Legislative Update An Analysis of Amended S. 1301
Proposed Consumer Bankruptcy Reform Legislation
Hon. Eugene R. Wedoff
U.S. Bankruptcy Court, Northern District of Illinois
Web posted and Copyright © May 13, 1998, American Bankruptcy Institute.
S. 1301, currently being considered by the Senate Judiciary Committee, proposes major changes in the Bankruptcy Code (Title 11, U.S.C.), particularly as the Code affects consumers. An analysis of the bill, as originally proposed in October 1997, has previously been published by ABI. On April 2, 1998, the bill was amended by the Subcommittee on Administrative Oversight and, as amended, favorably reported. Senator Grassley, the chairman of the subcommittee and an original sponsor of the bill, has proposed additional amendments for consideration by the full committee. In order to allow an understanding of the bill as currently under consideration, all of the provisions of the amended bill proposed by Senator Grassley (other than the technical amendments) are analyzed below. This analysis follows the format of the original paper: first, identifying each of the changes that the bill would make in the current consumer law; second, assessing the impact that these changes would have in the operation of the law; and third, suggesting alternative approaches, where appropriate, to achieving the goals of the legislation.
Introduction to current consumer bankruptcy law.
A description of the operation of current consumer bankruptcy law—which may be helpful in understanding the changes proposed in amended S. 1301—is available through the Introduction to Proposed Bankruptcy Reform.
Summary: major effects of the consumer bankruptcy provisions of amended S. 1301.
As discussed in the section-by-section analysis that follows, amended S. 1301 appears designed to reduce bankruptcy filings and increase payments to creditors in bankruptcy. The major changes in consumer bankruptcy law that would be effected by S. 1301 include the following:
1. Chapter 7 cases would be subject to dismissal or conversion if the debtors could pay 20% of their general unsecured claims through a Chapter 13 plan. Motions to dismiss or convert could be brought by the United States trustee or the court in any Chapter 7 case, and could be brought by creditors or other parties in interest in any case where the debtor’s "family" income equals or exceeds a national median. The proposal contains a number of ambiguities. Whenever such a motion by a panel trustee is granted, the debtor’s counsel would be required to pay fees and costs. § 102.
2. Individual debtors in both Chapter 7 and Chapter 13 cases would be required to engage in consumer credit counseling prior to filing bankruptcy, and would be required to complete a debtor education program as a condition of discharge. § 322. Additionally, debtors would have to be provided with information about consumer credit counseling services. § 301.
3. The offer by the debtor of a reasonable repayment plan, prior to bankruptcy, would be an affirmative defense against a dischargeability complaint based on fraud brought by any creditor who unreasonably refused to negotiate with the debtor concerning the plan. § 202.
4. Debtors could be awarded damages, costs and fees, at the discretion of the court, in connection with (1) certain successful claim objections (costs and fees mandatory, damages discretionary), (2) successful defense of dischargeability complaints (costs and fees mandatory, damages discretionary), (3) willful violation of the discharge injunction (mandatory damages, costs and fees), (4) willful violation of the automatic stay (no change from current law), and (5) successful defense of objections to discharge (costs and fees mandatory, damages discretionary; problems with proposed language). §§ 201-05.
5. Debtors would be required to file tax returns and income documentation unless otherwise ordered by the court, upon penalty of automatic dismissal. §§ 301, 312.
6. Certain secured claims would be valued at higher levels than under present law. §§ 302 (no bifurcation for purchases within 90 days of bankruptcy), 310 (valuation on conversion from Chapter 13).
7. The automatic stay and codebtor stay would automatically terminate in specified situations, and in rem relief from stay would be authorized §§ 303 (repeat filings, in rem relief), 305 (co-debtor stay), 319 (failure to file or perform statement of intent).
8. The time for filing and confirmation of Chapter 13 plans would be extended. §§ 304, 313.
9. Professional audits, in accord with generally accepted auditing standards, would be required in a minimum of 2% of bankruptcy cases. § 307.
10. New notice requirements would be specified, including notice to creditors’ preferred addresses. § 309.
11. Debts under § 523(a)(2) and (a)(4) would be excepted from discharge in Chapter 13, and there would be a presumption of nondischargeability under § 523(a)(2) for all debts incurred within 90 days of bankruptcy. §§ 314, 317.
12. The maximum term of a Chapter 13 plan would be extended to 7 years. § 315.
13. Chapter 13 debtors would be required to make adequate protection payments in addition to plan payments. § 320.
14. Homestead exemptions under state law would be capped at $100,000. § 321.
The consumer bankruptcy provisions of amended S. 1301: specific proposals.
Title I ("Needs Based Bankruptcy")
§ 101 ("Conversion").
Changes. Section 706(c) of the Bankruptcy Code currently provides that the court may not convert a Chapter 7 case to a case under Chapter 12 or 13 unless the debtor requests such a conversion. As amended, Section 101 provides that conversion could also be ordered when the debtor consents to it.
Impact. This section would operate primarily in connection with motions to dismiss Chapter 7 cases brought against a debtor under § 707(b) of the Code. Under current law, there may be a question of whether, instead of ordering dismissal in connection with such a motion, the court, with the debtor’s consent, could order conversion of the case to Chapter 13. Section 101 would clarify that the option of conversion is available to the debtor in such situations. Because S. 1301 expands the circumstances under which Chapter 7 cases are subject to dismissal under § 707(b)—see the discussion of § 102, below—this clarification may be helpful.
§ 102 ("Dismissal or conversion").
Changes. Section 102 is the central provision for the "needs-based" bankruptcy approach of S. 1301, which operates by broadening § 707(b) of the Bankruptcy Code. Section 707(b) currently provides for dismissal of Chapter 7 cases if granting relief under Chapter 7 would be a "substantial abuse" of the provisions of Chapter 7. "Substantial abuse" is not defined, and a motion to dismiss on this ground may only be brought by the United States Trustee or by the court, and "not at the request or suggestion of any party in interest." As amended, § 102 of S. 1301 would change § 707(b) in the following respects:
(1) The proposal would reverse the current limitation on standing to bring a motion under § 707(b) by affirmatively providing that the motion could be made "at the request or suggestion of any party in interest."
(2) The proposal would change the ground for relief from "substantial abuse" to simple "abuse" of the provisions of Chapter 7, and would remove the current presumption in favor of the form of bankruptcy relief chosen by the debtor.
(3) If abuse is found, the proposal would allow—with the debtor’s consent— conversion to Chapter 13 as an alternative to dismissal.
(4) Although "abuse" would continue to be undefined, the court would be given two factors to consider in making a determination of whether there would be "abuse" in granting the debtor relief under Chapter 7:
(a) whether the debtor, on the basis of current income, could pay 20% or more of unsecured, nonpriority debt, pursuant to §1325(b)(1); and
(b) whether the debtor filed the case in bad faith;
(5) If a panel trustee brings a successful motion under § 707(b), and if the debtor was represented by an attorney, several consequences would result for the debtor’s attorney:
(a) the attorney would be required to reimburse the trustee for all reasonable costs of prosecuting the motion, including attorneys’ fees;
(b) if the attorney is found to have violated Fed.R.Bankr.P. 9011, the attorney would be required, at a minimum, to pay an appropriate civil penalty to the panel trustee or to the United States Trustee; and
(c) in addition to the requirements now imposed by Rule 9011, the signature of the attorney would constitute a certificate that the debtor’s bankruptcy petition does not constitute an "abuse" under the amended § 707(b).
(6) If a party in interest brought a motion under § 707(b) that the court denied, and if the court found either (a) that the position of the party was not substantially justified, or (b) that the party brought the motion "solely for the purpose of coercing the debtor into waiving a right guaranteed to the debtor" under the Bankruptcy Code, then the court would have discretion to award the debtor all reasonable costs in contesting the motion, including attorneys’ fees. However, this relief would not be available against a party in interest with an aggregate claim of less than $1000.
(7) A party in interest would not be allowed to bring a § 707(b) motion if the debtor’s and the debtor’s spouse have an income equal to or less than the "national median family income" for a family of equal size.
Impact. This proposal contains a number of ambiguities that can be expected to cause conflicting interpretations and the need for significant litigation; the cost-shifting provisions of the proposal may be unfair in light of this ambiguity; and the proposal sets up a confusing relationship with Fed.R.Bankr.P. 9001, that would complicate future rulemaking. Depending on the interpretation of the proposal, it could have the effect of denying Chapter 7 relief to debtors in genuine financial difficulty. The proposal can be expected to lead to increased "bankruptcy planning" and litigation.
(1) The change from "substantial abuse" to simple "abuse" and the removal of the presumption in favor of the debtor’s choice of relief would indicate that motions pursuant to § 707(b) should be granted more freely. However, the grounds for finding abuse are not clear. Two "factors" are listed—the debtor’s ability to pay 20% or more of general unsecured claims in a Chapter 13 plan and bad faith by the debtor in filing. However, these factors are simply required to be considered by the court. Whether each factor is sufficient by itself to require a finding of abuse is not specified, nor is it indicated whether these factors are exclusive. Thus, bad faith might always be a sufficient ground for relief, regardless of the presence or absence of the other factor, or it may be that the court should consider whether a denial of discharge might be a more effective sanction than dismissal of the case. Similarly, there is no indication (1) whether a debtor’s ability to fund a 20% payment to general unsecured creditors through a Chapter 13 plan should always result in a finding of abuse, or (2) whether ability to pay less than 20% of general unsecured claims might also be considered as a factor in finding abuse.
(2) There is substantial ambiguity in the 20% payment factor itself. The proposed factor determines ability to pay pursuant to §1325(b)(1) of the Bankruptcy Code. Section 1325(b)(1)(B), in turn, states that if a Chapter 13 plan does not pay unsecured claims in full, the plan is subject to denial of confirmation unless it provides that all of the debtor’s projected disposable income will be applied to make payments under the plan for a period of three years. This incorporation of § 1325(b)(1) presents three significant ambiguities:
(a) Section 1322(d) of the Code provides that a Chapter 13 plan may not provide for payments over a period of more than three years unless the court approves a longer period, up to five years, upon a showing of cause. (And § 315 of amended S. 1301 would extend the maximum plan term to seven years.) There is no indication in the proposed statutory language whether the ability to pay 20% of general unsecured claims is intended to be measured according to a three-year, five-year, or seven-year plan.
(b) Section 1325(b)(1) deals with "projected disposable income," and thus would appear to require a determination of any likely changes in the debtor’s income over the period of the plan. The proposal states that the debtor’s ability to pay should be measured "on the basis of the current income of the debtor." It is thus unclear whether a debtor who anticipates a reduction in income would be allowed to make deductions from current income in determining the ability to pay factor.
(c) The definition of "disposable income" for purposes of §1325(b)(1) is set out in §1325(b)(2), to mean (for debtors not engaged in a business) "income which is received by the debtor and which is not reasonably necessary to be expended for the support of the debtor or a dependent of the debtor." This definition has given rise to substantially different applications, with courts disagreeing on matters such as the following: (1) to what extent are payments on particular secured debts (luxury cars, boats, expensive homes) reasonably necessary for support? (2) to what extent should debtors be allowed to continue living at the standard to which they were accustomed prior to bankruptcy? (3) to what extent are religious or other charitable contributions "necessary" expenses? (4) what educational expenses (private school tuition, college expenses for debtor or the debtor’s dependents, graduate school expenses) should be deemed "necessary"?
(3) In light of the ambiguities set out above, the proposal may be substantially unfair to debtors’ counsel in automatically imposing on attorneys the costs of a successful motion by a panel trustee. The effect of such cost-shifting would likely be a reluctance by any debtors’ counsel to file any Chapter 7 petition that might be argued as an abuse under the proposal.
(4) In contrast to the automatic shifting of costs against a represented debtor, the proposal allows a shifting of costs in favor of the debtor only under limited conditions.
• The position of the moving party must be substantially unjustified. Thus, if the creditor has a reasonable argument, no costs would be assessed even though the creditor loses the motion; yet costs would be assessed against debtor’s counsel if the debtor loses the motion, regardless of the reasonableness of the debtor’s position.
• Similarly, the proposal allows fee shifting in situations of coercion by a creditor only when the coercion is the sole purpose for the creditor’s filing of the motion; costs would not be awarded in situations where coercion was the principal purpose of the motion.
• Even where a § 707(b) motion is substantially unjustified or filed only for coercive purposes, the court would still have discretion to deny an award of costs. (This is in contrast to § 102 as originally proposed, in which the award of costs in these circumstances would have been mandatory. An originally proposed minimum damage award of $5000 was also eliminated.) The court would have no discretion to deny an award of costs against the debtor’s counsel if a trustee prevailed in a § 707(b) motion.
• Regardless of the grounds for awarding costs to the debtor in connection with a motion under § 707(b), the court would be prohibited from making the award if the party making the motion had a claim of less than $1000.
(5) Parties in interest (but not the United States Trustee or the court) would be prohibited from bringing § 707(b) motions against a debtor whose income (combined with that of the debtor’s spouse) did not exceed the median "family" income for a "family" of the size of the debtor’s. The intent of this provision is to reduce groundless motions, but it has two features that may limit its effectiveness. First, the Census Bureau measures the median income of "households" rather than "families," and so questions may arise both as to whether the Census Bureau figures apply, and, if so, whether unrelated persons living with the debtor (such as fiancees or foster children) should be counted as "family" members. Second, median household income, as reported by the Census Bureau, varies erratically with household size. It is relatively low for a single person household ($17,897 in 1996, the last year for which Census Bureau figures are currently available), but rises sharply for households of two ($37,283), three ($44,814) and four persons ($51,405). Then, however, median household income decreases for families of five, six, and seven persons, so that median household income for a family of seven was only $40,337. Thus, for single debtors and individuals in large households, the bill would provide much less protection than for individuals in households of two to four persons. (Income figures are drawn from U.S. Bureau of the Census, P60-197, Money Income in the United States: 1996, Table 1 (1997).
(6) To the extent that the proposed statute would be applied to deny Chapter 7 relief to debtors based solely on their ability to repay a portion of their unsecured debt, it would mark a significant change in bankruptcy policy. Such change would likely lead to substantial increases in "bankruptcy planning"—it can be anticipated that well-advised debtors would take steps to avoid having sufficient disposable income to pay the designated percentage of their general unsecured debt, for example, by increasing their expense levels, making purchases with secured credit, and increasing their unsecured debt.
(7) The proposal, both because of its ambiguity, and the incentive it may create for bankruptcy planning, can be expected to substantially increase the litigation involved in determining a debtor’s entitlement to Chapter 7 relief, with a potential for hearings into the debtor’s disposable income and good faith in a high proportion of cases.
(8) The relationship between the proposed statutory language and Fed.R.Bankr.P. 9011 is confused. Rule 9011 is the bankruptcy equivalent of Rule 11 of the Federal Rules of Civil Procedure. It requires, among other things, that an attorney representing a debtor sign every petition filed under the Bankruptcy Code, and it provides that this signature constitutes a certificate, among other things, "that the attorney . . . has read the document [and] that to the best of the attorney’s . . . knowledge, information, and belief formed after reasonable inquiry it is well grounded in fact and is warranted by existing law or a good faith argument for the extension, modification, or reversal of existing law." The rule requires sanctions for its violation that may, but need not, include a civil penalty. The proposed change to § 707(b) contains language that (a) requires a civil penalty if the court finds a violation of Rule 9011 in connection with a § 707(b) motion, and (b) states that the signature of an attorney in connection with a Chapter 7 petition constitutes a certification with different effects than those specified by Rule 9011. Under these provisions, where a Rule 9011 motion is brought in connection with a Chapter 7 petition, it would be unclear whether: (1) the terms of the rule or the terms of the proposed statute would apply, (2) whether the penalty required by the statute applies only to violations of the terms of Rule 9011, or whether it applies to violations of the signature requirement set out in the proposed statutory language; and (3) whether, if Rule 9011 were amended in the future, the penalties imposed by the statute would apply to the amended language of the rule.
Alternatives. (1) Instead of changing the general availability of Chapter 7 relief, it may be preferable to extend the definition of debt excepted from discharge in Chapter 7, so as to exclude excessive debt that should not have been incurred by the debtor. Thus, a debtor would be entitled to obtain a Chapter 7 discharge of medical debts, while being denied a discharge of improperly incurred credit card debt. In order to obtain a discharge of the improperly incurred debt, debtors would be required to complete a Chapter 13 plan. Alternatively, Chapter 7 relief could be denied to debtors whose disposable income exceeded a defined threshold, regardless of the amount of their debt, so as to discourage the incurring of large debt in order to avoid a limitation on relief.
(2) Awards of fees and costs could be treated in an evenhanded manner: either the court should be given discretion to award fees and costs to any prevailing party in a § 707(b) motion, or fees and costs could be mandatory in the situation of a substantially unjustified position.
(3) Rather than using median family income figures as a threshold for susceptibility to § 707(b) motions, an income of twice the poverty level could be used. Poverty levels, as established by the Department of Health and Human Services, vary uniformly according to the size of households, reflecting the actual needs of families.
Title II ("Enhanced Procedural Protections for Consumers")
§ 201 ("Allowance of claims or interests").
Changes. This section requires reasonable fees and costs to be awarded to the debtor in connection with a claim objection filed by the debtor that results in either (1) the claim being disallowed, or (2) the claim being reduced by more than 20% "of the amount of the initial claim filed by a party in interest." If the court finds that the position of the claimant was not substantially justified, the court may award "such damages as may be required by the equities of the case."
Impact. In the original version of S. 1301, this section provided for an award of reasonable fees and costs to the debtor in connection with a claim objection filed by the debtor that resulted either in (1) the claim being disallowed, or (2) the claim being reduced by more than 5% "of the amount of the initial claim filed by a party in interest." In addition, if the court found that the position of the claimant was not substantially justified, the court was required to award punitive damages in the amount of $5000, in addition to fees and costs. The changes made by the amended version of S. 1301 generally weaken the debtor protection originally proposed, since even in situations of large reductions or denials of claims where the claimant's position was found to be substantially unjustified, any award of damages would be discretionary. On the other hand, the former provision for a $5000 award of punitive damages had the effect of capping damages at that level, and the amendment appears to allow higher damage awards, again, in the discretion of the court. This proposal may discourage the filing of improper claims and encourage the filing of claim objections by the debtor.
However, the mandatory fee shifting provisions of ¤ 201 may have unintended consequences in several situations. The fee shifting would apply to all claim objections filed by debtors under ¤ 502, and so would require fee shifting in Chapter 11 cases, where the claims of employees or consumers are disallowed or reduced by 20%. They would also apply in situations of tort claimants whose estimates of unliquidated damages exceed the ulitmate award by 20%. Finally, where claims are filed by creditors with limited resources, the creditor may lack the resources to respond effectively to a claim objection, and simply default. An award of fees and costs to the debtor would also be required in these circumstances.
Finally, the provision refers to the filing of "claims" rather than the more appropriate term, "proof of claim," pursuant to §§ 501 and 502 of the Code.
Alternatives. Since the current version of § 201 makes the award of damages, costs and fees discretionary, there could be an authorization to award such relief whenever the debtor files a claim objection and the court finds that a proof of claim filed by the creditor was unreasonable.
§ 202 ("Exceptions to discharge").
Changes. This section, as amended, has three substantive provisions:
(1) It changes the substantive grounds for the nondischargeability of debt pursuant to § 523(a)(2)(A) of the Code. Currently, this subparagraph excepts from discharge certain debts arising from "false pretenses, a false representation, or actual fraud." It would be changed to apply to debts arising from "false pretenses, a material false representation upon which the creditor reasonably relied, or actual fraud."
(2) The section provides an affirmative defense to any dischargeability action brought under § 523(a)(2) (including fraudulent statements about the debtor’s financial condition, and presumptively fraudulent uses of credit cards). The defense would apply where the debtor could establish (a) that the debtor made a reasonable offer to negotiate "a reasonable alternative repayment schedule," including the offer of a reasonable alternative payment schedule, and (b) that the creditor unreasonably refused to negotiate." [Note: In addition to being an affirmative defense to dischargeability complaints based on fraud, prebankruptcy repayment plans would be made a prerequisite for eligibility in all individual bankruptcy cases, pursuant to § 322 of amended S. 1301, discussed below.]
(3) The section provides for an automatic award of fees and costs to the debtor in connection with any unsuccessful complaint to determine dischargeability, and, if the complaint is substantially unjustified, allows the court to award "such damages as may be required by the equities of the case." This award is made subject to the affirmative defense based on a repayment offer by the debtor.
Impact. (1) Section 523(a)(2)(A) generally makes debts incurred by fraud nondischargeable in Chapter 7 cases, and is frequently applied to credit card debt; a later provision, § 523(a)(2)(B), deals specifically with fraudulent statements regarding the debtor’s financial condition, and requires a written statement of that condition in order for the resulting debt to be nondischargeable. Section 523(a)(2)(B) also sets out the elements of fraud, including a materially false statement and reasonable reliance on that statement by the affected creditor. In contrast, § 523(a)(2)(A) does not currently set out the elements of fraud, and hence disputes have arisen, particularly about the degree of reliance required. The Supreme Court recently addressed this question in Field v. Mans, 116 S.Ct. 437 (1995), holding that "justifiable" rather than "reasonable" reliance was required for nondischargeability under § 523(a)(2)(A). The amendment would reverse the result in that case, requiring, in a dischargeability case under § 523(a)(2)(A) the same standard of reasonable reliance now provided for under § 523(a)(2)(B). This would would probably not have a major impact on credit card dischargeability cases, since few of these cases are likely to have different outcomes based on the distinction between "reasonable" and "justifiable" reliance. On the other hand, claims of nondischargeability based on actual fraud by the debtor (such as the operation of a Ponzi scheme) might be severely impacted by this change in the law, since the victims of such fraud often act unreasonably.
(2) The new affirmative defense could encourage debtors and creditors to engage in prebankruptcy negotiations regarding potential fraud claims. Where these claims are the driving force in the debtor’s financial problems, such negotiations might eliminate the need for bankruptcy filing. However, there appears to be no reason why the new affirmative defense should be limited to dischargeability questions involving fraud.
(3) The automatic award of fees and costs to a debtor who successfully defends a dischargeability case would have the effect of encouraging meritorious defenses. Under current law, the award of fees and costs is not automatic, and debtors may decline to defend dischargeability cases simply because they lack the resources to do so. As originally proposed, § 202 of S. 1301 provided not only for an award of fees and costs if the debtor prevailed in a dischargeability complaint, but also, if the court found that the position of the creditor in pursuing such a complaint was not substantially justified, for an award of either treble damages or $5000, whichever was greater. This original provision has been changed to increase judicial discretion with respect to damage awards, which retaining the provision for a mandatory award of costs and fees. As with mandatory awards in connection with claim objections, mandatory awards of costs and fees in connection with dischargeability complaints may penalize individual creditors (like support claimants) who file reasonable but ultimately unsuccessful complaints. The reference to the repayment-offer affirmative defense is an apparent drafting error, since that defense has no connection to an award of costs, fees, or damages.
Alternatives. (1) The affirmative defense based on prebankruptcy repayment offers could be extended to all dischargeability complaints.
(2) The reference to the new affirmative defense should be removed from the provision dealing with awards of damages, costs, and fees.
§ 203 ("Effect of discharge").
Changes. This section of the proposed bill, as amended, would contain two additions to § 524, which defines the effect of a discharge in bankruptcy. First, the section would provide that the failure of a creditor to treat plan payments in the manner specified by a plan of reorganization (including crediting the amounts required by the plan) will constitute a violation of the discharge injunction. Second, the section provides that any individual injured by either (1) a creditor’s violation of the requirements for a reaffirmation agreement or (2) any willful violation of the discharge injunction shall be entitled to recover either treble actual damages or $5000, whichever is greater, together with costs and fees.
Impact. The first addition to § 524 proposed by this section of S. 1301 would affect long term indebtedness treated under a plan of reorganization. One of the ways in which a plan might propose to deal with long term debt is by curing defaults and maintaining current payments, leaving the balance of the debt to be paid after completion of the plan. Section 1322(b)(5) specifically authorizes the treatment of long term indebtedness in this fashion, and it is the only manner in which most long-term home mortgages can be treated in Chapter 13, pursuant to §1322(b)(2). The impact of this proposal is to require that the creditor treat payments received under a plan with respect to long term debt in the manner provided by the plan, so that, at the conclusion of the plan, the creditor may not claim to be owed more than the plan provides. Failure of the creditor to treat the payments as required by the plan would constitute a violation of the discharge injunction, for which this proposal establishes a statutory remedy.
The other change made by this section is to provide a statutory remedy for violations of the discharge injunction, including entering into reaffirmation agreements contrary to law. Under current law, violation of the discharge injunction is sanctioned as a contempt of court. The power of a bankruptcy court to enter punitive contempt sanctions is not clear, and so this section would both define and limit the extent of the court’s power to impose penalties for discharge violations.
§ 204 ("Automatic stay").
Changes. As originally proposed, this section would have provided that an individual debtor who prevailed in a motion to remedy a willful violation of the automatic stay would be entitled to treble actual damages or $5,000, whichever was greater, in addition to costs and attorneys’ fees. The amended section deletes the minimum award, and provides instead for an award to the debtor of actual damages and costs, with punitive damages "in appropriate circumstances."
Impact. None. The amendment of this section removed all substantial impact from the original proposal, leaving only a restatement of current law, as set forth in § 362(h).
§ 205 ("Discharge").
Changes. This section would add two new provisions to § 727 of the Code. The first would prohibit a creditor from "request[ing] a determination of dischargeability of a consumer debt under subsection (a)" if the debtor was able to establish that the debtor had proposed a reasonable repayment plan and that the creditor had unreasonably refused to negotiate repayment. The second addition would require the court to award fees and costs to the debtor "in any case in which a creditor files a motion to deny relief to a debtor under this section" and the motion is either denied or withdrawn after reply by the debtor. In this connection, the section also provides for an award of additional damages, in the discretion of the court, "as may be required by the equities of the case."
Impact. The original language of this section was very ambiguous, as noted in the analysis of the original bill. Even as amended, the impact of the provision remains uncertain, due to imprecise terminology.
(1) The creation of an affirmative defense based on the debtor’s offer to repay a particular creditor cannot reasonably apply to § 727(a) of the Bankruptcy Code. Subsection 727(a) sets out grounds for the denial of a discharge, affecting all debts owed by the debtor at the time of the bankruptcy; these grounds generally relate to misconduct by the debtor affecting the administration of the bankruptcy system, such as failing to disclose assets that might be sold by a trustee. That a debtor offered a repayment plan to a creditor prior to filing bankruptcy should not be a defense to misconduct by the debtor affecting the administration of the bankruptcy system and hence the rights of all creditors.
(2) The dischargeability of particular consumer debts is dealt with by §§ 523(a) and 1328(a) and (b). It would be reasonable for the proposed affirmative defense to apply to questions of dischargeability arising under these sections, but this is intended by the proposed language, since amended § 202, discussed above, limits this affirmative defense to dischargeability claims based on fraud.
(3) Finally, the awards of damages, costs and fees provided for in this section are made applicable to "motions" filed under § 727(a). However, relief under § 727(a) is obtained by adversary proceeding, pursuant to Fed.R.Bankr.P. 7001(4), not by motion. Thus, the provisions of § 205 do not apply meaningfully to § 727(a).
Alternatives. The bill could specify that an affirmative defense based on pre-bankruptcy negotiations applies to all grounds for excepting particular debts from discharge under §§ 523 and 1328. This affirmative defense should not apply to denial of discharge under § 727. An award of fees, costs and damages should be specified for unsuccessful "adversary proceedings" commenced by creditors under § 727(a),
Title III ("Improved Procedures for Efficient Administration
of the Bankruptcy System")
§ 301 ("Notice of alternatives").
Changes. Although titled "Notice of alternatives," this section actually includes both a provision for notification to debtors and a major change in the debtor’s obligation to provide tax returns and other information.
(1) The United States Trustee of each district would be required to prepare a written notice discussing the purposes, benefits and costs of the various forms of bankruptcy relief, together with a description of "the services that may be available . . . from an independent nonprofit debt counseling service," together with a listing of all such services located in each district served by the trustee. Each represented consumer bankruptcy debtor would be required to receive a copy of this notice from the debtor’s attorney or petition preparer (and the attorney or petition preparer would have to certify this receipt). Each unrepresented debtor would have to obtain a copy of the notice and certify that he or she had both done so and read the notice. Questions about whether a particular counseling service should be included in the list would be determined by the court.
(2) The section would also add several items to the information that individual Chapter 7 and 13 debtors are required to provide in connection with a bankruptcy case. These items include (1) copies of any federal tax returns, including schedules and attachments, filed by the debtor during three years prior to the bankruptcy case; (2) copies of any tax returns and schedules filed during the pendency of the case, either for current tax years, or for the three years preceding the filing; (3) any amendments of the returns set out above; and (4) evidence of payments made by any employer of the debtor during the 60 days prior to the filing of the case. In addition, a Chapter 13 debtor would be required to file annually a statement of the debtor’s income and expenditures in the preceding year and the debtor’s monthly net income during that year, showing how calculated, disclosing the amount and sources of income, the identity of the persons responsible with the debtor for the support of any dependents, and any persons who contributed (and the amounts contributed) to the debtor’s household. Also, the court would have the obligation to provide copies of each debtor’s petition, schedules, statement of affairs, and any plan and plan amendments, to any creditor on request of the creditor. Finally, all of these filings, including the tax returns and amendments, would be available to any party in interest for inspection and copying.
Impact. (1) The proposal regarding credit counseling services might result in relevant information being made available to debtors, although it is likely that debtors consulting an attorney will place more weight on the attorney’s advice than on the information in a form given to them by the attorney. The proposal will probably have the greatest impact on pro se filers. However, difficulties may exist in describing the services available from credit counselors, at least if the description includes any comparison of credit counseling and bankruptcy in satisfying debt or in maintaining or reestablishing credit. Although not required by the proposed language, the cost of consumer credit counseling would have to be included in order for the comparison to be evenhanded. The need to administer the list of credit counselors will involve additional cost to the United States Trustee. If consumer counseling were made a prerequisite for bankruptcy filing, as provided by § 322 of S. 1301 (discussed below), this provision would have no substantial effect.
(2) The requirements for additional filings by debtors have the potential for making information available to trustees and creditors that may be significant in the administration of the debtor’s case. However, current law allows information regarding the debtor’s financial condition—including tax returns—to be obtained, as needed, pursuant to Fed.R.Bankr.P. 2004, with disclosure limited to the parties with need of the information, and with the potential for court orders limiting further disclosure. The general disclosures required by the changes proposed here would impose two significant burdens not part of current law: First, there would be a potentially difficult and expensive provision of information in every case, regardless of need for the information. Debtors in financial distress often fail to retain financial documentation. It is likely that these debtors will not have ready access to their tax returns for the three years preceding the bankruptcy, or to their pay stubs for two months preceding bankruptcy. Similarly, during a bankruptcy, debtors are likely to have difficulty maintaining detailed records regarding their expenditures and sources of income. Second, the changes would involve a significant intrusion into the privacy of the debtors. Tax returns are not public documents, and are ordinarily disclosed in litigation only when they are particularly relevant to a dispute, and only to the parties with a need to review them. This provision would require debtors to make several years of their tax returns available for review by any creditor, and the creditors would then be free to make whatever use they wished of the information contained in the returns, including compiling and disseminating it. Both the difficulty and cost of assembling the required information and the intrusion on privacy would act as substantial barriers to good faith bankruptcy filings.
(3) Substantial additional costs would be imposed on the courts both by (a) the need to provide copies of petitions, schedules and plans to all creditors who request them (this provision may encourage routine requests for such documents by creditors who do not require the documents for participation in the bankruptcy case) and (b) the need to file all of the additional documents required to be submitted by debtors in each consumer case.
§ 302 ("Fair treatment of secured creditors under Chapter 13").
Changes. As amended, § 302 would make two changes in the treatment of secured claims in consumer cases.
(1) Current case law interpreting Chapter 13 is in disagreement about the time at which a lien should be deemed released under a plan. This provision would provide that a lien can only be released at the time the debtor is discharged under § 1328.
(2) Section 506(a) of the Code, which requires bifurcation of undersecured claims, would be made inapplicable to secured claims based on the purchase price of property acquired by the debtor within 90 days of the bankruptcy filing,
Impact. (1) The provision regarding release of liens would primarily affect automobile loans. Frequently an auto loan in a Chapter 13 case is in an amount greater than the value of the automobile. In such a case, the debtor is allowed to pay the value of the car in satisfaction of the secured claim, with the balance of the claim treated as unsecured. The plan may provide that as soon as the secured portion of the claim is satisfied, the creditor is required to release its lien. Thereafter, the debtor may fail to complete the plan, so that the creditor does not receive full payment of the unsecured portion of its claim. This provision would allow the creditor to retain its lien to secure payment of that unsecured portion.
In this way, the provision would contradict the bankruptcy policy requiring equal treatment of creditors. To the extent that a secured creditor has a claim not supported by collateral value, the Bankruptcy Code treats the creditor’s claim as unsecured, and entitled to the same treatment as other unsecured claims. If a creditor receives full payment of the secured portion of its claim through a Chapter 13 plan, the creditor should not be able to take action against property of the debtor to enforce its remaining unsecured claim.
(2) By preventing the bifurcation of secured claims based on the purchase price of property acquired by the debtor shortly before the filing of the case, this section would have the impact of allowing the creditor a secured claim in the full amount of its claim at the time of the filing. If the property is worth less than that claim (for example, where the property depreciates or is consumed quickly), this gives the creditor an artificially high secured claim. In a Chapter 13 case, the debtor might determine to retain the property and pay the artificially high claim through the plan. However, the debtor might also determine to return the property, in which situation the creditor would be unable to assert an unsecured claim for the difference between the value of the collateral and the amount owing on the claim. In either event, valuing the secured claim at more than the value of the property securing the claim violates a basic policy of the Bankruptcy Code.
Alternatives. (1) Payments on account of unsecured claims could be required to be made in equal installments throughout a plan, so that the unsecured portion of a bifurcated claim is paid during the same time that the secured portion is paid. In that way all unsecured claims—including the unsecured portion of an undersecured claim—would be treated in the same way.
(2) Current law allows both Chapter 7 and Chapter 13 cases to be dismissed for lack of good faith. The Code could be amended to provide that a case shall be dismissed for lack of good faith where a debtor is shown to have made a purchase on secured credit with the intent of filing bankruptcy shortly thereafter.
§ 303 ("Discouragement of bad faith repeat filings").
Changes. This section provides (1) that the automatic stay will terminate after 30 days in cases of repeated bankruptcy filings within one year, unless a party in interest demonstrates that the filing of the later case was in good faith, and (2) that the bankruptcy court have discretion to enter orders granting relief from the stay "in rem," providing that the automatic stay will not apply in subsequent cases filed by the same debtor or in cases filed by other parties with specified knowledge of the order.
Impact. The role of the automatic stay differs substantially in Chapter 7 and in Chapter 13. In Chapter 7, the stay has the effect of allowing a trustee to determine whether property of the debtor should be liquidated for the benefit of creditors. For example, a home that is about to be sold in a foreclosure sale, might, in the trustee’s judgment, be able to be sold by a broker for a higher price, sufficient to pay the mortgage and have a surplus for distribution to unsecured creditors. The automatic stay prevents a foreclosure from taking place in a situation like this, while allowing the mortgagee to seek relief from the stay by showing that there is in fact no equity in the property. In Chapter 13, the automatic stay has the effect of allowing a debtor to propose and carry out a plan that deals with secured claims in such a way that the debtor is allowed to retain the collateral, even if there is no equity. A debtor who has no ability to deal with a secured claim properly in Chapter 13 may nevertheless file repeated bankruptcy cases in order to prevent a foreclosure or repossession from going forward, by invoking the automatic stay repeatedly. The proposal seeks to limit debtors’ ability to use this tactic, and many of its features would be helpful. However, the proposed changes do not reflect the different roles that the automatic stay plays in Chapter 7 and Chapter 13, and thus may have unintended consequences.
In Chapter 7 cases, regardless of whether there was a prior case, the issue involved in application of the automatic stay should be limited to the question of equity. To allow the automatic stay to remain in effect, a Chapter 7 trustee should simply be required to show that there is equity in the property at issue; the good faith of the debtor in filing the case is not relevant. To see the problem with the proposal in this connection, consider the following example: a debtor with limited income has taken out a home equity loan on the family home, and cannot keep up with the payments. The lender files a foreclosure action, and the debtor seeks to save the home in Chapter 13, but fails to make plan payments, so that the bankruptcy case is dismissed and the foreclosure action is recommenced. This time, again to stop the foreclosure, the debtor files a Chapter 7 case. There is considerable equity in the home. Under the proposal, there is a presumption (since the debtor failed to make plan payments) that the second case is filed in bad faith, and if the Chapter 7 trustee wants to keep the automatic stay in effect beyond 30 days, the proposal would require the trustee to establish, by clear and convincing evidence, that the case was filed in good faith. If the trustee is unable to do so, the foreclosure will go forward, and the estate will lose the higher value that could have been obtained in a brokered sale.
On the other hand, the good faith standards set out in the proposal are reasonably applicable to Chapter 13 cases, requiring that the debtor establish good faith for repeatedly invoking the automatic stay.
The impact of the "in rem" provision is difficult to determine, because no standards are set out for the entry of in rem orders. These orders would be most appropriate as applied to property in which there was no equity, and as to which there had been a pattern of bankruptcy filings. In such situations, the orders could help to prevent debtor abuse. In other situations, the orders might again prevent sales by Chapter 7 trustees to the benefit of unsecured creditors. Also, the proposal does not state whether the court would be authorized to vacate an in rem order in a subsequent case upon a showing that the case was filed in good faith. Absent such specification, there may substantial litigation to determine the issue.
Alternatives. The 30-day termination of the automatic stay should be postponed in Chapter 7 cases upon a request by the trustee for a hearing on the question of equity. In rem orders for relief from stay should be limited to situations in which there is no equity in the property and in which the property has been the subject of more than one bankruptcy filing.
§ 304 ("Timely filing and confirmation of plans under Chapter 13").
Changes. This section would set a time limit for Chapter 13 debtors to file plans. The deadline would be 90 days after the filing of the bankruptcy case. The section would also require that hearings on the confirmation of the plan take place within 45 days of the filing of the plan. In each situation, the court could order the deadline altered.
Impact. Under current law, Fed.R.Bankr.P. 3015(b), a plan is required to be filed either with a Chapter 13 petition or within 15 days thereafter, unless extended by the court for cause. The proposal would substantially increase the time in which a debtor would be allowed to file a plan. This, in turn, would delay payments into the plan, which are required by §1326(a) of the Code to commence within 30 days after the plan is filed.
Moreover, the proposed change would create difficulties with creditor meetings. S. 1301 does not change the time for the first meeting of creditors in a Chapter 13 case, which, under current law, is between 20 and 50 days after the order for relief, pursuant to Fed.R.Bankr.P. 2003(a). Thus, the first creditor meeting would have to be held prior to the time that the debtor was required to file a plan. A creditor’s meeting could accomplish very little if the debtor’s plan had not yet been filed, and would have to be continued until plan filing.
There is no current time limit for the hearing on confirmation, but some courts have determined to delay confirmation until after the deadline for filing claims has passed. The proposed change would require that these courts enter orders extending the time for hearing in order to continue this practice.
Alternatives. In order to effectuate timely confirmation of Chapter 13 plans, the 15 day time limit for plan filing might be enacted as part of the Code itself, rather than being part of the bankruptcy rules.
§ 305 ("Application of the codebtor stay only when the stay protects the debtor").
Changes. Under present law, if a Chapter 13 debtor is liable with another party on a particular debt, the creditor is automatically stayed from taking action against the other party, but the creditor may obtain relief from this codebtor stay if the codebtor received the consideration for the claim. Section 305 of S. 1301 would change this situation by providing that the codebtor stay would only remain in effect for 30 days if the debtor did not receive the consideration or property that secured the debt was not in the debtor’s possession. In those circumstances, after the 30-day period, the creditor could take action against the codebtor or property not in the possession of the debtor. The section also provides for termination of the codebtor stay as to any rented property that the debtor’s plan proposes to abandon or surrender.
Impact. The codebtor stay in Chapter 13 seeks to protect the debtor by eliminating the pressure the debtor might feel from friends or relatives who cosigned an obligation so that the debtor would be able to obtain needed credit. The codebtor stay allows the Chapter 13 debtors to pay, through the plan, debts for which they are primarily responsible, and prevents creditors from pursuing codebtors who did not receive the benefit of the debt (that is, true accommodation parties, for example, a friend who cosigns finance papers so that the debtor can purchase a car). However, if the nondebtor actually received the consideration for the debt (for example, if the debtor cosigned an auto loan for a friend’s purchase), there is no need for "protection"—the creditor should be allowed to pursue collection against the nondebtor. Thus current law allows a creditor to obtain relief from the codebtor stay upon a showing that the codebtor, rather than the debtor, received the consideration.
The proposal would confuse the law in this regard in three ways. First, it would provide an opportunity to the debtor to keep the codebtor stay in effect, even if the debtor did not receive the consideration for the debt, upon a showing that the receipt of the property securing the debt was not part of a scheme to defraud or hinder the creditor. Whether or not there was any scheme to defraud or hinder, there is no apparent reason for a codebtor stay when the nondebtor received the consideration for the debt.
Second, the proposal would automatically terminate the codebtor stay after 30 days where the codebtor received the benefit of the transaction. When the debtor and another party jointly incur a liability (like a joint loan, or a cosigned loan), it may not be clear which of the parties received the benefit of the transaction. Current law protects true accommodation parties by requiring that the creditor seek court permission before acting against them on the belief that they were the ones receiving the benefit of the transaction. The change would allow creditors to take action without court permission, and require that debtors seek sanctions for violation of the stay if the debtor was the actual beneficiary.
Third, the proposal would terminate the codebtor stay whenever a plan provided for surrender of leased property. Although the stay might reasonably be terminated as to that property, there is no reason why the stay should be terminated as to the codebtor. Where a nondebtor signed a personal property lease as an accommodation to the debtor, the debtor would—under current law—retain the right to pay whatever obligations arose from the lease in full through the plan, regardless of whether the debtor kept the leased property. In such a situation, the party who signed the lease as an accommodation should continue to be protected from collection actions while the debtor was making plan payments.
Alternatives. The codebtor stay could be made inapplicable to creditor action against leased property that is to be surrendered under a plan.
§ 306 ("Improved bankruptcy statistics").
Changes. This section would require that the clerks of each district compile bankruptcy data in specified categories and that this data be compiled and reported by the Administrative Office of the United States Courts.
Impact. Although this provision would be costly to implement, it has the potential for making useful information available to those interested in the functioning of the bankruptcy system. The National Bankruptcy Review Commission (in §§ 4.1.1-4.1.5 of its report) recommended that a similar program of data collection and reporting be implemented. The one potential problem in the proposed legislation is in the specification of matters for data collection and reporting. The NBRC suggested a pilot program to develop effective programs, and this might be preferable to establishing categories for data collection by legislation. As an example of the problem with legislative specification, the proposal includes a requirement that data be collected and reported as to "the number of [Chapter 13] cases in which a final order was entered determining the value of property securing a claim less than the claim." Such a report would likely yield little useful information, since in many situations of the cramdown of secured claims the parties negotiate an appropriate bifurcation, with no court order entered.
Alternatives. It may be preferable to implement the NBRC recommendation of a pilot program to determine effective categories and methods of data collection and reporting.
§ 307 ("Audit procedures").
Changes. This section of the proposed bill would establish a system for random audits of the accuracy and completeness of schedules and other information required to be provided by debtors in bankruptcy.
Impact. This proposal also reflects a recommendation of the National Bankruptcy Review Commission (§1.1.2), and would provide an additional incentive for debtors and their counsel to provide accurate and complete information. Again, however, the proposed legislation sets out details that may create difficulties in the proposed program.
First, the proposal requires that the audits be "in accordance with generally accepted auditing standards and performed by independent certified public accountants or independent licensed public accountants." This requirement would impose very substantial costs in connection with each audit.
Second, the proposal requires that at least 2% of all cases be audited. With bankruptcy filings exceeding 1 million per annum, an audit cost of only $500 per case would impose an additional cost of at least $10 million per annum.
Third, the proposal requires audits of "schedules of income and expenses which reflect greater than average variances from the statistical norm of the district in which the schedules were filed." Depending on how this requirement is interpreted, it could require a substantially greater than 2% audit rate.
Fourth, the proposal directs the Attorney General to establish procedures for "fully funding" the audits by "requiring that each debtor with sufficient available income or assets . . . contribute to the payment . . . as an administrative expense or otherwise." This provision would be unworkable in most cases. In Chapter 13 cases, making the cost of an audit an administrative expense will increase the priority debt that is required to be paid through the debtor’s plan. If the debtor lacks sufficient disposable income to make this payment, a plan will be impossible. If the debtor does have the income available to pay for the audit, the result will be lower distribution to general unsecured creditors, who, in that way, will bear the cost of the audit. In Chapter 7 cases, the audit fees could only be paid from nonexempt assets of the debtor. Where there are no such assets, as is frequently the situation, there would be no source of funding for the audit. Where such assets are available, there would again be a reduction in the distribution to creditors.
Finally, the requirement that audit reports be filed may impose additional costs for document retention on clerk’s offices, and, depending on the detail of the reports, involve unnecessary intrusions on the debtors’ privacy.
Alternatives. (1) In order to reduce costs, the required audits might be conducted by trained employees of the United States Trustee, rather than licensed accountants, without the requirement of compliance with generally accepted auditing standards, according to regulations established by the Executive Office of the United States Trustee.
(2) The number of audits could be set initially at a low rate (one of every 500 filings) to determine the extent of inaccuracies. Then, if substantial inaccuracy is found, the rate of auditing could be increased.
(3) The cost of the audits should not be borne by the debtor and creditors in the particular case audited, except that, if material misstatements are found, the cost of the audit might be imposed as a penalty upon the debtor. Rather, audit reports should be paid from filing fees collected in all cases.
(4) Audit reports showing no material misstatements should be maintained only by the office preparing them, and not made public.
§ 308 ("Creditor representation at first meeting of creditors").
Changes. This provision would allow nonattorneys to represent creditors at creditor meetings.
Impact. This proposal would have the potential for increasing creditor involvement in any areas where appearances by nonattorneys are currently prohibited.
§ 309 ("Fair notice for creditors in Chapter 7 and 13 cases").
Changes. The most significant change made by this section is a requirement that creditors be given notice of a bankruptcy filing at their preferred addresses. Under current law, if a creditor actually receives notice of a bankruptcy case, it may be liable for sanctions for willful violation of the automatic stay if it thereafter takes action to enforce its rights against collateral or otherwise collect a debt owed by the debtor. This provision would eliminate sanctions for violation of the stay (or failure to turn over property of the estate) in situations where notice of the bankruptcy was sent to an address of the creditor other than the last address it provided to the debtor for correspondence regarding the debtor’s account. This elimination of liability would only apply if (1) the creditor had a designated person or department for receiving bankruptcy notices, (2) the creditor had a reasonable procedure for directing bankruptcy notices to that person or department, and (3) despite the reasonable procedures, the creditor’s designated person or department did not receive the notice in time to prevent the collection activity from taking place.
The section also changes a current provision of law regarding the need for notices to creditors to include the debtor’s name address and taxpayer identification number. Current law provides that a failure to supply this information does not invalidate the legal effect of the notice; this provision would be removed.
Impact. This provision would eliminate sanctions for violation of the automatic stay in situations where notice of a bankruptcy was received by personnel of the creditor who were unable to prevent subsequent collection action. However, it would also greatly complicate litigation regarding violations of the automatic stay. If a creditor took collection action after the bankruptcy case was filed, there would be questions subject to litigation concerning (1) the last address specified by the creditor in a communication, (2) whether the creditor had reasonable procedures in place for directing the communication to a particular person or department, and (3) whether that person or department received the notice in time to prevent the collection activity from taking place. Most of the information relating to these matters would be exclusively in the possession of the creditor, making it difficult for debtor’s counsel to determine whether an intentional violation of the automatic stay had occurred without substantial discovery. Lacking the resources to pursue such discovery, debtors might be unable or unwilling to pursue enforcement action.
Where a notice from the debtor to a creditor lacks some required item of debtor identification (for example, the debtor’s taxpayer identification number), current law provides that the notice is still legally effective. By removing this provision, S. 1301 would create confusion wherever a notice is technically deficient but substantially complete. For example, an auto lender may receive notice of the filing of a bankruptcy that contains the debtor’s name and address but not the debtor’s social security number. The lender thereafter, with full knowledge of the bankruptcy, might repossess the debtor’s car. Is there a violation of the automatic stay? The lender would contend that the change in the law proposed by this section means that the notice was legally ineffective.
Alternative. Creditors could be given an affirmative defense to any claim for damages based on violation of the automatic stay or failure to turn over property of the estate, based on a lack of effective notice. To establish such a defense, the creditor could be required to show either (1) that the debtor failed to use an address for notice that the creditor had clearly provided, and that the alternative address used by the debtor did not result in a responsible person receiving timely notice, despite reasonable procedures by the creditor, or (2) that the notice lacked information specified by the Bankruptcy Code which was reasonably required by the creditor to identify the debtor.
§ 310 ("Stopping abusive conversions from Chapter 13").
Changes. Under §348(f) of the Bankruptcy Code, when a debtor converts a Chapter 13 case to a case under Chapter 7, the valuation of allowed secured claims is carried over from the Chapter 13 case to Chapter 7, with the amount of the secured claim reduced by whatever payments were made on account of that claim to the secured creditor. The proposed bill would change this result, providing that to the extent any amount remains owing to the secured creditor at the time of the conversion, the entire amount owed will be secured by the collateral. [Note: This section contains a drafting error. Section 348(f) of the Bankruptcy Code applies to all cases converted from Chapter 13 to other chapters of the Code. The proposal is intended to leave the terms of §348(f) in place as they apply to Chapter 13 cases converted to Chapter 11 or 12, and then set out new terms, in a new subsection 348(f)(C), for cases converted from Chapter 13 to Chapter 7. Thus, the new subsection should have been introduced by the phrase "with respect to cases converted to Chapter 7." Instead, the new subsection is introduced by the redundant and confusing phrase "with respect to cases converted from Chapter 13."]
Impact. This proposed change has a narrow impact. In Chapter 7, pursuant to the Supreme Court’s decision in Dewsnup v. Timm, 502 U.S. 410 (1992), a debtor cannot simply pay the secured portion of any secured creditor’s claim and retain the collateral. Rather, a Chapter 7 debtor can only exercise this right in the context of a redemption, pursuant to Section 722 of the Code. This section allows a debtor to pay the amount of the "allowed secured claim" in order to redeem "tangible personal property intended primarily for personal, family or household use, from a lien securing a dischargeable consumer debt, if the property is exempted . . . or has been abandoned." When a case is converted from Chapter 13 to Chapter 7, a question may arise as to how much is required to be paid by the debtor in order to redeem tangible personal property, such as an automobile. Current law provides that the amount of the secured claim, fixed during the Chapter 13 case at the value of the collateral, continues to be the amount of the secured claim for purposes of the case on conversion to Chapter 7, and that any payments made on account of the secured claim during the Chapter 13 case reduce the claim on conversion. For example, if the debtor owed $10,000 on a car loan at the outset of a Chapter 13 case, and the car was valued by the court at $7,000, the lender would have had a secured claim of $7,000 in the Chapter 13 case and an unsecured claim of $3,000. If the debtor paid $2,000 on the secured claim through the Chapter 13 plan, and then converted the case, current law would provide that, on conversion, the lender had a secured claim of $5,000 (the original $7,000 claim reduced by the $2,000 payment). Thus, if the debtor wished to redeem the automobile in Chapter 7, the price for redemption would be $5,000, even if the car was worth more than that amount at the time of redemption. Under the proposed change, the intent appears to be that the creditor would have an $8,000 claim secured by the automobile (the total claim of $10,000 less the $2,000 paid during the Chapter 13 plan). In order to redeem, the debtor would then have to pay the entire value of the automobile, up to $8,000. In this way, the secured creditor could receive, as a price for redemption, a total compensation greater than the value of the collateral at the time of the filing of the case.
Alternatives. Bad faith conversion from Chapter 13 is currently penalized by §348(f)(2), which provides that the Chapter 7 trustee in the converted case may liquidate all of the nonexempt property in the possession of the debtor at the time of conversion. This penalty could be made more effective by uniform exemption laws. Another alternative would be to allow denial of conversion in situations of bad faith.
§ 311 ("Prompt relief from stay in individual cases").
Changes. This section would provide that in individual bankruptcy cases under Chapters 7, 11, or 13, the automatic stay would terminate 60 days after a request for relief from the stay, unless (1) the court denies the motion, or (2) all parties in interest agree to a continuance of the stay beyond that time, or (3) the court makes a finding that continuance of the stay is required by compelling circumstances.
Impact. This provision does not substantially change existing law, which requires that all motions for relief from stay must be heard initially within 30 days, and that if the initial hearing is not final, the final hearing must commence within 30 days after the conclusion of the preliminary hearing. Both present law and the proposal allow extensions by the court for compelling circumstances.
§ 312 ("Dismissal for failure to file schedules timely or provide required information").
Changes. This section creates a new ground for dismissal of Chapter 7 and 13 cases—failure to provide information required by under § 310 of S. 1301, discussed above. That section sets out a number of filing requirements to be located in a new § 521(a)(1) of the Code. These requirements include (among many other items) copies of any federal tax returns filed by the debtor in the three years preceding the bankruptcy filing and evidence of all payments from employment during the 60 days preceding the filing. Section 312 of S. 1301 provides that all of the filing requirements of the new § 521(a)(1) are not completed by the debtor within 45 days of the bankruptcy filing, the case "shall be automatically dismissed on the 46th day after the filing." The court is directed to enter an order to that effect on request of a party. Only one extension of the 45-day deadline is allowed, and the extension may not exceed 20 days.
[Note: this section contains a drafting error, placing these dismissal provisions in § 707 of the Bankruptcy Code. The provisions are intended to apply to both Chapter 7 and 13 cases. However, pursuant to §103(b) of the Code, § 707 applies only to cases under Chapter 7.]
Impact. The difficulty of complying with the proposed initial disclosures (of tax returns and pay stubs) is noted in the discussion of § 310, above. Section 312 of the proposed bill would impose automatic dismissal as a penalty for failure to comply with these disclosure requirements, without providing notice to the debtor of any deficiency in the filing. Although the debtor is given an opportunity to seek an additional 20 days to comply, no further extensions are authorized. Given that it may take more than 65 days to obtain copies of tax returns from the Internal Revenue Service, these provisions may result in unavoidable dismissal of cases filed in good faith.
Alternatives. The failure of a debtor to provide information ordered by a court to be produced to a creditor in connection with an examination pursuant to Fed.R.Bankr.P. 2004 could be specified as a ground for dismissal of both Chapter 7 and Chapter 13 cases.
§ 313 ("Adequate time for preparation for a hearing on confirmation of the plan").
Changes. This section provides that if a creditor in a Chapter 13 case objects to plan confirmation within five days of receiving notice of the hearing on confirmation, the hearing may take place no sooner than 20 days after the first meeting of creditors.
Impact. S. 1301 does not change the time for the first meeting of creditors in a Chapter 13 case, which, under current law, is between 20 and 50 days after the order for relief. However, under § 304 of the bill, a debtor would be allowed 90 days after the filing of the case to file a plan. As noted in the discussion of § 304, above, this has the potential for the first meeting of creditors being held prior to the filing of the plan. However, the debtor could also file a plan with the petition or shortly thereafter. Section § 304 also requires that the hearing on confirmation take place within 45 days of plan filing. Thus, if the debtor filed the plan promptly, a hearing on confirmation would be required before the meeting of creditors was held. Section 313 of the bill is apparently intended to remedy that anomaly, so that, on timely request of a creditor, the confirmation hearing would take place at least 20 days after the creditors’ meeting.
Present law, which requires prompt filing of plans (within 15 days of the filing of a Chapter 13 case), and prompt creditor meetings (between 20 and 50 days after case filing), with no deadline for the confirmation hearing, allows (1) the creditor meeting to take place after the plan is filed, and (2) the creditor meeting to take place prior to confirmation. There does not appear to be any need to change these time frames. The different times provided for by the proposed bill would delay plan confirmation in many cases, without assuring more time for creditor review of the plan.
Alternatives. The present deadlines for Chapter 13 could be retained, with explicit authorization given to creditors to seek a continuance of the confirmation hearing in any situation where they require additional time to prepare.
§ 314 ("Discharge under Chapter 13").
Changes. This section would limit the superdischarge available in Chapter 13 by excluding from that discharge debts incurred by fraud (as defined by § 523(a)(2) of the Code) and by fraud or defalcation while acting as a fiduciary, embezzlement, or larceny (as defined by § 523(a)(4) of Code).
Impact. This provision would increase the recovery of certain creditors after the completion of a Chapter 13 case. However, the provision would also remove a major incentive for filing Chapter 13 cases and would increase the need for court hearings.
The largest number of nondischargeability complaints brought before bankruptcy courts in recent years has been on account of alleged fraud by debtors in the use of credit cards. The courts have struggled with the application of the fraud provisions of § 523(a)(2) of the Code to credit card debt, but a consensus is emerging that the use of a credit card is fraudulent if the debtor had an actual intent not to repay the credit card charge at the time the card was used. See In re Anastas, 94 F.3d 1280, 1285 (9th Cir. 1996). This, in turn, presents a question of fact that can require a trial. Rather than incur the expense of such a trial, a debtor may, under current law, seek relief under Chapter 13, and, if the plan is successfully completed, the debtor will be discharged from the credit card debt regardless of the circumstances under which it was obtained. Under the proposal, the question of the debtor’s intent (and the dischargeability of the debt) would remain in Chapter 13, thus providing no incentive for the debtor to choose that chapter, and presenting the courts with the potential for more hearings on the dischargeability of credit card debt. Indeed, if credit card debt is excepted from discharge in Chapter 13 there is actually a strong incentive for a debtor to choose Chapter 7, since that chapter allows an immediate discharge of other, dischargeable debts, allowing the debtor to use future income exclusively to pay the nondischargeable credit card debt.
Moreover, the proposal would make a distinction between fraud and other types of debtor misconduct that would still be dischargeable under Chapter 13, such as the intentional torts covered by § 523(a)(6). Thus, for example, a pickpocket who stole $100 from an individual’s wallet could have the resulting debt discharged in a Chapter 13 case, but a debtor who took an improper $100 cash advance could not. Both types of debt are dischargeable in Chapter 13 under current law, with the aim of encouraging debtors who have incurred debt wrongfully to repay all of their creditors through a plan. It is not clear why fraudulently incurred debts should be treated differently from other wrongful debt in this regard.
§ 315 ("Contents of plan").
Changes. This section of amended S. 1301 would increase the maximum term of a Chapter 13 plan from five years to seven years.
Impact. This section does not change current law providing that unless cause is shown, a plan may not exceed three years. Thus, the principal impact of the change may be to allow debtors a longer period in which to pay secured claims that must either be paid in full or as to which defaults must be cured. However, the seven year maximum might be used to determine the debtor’s ability to make payments in a Chapter 13 plan, and thus might have the effect of disqualifying debtors from Chapter 7 relief under § 102 of S. 1301, discussed above.
§ 316 ("Nondischargeable debts").
Changes. Current § 523(a)(14) provides that debts incurred to pay nondischargeable tax obligations are nondischargeable. This provision would create a new § 523(a)(14A) applying this rationale to all nondischargeable debt.
Impact. The impact of this proposal would be an arbitrary imposition of nondischargeability. The provision is not limited to debts incurred fraudulently, which are already nondischargeable under § 523(a)(2). Thus, this proposal would apply to debts incurred in good faith, and would render them nondischargeable based simply on how the debtor chose to use the borrowed funds. If the debtor used borrowed funds to pay rent, and other funds to pay child support, the debtor would have no nondischargeable debt. But if the debtor used the same borrowed funds to pay child support, and the other funds to pay rent, the borrowed funds would be a nondischargeable debt.
Moreover, the provision presents substantial tracing problems. Section 523(a)(14) has had little impact thus far, perhaps because of the difficulty in tracing the source of cash used to pay taxes. It would similarly be difficult to trace the source of cash used by a debtor to pay nondischargeable obligations, such as child support, whenever these obligations were paid from an account into which the debtor deposited both borrowed funds and funds received from other sources.
§ 317 ("Credit extensions on the eve of bankruptcy presumed nondischargeable").
Changes. Current § 523(a)(2)(C) provides that if a debtor borrows more than $1000 from a single creditor for items that are not needed for the support of the debtor or the debtor’s dependents, or takes cash advances of more than $1000, within 60 days of the filing of a bankruptcy, the debt is presumed to have been obtained by fraud. In keeping with the consensus reflected in In re Anastas, 94 F.3d 1280, 1285 (9th Cir. 1996), this would mean that the debtor is presumed to have incurred the debt without intending to repay it. The proposed change would move this presumption to § 523(a)(2)(A), and expand it to apply to all consumer debts incurred within 90 days preceding the bankruptcy. [Note: the proposed language continues to include the phrase "consumer debts owed to a single creditor." In view of the fact that there is no longer a minimum borrowing requirement for invoking the exception, this phrase serves no purpose and may be confusing—e.g., creating the impression that only one creditor could assert the presumption.]
Impact. The impact of the presumption is to require debtors to carry the burden of establishing, in a creditor complaint alleging fraud, that they did intend to repay each debt incurred by them within 90 days of the bankruptcy filing. The expanded presumption would have an impact far beyond the credit card matters to which the presumption now applies, applying, for example to medical debts, grocery bills, and rent obligations. The impact of this provision would be increased by § 314, which makes debts arising from fraud nondischargeable in Chapter 13.
Alternatives. The present law could be amended to make clear that the misconduct leading to nondischargeability is incurring debt with an intent not to repay the debt. With this understanding, other circumstances might be set out in which debt incurred shortly before bankruptcy is presumed to be nondischargeable: for example, debt incurred to finance casino gambling, or debt incurred in excess of some percentage of the debtor’s ordinary expenses.
§ 318 ("Definition of household goods and antiques").
Changes. The proposed legislation would add a definition for "household goods" to the definitions of §101 of the Code. "Household goods" are a category of debtors’ assets that may be exempted under §522(d), and as to which certain liens may be avoided under § 522(f). The proposal would define "household goods" by incorporating the definition that appears in 16 C.F.R. § 444.1(i). That regulation of the Federal Trade Commission defines "household goods" as:
Clothing, furniture, appliances, one radio and one television, linens, china, crockery, kitchenware, and personal effects (including wedding rings) of the consumer and his or her dependents, provided that the following are not included within the scope of the term "household goods": (1) Works of art; (2) Electronic entertainment equipment (except one television and one radio); (3) Items acquired as antiques; and (4) Jewelry (except wedding rings).
Although the heading of the proposed section mentions antiques, no definition of "antiques" is given in the text.
Impact. Section 522(f) allows the avoidance of nonpurchase money, nonpossessory liens on certain items of exempt household property. The idea underlying this provision is that when a lender extends credit on the basis of used household goods in the possession of the debtor, it is unlikely that there would be any substantial resale value in the collateral, and that the lender is primarily relying on the difficulty that the debtor would face in replacing the items. The Bankruptcy Code made the determination that such liens should not be enforced. It appears to be the intent of the proposed legislation to strictly limit the type of property that may be excluded from nonpossessory, nonpurchase money security interests. The FTC’s definition of household goods would exclude such common items as home computers, CD players, speaker systems, earrings, and framed prints. If so, it would be unduly restrictive. To some extent, the limitations of the FTC definition would not restrict § 522(f), because "household goods" is only one of the categories of personal property as to which liens may be avoided under that subsection. Other categories include "household furnishings," and "jewelry." The major impact of the change may be to give rise to new litigation as to whether particular items not within the FTC definition of "household goods" constitute "household furnishings."
Alternatives. In order to protect nonpurchase money lenders who genuinely rely on the value of the debtor’s personal property in extending credit, Section 522(f) could be amended to exclude from lien avoidance any items of personal property not within the FTC definition whose resale value exceeds a specified amount (for example, $1000).
§ 319 ("Relief from stay when the debtor does not complete intended surrender of consumer debt collateral").
Changes. Section 521(2) of the Bankruptcy Code currently requires Chapter 7 debtors to make an election as to their property which serves as collateral for consumer debts: within 30 days of the filing of the bankruptcy case, they must file a statement indicating whether they intend to retain or surrender the property, and "if applicable" state that the property is claimed exempt, that the debtor intends to redeem the property, or that the debtor intends to reaffirm the debts secured by the property. The law further indicates that the debtor is obligated to carry out the specified choice within 45 days of filing its notice of the election as to the property involved. Section 319 of the amended S. 1301 would make a number of changes in the operation of this provision:
(1) The section, redesignated as § 521(a)(2), would be made applicable to all collateral, not merely collateral securing consumer debts.
(2) The time for performing the election would be changed from 45 days after the filing of the notice to "30 days after the first meeting of creditors under section 341(a)."
(3) A new ground for termination of the automatic stay would be created. It would apply to property securing a claim of more than $3000, when the debtor failed to take action required by § 521(a)(2) within 30 days after the expiration of the period specified for the action. The proposal lists these required actions as (1) filing the statement of intention, and (2) if the property is to be retained, failing to meet an applicable requirement to redeem, reaffirm, or assume a lease as to the property. Although the numbering of the provision is confused, it appears that the deadline for reaffirmation would not apply if the creditor refused to reaffirm the debt on the original contract terms.
Impact. The proposal is ambiguous in establishing the date by which a debtor must make the §521(2) election. The language "30 days after the first meeting of creditors under section 341(a)" might mean (1) 30 days after the first date set for the meeting (see Fed.R.Bankr.P. 3002(c)), (2) 30 days after the date on which the meeting is actually commenced, or (3) 30 days after the meeting is concluded (see Fed.R.Bankr.P. 4003(b)). Under Fed.R.Bankr.P. the time for a first meeting of creditors in a Chapter 7 case is between 20 and 40 days after the filing of a voluntary case. Thus, if the provision is interpreted to mean the first date set for the meeting, Chapter 7 debtors would have to perform the election regarding their property, sometime between 50 and 70 days after the filing, instead of the 75 days currently provided.
Current law has no enforcement mechanism for § 521(2), and this section provides the most reasonable enforcement mechanism—relief from the automatic stay. However, the proposal does not deal with the situation in which there may be equity in the property. Thus, in the situation of a home mortgage where there is equity in the property, the failure of the debtor to comply with the requirements of § 521 results in relief from the automatic stay with no opportunity for the trustee to oppose that relief.
The $3000 limit on termination of the automatic stay leaves open the question of what relief, if any, applies in situations where the debtor fails to comply with the election requirements in the context of smaller claims.
Alternatives. Failure by debtors to exercise their obligations under § 521(2) could be made grounds for relief from the automatic stay, but relief awarded only on notice to the trustee. Relief would not be awarded where there is equity in the property and the trustee wishes to sell the property. The provision should also specify that the debtor must make the election within 30 days from the first date set for the creditors’ meeting.
§ 320 ("Adequate protection of lessors and purchase money secured creditors").
Changes. This section of the amended bill would create a new provision in Chapter 13, requiring payments to secured creditors and lessors of personal property. These payments would be in the amounts and frequency determined by the court. However, the court would be required to order payments no less than monthly in an amount no less than the depreciation of the property involved. These payments would be required to continue until the creditor began receiving "actual payments" under the Chapter 13 plan, even though the plan was confirmed and plan payments were being directed to priority claimants.
The section would also establish the right of creditors to retain possession of the debtor’s property, if it was properly obtained before the bankruptcy was filed, until the creditor receives the first adequate protection payment required by the section.
Impact. Secured creditors are entitled to seek adequate protection, pending plan confirmation, under existing law, and are entitled to relief from the automatic stay if adequate protection is not provided. The proposed change in this law would create substantial difficulties.
First, the most common purchase money secured claims dealt with in Chapter 13 cases are automobile loans. These claims are required to be paid through the Chapter 13 plan, with plan payments sufficient to pay the value of the automobile, in full, with interest. Pursuant to § 1326(a) of the Code, the debtor must begin making plan payments to the trustee within 30 days after the plan is filed, and, pursuant to § 1325(b), the plan payments must generally account for all of the debtor’s disposable income. It is difficult to see how, pending confirmation, the debtor would be able both to make plan payments and the adequate protection payments required by this section.
Second, the amount of the plan payments would have to be determined by the court in each case, requiring an additional filing and potential hearing in nearly every Chapter 13 case. The proposal does not indicate what party has the burden of seeking the court’s determination, but the process will add substantial expense both for parties and the court in any event.
On the other hand, there may be uncertainty under existing law, whether a creditor in rightful possession of a debtor’s property at the outset of a bankruptcy case must return the property in the absence of adequate protection. The proposal would make it clear that adequate protection is required.
Alternatives. A more practical (and less expensive) way to provide adequate protection pending receipt of plan payments is for the court to be authorized to direct pre-confirmation payments to be made from the plan payments made by the debtor.
§ 321 ("Limitation").
Changes. This provision would move toward greater uniformity in exemption law by capping the combined homestead and burial plot exemption that could be claimed under state law at $100,000. The principal residence of a family farmer would be excluded from the cap.
Impact. This proposal would reduce some of the more egregious examples of debtor abuse of bankruptcy, by placing all of their assets into homesteads subject to unlimited state exemptions.
§ 322 ("Miscellaneous improvements").
Changes. This section, added in the amended S. 1301, would impose substantial new obligations on debtors in consumer bankruptcy cases, in two distinct areas:
(1) Consumer credit counseling/repayment plan. The section would impose, as a condition for eligibility to file any individual bankruptcy case, that the debtor, within 90 days prior to the filing, have "made a good-faith attempt to create a debt repayment plan outside the judicial system for bankruptcy law. . . through a credit counseling program" approved by the United States Trustee or bankruptcy administrator. Furthermore, the debtor would be required to file a certificate from the counseling service with the court, attesting to the debtor’s good faith, as well as a copy of the proposed repayment plan.
(2) Education. The section would provided that discharge could be denied to debtors, in both Chapter 7 and Chapter 13 cases, if the debtors failed to complete "an instructional course concerning personal financial management." These courses would be administered or approved by the United States trustee or the bankruptcy administrator for the district in which the petition was filed. In Chapter 7 cases, failure to complete the course would be grounds for denial of discharge under § 727(a); in Chapter 13, failure to complete the course would require the court to deny discharge.
Impact. (1) The requirement to engage in the credit counseling process prior to filing bankruptcy would create substantial difficulty in many situations. First, there may not be an approved credit counseling service in the debtor’s vicinity. Second, the debtor may have an immediate need to file bankruptcy in order to avoid immediate loss of a home through foreclosure or an automobile through repossession. In these situations, the consumer counseling requirement would render bankruptcy either unavailable or ineffective. Finally, the requirement would impose additional costs on the debtor—the time required to engage in the process and any fees charged by the counseling service.
(2) There are also several difficulties with the education requirement. First, it may be unnecessary in may situations. Debtors who have always conducted their financial affairs in a responsible fashion, but are forced into bankruptcy by job loss, divorce, or catastrophic illness, are not likely to benefit from a course in financial management. Second, the proposal gives no indication of how the education is to be funded. Debtors in Chapter 13 cases, who are required to devote all of their disposable income to plan payments, will not have additional funds available to pay for debtor education. The United States trustee and bankruptcy administrators are not provided with funds to create a no-fee education program. Third, some debtors may be unable to successfully complete an educational program, due to various disabilities. The proposal contains no exception for such debtors.
Alternatives. Credit counseling could be encouraged by making it a general affirmative defense to nondischargeability complaints, as discussed above in