The Hanging Paragraph and Cramdown 11 U.S.C. 1325(a) and 506 after BAPCPA

The Hanging Paragraph and Cramdown 11 U.S.C. 1325(a) and 506 after BAPCPA

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In the uninformed rush by Congress to prevent bankruptcy abuse, §1325(a) of the Bankruptcy Code was amended by BAPCPA1 to include a hanging paragraph at the end of §1325(a)(9). This insertion, which refers back to §1325(a)(5), states the following:

For purposes of paragraph (5), §506 shall not apply to a claim described in that paragraph if the creditor has a purchase money security interest securing the debt that is the subject of the claim, the debt was incurred within the 910-day preceding the date of the filing of the petition, and the collateral for that debt consists of a motor vehicle (as defined in §30102 of title 49) acquired for the personal use of the debtor, or if collateral for that debt consists of any other thing of value, if the debt was incurred during the one-year period preceding that filing.

Since BAPCPA's enactment, four different courts have interpreted the amendment in a dissimilar manner. Three assume or imply a secured claim; one does not. Valuation questions are raised. Legislative intent seems to be a moving target. But all of the decisions are efforts to make sense of the hanging paragraph. The results of these efforts are discussed below.

On Feb. 2, 2006, the court in In re Johnson2 defined the issue as "whether a debtor can strip down the lien of a secured creditor under the terms of §1325(a)(9) when the collateral is a motor vehicle purchased by the debtor for personal use within 910 days of the filing of the petition."

The court laid out the elements for what it called "910 vehicles:"

1. A purchase money security interest securing the debt which is the subject of the claim,
2. Incurred within 910 days preceding the date of filing the petition,
3. For a motor vehicle, and
4. Acquired for the debtor's personal use (referenced in this article as "910 claim").

The debtors made four principal arguments in support of confirming their plan as filed, which proposed to cram down the value of the secured claim. First, the debtors argued that just because the statute says that "§506 shall not apply," debtors were not prevented from modifying the term of the loan or the interest rate. Second, the debtors asserted that the BAPCPA amendment turned 910 claims into unsecured claims. Third, the debtors also asserted that §506 still applied for all other purposes. The debtors bolstered this argument by asserting that the focus should be on good faith since the purpose of BAPCPA was to prevent debtor abuse of the bankruptcy laws. Finally, the debtors argued that because the creditor, GMAC, was secured by insurance proceeds, maintenance contract proceeds, etc., §1325(a)(9) did not apply since more than a motor vehicle was involved. Of course, not all of this stuck to the wall.

The Johnson court did not see good faith as being relevant. The court went on to find that the statute simply prohibited bifurcation of 910 claims, and the debtor was faced with the choice of full payment or returning the vehicle. The court agreed with the creditor that §1322(b)(2) still applied and that the term of the loan and the interest rate could be modified.

On Feb. 10, 2006, the court in In re Robinson3 agreed with the Johnson court. The debtor's plan in Robinson bifurcated the 910 claim initially, but by acknowledgment of the parties, the dispute was narrowed and the only issue litigated was whether the interest rate could be modified.

The court said that the debtor had three options: (1) obtain the 910 claim creditor's approval of the plan, (2) surrender the collateral to the creditor or (3) provide lien retention and deferred cash payments equal to the allowed amount of the 910 claim. Finding that although §1325(a) as amended prohibited bifurcation, the Robinson court said it did not overrule Till v. SCS Credit Corp.,4 which clearly allowed modification of interest rates by the court in a chapter 13. The Robinson court discussed Till at length and compared its holding to the legislative history of amended §1325(a) in concluding that Till remained controlling law. In other words, the court agreed with the conclusion in Johnson, but arrived there by a slightly different path.

The court in In re Horn,5 decided on Feb. 3, 2006, did not need to reach the issue of how to apply §1325(a) because it found that the key element of a purchase money security interest did not exist. However, the court did comment that "if §506 does not apply, the creditor's claim must be treated under the plan as fully secured."6 This conclusion is not agreed to by the last of the four cases reviewed in this article.

On March 6, 2006, the court in In re Carver7 found that BAPCPA, although "awkward or ungrammatical," was not clearly ambiguous in the language of §1325(a)(9), and that the plain meaning of the hanging paragraph was that §506 does not apply to 910 claims when determining secured claim treatment. The Carver court went on to analyze treatment of 910 claims in the context of the Code, BAPCPA and legislative history.

Referring to the Johnson, Robinson and Horn decisions, the Carver court found that since §506 did not apply, a 910 claim was not a secured claim as those decisions assumed. In reviewing the legislative history, the court discussed the 1997, 1998 and 1999 versions of bankruptcy reform legislation. The 1997 version added a sentence to §506: "Subsection (a) shall not apply to an allowed claim to the extent attributable in whole or in part to the purchase price of personal property acquired by the debtor during the 90-day period preceding the date of filing the petition." It also added a "hanging" provision at the end of §1325(a): "For the purposes of paragraph (5), §506 shall not apply to a claim described in that paragraph."8 This version was further modified in the 1998 and 1999 versions, which set collateral value as the amount due on the debt.9 The 2000 and 2001 versions eliminated the §506 provision and inserted five-year and three-year look-backs, respectively, instead of the 910 days finally adopted.10 The Carver court concluded that Congress, in creating special treatment for certain claims, did not intend 910 claims to be treated as secured claims under a chapter 13 plan because §506 is required in that determination.11 The Carver court goes on to extrapolate and discuss possibilities in order to determine what was most likely the congressional intent, ultimately crafting a rule based on §1111(b). The rule it sets out is as follows:

In a chapter 13 plan, a 910 claim must receive the greater of (1) the full amount of the claim without interest; or (2) the amount the creditor would receive if the claim were bifurcated and crammed down (i.e., secured portion paid with interest and unsecured portion paid pro rata).12

The court felt this admittedly cumbersome rule protected 910 claims from punishment under BAPCPA.

The Carver court also admitted that this rule is likely to require a valuation process but, in the end, the court relied on the value in the filed proof of claim. The court found that since the debtor did not propose to pay that claim value (even without interest), the objection to confirmation was sustained. The court did not address Till or §1322(b)(2).

Prior to these decisions, commentators raised the issue of how a secured claim is "allowed" if §506 does not apply.13 A thorough analysis of the dilemma caused by the inartful drafting of BAPCPA can be found at "Rash and Ride-through Redux" by Jean Braucher, 13 Am. Bankr. Inst. L. Rev. No. 2, pp. 469-474. Lawyers and creditors on the front lines of consumer bankruptcy law may wish to apply the practical approach in In re Johnson14 and, if the value is determined, fashion an agreement to the loan term and the interest rate.


1 Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, Pub.L. No. 109-8, 199 Stat. 23 §418 (April 20, 2005).

2 337 B.R. 269 (Bankr. M.D.N.C. 2006).

3 338 B.R. 70, (Bankr. W.D. Mo. 2006).

4 541 U.S. 465, 475, 124 S.Ct. 1951, 1959, 158 L.Ed.2d 787 (2004).

5 338 B.R. 110 (Bankr. M.D. Ala. 2006).

6 In re Horn at 113.

7 ____ B.R. _____, 2006 WL 563321 (Bankr. S.D. Ga.).

8 In re Carver at __, citing Consumer Bankruptcy Reform Act of 1997, S.1301, 105th Cong. §302(a) and (c), 1997.

9 Bankruptcy Reform Act of 1998, H.R. 3150, 105th Cong., §128 (1998); Bankruptcy Reform Act of 1999, H.R. 833, 106th Cong. §122 (1999).

10 Bankruptcy Reform Act of 2000, S.3186, 106th Cong. §306(b) (2000); Bankruptcy Reform Act of 2001, H.R. 333, 107th Cong. §306(b) (2001).

11 In re Carver at __.

12 In re Carver at __.

13 Brown, Hon. William Houston and Ahern Lawrence R. III, 2005 Bankruptcy Reform Legislation with Analysis 2d, 2006, Thomson/West, page 65.

14 See supra n.2.

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Monday, May 1, 2006