The following is a case update written by the Hon. Meredith Jury (U.S. Bankruptcy Judge, C.D. CA., Ret.), analyzing a recent decision of interest:
The United States District Court for the Southern District of New York (the Court) reversed a bankruptcy court order which granted a chapter 13 trustee’s motion to compel a debtor to turn over the net proceeds from the sale of her real property. The Court ruled that in a chapter 13 debtors are permitted to keep their property in exchange for committing their future income to make plan payments. Willard v. Preuss (In re Willard), 2023 WL 2601769 (S.D. N.Y. 3/22/23).
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Debtor Lucille Willard filed a chapter 13 in February 2020. She owned a non-residence real property (the Property) and disclosed it in her schedules. In her proposed chapter 13 plan she indicated she was actively trying to sell the property and would use the proceeds to pay its secured creditors in full, after seeking approval of the sale from the bankruptcy court. Her plan proposed to make plan payments from her future income. In July 2021, while the plan remained unconfirmed, the debtor moved to sell the Property, pay the secured creditors, pay her counsel’s attorney’s fees, and keep the balance. The chapter 13 trustee opposed, arguing that the attorney’s fees should be paid through the plan and the net proceeds should be paid to him to pay unsecured creditors. After a hearing, the bankruptcy court ruled that the net proceeds should be turned over to the trustee and the attorney’s fees paid through the plan, essentially adopting the trustee’s arguments.
The debtor appealed to the District Court, which vacated the order and remanded.
The debtor argued that in a chapter 13, the only thing the bankruptcy court is authorized to compel a debtor to turn over is her post-petition disposable income. Since the net sale proceeds were converted from an asset, they were not income and the court had no authority to compel her to turn them over to the trustee. The trustee conceded the proceeds were not disposable income but submitted that the court had the authority to compel turnover under 11 U.S.C. § 105.
The Court concluded the debtor’s arguments were sound. It looked to the language from the Supreme Court in Hamilton v. Lanning, 560 U.S. 505, 508 (2010), where it described a chapter 13: “Chapter 13 …. provides bankruptcy protection to ‘individual[s] with regular income…. unlike debtors who file under Chapter 7 …Chapter 13 debtors are permitted to keep their property, but they must agree to a court-approved plan under which they pay creditors out of their future income.” The Court found similar sentiment in the Ninth Circuit Bankruptcy Appellate Panel’s decision in In re Burgie, 239 B.R. 406, 410 (9th Cir. BAP 1999), where the BAP affirmed a bankruptcy court denial of a turnover motion pertaining to real property sale proceeds. The key to both rulings was that under the bargain struck in a chapter 13, a debtor is allowed to keep her property in exchange for committing future income to the plan.
In the face of the trustee’s argument that Burgie dealt with a post confirmation sale, the Court said that made no difference. The debtor’s property was to be preserved for the debtor, not the trustee. Moreover, even if a plan might not be feasible without the sale proceeds, 11 U.S.C. § 1325 “does not enable the Bankruptcy Court to require a debtor to turn over any property other than the disposable income to make a plan feasible.” The Court therefore vacated the part of the order which compelled turnover of the net proceeds. On the attorney’s fee issue, it concluded the record implied the bankruptcy court may have been confused as to which statute provided authority for the fee application and remanded that issue.
I am aware that chapter 13 trustees frequently make demand on debtors to turn over net proceeds when they sell or refinance an asset and then they increase the percent paid to unsecured creditors to 100%. Often debtors acquiesce. This case could present fodder to debtors’ attorneys to resist those demands. Other than § 105, the Court is correct that the statutes do not provide authority to compel the turnover of property. With the exception of Burgie decided 24 years ago, this issue is rarely addressed in reported opinions. It may be time to make more precedential law on the issue.
This review was written by the Hon. Meredith Jury (U.S. Bankruptcy Judge, C.D. CA., Ret.), a member of the ad hoc group. Thomson Reuters holds the copyright to these materials and has permitted the Insolvency Law Committee to reprint them. This material may not be further transmitted without the consent of Thomson Reuters.