based on a plain reading of the statute, Bracewell is not disqualified . . . “
Memorandum Opinion at 5.
However, the Court did not stop at this conclusion. It went on to note that under §101(14)(C), a firm could be disqualified if it possessed “an interest materially adverse to the estate . . . by reason of a direct or indirect relationship to . . . the debtor.” The firm clearly had an indirect relationship to the debtor because of the interest of its partner. However, Bracewell established that (i) its partner no longer maintained a role with the debtor, (ii) that he owned 0.3% of the debtor’s stock, (iii) that he agreed not to vote his shares, (iv) that shareholders were unlikely to receive anything from the debtor’s estate and (v) and that the former director had been “walled off” from the reorganization team. The Court found that no evidence had been presented that the firm would have a materially adverse interest based on the fact that one of its many partners had served as a director for a brief period of time.
Judge Isgur should get credit for reading the statute the way Congress wrote it. Section 101(14)(A) and (B) absolutely exclude certain specified “persons” from the definition of “disinterested person,” while Section 101(14)(C) applies to both direct and indirect relationships. Thus, the per se rule applies to direct relationships, while the “materially adverse” standard applies to indirect relationships as well. Indirect relationships require a factual inquiry, while direct relationships invoke per se disqualification. This standard is sensitive enough to identify actual conflicts (for example, if a firm employing Jeffrey Skilling had applied to represent Enron), while weeding out technical ones (as in the Cygnus Oil case).
Bracewell also gets credit for making the proper disclosures. Unlike the John Gellene case (discussed in this blog last year), Bracewell was prompt to point out its “connections” with the debtor as required by Fed.R.Bankr.P. 2014. As a result, the court was able to examine the evidence and render a decision on the front end of the case. The Cygnus case certainly provides a powerful case for the benefits of making full disclosure up front.
While Cygnus Oil certainly upholds the canon of strict statutory construction, its benefits are more likely to flow to mega-firms than small ones. In a firm where one litigation partner out of many hundreds of overall partners had been a director of the debtor, it is easy to avoid finding a materially adverse interest. However, where one out of three lawyers in a firm had been intimately involved with the debtor, disqualification would be more difficult to avoid.
As a post-script, it is worth noting that the employment rules exclude firms which fail the disinterested test, but do not require the employment of the most qualified firms. The quality of the firm employed is governed by both the open market and the court’s ability to approve the fees requested. If a firm is disinterested but mediocre, it could be hoped that an efficient market place would not employ that firm or that the court would reduce the fees awarded to that firm causing the inefficient firm to withdraw from the marketplace.
Tuesday, June 26, 2007
Wednesday, June 13, 2007
Assigned Credit Card Debt: A Problem of Paper, Electronic Images and Faith
Two recent decisions from Texas Bankruptcy Courts highlight the practical problems inherent in proving up a claim based on assigned credit card debt. However, they also illustrate the tenuous connection between trust and value in the electronic age.
The Cases
The two cases involved a common fact pattern but different outcomes. In both cases, a debtor incurred credit card debt and then filed bankruptcy. In the bankruptcy case, a third party filed a proof of claim as the assignee of the original creditor. The Debtor then objected on the basis that the entity claiming to hold the claim was unknown to it and that the documentation attached to the claim was insufficient. In In re Tran, No. 05-82180 (Bankr. S.D. Tex. 9/6/06)(Brown, Ch.B.J.) aff’d, eCast Settlement Corporation v. Tran, No. H-06-2965 (S.D. Tex. 5/14/07)(Miller, .J.) , the Court required the assignee to meet the same burden of proof which would apply to a suit on a contract in state court and the claims were denied. In In re Joe Ray Griffin, No. 06-11130 (Bankr. W.D. Tex. 5/17/07)(Monroe, B.J.), the Court allowed the claim on a finding that the underlying claim was undisputed without requiring the assignee to establish its provenance.
Lack of Evidence Dooms Tran Creditor
The Tran opinion takes a very methodical approach to the claims objection. The Court started with the question of whether the objection raised by the Debtor fell within a ground established under §502(b). The Court found that the Debtor’s objection that it did not owe any money to eCast Settlement Corporation fell within the statutory language that the claim should be allowed unless it was enforceable under any agreement or applicable law.
The Court then sought to determine who had the burden of going forward under Fed.R.Bankr.P. 3001. Under Rule 3001(f), a properly filed proof of claim is entitled to prima facie validity. If the claim is entitled to prima facie validity, the objecting party must go forward with evidence to rebut the prima facie case, at which point the burden shifts to the creditor. On the other hand, if the claim is not properly filed, it is not entitled to prima facie validity and the creditor bears both the burden of going forward with the evidence and the burden of persuasion. The Court noted that in order to be entitled to prima facie validity, a claim based on a writing must be supported by a copy of the writing or by a statement that the writing has been lost or destroyed. Fed.R.Bankr.P. 3001(c). The Court then found that under Texas law, a claim on a credit card is treated as a claim for breach of a written contract so that a copy of the written contract was necessary to give the claim prima facie validity. Since the assignee attached only a summary of a few pertinent details relating to the contract, the Court concluded that the claim was not entitled to prima facie validity and placed the entire burden on the putative claimant. The Court rejected the argument that the creditor could substitute a summary for voluminous documents on the basis that the creditor had not shown that the underlying contract was voluminous.
In this case, allocating the burden was tantamount to determining the objection. Because the creditor had the entire burden, it had to prove the existence of a contract. The Court discussed the types of evidence which could prove the existence of a contract under Texas law.
“Under Texas law, the affidavit of a custodian of the creditor’s records, whose duties include having custody and control of records related to the debtor’s account which purports to: (1) authenticate the credit card agreement documents and monthly statements; and (2) state the account balance due and unpaid, may be sufficient to prove the formation or the terms of the agreement. (citation omitted). The elements of breach of contract may be proved by introduction of debtor’s signatory reply to the bank’s predecessor in interest’s revolving credit offer; bank’s subsequent issuance of new credit cards to debtor with proof of use; monthly statements billed to debtor and debtor’s payment including a copy of a canceled check showing a payment to the bank based upon the debtor’s unique identifying revolving credit account number; admission of the debtor in debtor’s discovery responses; and subsequent absence of payment. (citation omitted). Where one bank has purchased the revolving account from another bank, the custodian of the purchaser bank’s records is competent to testify about the predecessor bank’s records in the purchaser’s possession. (citation omitted). “
Order Regarding Objection to Claims, p. 8.
Here, the creditor did not offer any of these forms of proof. Instead, the creditor sought to have the debtor prove up certain credit card statements relating to the account. The court found these statements to be insufficient to prove the existence of a contract and also insufficient to establish the Debtor’s liability to eCast. As a result, the Court denied the claims.
The Tran case was appealed to the U.S. District Court which entered an order affirming the Bankruptcy Court on May 14, 2007. The District Court opinion brought out an additional fact not apparent from the Bankruptcy Court opinion. Apparently eCast Settlement Corporation had produced general assignments from various banks to it, which did not specifically reference the Tran account. However, these assignments were excluded from evidence as hearsay.
The District Court agreed with the Bankruptcy Court that failure to attach the writing that the claims were based upon deprived the claims of their prima facie validity. The District Court noted that eCast’s “boilerplate” statement about summarizing voluminous documents might satisfy the proof of claim form but did not satisfy Rule 3001(c). The District Court also agreed with the Bankruptcy Court that failure to establish prima facie validity under Rule 3001(f) left the entire burden on eCast.
The District Court agreed that eCast had failed to satisfy its burden of proof. The Court’s discussion is very illuminating as to what evidence would have been sufficient.
“ECast had the opportunity to introduce evidence during the evidentiary hearing held June 20, 2006 before Chief United States Bankruptcy Judge Karen Brown to support its claim beyond what was attached to its proofs of claim. As discussed above, eCast introduced evidence and examined Teresa Tran at that hearing. The court found that there were several key documents, any of which could have satisfied eCast’s burden of proof had they been entered into evidence. An affidavit from the custodian of records: (i) authenticating the credit card agreement; (ii) authenticating monthly statements; or (iii) certifying the unpaid balance and balance due could have met eCast’s burden. (citation omitted). More relevant to eCast’s situation, the court found that one who has purchased an account from a bank may rely upon the custodian of the purchaser’s records to fulfill the requirements above. (citation omitted). Rather than introduce any of the types of evidence discussed above, eCast attempted to introduce general assignment agreements from three banking institutions which were excluded on evidentiary grounds. (citation omitted). The Court notes that eCast offered no witness to establish the validity of their claim as discussed above and no affidavit to authenticate documents as discussed above. Furthermore, eCast failed to offer any evidence beyond a few monthly statements—clearly insufficient on their own—to establish the existence of a contract or the amount owed under Texas law. The court proceeded a step further showing that even if eCast had established the validity of their claim, they still failed to establish the amount of their claim pursuant to Texas law.”
Memorandum and Order, pp. 11-12. The District Court approved of the Bankruptcy Court’s reasoning in this regard and thus affirmed the decision to deny the claims.
In a curious ruling, the District Court held that eCast was not required to prove that it was the assignee of the original creditors. It stated, “It was not assigned the burden to prove it rightfully acquired the claim. There are specific elements that ECast must establish to show an enforceable contract. . . . However, eCast was not required to produce assignments or transfer documents, and doing so would not alone have established a valid and enforceable claim under Texas law.” Memorandum and Order, p. 12.
Finally, the District Court ruled that eCast should not have been allowed to amend its claims to include the required proof. The Bankruptcy Court had denied an oral motion to continue the hearing on the basis that the hearing had been long scheduled. The District Court found that undue delay was a proper ground for denying a request for leave to amend.
As a result, the District Court affirmed the Bankruptcy Court in all respects.
Statements Good Enough For Griffin Creditor
The creditor in the Griffin case was able to prevail because it managed to amend its claim to point that it reached prima facie validity. In Griffin, the creditor filed a claim in the name of “B-Real, LLC/Chase Bank, N.A.” According to the court, the original claim was “woefully deficient” in that it was supported only by a summary reflecting the closing balance, but did not even include an account number. Upon receiving an objection, the creditor amended its proof of claim to attach account statements for the debt for several months prior to bankruptcy. However, it did not include any documentation showing a transfer of the debt from Chase Bank, N.A. to B-Real, LLC.
Judge Monroe found that in order for a claim filed by the original creditor to have prima facie validity, it must include the following elements:
the name and account of the debtor or debtors;
the amount of the debt;
it must be in the form of a business record or other reliable format; and
if the claim includes charges such as interest, late fees and attorney’s fees, the summary must include a statement giving a break-down of those elements.
Judge Monroe found that the account statements attached to B-Real’s claim satisfied these elements, stating “They are sufficient for all parties to assure themselves that the claim that is being asserted in the amended claim appears valid…” As a result, Judge Monroe found that the claim was entitled to prima facie validity. However, from there, the court had to decide whether the creditor asserting the claim had to prove its ownership of the claim. The Court noted that Fed.R.Bankr.P. 3001(e)(1) required evidence of transfer of the claim only if the claim is transferred after the original creditor files a proof of claim. The Court declined to impose an additional requirement not found in the rules (i.e., that a assignee who is the first person to file a claim on the account must prove the transfer). The Debtor did not produce any evidence. As a result, the court found that the prima facie validity of the claim carried the day and denied the objection.
Reconciling the Two Cases
Although the two cases arrived at different results, they share some common reasoning:
Both cases agree that a mere summary attached in support of a proof of claim is insufficient;
Both cases appear to agree that a properly proven up account statement may be sufficient for some purposes; and
Both cases agree that an assignee is not required to prove how it acquired the claim if the original creditor has not previously filed a proof of claim.
The key distinction between the two cases appears to be that in Griffin, account statements attached to the amended proof of claim were found to be adequate to give the claim prima facie validity. In Tran, the Bankruptcy Court expressly stated that “The writing required by Rule 3001(c) which must be filed with a claim in order to entitle that claim to prima facie evidentiary effect is, under Texas law, the written contract between the parties.” Because the District Court held that eCast’s “boilerplate” was not sufficient to convey prima facie evidentiary value, it did not reach the issue of what would have been adequate. However, the District Court went on to state that a business records affidavit proving up the account statement would be sufficient to satisfy the creditor’s burden of persuasion. But did the District Court really mean this? In Tran, the Debtor admitted to owing at least one of the debts in the approximate amount claimed by the creditor. An admission from the Debtor should have had the same evidentiary value as a properly proven account statement (which the District Court suggested would have been adequate). However, the District Court did not acknowledge this evidence. Thus, while the District Court opinion in Tran seems to suggest that a properly proven account statement would be adequate to prove the debt, it is not clear that the District Court intended to depart from the Bankruptcy Court’s insistence on producing the contract. As a result, the ultimate meaning of Tran is pretty murky.
Contracts, Account Statements and Faith
One summer during college, I worked in the installment loan department of a bank. My duties included typing up promissory notes and security agreements. After a loan officer personally met with the customer to execute the documents, they would come back to the installment loan department where they were kept in a vault. Under this model of credit, the obligations of the parties were easy to determine. All someone needed to do was to go to the vault and find the promissory note (assuming that I had not misfiled it). The customer’s signature appeared on the operative documents and an actual bank officer was present at the time that it was executed.
Credit cards used to be one step removed from this paradigm. Back in the old days, a person would present their credit card, which would be imprinted onto a form and signed by the customer. The credit card slip was like a miniature promissory note. Critically, it was a document signed by the customer. The charge slip would be mailed into the credit card issuer who would enter all of the charges onto a statement and send it to the customer. When the customer received the statement, he could compare it to his copies of the charge slips and dispute any items which were not correct. However, as to any other terms, such as interest or fees, he pretty much had to trust the credit card company to accurately implement the contract. While the customer may have received a copy of the contract at some point, it is unlikely that he ever kept a copy. Thus, credit cards required a higher degree of trust than a traditional promissory note.
Credit cards have continued to evolve from hard copy miniature promissory notes to electronic impulses. Today customers may or may not sign a credit card slip. If the charge statement is signed at all, it is likely to be stored as a digital image. More likely, the credit card is swiped through an electronic reader, entered into an online form or given out over the telephone. The electronic data representing the charges is stored in a computer somewhere and converted into a statement. Customers may elect to receive their statements electronically and have their payments automatically withdrawn from their bank accounts. As a result, both paper and human involvement have been greatly reduced. Credit card issuers merge, change names or sell portfolios with great frequency so that statements are likely to appear from unfamiliar parties. As a result, the element of trust or perhaps blind faith assumes a greater and greater role. The ordinary customer must have faith that the company sending out the statement indeed owns the account, that the customer’s transactions have been accurately converted into electronic data and that the issuer has accurately applied the contract.
When accounts enter charge-off or bankruptcy status, any connection to the signed promissory note sitting in a vault at the bank is long gone. Companies purchase large portfolios of accounts with minimal documentation. Accounts may change hands multiple times as they are sold and resold for progressively less. At the end of the process, the account may be reduced to a series of numbers reflecting the account number and the amount claimed to be owed. Neither the customer nor the final creditor are likely to have a copy of the original agreement or the original statements. At this point, there is little more than faith to connect the series of numbers with an actual commercial transaction that occurred at some point in the past.
The transition from paper documents to faith-based electronic data has significant consequences for the legal system. At one end of the spectrum is the original Tran opinion, which requires the creditor to produce its contract and its statements, much like the bank which could take the note out of the vault. Under this model, the debtor can scrutinize every transaction against the contract and verify that the calculations are correct. Of course, there is really no way for the debtor to know whether the document being produced as the contract bears any semblance to the original, since the customer likely did not read or retain that document. In this instance, producing the contract is a well-meaning but largely empty gesture.
Judge Monroe’s opinion in Griffin places a higher emphasis on the role of faith. The debtor receives a statement each month. Under federal law, the debtor can dispute the charges on the statement. If the debtor does not dispute the charges, then the parties have chosen to believe that the information contained on the statement is correct. The numbers on the statement become the reality for the parties regardless of what the contract actually provided. When a debtor completes her schedules, she is likely to rely on the account statements. If there is a congruence between the debt claimed and the debt scheduled, it is reasonable for the court to assume that amount is correct. If the parties have a substantive dispute, it is more likely to involve whether a charge was incurred or even whether the debtor ever opened the account. However, the parties are unlikely to litigate about interest rates or over limit fees for the simple reason that it is not practical to do so.
Assignees and Faith
The truly curious aspect of both the Bankruptcy Court opinion in Griffin and the District Court opinion in Tran is that neither court thought that it was important for the person claiming to be the creditor to prove that they actually owned the debt. Part of the standard prove-up for a promissory note is that a creditor show that they are the owner and holder of the note. However, in both of the recent cases, this element was treated as irrelevant. Indeed, only Judge Monroe sought to justify his position.
Judge Monroe relied on the fact that Rule 3001(e) required a transferee to provide evidence of the transfer if someone else had already filed a proof of claim. He stated that “this court should not impose any additional requirement on a claim transferee that does not appear in the Rules of Bankruptcy Procedure or the statute itself.” This argument fails to recognize the difference between the two circumstances. Where one creditor has already filed a claim and a second creditor also files the same claim, there must be a procedure to choose between the two competing claimants. Rule 3001(e) serves to resolve disputes between creditors.
On the other hand, when a stranger appears claiming to own the debt, the issue is whether the putative claimant is the rightful creditor or an imposter. If the legitimate creditor fails to file a claim, this should not mean that any opportunistic party should be able to step in and file a claim for their own account. Owning the claim is the central fact of being a creditor so that this should not be too much to ask.
Judge Monroe was apparently willing to take it on faith that a person in possession of the account statements was a legitimate assignee rather than an interloper. If a person claiming to be an assignee files a claim and includes copies of the account statements, there are four likely possibilities:
(1) The person is a legitimate assignee and obtained the statements from the original creditor;
(2) The person received a legitimate assignment of the claim but then assigned it on to a third party;
(3) The person hacked into the legitimate creditor’s computer and appropriated the data; or
(4) The person obtained the statements from the debtor (either through trickery or through more low tech methods such as going through the debtor’s trash).
Of these possibilities, the first is the most likely and the others are likely to be smoked out by appearance of a competing creditor. Additionally, the criminal penalties for filing a false proof of claim combined with the probability of getting caught should deter most scam artists. On the other hand, requiring a legitimate assignee to prove its ownership of the claim may cause some proper claims to be denied due to lack of documentation. As a matter of efficiency (rather than strict legal construction), using possession of the account statements as a substitute for proof of assignment will probably lead to allowance of more legitimate claims than the alternative.
The Cases
The two cases involved a common fact pattern but different outcomes. In both cases, a debtor incurred credit card debt and then filed bankruptcy. In the bankruptcy case, a third party filed a proof of claim as the assignee of the original creditor. The Debtor then objected on the basis that the entity claiming to hold the claim was unknown to it and that the documentation attached to the claim was insufficient. In In re Tran, No. 05-82180 (Bankr. S.D. Tex. 9/6/06)(Brown, Ch.B.J.) aff’d, eCast Settlement Corporation v. Tran, No. H-06-2965 (S.D. Tex. 5/14/07)(Miller, .J.) , the Court required the assignee to meet the same burden of proof which would apply to a suit on a contract in state court and the claims were denied. In In re Joe Ray Griffin, No. 06-11130 (Bankr. W.D. Tex. 5/17/07)(Monroe, B.J.), the Court allowed the claim on a finding that the underlying claim was undisputed without requiring the assignee to establish its provenance.
Lack of Evidence Dooms Tran Creditor
The Tran opinion takes a very methodical approach to the claims objection. The Court started with the question of whether the objection raised by the Debtor fell within a ground established under §502(b). The Court found that the Debtor’s objection that it did not owe any money to eCast Settlement Corporation fell within the statutory language that the claim should be allowed unless it was enforceable under any agreement or applicable law.
The Court then sought to determine who had the burden of going forward under Fed.R.Bankr.P. 3001. Under Rule 3001(f), a properly filed proof of claim is entitled to prima facie validity. If the claim is entitled to prima facie validity, the objecting party must go forward with evidence to rebut the prima facie case, at which point the burden shifts to the creditor. On the other hand, if the claim is not properly filed, it is not entitled to prima facie validity and the creditor bears both the burden of going forward with the evidence and the burden of persuasion. The Court noted that in order to be entitled to prima facie validity, a claim based on a writing must be supported by a copy of the writing or by a statement that the writing has been lost or destroyed. Fed.R.Bankr.P. 3001(c). The Court then found that under Texas law, a claim on a credit card is treated as a claim for breach of a written contract so that a copy of the written contract was necessary to give the claim prima facie validity. Since the assignee attached only a summary of a few pertinent details relating to the contract, the Court concluded that the claim was not entitled to prima facie validity and placed the entire burden on the putative claimant. The Court rejected the argument that the creditor could substitute a summary for voluminous documents on the basis that the creditor had not shown that the underlying contract was voluminous.
In this case, allocating the burden was tantamount to determining the objection. Because the creditor had the entire burden, it had to prove the existence of a contract. The Court discussed the types of evidence which could prove the existence of a contract under Texas law.
“Under Texas law, the affidavit of a custodian of the creditor’s records, whose duties include having custody and control of records related to the debtor’s account which purports to: (1) authenticate the credit card agreement documents and monthly statements; and (2) state the account balance due and unpaid, may be sufficient to prove the formation or the terms of the agreement. (citation omitted). The elements of breach of contract may be proved by introduction of debtor’s signatory reply to the bank’s predecessor in interest’s revolving credit offer; bank’s subsequent issuance of new credit cards to debtor with proof of use; monthly statements billed to debtor and debtor’s payment including a copy of a canceled check showing a payment to the bank based upon the debtor’s unique identifying revolving credit account number; admission of the debtor in debtor’s discovery responses; and subsequent absence of payment. (citation omitted). Where one bank has purchased the revolving account from another bank, the custodian of the purchaser bank’s records is competent to testify about the predecessor bank’s records in the purchaser’s possession. (citation omitted). “
Order Regarding Objection to Claims, p. 8.
Here, the creditor did not offer any of these forms of proof. Instead, the creditor sought to have the debtor prove up certain credit card statements relating to the account. The court found these statements to be insufficient to prove the existence of a contract and also insufficient to establish the Debtor’s liability to eCast. As a result, the Court denied the claims.
The Tran case was appealed to the U.S. District Court which entered an order affirming the Bankruptcy Court on May 14, 2007. The District Court opinion brought out an additional fact not apparent from the Bankruptcy Court opinion. Apparently eCast Settlement Corporation had produced general assignments from various banks to it, which did not specifically reference the Tran account. However, these assignments were excluded from evidence as hearsay.
The District Court agreed with the Bankruptcy Court that failure to attach the writing that the claims were based upon deprived the claims of their prima facie validity. The District Court noted that eCast’s “boilerplate” statement about summarizing voluminous documents might satisfy the proof of claim form but did not satisfy Rule 3001(c). The District Court also agreed with the Bankruptcy Court that failure to establish prima facie validity under Rule 3001(f) left the entire burden on eCast.
The District Court agreed that eCast had failed to satisfy its burden of proof. The Court’s discussion is very illuminating as to what evidence would have been sufficient.
“ECast had the opportunity to introduce evidence during the evidentiary hearing held June 20, 2006 before Chief United States Bankruptcy Judge Karen Brown to support its claim beyond what was attached to its proofs of claim. As discussed above, eCast introduced evidence and examined Teresa Tran at that hearing. The court found that there were several key documents, any of which could have satisfied eCast’s burden of proof had they been entered into evidence. An affidavit from the custodian of records: (i) authenticating the credit card agreement; (ii) authenticating monthly statements; or (iii) certifying the unpaid balance and balance due could have met eCast’s burden. (citation omitted). More relevant to eCast’s situation, the court found that one who has purchased an account from a bank may rely upon the custodian of the purchaser’s records to fulfill the requirements above. (citation omitted). Rather than introduce any of the types of evidence discussed above, eCast attempted to introduce general assignment agreements from three banking institutions which were excluded on evidentiary grounds. (citation omitted). The Court notes that eCast offered no witness to establish the validity of their claim as discussed above and no affidavit to authenticate documents as discussed above. Furthermore, eCast failed to offer any evidence beyond a few monthly statements—clearly insufficient on their own—to establish the existence of a contract or the amount owed under Texas law. The court proceeded a step further showing that even if eCast had established the validity of their claim, they still failed to establish the amount of their claim pursuant to Texas law.”
Memorandum and Order, pp. 11-12. The District Court approved of the Bankruptcy Court’s reasoning in this regard and thus affirmed the decision to deny the claims.
In a curious ruling, the District Court held that eCast was not required to prove that it was the assignee of the original creditors. It stated, “It was not assigned the burden to prove it rightfully acquired the claim. There are specific elements that ECast must establish to show an enforceable contract. . . . However, eCast was not required to produce assignments or transfer documents, and doing so would not alone have established a valid and enforceable claim under Texas law.” Memorandum and Order, p. 12.
Finally, the District Court ruled that eCast should not have been allowed to amend its claims to include the required proof. The Bankruptcy Court had denied an oral motion to continue the hearing on the basis that the hearing had been long scheduled. The District Court found that undue delay was a proper ground for denying a request for leave to amend.
As a result, the District Court affirmed the Bankruptcy Court in all respects.
Statements Good Enough For Griffin Creditor
The creditor in the Griffin case was able to prevail because it managed to amend its claim to point that it reached prima facie validity. In Griffin, the creditor filed a claim in the name of “B-Real, LLC/Chase Bank, N.A.” According to the court, the original claim was “woefully deficient” in that it was supported only by a summary reflecting the closing balance, but did not even include an account number. Upon receiving an objection, the creditor amended its proof of claim to attach account statements for the debt for several months prior to bankruptcy. However, it did not include any documentation showing a transfer of the debt from Chase Bank, N.A. to B-Real, LLC.
Judge Monroe found that in order for a claim filed by the original creditor to have prima facie validity, it must include the following elements:
the name and account of the debtor or debtors;
the amount of the debt;
it must be in the form of a business record or other reliable format; and
if the claim includes charges such as interest, late fees and attorney’s fees, the summary must include a statement giving a break-down of those elements.
Judge Monroe found that the account statements attached to B-Real’s claim satisfied these elements, stating “They are sufficient for all parties to assure themselves that the claim that is being asserted in the amended claim appears valid…” As a result, Judge Monroe found that the claim was entitled to prima facie validity. However, from there, the court had to decide whether the creditor asserting the claim had to prove its ownership of the claim. The Court noted that Fed.R.Bankr.P. 3001(e)(1) required evidence of transfer of the claim only if the claim is transferred after the original creditor files a proof of claim. The Court declined to impose an additional requirement not found in the rules (i.e., that a assignee who is the first person to file a claim on the account must prove the transfer). The Debtor did not produce any evidence. As a result, the court found that the prima facie validity of the claim carried the day and denied the objection.
Reconciling the Two Cases
Although the two cases arrived at different results, they share some common reasoning:
Both cases agree that a mere summary attached in support of a proof of claim is insufficient;
Both cases appear to agree that a properly proven up account statement may be sufficient for some purposes; and
Both cases agree that an assignee is not required to prove how it acquired the claim if the original creditor has not previously filed a proof of claim.
The key distinction between the two cases appears to be that in Griffin, account statements attached to the amended proof of claim were found to be adequate to give the claim prima facie validity. In Tran, the Bankruptcy Court expressly stated that “The writing required by Rule 3001(c) which must be filed with a claim in order to entitle that claim to prima facie evidentiary effect is, under Texas law, the written contract between the parties.” Because the District Court held that eCast’s “boilerplate” was not sufficient to convey prima facie evidentiary value, it did not reach the issue of what would have been adequate. However, the District Court went on to state that a business records affidavit proving up the account statement would be sufficient to satisfy the creditor’s burden of persuasion. But did the District Court really mean this? In Tran, the Debtor admitted to owing at least one of the debts in the approximate amount claimed by the creditor. An admission from the Debtor should have had the same evidentiary value as a properly proven account statement (which the District Court suggested would have been adequate). However, the District Court did not acknowledge this evidence. Thus, while the District Court opinion in Tran seems to suggest that a properly proven account statement would be adequate to prove the debt, it is not clear that the District Court intended to depart from the Bankruptcy Court’s insistence on producing the contract. As a result, the ultimate meaning of Tran is pretty murky.
Contracts, Account Statements and Faith
One summer during college, I worked in the installment loan department of a bank. My duties included typing up promissory notes and security agreements. After a loan officer personally met with the customer to execute the documents, they would come back to the installment loan department where they were kept in a vault. Under this model of credit, the obligations of the parties were easy to determine. All someone needed to do was to go to the vault and find the promissory note (assuming that I had not misfiled it). The customer’s signature appeared on the operative documents and an actual bank officer was present at the time that it was executed.
Credit cards used to be one step removed from this paradigm. Back in the old days, a person would present their credit card, which would be imprinted onto a form and signed by the customer. The credit card slip was like a miniature promissory note. Critically, it was a document signed by the customer. The charge slip would be mailed into the credit card issuer who would enter all of the charges onto a statement and send it to the customer. When the customer received the statement, he could compare it to his copies of the charge slips and dispute any items which were not correct. However, as to any other terms, such as interest or fees, he pretty much had to trust the credit card company to accurately implement the contract. While the customer may have received a copy of the contract at some point, it is unlikely that he ever kept a copy. Thus, credit cards required a higher degree of trust than a traditional promissory note.
Credit cards have continued to evolve from hard copy miniature promissory notes to electronic impulses. Today customers may or may not sign a credit card slip. If the charge statement is signed at all, it is likely to be stored as a digital image. More likely, the credit card is swiped through an electronic reader, entered into an online form or given out over the telephone. The electronic data representing the charges is stored in a computer somewhere and converted into a statement. Customers may elect to receive their statements electronically and have their payments automatically withdrawn from their bank accounts. As a result, both paper and human involvement have been greatly reduced. Credit card issuers merge, change names or sell portfolios with great frequency so that statements are likely to appear from unfamiliar parties. As a result, the element of trust or perhaps blind faith assumes a greater and greater role. The ordinary customer must have faith that the company sending out the statement indeed owns the account, that the customer’s transactions have been accurately converted into electronic data and that the issuer has accurately applied the contract.
When accounts enter charge-off or bankruptcy status, any connection to the signed promissory note sitting in a vault at the bank is long gone. Companies purchase large portfolios of accounts with minimal documentation. Accounts may change hands multiple times as they are sold and resold for progressively less. At the end of the process, the account may be reduced to a series of numbers reflecting the account number and the amount claimed to be owed. Neither the customer nor the final creditor are likely to have a copy of the original agreement or the original statements. At this point, there is little more than faith to connect the series of numbers with an actual commercial transaction that occurred at some point in the past.
The transition from paper documents to faith-based electronic data has significant consequences for the legal system. At one end of the spectrum is the original Tran opinion, which requires the creditor to produce its contract and its statements, much like the bank which could take the note out of the vault. Under this model, the debtor can scrutinize every transaction against the contract and verify that the calculations are correct. Of course, there is really no way for the debtor to know whether the document being produced as the contract bears any semblance to the original, since the customer likely did not read or retain that document. In this instance, producing the contract is a well-meaning but largely empty gesture.
Judge Monroe’s opinion in Griffin places a higher emphasis on the role of faith. The debtor receives a statement each month. Under federal law, the debtor can dispute the charges on the statement. If the debtor does not dispute the charges, then the parties have chosen to believe that the information contained on the statement is correct. The numbers on the statement become the reality for the parties regardless of what the contract actually provided. When a debtor completes her schedules, she is likely to rely on the account statements. If there is a congruence between the debt claimed and the debt scheduled, it is reasonable for the court to assume that amount is correct. If the parties have a substantive dispute, it is more likely to involve whether a charge was incurred or even whether the debtor ever opened the account. However, the parties are unlikely to litigate about interest rates or over limit fees for the simple reason that it is not practical to do so.
Assignees and Faith
The truly curious aspect of both the Bankruptcy Court opinion in Griffin and the District Court opinion in Tran is that neither court thought that it was important for the person claiming to be the creditor to prove that they actually owned the debt. Part of the standard prove-up for a promissory note is that a creditor show that they are the owner and holder of the note. However, in both of the recent cases, this element was treated as irrelevant. Indeed, only Judge Monroe sought to justify his position.
Judge Monroe relied on the fact that Rule 3001(e) required a transferee to provide evidence of the transfer if someone else had already filed a proof of claim. He stated that “this court should not impose any additional requirement on a claim transferee that does not appear in the Rules of Bankruptcy Procedure or the statute itself.” This argument fails to recognize the difference between the two circumstances. Where one creditor has already filed a claim and a second creditor also files the same claim, there must be a procedure to choose between the two competing claimants. Rule 3001(e) serves to resolve disputes between creditors.
On the other hand, when a stranger appears claiming to own the debt, the issue is whether the putative claimant is the rightful creditor or an imposter. If the legitimate creditor fails to file a claim, this should not mean that any opportunistic party should be able to step in and file a claim for their own account. Owning the claim is the central fact of being a creditor so that this should not be too much to ask.
Judge Monroe was apparently willing to take it on faith that a person in possession of the account statements was a legitimate assignee rather than an interloper. If a person claiming to be an assignee files a claim and includes copies of the account statements, there are four likely possibilities:
(1) The person is a legitimate assignee and obtained the statements from the original creditor;
(2) The person received a legitimate assignment of the claim but then assigned it on to a third party;
(3) The person hacked into the legitimate creditor’s computer and appropriated the data; or
(4) The person obtained the statements from the debtor (either through trickery or through more low tech methods such as going through the debtor’s trash).
Of these possibilities, the first is the most likely and the others are likely to be smoked out by appearance of a competing creditor. Additionally, the criminal penalties for filing a false proof of claim combined with the probability of getting caught should deter most scam artists. On the other hand, requiring a legitimate assignee to prove its ownership of the claim may cause some proper claims to be denied due to lack of documentation. As a matter of efficiency (rather than strict legal construction), using possession of the account statements as a substitute for proof of assignment will probably lead to allowance of more legitimate claims than the alternative.
Tuesday, June 05, 2007
Bad Debtors Find Limited Homestead Protection
When Congress amended the bankruptcy laws, one of its goals was to eliminate the practice of pouring money into an exempt homestead prior to filing bankruptcy. Due to the inviolability of the homestead under Texas law, this had been a time-honored practice. One Fifth Circuit opinion referred to paying off the mortgage prior to filing bankruptcy as “legitimate pre-bankruptcy planning.” Matter of Bowyer, 932 F.2d 1100 (5th Cir. 1991). The legislative history to the Bankruptcy Code noted that, “As under current law, the debtor will be permitted to nonexempt property into exempt property prior to filing a bankruptcy petition.” H.R. Rep. No. 95-595 (1977), at 361. However, two recent opinions demonstrate just how far things have changed.
For Mr. Green, Things Are Not So Serene
In In re Henry Alan Green, 2007 Bankr. LEXIS 1296 (Bankr. W.D. Tex. 4/9/07) and In re Teresa M. Green,(Bankr. W.D. Tex. 4/9/07) (Monroe, B.J.), the prediction that involuntary bankruptcy cases would be filed to attach homestead assets came to fruition. The Greens were not the most sympathetic debtors. While being sued by a relative (who subsequently recovered a judgment for over $500,000), the Greens liquidated their California assets and bought a Texas home for $1.44 million. As noted by the Court, the amount which they sunk into their new home was over three times what it would have taken to pay the judgment creditor. They then filed for chapter 7 in January 2005. The justifiably angry aunt objected to their discharge and prevailed. Under prior law, this would have resulted in a Mexican standoff where the Greens could not discharge their debts but would remain secure that their homestead was their castle.
However, then the law changed. Under the new law, it the Debtor acquires a homestead within 1,215 days prior to filing, the amount of the exemption is limited to $125,000. See 11 U.S.C. §522(p)(1)(B) and (D). As a result, the justifiably angry aunt wanted to see the Greens in bankruptcy so that the homestead property could be liquidated.
This is where some clever strategizing came in. If a debtor has 12 or more creditors, three creditors must join in hte petition; however, for less than 12 creditors, only a single petitioning creditor is required. Taken together, Mr. and Mrs Green had over twelve creditors, so that a single petitioning creditor could not institute an involuntary petition against them jointly. The petitioning creditor initiated separate cases against each of the spouses. The Bankruptcy Court rejected the argument that both debtors were liable upon each other's debts just because they were married. Instead, the court did an analysis of each debt as to each debtors. The court concluded that Mr. Green had eleven countable creditors and that Mrs. Green had eight. As a result, a single creditor could initiate the separate involuntary petitions against each of them. This opinion, like Judge Monroe’s prior opinion in In re Sadler, No. 06-10091 (Bankr. W.D. Tex. 10/18/06), contains a good discussion of how to count creditors for purposes of an involuntary petition.
The Green opinion is devoted to counting creditors for purposes of an involuntary bankruptcy petition. However, the issue of allowing the judgment creditor to access the homestead overshadows the more mundane issues written on by the court.
Debtor Snared By Sec. 522(o)
Another feature initiated by BAPCPA was the 10-year look back period for amounts invested into a homestead with intent to hinder, delay or defraud. 11 U.S.C. §522(o). In In re (Name Withheld by Request), 366 B.R. 677 (Bankr. S.D. Tex. 5/11/07)(Bohm, B.J.), Bankruptcy Judge Jeff Bohm waded through a lot of facts to deliver a 69 page opinion finding that $50,000 invested into a homestead on the eve of bankruptcy could not be claimed as exempt, while denying various other objections to exemptions.
Prior to filing bankruptcy, the Debtor sold stock which he owned and deposited $50,000 of the proceeds to his wife’s account. His wife then used these funds as the down payment for a residence in Bastrop County in her name. The Debtor and his wife then sold their existing residence. When the Debtor filed bankruptcy, he initially did not schedule the Bastrop County property, but subsequently amended his schedules and claimed it as exempt.
The Trustee objected to the exemption. At some point, Debtor’s counsel decided that the Debtor was not cooperating with her and withdrew. The Debtor represented himself at the exemption hearing.
Judge Bohm found that there were four elements to sustain an objection to exemption under §522(o).
"(1) the debtor disposed of property within ten years preceding the bankrutpcy filing; (2) the property that the debtor disposed of was nonexempt; (3) some of the proceeds from the sale of nonexempt property were used to buy a new homestead, improve an existing homestead, or reduce the debt associated with an existing homestead, or, alternatively, to buy a new principal residence used by dependents of the debtor, improve an existing principal residence used by dependents of the debtor, or reduce the debt associated with a principal residence used by dependents of the debtor; and (4) the debtor disposed of the nonexempt property with the intent to hinder, delay or defraud a creditor."
366 B.R. at 688.
The Court did not have much difficulty with the first three elements. The Debtor sold stock which was nonexempt within the year prior to the bankruptcy. $50,000 of those proceeds could be traced into the Bastrop property. Although the Debtor himself did not reside on the Bastrop property, neither the Trustee nor any creditor had challenged the property’s status as homestead. As a result, the proceeds had been used to purchase a homestead for the debtor or alternatively for his dependents, since his two minor children were living there.
In discussing intent to hinder, delay or defraud, the Court relied on a badges of fraud analysis. The Court noted thirteen possible badges of fraud based on several cases and the Texas Uniform Fraudulent Transfer Act. The Court found that eleven of these badges of fraud were present with regard to the $50,000 transfer. While the Court engaged in an extensive discussion, the facts that the Debtor sold nonexempt property at a time that he was being threatened with suit, invested those funds in exempt property in his wife’s name, promptly filed bankruptcy and failed to accurately disclose the transactions on his schedules and statement of financial affairs should have been more than enough. Interestingly enough, in finding that the Debtor “absconded,” the Court relied on testimony from the Debtor’s former counsel about his failure to appear at the 341 meeting and her difficulties in locating and communicating with him. While this testimony may indicate a problem client, it is a little bit of a stretch to construe this as absconding.
The Court rejected the Debtor’s defense that he had effectively partitioned the funds when he deposited them in his wife’s account. The provision of the Texas Constitution allowing for a partition of martial assets has an express exception for transfers made with intent to hinder, delay or defraud creditors.
Things were not all bad for the Debtor. Judge Bohm ruled in his favor with regard to an additional payment of $11,540.99 which was paid on the Bastrop property. The Court found that $2,540.49 of these funds could be traced to the earnest money which the Debtor received for sale of his existing homestead, so that that this portion of the payment did not come from nonexempt property. As to the remaining $9,000, the Trustee was unable to show the source of the funds. The Trustee had the burden to prove that the property used was nonexempt (See Fed.R.Bankr.P. 4003). Because the Trustee could not show where the funds came from, he could not show that they came from nonexempt property. As a result, the Debtor's ability to obfuscate protected him in part.
The Court granted the Trustee an equitable lien on the Debtor’s Bastrop property in the amount of $50,000 and provided that the Trustee could enforce his lien if the Debtor did not repay the funds within 120 days.
The Court also rejected an objection to purchase of consumer goods used to furnish the new residence on the eve of bankruptcy. While §522(o) refers to “real or personal property that a debtor uses as a residence or claims as a homestead,” the reference to personal property involves the residence itself (for example, a mobile home) rather than the broader category of personal property used in connection with the residence. As a result, the Trustee’s objection failed.
As an added benefit, the Court included a section on credibility of the witnesses who testified before him. Trustee Ron Summers has now been found to be a credible witness in a written opinion. The Court also found that Debtor’s original attorney Barbara Rogers was “forthright and very knowledgeable” and “a very credible witness.” Given the encounters between Houston judges and other Houston Debtor’s attorneys in some recent cases, Ms. Rogers must be relieved to have represented a difficult client and emerged with her reputation judicially affirmed.
The Bottom Line
The box score for these cases should read Creditors 2 Homesteads 0. While Judge Monroe’s case was not about the homestead per se, the decision to allow the involuntary petitions made the loss of the homestead all but inevitable. These cases also illustrate the greater danger faced by Debtors who manipulate their homesteads on the eve of bankruptcy. In the Green case, the Debtors had already lost the discharge in their initial case. In the (Name Withheld by Request) case, there is now a judicial finding that the Debtor transferred property with intent to hinder, delay or defraud creditors during the year prior to bankruptcy. As a result, it appears probable that both debtors will lose their discharge and have the value of their homestead tapped.
The recent reform legislation enacted by Congress was named the Bankruptcy Abuse Prevention and Consumer Protection Act. While the consumer protection moniker has engendered snickers of sarcasm, Congress appears to have been successful in blocking one particular abuse of the bankruptcy process. Of course, it is yet to be known whether the net cast by the amendments to §522 will catch more innocent debtors unaware of the law's complexities than unscrupulous abusers of the system.
For Mr. Green, Things Are Not So Serene
In In re Henry Alan Green, 2007 Bankr. LEXIS 1296 (Bankr. W.D. Tex. 4/9/07) and In re Teresa M. Green,(Bankr. W.D. Tex. 4/9/07) (Monroe, B.J.), the prediction that involuntary bankruptcy cases would be filed to attach homestead assets came to fruition. The Greens were not the most sympathetic debtors. While being sued by a relative (who subsequently recovered a judgment for over $500,000), the Greens liquidated their California assets and bought a Texas home for $1.44 million. As noted by the Court, the amount which they sunk into their new home was over three times what it would have taken to pay the judgment creditor. They then filed for chapter 7 in January 2005. The justifiably angry aunt objected to their discharge and prevailed. Under prior law, this would have resulted in a Mexican standoff where the Greens could not discharge their debts but would remain secure that their homestead was their castle.
However, then the law changed. Under the new law, it the Debtor acquires a homestead within 1,215 days prior to filing, the amount of the exemption is limited to $125,000. See 11 U.S.C. §522(p)(1)(B) and (D). As a result, the justifiably angry aunt wanted to see the Greens in bankruptcy so that the homestead property could be liquidated.
This is where some clever strategizing came in. If a debtor has 12 or more creditors, three creditors must join in hte petition; however, for less than 12 creditors, only a single petitioning creditor is required. Taken together, Mr. and Mrs Green had over twelve creditors, so that a single petitioning creditor could not institute an involuntary petition against them jointly. The petitioning creditor initiated separate cases against each of the spouses. The Bankruptcy Court rejected the argument that both debtors were liable upon each other's debts just because they were married. Instead, the court did an analysis of each debt as to each debtors. The court concluded that Mr. Green had eleven countable creditors and that Mrs. Green had eight. As a result, a single creditor could initiate the separate involuntary petitions against each of them. This opinion, like Judge Monroe’s prior opinion in In re Sadler, No. 06-10091 (Bankr. W.D. Tex. 10/18/06), contains a good discussion of how to count creditors for purposes of an involuntary petition.
The Green opinion is devoted to counting creditors for purposes of an involuntary bankruptcy petition. However, the issue of allowing the judgment creditor to access the homestead overshadows the more mundane issues written on by the court.
Debtor Snared By Sec. 522(o)
Another feature initiated by BAPCPA was the 10-year look back period for amounts invested into a homestead with intent to hinder, delay or defraud. 11 U.S.C. §522(o). In In re (Name Withheld by Request), 366 B.R. 677 (Bankr. S.D. Tex. 5/11/07)(Bohm, B.J.), Bankruptcy Judge Jeff Bohm waded through a lot of facts to deliver a 69 page opinion finding that $50,000 invested into a homestead on the eve of bankruptcy could not be claimed as exempt, while denying various other objections to exemptions.
Prior to filing bankruptcy, the Debtor sold stock which he owned and deposited $50,000 of the proceeds to his wife’s account. His wife then used these funds as the down payment for a residence in Bastrop County in her name. The Debtor and his wife then sold their existing residence. When the Debtor filed bankruptcy, he initially did not schedule the Bastrop County property, but subsequently amended his schedules and claimed it as exempt.
The Trustee objected to the exemption. At some point, Debtor’s counsel decided that the Debtor was not cooperating with her and withdrew. The Debtor represented himself at the exemption hearing.
Judge Bohm found that there were four elements to sustain an objection to exemption under §522(o).
"(1) the debtor disposed of property within ten years preceding the bankrutpcy filing; (2) the property that the debtor disposed of was nonexempt; (3) some of the proceeds from the sale of nonexempt property were used to buy a new homestead, improve an existing homestead, or reduce the debt associated with an existing homestead, or, alternatively, to buy a new principal residence used by dependents of the debtor, improve an existing principal residence used by dependents of the debtor, or reduce the debt associated with a principal residence used by dependents of the debtor; and (4) the debtor disposed of the nonexempt property with the intent to hinder, delay or defraud a creditor."
366 B.R. at 688.
The Court did not have much difficulty with the first three elements. The Debtor sold stock which was nonexempt within the year prior to the bankruptcy. $50,000 of those proceeds could be traced into the Bastrop property. Although the Debtor himself did not reside on the Bastrop property, neither the Trustee nor any creditor had challenged the property’s status as homestead. As a result, the proceeds had been used to purchase a homestead for the debtor or alternatively for his dependents, since his two minor children were living there.
In discussing intent to hinder, delay or defraud, the Court relied on a badges of fraud analysis. The Court noted thirteen possible badges of fraud based on several cases and the Texas Uniform Fraudulent Transfer Act. The Court found that eleven of these badges of fraud were present with regard to the $50,000 transfer. While the Court engaged in an extensive discussion, the facts that the Debtor sold nonexempt property at a time that he was being threatened with suit, invested those funds in exempt property in his wife’s name, promptly filed bankruptcy and failed to accurately disclose the transactions on his schedules and statement of financial affairs should have been more than enough. Interestingly enough, in finding that the Debtor “absconded,” the Court relied on testimony from the Debtor’s former counsel about his failure to appear at the 341 meeting and her difficulties in locating and communicating with him. While this testimony may indicate a problem client, it is a little bit of a stretch to construe this as absconding.
The Court rejected the Debtor’s defense that he had effectively partitioned the funds when he deposited them in his wife’s account. The provision of the Texas Constitution allowing for a partition of martial assets has an express exception for transfers made with intent to hinder, delay or defraud creditors.
Things were not all bad for the Debtor. Judge Bohm ruled in his favor with regard to an additional payment of $11,540.99 which was paid on the Bastrop property. The Court found that $2,540.49 of these funds could be traced to the earnest money which the Debtor received for sale of his existing homestead, so that that this portion of the payment did not come from nonexempt property. As to the remaining $9,000, the Trustee was unable to show the source of the funds. The Trustee had the burden to prove that the property used was nonexempt (See Fed.R.Bankr.P. 4003). Because the Trustee could not show where the funds came from, he could not show that they came from nonexempt property. As a result, the Debtor's ability to obfuscate protected him in part.
The Court granted the Trustee an equitable lien on the Debtor’s Bastrop property in the amount of $50,000 and provided that the Trustee could enforce his lien if the Debtor did not repay the funds within 120 days.
The Court also rejected an objection to purchase of consumer goods used to furnish the new residence on the eve of bankruptcy. While §522(o) refers to “real or personal property that a debtor uses as a residence or claims as a homestead,” the reference to personal property involves the residence itself (for example, a mobile home) rather than the broader category of personal property used in connection with the residence. As a result, the Trustee’s objection failed.
As an added benefit, the Court included a section on credibility of the witnesses who testified before him. Trustee Ron Summers has now been found to be a credible witness in a written opinion. The Court also found that Debtor’s original attorney Barbara Rogers was “forthright and very knowledgeable” and “a very credible witness.” Given the encounters between Houston judges and other Houston Debtor’s attorneys in some recent cases, Ms. Rogers must be relieved to have represented a difficult client and emerged with her reputation judicially affirmed.
The Bottom Line
The box score for these cases should read Creditors 2 Homesteads 0. While Judge Monroe’s case was not about the homestead per se, the decision to allow the involuntary petitions made the loss of the homestead all but inevitable. These cases also illustrate the greater danger faced by Debtors who manipulate their homesteads on the eve of bankruptcy. In the Green case, the Debtors had already lost the discharge in their initial case. In the (Name Withheld by Request) case, there is now a judicial finding that the Debtor transferred property with intent to hinder, delay or defraud creditors during the year prior to bankruptcy. As a result, it appears probable that both debtors will lose their discharge and have the value of their homestead tapped.
The recent reform legislation enacted by Congress was named the Bankruptcy Abuse Prevention and Consumer Protection Act. While the consumer protection moniker has engendered snickers of sarcasm, Congress appears to have been successful in blocking one particular abuse of the bankruptcy process. Of course, it is yet to be known whether the net cast by the amendments to §522 will catch more innocent debtors unaware of the law's complexities than unscrupulous abusers of the system.
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