• Get Ready for the Bankruptcy Amendments of 2005
  • July 17, 2009 | Author: Joel T. Marker
  • Law Firm: McKay, Burton & Thurman, [incorporation phrase format]A Professional Corporation - Salt Lake City Office
  • On April 20, 2005, President Bush signed S.256, the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (the "Act"). While critics have noted that the Act is long on attacking perceived abuses of the bankruptcy laws by consumer debtors and short on protecting individuals from their creditors,1 the Act is now law and members of the bar need to determine how the changes will affect their clients and practices. The following survey of changes imposed by the Act is not complete and readers are encouraged to educate themselves on the Act's provisions prior to its implementation. Two internet resources are helpful in digesting the changes brought by the Act. First, the law firm of Davis Polk & Wardwell has a blackline version of the entire Bankruptcy Code marked to show the amendments from current law at http://dpw.com/practice/code.blackline.pdf. Second, the American Bankruptcy Institute offers a wealth of summaries and articles explaining the Act at http://www.abiworld.net/bankbill.

    1. Effective Dates
    Generally, the amendments take effect for cases filed on and after October 17, 2005 (180 days after the date of enactment). However, there are numerous exceptions. The Davis Polk & Wardwell blackline sets forth most of the exceptions in a handy table.

    2. New Filing Eligibility Requirements
    Under new Section 109(h), individuals are ineligible for relief under any chapter of the Bankruptcy Code unless within 180 days of their bankruptcy filing they received an individual or group briefing from a nonprofit budget and credit counseling agency approved by the United States Trustee under standards set forth in new Section 111. Among the standards is a requirement that the agency provide services without regard to the debtor's ability to pay any fee. The required briefing, which may take place by telephone or on the internet, must outline the opportunities for credit counseling and assist in performing a related budget analysis. Exceptions are made for debtors who submit to the court certification describing circumstances requiring immediate bankruptcy filing and stating that the debtor sought the required briefing at least 5 days prior to the bankruptcy filing without being able to obtain it, in which case the debtor is required to complete the counseling within 30 days after the bankruptcy filing. This requirement will cause problems for debtors who wait until the last minute to seek advice on how to stop a foreclosure or repossession. The debtor is required to file a certificate from the agency describing the services provided and any debt repayment plan developed by the agency.

    After filing, debtors in both Chapter 7 and 13 will be required to complete an instructional course concerning personal financial management. Under new Sections 727(a)(11) and 1328(g) debtors are subject to denial of discharge for failure to complete an approved program.

    Section 521 has been amended to impose a number of new production requirements on debtors. First, in addition to the credit counseling certificate and debt repayment plan, the debtor must file with his schedules a certificate indicating that the debtor received a written description of the different bankruptcy chapters and the general purpose, benefits and costs of proceeding under each of those chapters and the types of services available from credit counseling agencies as set forth in new Section 342(b)(1). The debtor must also file copies of all payment advices (pay stubs) received within 60 days before the filing, a statement of the amount of monthly net income, itemized to show how the amount is calculated, and a statement disclosing any reasonably anticipated increase in income or expenditures over the 12-month period following the date of the filing.

    Further, Section 521(e)(2) requires each debtor to provide a copy of the federal income tax return for the most recent period to the trustee and to any creditor making a timely request at least 7 days prior to the meeting of creditors. Failure to comply requires dismissal of the case unless the debtor demonstrates that the failure to comply is due to circumstances beyond the control of the debtor.

    3. Limitations on Discharge
    The Act extends the period between successive discharges and forecloses the "Chapter 20"option under current law. Section 727(a)(8) is amended to subject a Chapter 7 debtor to denial of discharge if the debtor received a Chapter 7 or 11 discharge in a case filed within 8 years of the filing of the current case - an extension from the 6 year period under present law. Section 1328, as amended, limits the availability of a discharge in a Chapter 13 case if the debtor received a discharge in a Chapter 7, 11 or 12 case filed within 4 years of the Chapter 13 case. There is also no discharge in a Chapter 13 case if the debtor received a discharge in a prior Chapter 13 case filed within 2 years of the pending case. The amendment will curtail the "Chapter 20" option described in In re Young, 237 F.3d 1168 (10th Cir. 2001), which approved a Chapter 13 plan following conversion from Chapter 7. That practice allows a debtor to shed dischargable debt and use a Chapter 13 plan to pay remaining nondischargable claims. The Act will curtail a debtor's ability to obtain bankruptcy relief for four years following a Chapter 7 filing in which the debtor receives a discharge. Members of the bar will need to come up with creative solutions to serve debtors who experience financial difficulties a year or two after receiving a Chapter 7 discharge. One approach may be to use a subsequent Chapter 13 case to cure an arrearage even though a discharge will not be granted at the end of the plan.

    Dischargability of credit card debt has also been restricted. The presumption of nondischargability for fraud in the use of a credit card, set forth in Section 523(a)(2)(C), is expanded. The amount that the debtor must charge for luxury goods to invoke the presumption is reduced from $1,225 to $500 and the amount the debtor must withdraw in cash advances in order to invoke the presumption is reduced from $1,225 to $750. The period of time prior to the bankruptcy filing in which these charges must be made in order for the presumption to apply is increased from 60 to 90 days for luxury goods, and from 60 to 70 days for cash advances.

    There is good news in the Act for former spouses and children of debtors. Section 523(a)(15) is amended to remove the balancing provision affirmative defense, with the result that property settlements and hold harmless provisions arising from a divorce or separation are nondischargable, and the former spouse or child need not file a complaint in the bankruptcy court to avoid discharge of the debt under revised Section 523(c)(1). Additionally, an amendment to Section 507(a) elevates domestic support obligations to first priority in distribution, subject to the expenses of a trustee in administering assets that might otherwise be used to pay the support obligations. In Chapter 13 cases, the failure to pay domestic support obligations that accrue postpetition will result in conversion or dismissal under new Section 1307(c)(11).

    Finally, the Act all but eliminates the superdischarge in Chapter 13 by expanding the list of debts excepted from a Chapter 13 discharge under Section 1328(a) to include debts incurred through fraud, embezzlement or breach of fiduciary duty, among other types of claims.

    4. New Chapter 7 Means Test
    Section 707(b) of the Bankruptcy Code has been extensively amended (over 150 lines of new text) to provide for dismissal of a Chapter 7 case, or conversion to Chapter 13 with the debtor's consent, upon the finding of abuse by an individual debtor with primarily consumer debts. General grounds for dismissal on a finding of abuse, including bad faith, will be determined under the totality of the circumstances under new Section 707(b)(3).

    The means test, set forth in Section 707(b)(2), creates a presumption of abuse if the debtor's current monthly income (as determined by an average of the previous six months) - less secured debt payments divided by 60, less priority debts divided by 60, less the allowed expenses permitted by the Internal Revenue Service, less certain other allowed expenses - is greater than $100 per month. Internal Revenue Service National Standards establish allowances for food, clothing, personal care and entertainment, depending on household size. As an example, the National Standard for allowable living expenses for a household of 4 with gross monthly income of $3,000 is $990. IRS Local Standards establish allowances for transportation (on a regional basis) and housing (on a county basis). For Salt Lake County, the current allowable living expenses for housing and utilities for a family of 4 or more is $1,617. The ABI website contains links to the IRS National and Local Standards tables.

    The means-test presumption comes into play if the debtor's income is above the applicable state median. The median income applicable for determining standing to bring a motion to dismiss under Section 707(b) is as follows: (a) for a debtor in a household of 1 person, the median state family income for 1 earner; (b) for a debtor in a household for 2, 3 or 4 individuals, the highest median state family income for a family of the same or fewer persons. For families larger than 4 persons, $525 per month is added for each additional person. The Executive Office of the United States trustee has not yet published median income tables, but the Utah medians for 2005 should be approximately the following:

    One-Person Household - $40,831
    Two-Person Household - $46,279
    Three-Person Household - $54,452
    Four-Person Household - $60,342

    Section 707(b)(2)(C) requires debtors to file a statement of their calculation under the means test as part of the schedule of current income and expenditures under Section 521. If the presumption arises, the court is required to notify creditors within 10 days of the filing of the petition. In addition, under Section 704(b) the United States trustee is required to review the debtor's materials and file with the court a statement as to whether the presumption of abuse arises. If the presumption arises, the United States trustee must file either a motion under Section 707(b) or a statement explaining why the motion is not being filed.

    5. Changes in Chapter 13 Practice
    The Act amends Chapter 13 to expedite the process and to provide greater protections to consumer lenders. The Act will significantly affect local practice by requiring that confirmation hearings take place between 20 and 45 days after the Section 341 meeting of creditors. Under current practice confirmation hearings are typically held 6 or 7 months after the meeting of creditors. In anticipation of the change the United States Bankruptcy Court for the District of Utah recently announced that confirmation hearings for Chapter 13 cases filed after July 2, 2005 will be held approximately 45 days after the meeting of creditors. Further information on this issue and other changes to local procedure can be found on the court's website at www.utb.uscourts.gov.

    In addition to the effect on the means test in Chapter 7 cases, a debtor's income will affect plan length in Chapter 13 cases. Under new Section 1322(d) and revised Section 1325(b), a debtor with income above the state median will be required to contribute all disposable income for a full 5-year term in the absence of earlier full payment of all allowed unsecured claims.

    Lenders with claims secured by personal property receive increased protection under the Act. Under new Section 506(a)(2) the secured claim of a creditor in the case of an individual under Chapter 7 or 13 will be determined based upon the replacement retail value of the property as of the filing date without deduction for costs of sale or marketing. Secured creditors will retain their liens until completion of the Chapter 13 plan, and Chapter 13 debtors may not cram down or bifurcate secured claims into secured and unsecured claims with respect to a purchase money security interest in a motor vehicle purchased within 910 days (or within 1 year for other collateral) before the filing.

    6. Farewell to "Lowry" and Reaffirmation Agreements
    In Lowry Federal Credit Union v. West, 882 F.2d 1543 (10th Cir. 1989), the Tenth Circuit held that a debtor may retain collateral without either redeeming the collateral or reaffirming the debt if the debtor is current on payments to the creditor. Lowry allows a debtor to discharge the underlying debt while the creditor retains its lien on the collateral. If the debtor stumbles financially in the future and fails to make payments the creditor may repossess the collateral but may not sue the debtor for a deficiency.

    The Act overrules Lowry and new Section 521(a)(6) requires an individual debtor in a Chapter 7 case to surrender personal property collateral or to reaffirm the debt or redeem the property within 45 days after the meeting of creditors. An apparently conflicting provision in Section 521(a)(2)(B) requires the debtor to perform his stated intention within 30 days after the meeting of creditors. Under new Section 362(h), the personal property is no longer property of the bankruptcy estate and the automatic stay terminates if the debtor fails to file timely a statement of intention and to either redeem or reaffirm the debt secured by the personal property or to assume an unexpired lease, such as a vehicle lease, pursuant to Section 365(p).

    Section 524 was amended to require reaffirmation agreements to contain significant new disclosures that cover several pages of the Act in new Section 524(k). Existing reaffirmation forms used by banks, credit unions and other lenders will not be sufficient for cases filed on or after October 17, 2005, and attorneys for lenders should ensure that their clients' forms are properly updated.

    7. Serial Filer Provisions
    Among the changes to the automatic stay, Section 362(c)(3) sets new limits on the applicability of the automatic stay for repeat filers. For a debtor filing a second case within one year of a previously dismissed case (other than a case dismissed under Section 707(b)), the stay terminates in 30 days unless the court, within the 30 days, determines that the second filing is in good faith as to the creditors to be stayed. A case is presumptively not filed in good faith as to all creditors if 1) the current case is the third or more case in the past year; 2) any of the previous cases were dismissed for failure to amend the petition or other documents as ordered by the court, failure to provide adequate protection as ordered by the court, or failure to perform under a confirmed plan; or 3) the debtor's financial or personal affairs are substantially unchanged since the most recent dismissed case or there has not been any reason to conclude that the current pending case will result in a Chapter 7 discharge or a confirmed Chapter 11 or 13 plan.

    The stay in a second case does not apply to any specific creditor who commenced an action in the prior case for relief from stay which either was pending when the prior case was dismissed or the stay was terminated or modified in the earlier case. If the current case is the debtor's third or more case that was dismissed within the past year (other than Section 707(b) dismissals), then the stay does not go into effect. Finally, "in rem" relief from the automatic stay is authorized by new Section 362(d)(4). In cases involving either 1) transfers of real property collateral without the consent of the secured creditor or court approval, or 2) multiple bankruptcy filings involving the same real property, the court may issue an order of relief from the automatic stay, which order, properly recorded, is binding on all owners of the property for 2 years from the date of entry. Where "in rem" relief is effective, new Section 362(b)(20) creates an exception to the automatic stay for lien enforcement activity in later cases.

    8. New Duties and Liabilities for Debtor's Counsel
    Congress' distrust of the debtor's bar is manifest in the Act. Section 707(b) is amended to add several new duties and liabilities of debtor's counsel. Subparagraph (4)(A) allows the court to award costs and fees to a trustee who successfully pursues a Section 707(b) motion, payable by debtor's counsel, if it finds that the Chapter 7 filing violated Bankruptcy Rule 9011. Subparagraph (4)(B) specifies that if the court finds any violation of Rule 9011 by the debtor's attorney it may award a civil penalty against the attorney, payable to the trustee or the United States Trustee. This provision would apply only in Chapter 7 cases. Subparagraphs (4)(C) and (D) set out a statutory parallel to Rule 11, Fed.R.Civ.P., providing that the signature of a debtor's attorney constitutes a certification that the attorney has "performed a reasonable investigation" and determined that the signed documents are well grounded in fact and law, that any Chapter 7 petition is not an abuse under Section 707(b) and that the "attorney has no knowledge after an inquiry that the information in the schedules filed with such petition is incorrect." The Act does not define what constitutes a reasonable investigation nor does it define the appropriate scope of inquiry. Prior to filing, prudent debtor's counsel should review tax returns, pay stubs, vehicle titles, divorce decrees, pleadings in pending lawsuits, real property appraisals (if available) and property tax valuation notices. In appropriate cases, vehicle appraisals and third-party personal property inventories may be advisable.

    The Act contains three entirely new sections regulating the debtor's bar. First, attorneys and law firms that represent individuals with primarily consumer debts (whose nonexempt property is valued at less than $150,000) are now labeled as "debt relief agencies" under Section 101(12A). Under new Section 526, debtor's counsel are subject to loss of fees, damages, injunctive remedies and imposition of costs for any failure to meet new disclosure and record-keeping requirements imposed on debt relief agencies in new Sections 527 and 528. Sanctions will be imposed for, among other things, intentional or negligent failure to file any required document, including those specified in Section 521, or intentional or negligent disregard of the material requirements of the Bankruptcy Code or the bankruptcy rules. Among the new provisions are obligations to include specified statements in advertisements, to provide certain written notices to the debtor and, prior to the filing, execute a written contract with the client that explains clearly and conspicuously the services the attorney will provided to such "assisted person" and the fees or charges for such services, and the terms of payment. Section 527(d) requires the attorney to maintain a copy of the notices given to the client for 2 years.

    9. Other Provisions
    Other substantive amendments include the following:

    a. Revised Section 365(d)(4) limits the extension of time during which a debtor must assume or reject an unexpired lease of nonresidential real property. A corresponding amendment to Section 503(b)(7) limits the administrative expense claim of a landlord when a nonresidential real property lease has first been assumed, then rejected.

    b. Section 503(b)(9) clarifies the "critical-vendor doctrine"2 and allows an administrative expense for goods received by the debtor in the ordinary course of business within 20 days before the petition date.

    c. Sellers of goods receive increased reclamation rights under revised Section 546(c).

    d. The Act provides further protection to creditors from preference claims by strengthening the ordinary course of business defense in Section 547(c)(2) and prohibiting preference claims of less than $5,000 in business cases in new Section 547(c)(9). Further, Section 547(e)(2) is amended to exempt from recovery transfer of a security interest if perfected within 30 days, as compared to 10 days under current law.

    e. The trustee may avoid a fraudulent transfer made within 2 years before the petition date under revised Section 548(a)(1), up from 1 year under the current Bankruptcy Code. New Section 548(e) allows a trustee to avoid transfers within 10 years of the bankruptcy to a self settled trust if the trustee can prove actual intent to hinder, delay, or defraud an existing or future creditor.

    f. Revisions to Chapter 11 include further grounds for conversion or dismissal under Section 1112(b); a new definition of property of the estate of an individual Chapter 11 debtor in new Section 1115; and new provisions for small businesses in Sections 1116, 1121(e) and 1129(e).

    The Act introduces the most far reaching changes to bankruptcy law in over 25 years. Attorneys should take advantage of existing internet resources and attend continuing legal education seminars to learn how the changes will affect their clients and practices.

    1. See, Law Professors' Letter on S.256, www.abiworld.net/bankbill ("The bill is deeply flawed, and will harm small businesses, the elderly, and families with children.")

    2. See In re Kmart Corp., 359 F.3d 866 (7th Cir. 2004)


    Joel Marker is a shareholder in the Salt Lake City law firm of McKay, Burton & Thurman P.C., where his practice is focused on bankruptcy law. He has served on the panel of Chapter 7 trustees in the District of Utah since 1997.