Wednesday, September 15, 2010
Court: Increased Property Value Part of Bankruptcy Estate
By STEVEN M. ELLIS, Staff Writer
A Chapter 7 bankruptcy trustee may be able to force a sale of a debtor’s home if the value increases while the case remains open, even though the debtor’s equity was fully exempt at the time of filing, the Ninth U.S. Circuit Court of Appeals ruled yesterday.
A three-judge panel rejected arguments by debtors in consolidated cases from Arizona and Washington that a trustee’s failure to object to a homestead exemption claim within the period allowed by statute results in the property being withdrawn from the bankruptcy estate.
Writing for the court, Senior Judge A. Wallace Tashima said that a debtor who claims a homestead exemption under Arizona or federal law—both of which cap such an exemption at a specific dollar amount—holds only an exempt interest in the amount claimed exempt, not the entire property.
California, like Arizona, requires debtors to use state rather than federal exemptions and caps claims for equity in homesteads. Tashima said the court’s conclusion was supported by a number of cases holding, under California’s exemption scheme, that the bankruptcy estate is entitled to post-petition appreciation in the value of property which is otherwise partially exempt.
Arizona resident Nikalous Gebhart argued that the value of his home was locked in when he filed a 2003 bankruptcy petition and claimed as exempt under state law the full value of his equity. The Chapter 7 Trustee, Maureen Gaughan, made no objection to the exemption. Gebhart obtained a discharge four months later, and continued to reside in his home and refinanced his mortgage, but the case remained open, and in 2006 Gaughan sought to sell the property for the benefit of creditors after its fair market value had increased beyond the sum of encumbrances against the home and Gebhart’s exemption.
A bankruptcy judge declined Gebhart’s request to order Gaughan to abandon the property as valueless or to determine that the estate had no interest, and the judge granted Gaughan authority to hire a realtor. However, another bankruptcy judge ruled in 2006 in a similar case involving Washington residents Steven and Julie Chappell that their homestead had passed entirely out of the estate when the Chappells—who relied on federal exemptions—claimed all of their equity as exempt and the trustee failed to object.
Appeals were taken in both cases, and the U.S. District Court for the District of Arizona, in Gebhart’s case, and the Ninth Circuit Bankruptcy Appellate Panel in the Chappells’ case, both held in favor of the trustees. On further appeal, the cases were consolidated and the Ninth Circuit affirmed the rulings of the district court and the BAP.
Tashima noted initially that the U.S. Supreme Court ruled in 1992 in Taylor v. Freeland & Kronz 503 U.S. 638 that unless a trustee timely objects to an exemption, the property is withdrawn from the bankruptcy estate and belongs to the debtor, even if the debtor had no good faith basis for the claim. But that the high court clarified that ruling earlier this year in In re Reilly 130 S. Ct. 2652, he wrote, holding that exemptions involving specific dollar amounts only remove from the estate an “interest,” not the entire asset.
“At least when the total fair market value of the property is in fact greater than the exemption limit at the time of filing…any additional value in the property remains the property of the estate, regardless of whether the extra value was present at the time of filing or whether the property increased in value after filing,” he explained.
Tashima acknowledged that the result meant that a Chapter 7 debtor will never be certain about the status of homestead property until the bankruptcy case is closed or the trustee abandons the property. But he said allegations of abuse by individual trustees were the province of the U.S. Trustee for a particular trustee’s district, not the appellate courts.
He also concluded—assuming that estoppel might be available as a remedy in a bankruptcy proceeding for Gaughan’s alleged impropriety in not closing the case sooner—that Gebhart failed to show the elements necessary to estop the trustee from selling his home.
“To require the Trustee to abandon Gebhart’s homestead would punish Gebhart’s creditors for the Trustee’s misdeeds,” he commented.
Judge Marsha S. Berzon and Senior U.S. District Judge Robert J. Timlin of the Central District of California, sitting by designation, joined Tashima in his opinion.
The case is In re Gebhart, No. 07-16769.
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