Business Law
BAP applies Taggart Retroactively; Discharge Injunction Applied To Attempted Lien Enforcement After Payment Of Secured Claim Under Chapter 13 Plan.
The following is a case update written by Leonard Gumport, a member of the California Lawyers Associationâs (CLA) Business Law Section, analyzing a recent decision of interest:
SUMMARY
In Freeman v. Nationstar Mortgage LLC (In re Freeman), 608 B.R. 228 (9th Cir. B.A.P. 2019), the United States Bankruptcy Appellate Panel of the Ninth Circuit (âBAPâ) reversed in part a bankruptcy courtâs denial of a debtorâs motion for contempt sanctions against a creditor who violated the discharge injunction by attempting to foreclose on a void deed of trust. The BAP found that the payment in full of the creditorâs secured claim pursuant to the debtorâs Chapter 13 plan automatically voided the creditorâs lien, so that the creditorâs foreclosure efforts violated the discharge injunction. The BAP remanded for the bankruptcy court to determine whether such violation justified contempt sanctions under the Supreme Courtâs Taggart standard. To read the BAPâs full decision, click here.
FACTUAL BACKGROUND
On June 3, 2011, Jeffrey M. Freeman (âDebtorâ) filed a Chapter 13 petition in the United States Bankruptcy Court for the Central District of California. Debtor owned a rental property (the âPropertyâ) encumbered by a first deed of trust in favor of BAC Home Loans Servicing, LP (âBACâ).
The parties disputed the value of the Property. After litigation skirmishes, the parties agreed to set the Propertyâs value at about $170,000, with the portion of the creditorâs claim above $170,000 treated as an unsecured claim. Debtorâs Chapter 13 plan provided for payment of BACâs $170,000 secured claim in full over the remaining four-year period of the plan, with interest accruing at 6.75% per annum.
On June 20, 2012, the bankruptcy court entered the confirmation order approving the agreed treatment of BACâs claim. The plan and confirmation order did not expressly state whether BAC had a duty to reconvey its deed of trust, nor whether BACâs lien would be avoided upon completion of plan payments.
After entry of the confirmation order, BAC filed a notice of the transfer of its claim to Nationstar Mortgage LLC (âNationstarâ).
Debtor subsequently filed a motion to refinance the Property and amend the plan, including immediately paying the remaining amount of Nationstarâs secured claim. Debtorâs motion was granted by the bankruptcy court in two orders (the âPayoff Ordersâ), which authorized Debtor to modify his plan and make final lump sum payments of the amounts then owed under the plan, including approximately $124,000 owed on Nationstarâs secured claim.
One of the Payoff Orders provided that, upon payment of such claims, âNationstarâs secured claim will be deemed satisfied in accordance with the modified planâŚâ
Debtor subsequently made the payments required by the Payoff Orders, and the bankruptcy court entered a discharge order on June 22, 2015. Debtor never filed a lien avoidance motion to avoid or reduce BACâs lien. On August 13, 2015, Debtorâs case was closed.
In April 2016, Debtor reopened his case to address alleged discharge injunction violations by Nationstar. Debtor alleged that it sent him a statement claiming significant arrearages and other amounts due and also filed a notice of default on the deed of trust on the Property. In a later status report, Debtor stated that Nationstar agreed that foreclosure was inappropriate, and that Debtor anticipated that Nationstar would reconvey the deed of trust.
After Nationstar failed to reconvey its deed of trust in subsequent months, Debtor filed a motion for an order to show cause why Nationstar should not be sanctioned for violating the discharge injunction in light of Nationstarâs secured claim having been fully paid pursuant to the Chapter 13 plan.
Debtor alleged that Nationstar knew that the discharge injunction applied and violated it by collection activity and by failing to respond to his requests for cessation of the foreclosure activity and for immediate reconveyance of the deed of trust.
Debtor later filed a declaration in support of his contempt motion. That same day, Nationstar reconveyed its deed of trust. Nationstar did not contest that its claim was extinguished by payment in full under the modified plan. Instead, Nationstar argued that it did not knowingly violate the discharge injunction. Nationstar further contended that it rescinded its notice of default and reconveyed its deed of trust promptly after learning that the discharge injunction applied.
In an unpublished decision, the bankruptcy court denied Debtorâs motion for contempt sanctions. The bankruptcy court ruled that Debtor had not met its burden of showing that Nationstar knew the discharge injunction applied to its acts and committed those acts in willful violation of the discharge injunction. In re Freeman, 2018 Bankr. LEXIS 2674, 2018 WL 4216653, at *34 (Bankr. C.D. Cal. 2018). At the time of this decision, the controlling precedent was Taggart v. Lorenzen (In re Taggart), 888 F.3d 438 (9th Cir. 2018), in which the Ninth Circuit ruled that a creditor could not be held in contempt of the discharge injunction if the creditor subjectively believed that the injunction did not apply, even if the creditorâs belief was unreasonable.
The bankruptcy court found that Debtorâs plan said nothing about reducing Debtorâs in rem liability or avoiding BACâs lien and noted that the plan contemplated that any modification of BACâs rights would be the subject of future proceedings. The bankruptcy court reasoned that BAC and its successor in interest, Nationstar, had every reason to expect that the full amount of their claim would be secured by a lien unless and until Debtor filed a lien avoidance motion and obtained an order avoiding the lien, which Debtor did not do. The bankruptcy court ruled that Debtor failed to show that Nationstar violated the discharge injunction at all, let alone did so knowingly.
Debtor appealed to the BAP, which reversed in part and remanded for further proceedings in view of the applicable law changing during Debtorâs appeal. As of March 13, 2020, the bankruptcy court is scheduled to hear Debtorâs contempt motion against Nationstar on May 19, 2020.
REASONING
The BAP ruled that the bankruptcy court erred when it found that the discharge injunction did not apply to Nationstarâs efforts to enforce its lien. The BAP concluded that Nationstarâs secured claim was discharged as a result of its full payment pursuant to Debtorâs Chapter 13 plan. The BAP determined that the creditorâs lien was terminated based on applicable provisions of the Bankruptcy Code and state law.
The BAP relied on Section 1328(a) of the Bankruptcy Code, which generally provides for entry of a discharge after payment âof all debts provided for by the plan or disallowedâ under Section 502 of the Bankruptcy Code. Citing to Cal. Civ. Code § 2909, the BAP also ruled that California law voided Nationstarâs lien when Debtor paid in full its secured claim. Citing HSBC Bank USA, N.A. v. Blendheim (In re Blendheim), 803 F.3d 477, 489 (9th Cir. 2015), the BAP found this result was further supported by Section 506(d) of the Bankruptcy Code, which voids liens when the creditorâs claim is not allowed,
The BAP concluded that Nationstarâs lien was void even though Debtor did not seek or obtain on order avoiding the lien. Indeed, that BAP noted that the secured creditor expressly consented to Debtorâs Chapter 13 plan, which provided that his property revested âsubject to all liens and encumbrances in existence when the case was filed, except those liens avoided by court order or extinguished by operation of law.â Because the lien was extinguished by operation of law (as discussed above), a lien avoidance motion was unnecessary.
Turning to the contempt issue, the BAP noted that, after the bankruptcy courtâs decision, the United States Supreme Court reversed the Ninth Circuitâs decision in Taggart. In Taggart v. Lorenzen, 139 S. Ct. 1795 (2019), the high court held that a bankruptcy court may âimpose civil contempt sanctions when there is no objectively reasonable basis for concluding that the creditorâs conduct might be lawful under the discharge order,â and stated that this standard is âgenerallyâ an objective one. Id. at 1801.
The BAP concluded that the Supreme Courtâs decision in Taggart âchanged the metricsâ of civil contempt by rejecting the Ninth Circuitâs âgood faith beliefâ standard. While ruling that Nationstar violated the discharge injunction, the BAP did not decide whether Taggartâs new standard justified granting Debtorâs contempt motion. The BAP instead remanded the case to the bankruptcy court to decide Debtorâs contempt motion under the new standard.
AUTHORâS COMMENTARY
Retroactivity: Freeman demonstrates that binding precedent can be retroactively overruled. Although Nationstarâs foreclosure efforts and the bankruptcy courtâs decision occurred before the Supreme Courtâs decision in Taggart, the BAP reversed in part and remanded on the ground that Taggart was controlling law, thereby applying it retroactively.
The BAPâs decision to apply Taggart retroactively is likely correct. Harper v. Virginia Dept. of Taxation, 509 U.S. 86, 96 (1993), generally requires courts in civil cases to give retroactive effect to the Supreme Courtâs controlling interpretations of federal law.
Application of Discharge Injunction to Liens: The statutory discharge injunction in Section 524(a)(2) of the Bankruptcy Code expressly enjoins only efforts to collect debts âas a personal liabilityâ of a debtor. The BAP nevertheless found that the attempt by Nationstar to enforce its lien violated the discharge injunction because its secured claim was paid in full under Debtorâs Chapter 13 plan. Indeed, even creditors holding valid liens violate the discharge injunction when they use unnecessary lien enforcement efforts to harass or coerce a discharged debtor. Ocwen Loan Servicing, LLC v. Marino (In re Marino), 577 B.R. 772 (9th Cir. 2017), appeal dismissed in relevant part for lack of jurisdiction, 2020 U.S. App. LEXIS 4106, 2020 WL 612816 (9th Cir., Feb. 10, 2020).
Taggartâs Objective Standard: Subsequent decisions may clarify the following nuanced statements that appear in Taggart and are quoted in Freeman. First, while Taggart states that its standard is âgenerallyâ an objective one, Taggart also states that the Courtâs precedents âsuggestâ that âcivil contempt sanctions may be warranted when a party acts in bad faith.â Id. at 1802.
Second, does a creditorâs mistake of law defense fail to satisfy Taggartâs âgenerallyâ objective standard? Not necessarily, despite the maxim that ignorance of the law is no excuse. Taggart states that civil contempt âmay be appropriateâ when the creditor violates that discharge order based on an âobjectively unreasonable understanding ofâ the discharge injunction âor the statutes that govern its scope.â Id. at 1802 (emphasis added). This disjunctive wording suggests that a creditor may act objectively reasonably if it relied on a reasonable misinterpretation of the discharge statute.
Third, Taggart states (and Freeman repeats) that a partyâs good faith, while not a defense to civil contempt, may help determine the appropriate sanction. Accordingly, a contemnor has a legal basis to argue that its good faith, although not a defense to contempt, must be considered in determining the sanctions awarded.
These materials were written by Leonard L. Gumport of Gumport Law Firm, PC in Pasadena (lgumport@gumportlaw.com). Editorial contributions were provided by Gary Kaplan of Farella Braun + Martel LLP in San Francisco (gkaplan@fbm.com).