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Yet Again, the Tenth Circuit Rejects a Bankruptcy Trustee’s Attempt to Avoid a Mortgage Under a “Splitting-the-Note” Theory

By: Alana Friedberg

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

Recently, in Royal v. First Interstate Bank (In re Trierweiler), the Tenth Circuit held that a mortgage granted in favor of the private electronic database Mortgage Electronic Registration Systems, Inc. (“MERS”), which records transfers of notes and mortgages, was enforceable as to a bankruptcy trustee even though the promissory note was held by a third-party. In Trierweiler, the debtors took out a loan from and granted a mortgage to First Interstate Bank (“First Interstate”) in order to purchase real property. The mortgage identified First Interstate as the “lender,” and MERS as both the “mortgagee” and the “nominee for the lender and lender’s successors and assigns.” Sometime thereafter, First Interstate assigned the note to Fannie Mae, but remained as the servicer for the loan. The debtors subsequently defaulted on the loan and filed for bankruptcy under chapter 7 of the Bankruptcy Code. The chapter 7 trustee then sought to avoid the mortgage, using his “strong arm” powers under section 544(a). In particular, the chapter 7 trustee claimed that MERS “was powerless to foreclose on the property” because it did not hold the note and instead was merely the mortgagee. The trustee also claimed that while Fannie Mae held the note, it “had no ability to enforce the mortgage because it was not listed as the mortgagee in the land records . . . .” Therefore, the trustee asserted that this “combination rendered the mortgage unenforceable and void as to [him].” The bankruptcy court, however, rejected the trustee’s arguments and ruled that the mortgage was a properly recorded and enforceable security interest that could not be avoided in bankruptcy.[13] On appeal, the Bankruptcy Appellate Panel of the Tenth Circuit and the United States Court of Appeals for the Tenth Circuit both affirmed.

Same-Sex Couple Deemed “Spouses” for Purposes of the Bankruptcy Code

By: Michael Rich

St John’s Law Student

American Bankruptcy Institute Law Review Staff

Recently, in In Re Matson, the court held that a same-sex couple who filed for bankruptcy as joint debtors were “spouses” for the purpose of the Bankruptcy Code even though the petition was filed in a state that did not recognize their same-sex marriage. In Matson, the debtors were legally married in Iowa but resided in Wisconsin, which does not recognize same-sex marriages. Upon the filing of the case, a creditor moved to dismiss the bankruptcy case or, in the alternative, to bifurcate the case. The creditor argued that a joint bankruptcy case could only be commenced “by an individual that may be a debtor under such chapters and such individual’s spouse.” Further, the creditor claimed that “the definition of marriage and the regulation of marriage . . . has been treated as being within the authority and realm of the separate States.” Thus, the creditor argued that since Wisconsin did not permit or recognize same sex marriages, the debtors should not be deemed “spouses” for the purpose of a joint bankruptcy petition. In the response, the debtors relied on the Supreme Court’s holding that the federal Defense of Marriage Act, which defined marriage as a union between one man and one women, was unconstitutional because it “violate[d] basic due process and equal protection principles applicable to the Federal Government.” In particular, the debtors argued that following Windsor, the definition of marriage could no longer be restricted to “a union between one man and one woman.” Therefore, the debtors claimed that Wisconsin did not have the authority to deny a lawfully wedded couple any federal benefits, which would include same-sex couples right to file as spouses in a joint bankruptcy case. Ultimately, the Matson court denied the creditor’s motion to dismiss or, in the alternative, bifurcate the case because the court found that it was required to give full faith and credit to the Iowa marriage.

A Self-Employed Chapter 13 Debtor Cannot Deduct Ordinary and Necessary Business Expenses When Calculating His Current Monthly Income

By: Arthur Rushforth

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

Recently, in In re Hoffman, a bankruptcy court denied confirmation of the joint debtors’ plan after the chapter 13 trustee objected to the plan, which had a three-year applicable commitment period, holding that the debtors improperly deducted ordinary and necessary business expenses when calculating their current monthly income. Instead, the court held that the debtors should have used the gross receipts from the business. In Hoffman, a married couple filed a joint petition under chapter 13 of the Bankruptcy Code. The husband was self-employed, and pursuant to Official Bankruptcy Form 22C, the debtors deducted the husband’s ordinary and necessary business expenses from his gross receipts when they calculated their current monthly income. Based on these calculations the debtors’ annualized current monthly income was lower than the applicable median family income of in Minnesota, where they resided. Accordingly, the debtors proposed a plan that provided for them to pay $175.00 for thirty-six months. The chapter 13 trustee objected, arguing that the debtors improperly deducted business expenses when calculating the husband’s current monthly income and that the debtor’s current monthly income was above-median after eliminating that deduction, thereby triggering a five-year applicable commitment plan rather than the three-year period proposed by the debtors. In particular, the trustee argued the plain language of section 1325 did not provide for the deduction of ordinary and necessary business expenses when calculating current monthly income. The debtors responded by claiming their applicable commitment calculation conformed to the calculation scheme provided for by Official Form 22C. The court ultimately agreed with the trustee and denied the confirmation of the debtor’s plan.

In re 56 Walker LLC—The Resurrection of the Gifting Doctrine?

By: Brianna Walsh

St. John’s Law Student

American Bankruptcy Institute Law Review Staff

Recently, in In re 56 Walker LLC, a bankruptcy court overruled a debtor’s objection a secured creditor’s proposed order providing for the distribution of the proceeds from the sale of real property that was the debtor’s sole asset pursuant to the debtor’s confirmed plan of reorganization even though the secured creditor “gifted” a portion of its recovery to a junior class because, among other reasons, the court found that the distribution scheme would not violate the absolute priority rule. In 56 Walker, the debtor pledged a six-story mixed-use building, its sole asset, as security for an $8 million mortgage loan. After the debtor defaulted one year later, the bank that had acquired the mortgage loan from an FDIC receivership commenced a foreclosure action in New York state court. Subsequently, the debtor filed for bankruptcy under chapter 11 of the Bankruptcy Code in order to stay the foreclosure proceeding. This first case was ultimately dismissed. Following dismissal of the debtor’ first chapter 11 case, the bank resumed the foreclosure action in state court and moved for summary judgment. The debtor then crossed-moved for summary judgment, arguing that the bank had not provided adequate proof that it was the assignee of the mortgage or the note and that the bank was liable for certain lender-liability claims. The state court granted the bank’s motion for summary judgment of foreclosure and denied the debtor’s cross-motion. The debtor timely filed a notice of appeal. Prior to the state court entering the bank’s proposed judgment of foreclosure, the debtor filed a second chapter 11 case. Ultimately, the debtor confirmed a consensual plan of reorganization and sold the property for $18 million. After selling the property, the debtor objected to, among others, the bank’s claim. In its decision, the court overruled the debtor’s objection and directed the bank to settle an order to provide for the distribution of the sales proceeds. The bank then filed a proposed order, providing that (i) the bank would have a distribution in the amount of $15.1 million, (ii) another mortgage lender would have a distribution in the amount of $150,000, (iii) a mechanic’s lien holder would have a distribution in the amount of $400,000, (iv) another mechanic’s lien holder would have a distribution of $350,000, (v) the debtor’s counsel would have an administrative claim for fees and expenses capped at $250,000, and (vi) the remaining funds would be distributed to the debtor’s unsecured creditors. Equity would not receive a distribution under the proposed order. The debtor objected to the proposed order, arguing, among other things, that the proposed distribution to a mechanic’s lien holder was premature because the debtor’s previous objection to the mechanic’s lien holder’s claim was still pending. The court, however, overruled the debtor’s objection to the proposed order, noting that the only reason the mechanic’s lien holder would receive anything was the bank’s willingness to forgo part of its claim and “gift” it to the junior secured creditors.

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