Suggested Additional Assignments
Research: Exempt Property
Under the Code, individual debtors are permitted to keep certain exempt property. However, the Code
allows state law to establish the amount and type of this exempt property. Ask students to determine your
state’s law on exempt property. A list of state exemptions is available at
http://www.bcsalliance.com/bankruptcy_stateexemptions.html.
Chapter Overview
Chapter Theme
As in many areas of law, bankruptcy law must balance competing interests – in this case, the interests of
the creditor and debtor. When an individual or business files for bankruptcy protection, generally neither
debtor nor creditor comes out whole. Traditionally, American law was viewed as favoring debtors over
creditors. Does the law favor one side over the other, or does it have the balance about right?
Quote of the Day
“One could always begin again in America, even again and again. Bankruptcy, which in the fixed society
of Europe was the tragic end of a career, might be merely a step in personal education.” –John A. Krout
and Dixon Ryan Fox, The Completion of Independence (1944).
Overview of the Bankruptcy Code
The federal Bankruptcy Code (Code) is divided into eight chapters. All chapters except one have odd
numbers. Chapters 1, 3, and 5 are administrative rules that generally apply to all types of bankruptcy
proceedings. These chapters, for example, define terms and establish the rules of the bankruptcy court.
Chapters 7, 9, 11, 12, and 13 are substantive rules for different types of bankruptcies. All of these
substantive chapters have one of two objectives—rehabilitation or liquidation. The objective of Chapters
11 and 13 is to rehabilitate the debtor. These chapters hold creditors at bay while the debtor develops a
payment plan.
Chapter 7 Liquidation
Filing a Petition
Any individual, partnership, corporation, or other business organization that lives, conducts business, or
owns property in the United States can file under the Code. Chapter 13 is only available to individuals.
Voluntary Petition
Any debtor (business or individual) has the right to file for bankruptcy. It is not necessary that the
debtor’s liabilities exceed assets. Debtors sometimes file a bankruptcy petition because cash flow is so
tight they cannot pay their debts, even though they are not technically insolvent.
Involuntary Petition
Creditors may force a debtor into bankruptcy by filing an involuntary petition. The creditors’ goal is to
preserve as much of the debtor’s assets as possible and to ensure that all creditors receive a fair share. An
involuntary petition must meet all of the following requirements: (1) the debtor must owe at least $14,425
in unsecured claims to the creditors who file; (2) if the debtor has at least 12 creditors, 3 or more must
sign the petition (if the debtor has fewer than 12 creditors, any one of them can sign the petition); and (3)
the creditors must allege either that a custodian for the debtor’s property has been appointed in the prior
120 days or that the debtor has generally not been paying debts that are due.
Trustee
The trustee is responsible for gathering the bankrupt’s assets and dividing them among creditors.
Creditors
After the court issues an order for relief, the U.S. Trustee calls a meeting of all of the creditors.
Automatic Stay
An automatic stay prohibits creditors from independently collecting debts that the debtor incurred before
the petition was filed. Once the petition is filed, the debtor’s assets must be distributed according to the
priorities set by law, not according to who can strong-arm the debtor most forcibly. The ability to stay
creditors’ claims and obtain breathing room can be a powerful incentive for a struggling business to file
for bankruptcy.
Case: Jackson v. Holiday Furniture1
Facts: Cora and Frank Jackson purchased a recliner chair on credit from Dan Holiday Furniture. They
made payments for seven months until November, when they filed for bankruptcy protection.
Although the store knew about the bankruptcy filing, a collector called the Jacksons’ house ten times
between November 15 and December 1 and left a card in their door threatening repossession of the chair.
On Dec 1, Frank went to Dan Holiday to pay the $230.00 owed for November and December. He told the
store about the bankruptcy filing, but allegedly added that he and his wife wanted to continue making
payments directly to Dan Holiday.
In early January, Dan Holiday employees learned that Frank had died the month before. Nonetheless,
collectors telephoned Cora Jackson 26 times between January 14 and February 19. The store owner’s
sister left the following message on Cora’s answering machine:
Hello. This is Judy over at Dan Holiday Furniture. And this is the last time I am going to call you. If
you do not call me I will be at your house. And I expect you to call me today. If there is a problem I
need to speak to you about it. You need to call me. We need to get this thing going. You are a
January and February payment behind. And if you think you are going to get away with it, you’ve got
another thing coming.
When Cora returned home on February 18, she found seven bright yellow slips of paper in her door jamb
stating that a Dan Holiday truck had stopped by to repossess her furniture. The threat to send a truck was
merely a ruse designed to frighten Cora into paying. In fact, the store did not want the furniture back.
What they wanted was to talk directly to her about making payments. The store also sent Cora a letter
threatening repossession and legal action. Cora’s bankruptcy attorney then contacted the store and all
collection activity ceased.
Issues: Did Dan Holiday violate the automatic stay provisions of the Bankruptcy Code? What is the
penalty for a violation?
Excerpts from Judge Venters’s Decision: The automatic stay prohibits the commencement or
continuation of any action against the debtor that arose before the commencement of the bankruptcy case
and forbids any act by a pre-petition creditor to obtain possession of property of the bankruptcy estate. An
individual injured by a creditor’s violation of the automatic stay shall recover actual damages, including
costs and attorneys’ fees, and in appropriate circumstances, may recover punitive damages.
In this case, there is no question that Dan Holiday repeatedly violated the automatic stay. [T]he Court
finds that the Jacksons suffered financial damages in the amount of $230.00, which represents the coerced
payments that Dan Holiday received from Frank Jackson on December 1.
The Court finds that punitive damages are warranted in this case based on Dan Holiday’s egregious,
intentional violations of the automatic stay. Dan Holiday’s conduct was remarkably bad in that, after it
1 309 B.R. 33; 2004 Bankr. LEXIS 548 United States Bankruptcy Court for the Western District of
Missouri, 2004
had actual knowledge of the Jacksons’ bankruptcy, and after coercing payments from the Jacksons
covering the months of November and December, it made no less than twenty-six telephone calls to the
Jacksons’ household in January and February. Dan Holiday’s continued collection efforts were in flagrant
violation of the protections Congress afforded to debtors under the automatic stay.
In this matter the Court is somewhat hampered in assessing punitive damages by the lack of evidence
concerning the ability of Dan Holiday to pay. [An owner] testified that Dan Holiday was a family-owned
business that has been in existence for 52 years, and the Court assumes that it is a relatively small
business. Under the circumstances of this case, the Court believes that an appropriate penalty would be
$100.00 for each illegal contact with the Jacksons after December 1, when it is crystal clear that Dan
Holiday had actual knowledge of the Jacksons’ bankruptcy filing, for a total of $2,800.00. The Court
believes that this penalty will be sufficient to sting the pocketbook of Dan Holiday and impress upon Dan
Holiday and its owners and employees the importance of debtor protections under the Bankruptcy Code,
as well as to deter further transgressions.
The Court also will award the Jacksons their attorneys’ fees and costs in the amount of $1,142.42, an
amount the Court considers eminently fair and reasonable under the circumstances of this case.
Question: What is the goal of the automatic stay?
Question: How did Dan Holiday Furniture violate the automatic stay provisions?
Question: But didn’t Frank Jackson say he wanted to continue paying the store?
Answer: That doesn’t matter. The Bankruptcy code does not permit the debtor to cut special deals
Question: The court awarded punitive damages to Jackson—would a court do that anytime a creditor
violates the automatic stay?
General Question: Even if the store’s behavior had been legal, was it ethical? Would the store’s
owners have wanted to receive threatening phone calls and letters while they were grieving for the
loss of a loved one?
Exempt Property
To save individual (not business) debtors from destitution, the Code permits them to keep some property.
The amount of property is determined by state law and varies dramatically from state to state. However,
under the BAPCPA, debtors can take advantage of state exemptions only if they have lived in their state
for two years. And they can exempt only $125,000 of any house acquired within 40 months of the
bankruptcy.
Students who completed the Exempt Property assignment could present their findings at this time.
General Questions:
What is the law on exempt property in your state?
General Question: After falling into debt, former baseball commissioner, Bowie Kuhn, traded in his
New Jersey home for a million dollar mansion in Florida. His goal was to take advantage of Florida’s
generous homestead laws (generally, in Florida, an individuals’ homestead is protected from judgment
creditors – exceptions include, but are not limited to, mortgage, federal tax liens, mechanics liens,
etc.). Was this an ethical decision?
Question: Kuhn got into financial trouble when his law partnership filed for bankruptcy. One of his
partners was convicted of defrauding clients and was sentenced to 70 months in prison. How do you
think Kuhn rationalized his decision to buy a house in Florida?
Answer: Undoubtedly, he thought that, since the debts had belonged to the partnership and had been
Will this choice tarnish his reputation?
What are the consequences? Which alternative will cause the greatest good (or the least
harm) to the most people?
General Questions: Is the BAPCPA fair? Does it strike the proper balance between the rights of
creditors and debtors? Should a debtor be allowed to exempt a mansion as long as he has lived in
it for 40 months before filing? Alternatively, would it be fair to allow all debtors to hang on to a
home, no matter how valuable? Debtors do have to live someplace.
Payment of Claims
Claims are paid in the following order:
Secured Claims – creditors whose loans are secured by specific collateral are paid first (for example,
a mortgage).
Priority Claims – there are seven subcategories of priority claims. Each subcategory is paid in order,
with the first group receiving full payment before the next group receives anything:
Alimony and child support
Administrative expenses
Gap expenses
Payments to employees
Employee benefit plans
Consumer deposits
Taxes
Drunken injuries
Unsecured Claims – all three of these unsecured subcategories have an equal claim and must be paid
together:
Secured claims that exceed the value of the available collateral
Priority claims that exceed the priority limits
All other unsecured claims
Question: Why are claims paid in this order?
Answer: Congress felt that this was a fair allocation of a debtor’s assets. Secured claims are paid
Question: Do students agree with these priorities?
Answer: Students sometimes comment on the fact that fees of lawyers and accountants are at the top
of the list under priority claims. No one would expect a creditor to lend additional unsecured money
Debts That Cannot Be Discharged
These debts are not discharged by bankruptcy:
Income taxes for the three years prior to filing and property taxes for the prior year
Money obtained fraudulently
Any loan of more than $600 that a consumer uses to purchase luxury goods within 90
days before the order for relief is granted
Cash advances on a credit card totaling more than $875 that an individual debtor takes
out within 70 days before the order of relief
Debts omitted from the Schedule of Assets and Liabilities that was filed with the petition,
if the creditor did not know about the bankruptcy and therefore did not file a proof of claim
Money that the debtor stole or obtained through a violation of fiduciary duty
Money owed for alimony, maintenance, or child support
Debts stemming from intentional and malicious injury
Fines and penalties owed to the government
Liability for injuries caused by the debtor while operating an automobile under the
influence of drugs or alcohol
Liability for breach of duty to a bank
Debts stemming from a violation of securities laws.
Student loans can be discharged only if repayment would cause undue hardship
Question: What is the logic behind making these debts non-dischargeable?
Answer:
Congress drafted the Code, and it wants to ensure that its taxes, fines, and penalties are
paid.
Congress wanted to discourage consumers from purchasing luxury goods and then
declaring bankruptcy.
Case: Kelly v. Mich. Fin. Auth. (In re Kelly2)
Facts: Lisa Kelly had a B.S. in Elementary Education and a master’s in Special Education. She worked
at an elementary school in Florida. Her husband, Adam, had a B.A. in Fine Arts with a concentration in
Digital Cinema. He worked remotely from their home for a television station in Michigan, so that he
could provide care for one of their sons. Noah, who was18 months old, had been born with spina bifida,
in which the backbone and spinal canal do not close before birth. He also had hydrocephalus, a build-up
of fluid inside the skull that leads to brain swelling. Noah had already undergone two surgeries and faced
large on-going medical expenses. Under their health insurance plan, the family had to pay 20 percent of
the cost of their medical care.
The Kellys annual income totaled approximately $70,000;. their combined educational loans
exceeded $160,000. When the Kellys filed for bankruptcy, they asked the court to discharge these student
loans.
Issue: Would repayment of their student loans cause the Kellys undue hardship?
2 496 B.R. 230 United States Bankruptcy Court for the Middle District of Florida, 2013
Excerpts from Judge Jennemann’s Decision: Unless a debtor is able to meet all three prongs of the
following Brunner Test, a debtor’s student loan debt is not dischargeable:
For readability, we have substituted the parties’ names for “plaintiff.”
1) The Debtor cannot maintain, based on current income and expenses, a minimal standard of living for
herself and her dependents if forced to repay the loans;
(2) Additional circumstances exist indicating that this state of affairs is likely to persist for a significant
portion of the repayment period of the student loans; and
(3) The Debtor has made good faith efforts to repay the loans.
If one of the elements of the test is not proven, the inquiry ends and the student loan cannot be
discharged. A finding of undue hardship is an incredibly high hurdle to overcome. Debtors must prove
more than just a garden variety of hardship.
Although the Kellys are not required to live in poverty, they have failed to adjust their lifestyle
sufficiently to demonstrate undue hardship. By the Kellys’ own estimates, [they] would need to reduce
their expenses by only $374.88 per month to pay their student loans in full. The Kellys’ discretionary
spending is subject to reduction by at least $400 per month.
Here, the Kellys have recently traveled to Michigan over the holidays, to Miami twice in February,
and to Clearwater in March to visit with family. Reducing these types of trips would help minimize their
gas expenses and other travel-related costs. Given that Mr. Kelly works at home and that much of the
Kellys’ gas costs are associated with these trips, the Court finds gas costs of $200 per month is
reasonable, as opposed to the $400 per month estimated by the Kellys.
The Kellys currently maintain two newer vehicles. If the Debtors truly need two vehicles, perhaps
they can lease a less expensive model or buy an older car to further reduce payments. The Court
specifically finds the Kellys could significantly reduce their vehicle expenses by at least $300 per month
while still maintaining a minimal standard of living.
The Court also finds that the Kellys’ $800 monthly food expense is high. The United States
Department of Agriculture lists the average monthly cost of a thrifty meal plan for a family of four as
approximately $550.65. One step up from the thrifty plan is the low-cost plan, which is commonly used
by bankruptcy courts to determine a debtor’s necessary food expenses. The average monthly cost of a low
cost meal plan for a family of four is approximately $700. Both plans assume that all meals are purchased
at grocery stores and prepared at home. The Kellys’ reasonable food expenses should fall somewhere
between those listed under the thrifty meal plan and those listed under the low cost meal plan. The Court
estimates $625 per month (as opposed to $800 per month) for food costs, which allows for an extra $175
per month that can be used to pay their student loans.
After deducting [these sums], the Kellys have net disposable income enough to make their monthly
student loan payment. Consequently, the Kellys have failed the first prong of the Brunner Test.
[The] second prong of the Brunner Test requires them to prove that their current financial situation is
likely to persist for a significant portion of the repayment period of their student loans. The evidence
shows that the Kellys’ incomes are trending upward. Both of the Kellys are healthy, educated, and
employed. Both Kellys have maintained employment within their chosen fields since obtaining their
degrees.
Although the Court is cognizant of the financial uncertainty that necessarily stems from Noah’s
medical condition and is very sympathetic to the family’s situation, courts do not discharge student loans
because a debtor might have a precarious financial situation. The Kellys have failed to show their current
financial problems would persist for the majority of repayment period.
[The] Kellys’ student loans are not dischargeable
Question: How did the court determine whether or not the student loans would be dischargeable?
Answer: They applied the Brunner test: 1) The Debtor cannot maintain, based on current income and
Question: Why did Congress choose to make student loans a debt than cannot be discharged?
Question: What were the Kellys been unable to show undue hardship?
Rea+rmation
Sometimes debtors are willing to reaffirm a debt, meaning they promise to pay even after discharge.
Case: In re Grisham3
Facts: Two months before filing for bankruptcy, William Grisham bought a Dodge Truck (Nitro-V6
Utility 4D SLT 2WD). At the time of his bankruptcy filing, the vehicle was worth $16,000, but he owed
$17,500 on it. The annual interest rate was 17.5%, the monthly payments were $400, and the payment
schedule was almost 6 years. In addition, Grisham owed:
$29,000 to the IRS
$75,000 in alimony
$100,000 in student loans
$70,000 in unsecured debt
$274,000 total in addition to the truck
Grisham sought to reaffirm the truck loan. Should the court allow him to do so?
Issue: Would reaffirmation of this debt create an undue hardship for the debtor?
Excerpts from Judge Jernigan’s Decision: [F]rom the outset, this court was concerned that the Debtor
wished to reaffirm debt on personal property in which there is no equity. [T]he Debtor describes himself
as “retired/unemployed.” The Debtor’s only source of income is $1,928 per month of social security
income and $1,698 per month of unemployment benefits—the latter of which will soon expire. The
Debtor owns no real property and testified that he currently resides rent-free at a relative’s home. The
Debtor’s monthly net income, after deducting his living expenses, is a negative $1,091.
While the monthly payments on the vehicle are not eye-popping, for this Debtor, in his current situation,
it is unduly burdensome. In particular, this Debtor is burdened with several obligations that will likely
survive his discharge in bankruptcy (large IRS debt; large alimony; and large student loan debt). Finally,
the court heard no compelling testimony to justify why the Debtor purchased his vehicle right before
filing bankruptcy (sometimes this may be defensible and sometimes not). In summary, the court will not
stamp its seal of approval on the Debtor’s reaffirmation of the debt. To do so would create a hardship on
this Debtor and does not otherwise seem justified.
Bankruptcy is about “fresh starts” and new beginnings. It is about belt-tightening and shedding past bad
habits. Too often, a reaffirmation agreement will reveal that someone just does not comprehend this, and
wants to go forward in a manner that will impair his fresh start and perpetuate bad habits from the past.
The court realizes that this is sometimes complicated. [T]here are probably situations in which a
vehicle-lender will repossess the debtor’s vehicle post-discharge, even when the debtor is making regular
and timely contractual payments for the car post-discharge—for the simple reason that the debtor did not
“reaffirm.” Thus, the court can understand why a debtor and his counsel might see the wisdom
of entering into a reaffirmation agreement, even if they can envision the court may never approve it
because of the negative math. Perhaps they imagine that this will help the debtor with the car lender
post-discharge, if they at least tried to get the reaffirmation agreement approved with the court. Moreover,
3 436 B.R. 896; 2010 Bankr. LEXIS 2907 US BANKRUPTCY COURT FOR THE NORTHERN DISTRICT OF TEXAS, 2010
perhaps the debtor genuinely needs a car and worries that, absent an attempt at a reaffirmation agreement,
he will surely lose the car post-discharge and may not be able to purchase (i.e., obtain financing) for
another vehicle in the near future.
The court realizes that we are in a world where car lenders may not always act like economically
rational animals. And, the court appreciates that car lenders may sometimes have their own economic
pressures with which to contend. But, again, the fresh start is the overriding purpose of a chapter 7
bankruptcy case. Many reaffirmation agreements presented to the court are the farthest thing from a
“fresh start” that one could ever imagine. Many times it is time to say “good riddance” to the car. And
many times—maybe, just maybe—a car lender will see the wisdom of renegotiating a car loan
if reaffirmation is denied.
Accordingly, IT IS ORDERED that the Reaffirmation Agreement is disapproved.
Question: Did the court agree to the reaffirmation?
Question: Is the debtor’s truck going to be reposed?
Question: What might be the debtor’s reason for the reaffirmation?