Where a debtor converted a Chapter 13 case to a Chapter 7 case, what assets needed to be turned over to the Chapter 7 Trustee≠
In a recent decision by Chief U.S. Bankruptcy Judge John C. Ninfo, II, the U.S. Bankruptcy Court for the Western District of New York reviewed relevant statutory language, concluding that the 1994 amendment to 11 U.S.C. § 348(f)(1) “prevents this court from looking behind the statute to determine that the assets being demanded by the Chapter 7 Trustee … are property of the estate in the converted Chapter 7 case.” Therefore, the court denied the trustee’s turnover motion in In re: Kenneth R. McFadden.
Kenneth R. McFadden, the debtor, filed a petition initiating a Chapter 13 bankruptcy on September 14, 2000. On the required schedules and statements, the debtor indicated that (1) he owned a residence with a fair market value of $60,000. This property was subject to a first mortgage in favor of M&T Mortgage Co. with a balance of $43,049.
The property was also subject to a second mortgage in favor of M&T with a $6,000 balance; and a third mortgage in favor of Citi National Bank of West Virginia with a balance of $24,695.33.
The debtor also listed unsecured, nonpriority debts of approximately $15,000, and assets of $1,600 cash in a savings account.
The debtor’s Chapter 13 Plan (dated September 11, 2000) proposed to pay $260 biweekly to the bankruptcy trustee, for a period of 60 months; approximately $9,500 in pre-petition arrearages due on the three mortgages; and 100 percent distribution to unsecured creditors who filed allowed claims.
The court orally confirmed this plan in November 2000, and an order of confirmation was entered on January 11, 2001. The confirmation order provided, in part, that “all of the debtor(s) wages and property, of whatever nature and kind and wherever located, shall remain under the exclusive jurisdiction of this court; and title to all of the debtor’s property of whatever nature and kind and wherever located is hereby vested in the debtor during pendency of these Chapter 13 proceedings pursuant to the provisions of 11 U.S.C. § 1327.”
M&T Motion For Relief
On March 6, 2001, M&T filed a motion for relief from the stay, alleging that the mortgaged property had a value of $46,000, and seeking permission to continue the state court foreclosure action it had started prior to debtor’s Chapter 13 petition.
Conversion Of Bankruptcy
In September 2001, the debtor filed an application requesting to convert his Chapter 13 case to Chapter 7. An order of conversion was entered.
Shortly thereafter, the Chapter 7 trustee conducted a Section 341 meeting of creditors. The resulting report indicated that the estate included non-exempt cash, tax refunds, and an Eastman Kodak Co. bonus.
In January 2002, an order discharging the debtor was entered.
In May 2002, the Chapter 7 Trustee filed a motion to compel the turnover of property, alleging that the debtor had failed to turn over the non-exempt property of the estate that existed on the date of the original bankruptcy petition, or its value, which consisted of: (a) three-fourths of the debtor’s calendar year 2000 income tax refunds in the amount of $3,635; (b) three-fourths of the debtor’s year 2000 bonus in the amount of $800; (c) $1,600 on deposit in a savings account. The trustee also asserted that the debtor had failed to turn over the amounts demanded following numerous requests and that reasonable attorney’s fees should be awarded.
On the return date of the turnover motion, the Chapter 7 Trustee acknowledged that he would reduce his demand by $1,258 (the amount that was distributed to unsecured creditors in the Chapter 13 case, plus the Chapter 13 Trustee’s commission).
The attorney for the debtor advised the Chapter 7 Trustee and the court that the debtor had lost the mortgaged property to foreclosure, had spent the tax refunds, Kodak bonus and savings deposits to pay for ordinary living expenses.
The court afforded the parties an opportunity to make written submissions.
The attorney for the debtor asserted that the debtor was not required to turn over the value of the non-exempt assets because: “the debtor was no longer in possession of those assets, the debtor’s conversion to Chapter 7 was not in bad faith, and the assets demanded were no longer property of the estate of the debtor’s converted Chapter 7 case.”
Citing 11 U.S.C. § 348(f)(1), the debtor argued that in a case converted from Chapter 13 to Chapter 7, property of the estate consists only of that property which remains in the possession of or under the control of the debtor on the date of conversion.
Reviewing the facts, Judge Ninfo noted that “In order for the debtor to receive a discharge in the case commenced on September 14, 2000: (1) he could have completed his plan and received a discharge under Section 1328(a), which would have required him to pay a 100 percent distribution to the unsecured creditors that filed allowed claims … (2) he could have applied to obtain a hardship discharge under Section 1328(b), which would have required him to satisfy the best interest of creditors test… or (3) he could have converted his case, as he did, to a Chapter 7 case and receive a discharge under Section 727.”
“In a Chapter 7 consumer case,” the court continued, “the honest but unfortunate debtor receives a discharge under Section 727 from all of his dischargeable debts in exchange for surrendering to the trustee any non-exempt assets, which are then administered and distributed to creditors.”
Thus, Judge Ninfo acknowledged that it would seem that in order for the debtor to earn the January 16, 2002 discharge, he should be required to surrender the value of the non-exempt assets that existed at the date he filed the Chapter 13 petition, less any amounts already paid to unsecured creditors.
On the other hand, the court noted that the Chapter 13 Trustee’s Report may not have included a best interest test analysis, and that the debtor may not have been timely advised that he could not use the non-exempt assets for living expenses.
“In this case, where the debtor was not given any specific direction as to the assets now being demanded and he used them for living expenses and plan payments, the balance of the equities favors the debtor.”
1994 Amendment To Bankruptcy Code
Before the 1994 amendment to 11 U.S.C. § 348(a), a conversion of a Chapter 13 case to a Chapter 7 case constituted an order for relief under Chapter 7 as of the date of the filing of the original petition.
“However, as correctly asserted by the attorney for the debtor,” wrote Judge Ninfo, “Section 348(f)(1), by its plain language, eliminates the property being demanded by the Chapter 7 trustee as property of the estate in the converted Chapter 7 case because it is no longer in the possession of or under the control of the debtor.”
Reviewing the legislative history of the 1994 Amendment, Judge Ninfo noted that the change in the law “was intended to address a disagreement among courts” as to whether: certain assets… are property of the estate when a Chapter 13 case is converted to a Chapter 7 case.
“Nevertheless, the unambiguous language of the Amendment prevents this court from looking behind the statute to determine that the assets being demanded by the Chapter 7 Trustee… are property of the estate,” wrote the court. “The turnover motion is denied.”