When the Fourth Circuit handed down its opinion in the case of In re Davis,[1] which permitted lien stripping in “Chapter 20” proceedings, the stage was set for the Eleventh Circuit to expand debtor’s ability to escape from underwater junior mortgages. Before the June 18th opinion in In re Scantling,[2] bankruptcy courts within the Eleventh Circuit were decisively split regarding a debtor’s ability to strip a wholly unsecured lien when the debtor was ineligible to receive a Chapter 13 discharge based upon the proximity of a previous Chapter 7 discharge. In a brief opinion, however, the Eleventh Circuit authorized lien stripping in “Chapter 20” proceedings, even without the prospect of the debtor’s discharge in the Chapter 13 proceeding.

As we posted previously, “Chapter 20” is the colloquial term that courts and practitioners have applied to a Chapter 13 bankruptcy that is filed on the heels of a Chapter 7 bankruptcy.[3] At the center of the Chapter 20 debate is whether a debtor may, in good faith, use a Chapter 13 proceeding to strip off a wholly unsecured junior mortgage which survived the discharge of the debtor’s in personam liability in the preceding Chapter 7 case even though the debtor is not eligible for a Chapter 13 discharge.

Prior to Scantling, bankruptcy courts were split on whether a debtor may strip liens in a Chapter 20 case. An en banc panel of judges in the Southern District of Florida in In re Gerardin,[4] held that Chapter 20 debtors may not permanently strip off wholly unsecured liens because they were ineligible for a Chapter 13 discharge. However, in In re Dang,[5] Judge Paul M. Glenn concluded that discharge was not necessary for a debtor to strip off wholly unsecured liens, so long as the debtor filed the subsequent Chapter 13 petition in good faith.

Opponents of lien stripping in Chapter 20 cases generally contend that lien avoidance is contingent on a debtor’s ability to receive a Chapter 13 discharge. In support of this position, the trustee in Davis urged the court to consider § 1325(a)(5)(B)(i)(I), which provides that a holder of a secured lien retains the lien until either the underlying debt is paid or there is a discharge. Because theDavises were not eligible for a discharge under § 1328(f)(1), the trustee argued that the liens must survive until paid in full. The Fourth Circuit was not persuaded and found in favor of the debtor.

In the Scantling bankruptcy court opinion, Judge Michael G. Williamson of the Middle District of Florida relied upon previous circuit court decisions, such as In re Tanner,[6] which permitted strip offs in standard Chapter 13 proceedings in extending such relief to Chapter 20 debtors. Judge Williamson noted that “[t]here is nothing in BAPCPA’s legislative history to suggest – nor has any court ever held – that the new provision in § 1325(a)(5)(B) was intended to abrogate the court’s analysis in Tanner. Nor is there anything in BAPCPA’s legislative history that suggests Congress added § 1328(f) to limit a debtor’s right to strip off a wholly unsecured junior mortgage, as enunciated in Tanner and the other circuit court decisions.”[7] Simply put, “Congress provided no limitation on a debtor’s eligibility to be a Chapter 13 debtor after receiving a Chapter 7 discharge.”[8]

The Eleventh Circuit adopted Judge Williamson’s opinion wholeheartedly. In doing so, the court followed the lead of other circuits “who have considered this issue that a debtor, in a Chapter 13 setting, may strip off an unsecured mortgage on the debtor’s principal residence.” The court held that “[t]his strip off is accomplished through the § 506(a) valuation procedure that determines that the creditor does not hold a secured claim. Once this determination has been made, pursuant to § 1322(b)(2), the creditor’s ‘rights’ are modified by avoiding the lien to which the creditor would otherwise be entitled under nonbankruptcy law.”

Importantly, the Eleventh Circuit noted that “[u]nder such analysis, § 1325(a)(5) is not involved, and the debtor’s ineligibility for a discharge is irrelevant to a strip off in a Chapter 20 case. BAPCPA did not amend §§ 506 or 1322(b), so the analysis permitting strip offs in Chapter 20 cases is no different than that in any other Chapter 13 case.”

When the Eleventh Circuit denied the petition for rehearing in In re McNeal in May of 2014,[9] the court solidified its stance on lien stripping. Given its stance in McNeal, the result in Scantling is not surprising. Lien stripping in Chapter 13 proceedings has been accepted by the circuit since its 2000 decision in Tanner, and as the court noted, nothing in BAPCPA altered the vitality of Tanner.

Mortgagors should be cautious when evaluating potential second or third mortgages. By allowing debtors to strip wholly unsecured liens in Chapter 7, 13 and 20 proceedings, there is very little that a junior lienholder may do to protect its interest in an underwater property. Short of a Supreme Court opinion to the contrary, debtors within the circuit will continue to exercise rights to strip off wholly unsecured liens in Chapter 7, 13 and 20 proceedings.


[1] 716 F.3d 331 (4th Cir. 2013).

[2] 2014 WL 2750349 (11th Cir. 2014).

[3] Davis, 2013 WL 1926407 at *1, n1. As part of the BAPCPA amendments, a debtor who receives a discharge in a chapter 7 case may not receive a subsequent discharge in a chapter 13 case within four years of the chapter 7 discharge. 11 U.S.C. § 1328(f)(1) (2005).

[4] 447 B.R. 342 (Bankr. S.D.Fla. 2011).

[5] 467 B.R. 227 (Bankr. M.D. Fla. 2012).

[6] 217 F.3d 1357 (11th Cir. 2000).

[7] In re Scantling, 465 B.R. 671, 681 (M.D. Fla. 2012) (Williamson, J.).

[8] Id. (citing In re Jennings, 454 B.R. 252, 258 (Bankr. N.D.Ga. 2011)).

[9] 477 Fed.Appx. 562 (2012).

 

Topics:  BAPCPA, Chapter 13, Chapter 20, Chapter 7, Consumer Bankruptcy, Junior Lenders, Lien Stripping, Liens, Mortgage Loan Originators, Mortgages

Published In: Bankruptcy Updates, Civil Procedure Updates, Finance & Banking Updates, Residential Real Estate Updates

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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