9th Circuit Allows Certain Consensual Liens to Be Avoided In Chapter 7 Bankruptcy; Still, the Devil Is In the Details

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In 2010, a realtor in bankruptcy sought to avoid a consensual nonpurchase money lien she gave in her Mercedes Benz in exchange for a $22,000 loan because, in her words, that luxury automobile was “intrinsically a tool of her trade.” While no one questioned the debtor’s ability to (1) receive a discharge to be completely forgiven of her personal obligation to repay the loan or (2) exempt any equity that would otherwise protect her Mercedes Benz from being sold to satisfy claims of unsecured creditors, case law was then unsettled on her ability to avoid the consensual lien she gave in these circumstances. Ultimately, if the debtor could avoid the lien then even the secured creditor that lent her the $22,000 could not sell the car (pledged as collateral) and recover the proceeds.

In general, consensual liens pass through chapter 7 bankruptcy cases unaffected. Still, section 522(f) of the Bankruptcy Code allows certain consensual liens to be avoided in chapter 7 where: (1) the creditor received a nonpossessory, nonpurchase-money security interest (e.g., a security interest in exchange for a refinance loan); (2) the debtor properly exempted an interest in the collateral under section 522(b) or applicable state law (where the state has opted out of the federal list of exemptions); (3) the collateral is of a type specifically listed in section 522(f)(1)(B); and (4) the non-possessory lien is avoided only “to the extent” it impairs the debtor’s exemptions and within certain limits.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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