The following is a recent case update:
In Bank of New York Mellon v. Lane (In re Lane), 589 B.R. 399 (9th Cir. BAP 2018), the U.S. Bankruptcy Appellate Panel of the Ninth Circuit (the “BAP”) held that disallowance of a claim for lack of standing by the claimant did not also void the underlying lien under 11 U.S.C. section 506(d) because no argument had been made by the debtor that the lien or underlying obligation was substantively invalid. To read the full published decision, click here.
Richard Lane filed a chapter 13 petition and disclosed that he owned real property subject to two secured claims in favor of Bank of America, indicating that the senior lien was disputed regarding the “real party in interest.” He proposed a chapter 13 plan that provided for monthly payments on the first lien, but also stated that the loan was disputed and that, until “‘proof of real party in interest status[,]'” he would set aside the monthly payment. Id. at 403 (alteration in original).
Bank of New York Mellon (“BNYM”) then filed a request for special notice that directed all notices to its counsel. It filed a secured claim for the first lien against the property, attaching copies of the original deed of trust, the original note and a recorded assignment to BNYM; the note was endorsed in blank. The debtor objected to BNYM’s claim, arguing in a form claim objection that BNYM had failed to establish standing to enforce payment on the claim and seeking disallowance of the claim. BNYM failed to respond to the claim objection, despite being served through its counsel of record. The bankruptcy court sustained the objection. BNYM did not appeal the order.
With respect to the debtor’s plan, BNYM initially objected to it, but ultimately withdrew its objection, conceding that its objection had become moot because BNYM would not receive payments under the plan as a result of the claim disallowance order. The bankruptcy court confirmed the plan, and the debtor made no payments on the senior lien during his five year plan.
After the debtor completed his plan payments and received his discharge, BNYM reopened the debtor’s case and unsuccessfully moved to reconsider the claim disallowance order. In the meantime, the debtor sued BNYM to void the first lien against the property under 11 U.S.C. section 506(d) and to obtain an award of attorney’s fees. The debtor quickly moved for summary judgment, arguing that as a result of the disallowance of BNYM’s claim, BNYM’s lien was void under Section 506(d), citing the Ninth Circuit’s decision in HSBC Bank USA, N.A. v. Blendheim (In re Blendheim), 803 F.3d 477 (9th Cir. 2015). In opposition, BNYM argued for further discovery and a continuance of the hearing. BNYM also argued that the debtor’s interpretation of Section 506(d) was contrary to the holding in Dewsnup v. Timm, 502 U.S. 410 (1992), that liens normally pass through bankruptcy unaffected. Although BNYM acknowledged that it was not entitled to receive payments under the plan, it argued that its lien survived bankruptcy because the debtor had never disputed the legitimacy of the loan documents, only who had standing to enforce them.
The bankruptcy court disagreed with BNYM, finding that it was required by Section 506(d) and the Blendheim decision to void the lien because it had disallowed the claim and the exceptions under Section 506(d) did not apply. The bankruptcy court also awarded the debtor attorney’s fees for prosecuting the lien avoidance action, opposing BNYM’s unsuccessful reconsideration motion and filing the motion for an award of fees. BNYM appealed the Section 506(d) summary judgment and order, the fee award and the order denying its request for a continuance of the hearing.
The BAP first turned to BNYM’s argument that the debtor’s standing objection was a procedural argument, rather than a substantive argument, that did not support avoidance of its lien under Section 506(d). Although the BAP noted that BNYM raised this argument for the first time on appeal, it elected to analyze it on the basis that it was an important issue of law that did not depend on the factual record. The BAP determined that an objection based on standing concerns the claimant’s ability to enforce its claim and is therefore not a mere procedural objection. It noted that this conclusion was consistent with Section 502(b)(1), which requires disallowance where a claim can be defeated by a legitimate non-bankruptcy defense.
After ruling that lack of standing was a substantive objection, the BAP determined that Blendheim did not control the outcome in this appeal. In Blendheim, the senior lender filed a proof of claim that the debtors objected to on the basis that there was no documentation and the note contained a forged signature. The lender failed to respond to the claim objection. The bankruptcy court sustained the objection by default and later voided the lender’s lien under Section 506(d), which provides in pertinent part that “[t]o the extent that a lien secures a claim against the debtor that is not an allowed secured claim, such lien is void . . . .” The court in Blendheim found that because the debtors raised a substantive objection to the underlying obligation and the lender failed to defend its claim from that objection, the lien was void under Section 506(d).
The BAP noted that implicit in the Blendheim decision was a requirement that Section 506(d) apply only when a claim disallowance deals with the merits of the underlying debt. Applying that logic to the facts at hand, the BAP held that while the debtor’s standing objection was a substantive objection, it was not a substantive attack on the validity of the underlying obligation. Indeed, the debtor did not dispute that he obtained a loan for the property; in fact, he even acknowledged in the plan that he owed some lender for the loan and that it was secured by a first priority lien against the property. In reaching this conclusion, the BAP commented that the bankruptcy court’s finding that BNYM lacked standing to enforce the claim was a “legal fiction” because the claim had in fact attached documentation that established BNYM’s standing, concluding that the claim disallowance order “should never have been entered.” The BAP viewed itself as having to deal “with the effects of that erroneous ruling.” Lane, 589 B.R. at 410.
Having distinguished Blendheim and because there was an enforceable order that BNYM lacked standing to enforce its claim, the BAP held that where a note and lien are valid and enforceable and the question is who has the ability to enforce that debt, a lien cannot be voided without first giving the true party in interest notice and an opportunity to be heard. After giving effect to the bankruptcy court’s prior order that BNYM lacked standing and therefore finding that the bankruptcy court had voided a lien that belonged to a party not before it, the BAP held that the bankruptcy court erred in entering the Section 506(d) summary judgment and order voiding the first priority lien, and reversed.
As to the attorney’s fee award, the BAP reversed the award in connection with the summary judgment because the debtor was no longer the prevailing party. It also reversed the award in connection with the debtor’s successful opposition to BNYM’s reconsideration motion because Federal Rule of Bankruptcy Procedure 7054, which incorporates Federal Rule of Civil Procedure 54, required that the debtor’s motion for attorney’s fees be filed within fourteen days of the order denying the reconsideration motion. Because the debtor’s motion for attorney’s fees was not timely-filed, the bankruptcy court was required by Federal Rule of Bankruptcy Procedure 9006 to find excusable neglect, which it had not done. The BAP therefore reversed the attorney’s fee award.
The BAP’s conclusion was that the bankruptcy court erred in voiding the first lien because the proper party was not before it in the lien avoidance proceeding. This was an odd conclusion given that BNYM appears to actually have been the proper party and participated at length in those proceedings. However, the result is the right one, at least under equitable principles. It would also be the right result if BNYM’s lack of standing was more than a “legal fiction” because due process would not have been given to the party that actually held the rights to the lien and underlying debt. However, the broad conclusion that Section 506(d) does not apply if disallowance of a claim is not based on the merits or validity of the underlying debt or lien seems to be at odds with the plain language of Section 506(d), which provides as follows:
[t]o the extent that a lien secures a claim against the debtor that is not an allowed secured claim, such lien is void, unless—
(1) such claim was disallowed only under section 502(b)(5) [provides for disallowance of claim for an unmatured debt that is excepted from discharge under Section 523(a)(5)] or 502(e) [provides for disallowance of certain claims for reimbursement or contribution] of this title; or
2) such claim is not an allowed secured claim due only to the failure of any entity to file a proof of such claim under section 501 of this title.
Given that the debtor appealed the BAP’s ruling, it will be interesting to see if the Ninth Circuit agrees with the BAP’s interpretation of Blendheim.
These materials were written by Kyra E. Andrassy, a partner with Smiley Wang-Ekvall, LLP in Costa Mesa (firstname.lastname@example.org). Editorial contributions were provided by Cathy Ta of SulmeyerKupetz in Los Angeles (email@example.com).