In Arkansas, to perfect a security interest in a vehicle a secured party must have an (1) authenticated security agreement that reasonably describes the collateral, (2) must have given value, (3) the debtor must have rights in the collateral, and (4) the security interest must be noted on the certificate of title for the vehicle.  To avoid a misleading description, the vehicle identification number (“VIN”) of the vehicle should always be a part of the collateral description. 

A recent Eastern District of Arkansas bankruptcy case proved just how important a VIN can be to a secured party’s interest.  In In re Johnson, 422 B.R. 183 (Bankr. E.D. Ark. 2010), the trustee objected to relief from stay being granted to a secured party because the description of the collateral in the security agreement did not match the description on the certificate of title.  While the VIN was accurately reflected on both documents, the description on the security agreement stated “2004 R-Vision Condor 1351 Recreational Vehicle,” while the description on the certificate of title was “2003 Ford F-5 MH.”  Id. at 184.  The trustee argued that these two descriptions were inconsistent and therefore the secured party was not perfected.  Id.   The court found, however, that because the VIN was the same on both documents and there was a logical explanation for the inconsistency of the two descriptions, the secured party was perfected.  Id. at 185.  An expert explained that the 2004 R-Vision Condor motor home was mounted by the manufacturer onto a 2003 Ford Chassis; thus, the security agreement described the top half of the vehicle and the certificate of title described the bottom half.  Id. at 184.  Because the VIN was accurately reflected on both documents, the otherwise misleading description was rectified. 

As a VIN is a unique identifier of a vehicle, it provides an accurate way to describe such collateral.  Lenders, however, should always be aware of what the VIN number on their loan documents actually describes.

In a 2010 Western District of Arkansas bankruptcy decision, the court held that a single female with no children but who intermittently had family members stay at her home qualified as head of household for homestead exemption purposes.  In re Purvis, ___B.R.___, 2010 WL 1544348 (Bankr. W.D. Ark. 2010).  Article 9 of the Arkansas Constitution exempts the homestead of any Arkansas resident who is married or head of a family from certain liens and judgments.  Ark. Const. art. 9, § 3.  Arkansas courts consider three factors in determining whether a debtor qualifies as head of family: (1) An obligation on the debtor to support others residing in the household; (2) existence of a corresponding state of dependence upon those being supported; and (3) existence of a role of authority for the head of the family.  In re Purvis, 2010 WL 1544348 at *1.  The debtor does not have to be married or a parent but “something more than a mere aggregation of individuals residing in the same house is required.”  Id. at *2 (internal quotation omitted).  The homestead exemption is meant to protect families from dependence and want and is to be liberally construed in favor of the person asserting the exemption.  Id.

In In re Purvis, the court analyzed Purvis’s relationship with three individuals that lived with her over the previous six years to determine her eligibility as head of family.  Id.  The presence of a fiancé who was unemployed for only six months did not qualify Purvis as head of family; however, the other two relationships combined to qualify Purvis as head of household.  At one time or another, Purvis had one or the other of her two brothers living with her.  One brother (Gary), in the midst of a separation from his wife, stayed with Purvis several nights a week over a three year period; he spent the other nights at his mother’s home.  Gary was not employed and did not contribute to household expenses.  Prior to his death, the second brother (Cecil) resided with Purvis several nights a week and resided at his own residence or his mother’s the rest of the time.  Cecil had limited abilities due to two brain surgeries.  The court concluded that the “obligation factor” for determining head of household did not have to be one of a legal nature and that if Purvis felt a moral obligation to support her brothers that would satisfy the requirement.  Cecil’s health conditions and Gary’s financial dependence were enough to satisfy the second factor of “corresponding state of dependence.”  The third factor, existence of a role of authority, was deemed to be satisfied by Gary’s testimony that he was under Purvis’ authority when he is in her home.  Despite the fact that Cecil was deceased prior to Purvis filing bankruptcy, she is still entitled to the exemption.  “A homestead claimant who acquires the right to a homestead exemption is not subsequently deprived of the homestead exemption by the death of family members.”  Id. at *3.  As Purvis’s relationships with her brothers satisfied the three factors required to qualify for head of household, Purvis was entitled to the homestead exemption.

In re Purvis provides an example of how the homestead exemption works in Arkansas.  The Arkansas Constitution calls for a married person or head of family to qualify for the exemption; it is important to keep in mind that “head of family” is a flexible concept and may apply to    non-traditional circumstances.  Lenders should always ensure that the “homestead exemption waiver” language is in their loan documents, even if the borrower does not appear to qualify for the exemption at first glance.

A recent decision of the Eighth Circuit Court of Appeals serves as a valuable reminder of the potentially harsh consequences of using an incorrect name on an UCC-1 Financing Statement.  In Hastings State Bank v. Stalnaker (In re EDM Corp.), the Court of Appeals upheld the bankruptcy court’s ruling that a lien was not properly perfected because of the inclusion of the debtor’s “doing business as” name on a UCC-1 financing statement.  As a result, the lender, Hastings State Bank, lost its first priority lien position in the collateral.

The legal corporate name of the debtor in the Hastings case was “EDM Corporation.” but for several years the debtor had also operated under the trade name of “EDM Equipment.”  Hastings State Bank filed a financing statement identifying the debtor as “EDM Corporation d/b/a EDM Equipment.”  Two subsequent lenders searched the UCC records for “EDM Corporation” but the search logic did not reveal Hastings financing statements.  None of these two subsequent lenders searched the UCC records for “EDM Corporation d/b/a EDM Equipment” and both filed financing statements using only the debtor’s legal name “EDM Corporation.”  After the debtor filed bankruptcy, the bankruptcy court determined that Hastings State Bank had not perfected its security interest and the subsequent lenders had priority in the proceeds of the collateral.

According to the court the financing statement filed by Hastings did not provide the legal name of the debtor as required by §9-502 of the UCC and it was seriously misleading under §9-506 of the UCC.  Hastings failed in its obligation to discover and use the debtor’s correct name.  As a result, the purpose of filing a financing statement, i.e. to let other creditors know of the existence of a lien, was not met by Hastings’ financing statement.  The court noted that the proper way to include the trade name on the UCC-1 was to list it as other or additional names on the form “but not in place of, or as part of, the debtor’s organizational name.” 

It is a common mistake to incorrectly fill in a debtor’s name on a financing statement. To avoid the serious consequences faced by Hastings State Bank, lenders would be well-advised to remind their loan officers of the importance of determining the proper legal name of a borrower and of making sure UCC-1 financing statements are properly filled out.  A quick check of the Secretary of State corporate records could make all the difference to recovering on a defaulted loan versus having to recognize a total loss!

The circuits have been in debate over whether a debtor can deduct a vehicle which he owns free and clear from his projected disposable income.  Under the means test of 11 U.S.C. § 707(b)(2), an above median income debtor may deduct applicable monthly expenses from his projected disposable income.  The debate rests largely on the definition of “applicable” as used in relation to ownership costs of vehicles.   Does the ownership cost of a vehicle include fictional payments for a car already fully paid for?

The circuits which have answered in the affirmative use the “plain language approach” to justify their conclusion.  See Tate v. Bolen, 571 F.3d 423 (5th Cir. 2009); Ross-Tousey v. Neary, 549 F.3d 1148 (7th Cir. 2008).  Under the plain language approach, the courts have distinguished the word “applicable” from “actual,” stating that deduction applies to a debtor if he possesses a vehicle regardless of whether there is an actual expense.  See Ross-Tousey, 549 F.3d at 1157–58.  The circuits that have answered in the negative, including the Eighth Circuit, have held that a debtor cannot deduct the expense of a vehicle owned free and clear.  See Ransom v. MBNA, 577 F.3d 1026, 1029 (9th Cir. 2009); see also In re Wilson, 577 F.3d 1026 (B.A.P. 8th Cir. 2008).  These circuits are split between the “IRM approach” and the “statutory language, plainly read” approach.  Id. at 1029–30.  The IRM approach uses the IRS guidelines to determine how vehicle expenses are calculated; per the IRS guidelines a debtor must have a car payment to take an ownership cost deduction.  Id. at 1029.  The statutory language approach, which attempts to construe the statute as consistent with Congress’s intent that “debtors repay creditors the maximum they can afford,” interprets the statute to mean that an “ownership cost” is not applicable or actual when there are no payments being made on the vehicle.  Id.

The case currently before the Supreme Court, Ransom v. MBNA, will hopefully settle the debate. In Ransom, the above median income debtor deducted $471.00 from his monthly disposable income for a 2004 Camry which he owns free and clear.  577 F.3d at 1027.  MBNA objected to this deduction and confirmation of the plan.  Id. at 1028.  The bankruptcy court and the bankruptcy court of appeals agreed that the debtor could not deduct a vehicle ownership cost for a vehicle he owned free and clear.  Id.   The Ninth Circuit affirmed, holding that it would be “ironic . . . to diminish payments to unsecured creditors in this context on the basis of a fictitious expense not incurred by a debtor.”  Id. at 1030.  The Supreme Court’s decision on this case will likely impact the significance of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (“BAPCPA”).  The BAPCPA was enacted to require above-median income debtors to make more funds available to unsecured creditors by limiting the court’s authority to allow expenses.  In re Wilson, 383 B.R. at 733.  As the Eighth Circuit B.A.P. stated in In re Wilson, “[i]t would turn the logic of BAPCPA on its head to allow above-median debtors such a deduction.”  Id. at 734.  However, those who are proponents of the deduction have stated that without it debtors are encouraged to purchase new vehicles before filing for bankruptcy and will benefit from both a new vehicle and the deduction.

Creditors that have taken collateral that the borrower already owned may want to check their loan documents and see whether the collateral is being used as a “tool of the trade.”  If it is, the creditor may be in an unfortunate position should the borrower file bankruptcy, according to a recent opinion handed down by Judge Ben T. Barry, United States Bankruptcy Judge for the Western District of Arkansas.  Pursuant to 11 U.S.C. § 522(f)(1)(B)(ii), an individual debtor may claim exemptions in certain “tools of the trade” if they are “reasonably necessary to the debtor’s trade or business” and avoid a creditor’s lien to the extent the lien impairs the exemptions. 
 In In re Osborn, Case No. 3:09-bk-73333 (Bankr. W.D. Ark. Oct. 5, 2009), the debtor, a fishing guide who spent from three to seven days a week guiding on the river, filed a Motion to Avoid Nonpossessory Nonpurchase-Money Security Interest (“Motion to Avoid). At the same time the creditor bank filed a Motion for Relief from the Stay and for Abandonment of Property (“Motion for Relief”).  At the hearing, the debtor and the bank stipulated to certain facts: (1) the bank had a valid, perfected security interest in a Nissan Frontier, a Honda ATV, a fishing boat and trailer, a Mercury motor, and a Kubota tractor (collectively, the “collateral”); (2) the bank’s interest was a non-possessory, non-purchase-money security interest; (3) the Bank’s interest had a value of $44,310.60; and (4) if the court found that the collateral were tools of the trade, the debtor had an exemption of $12,105.00 pursuant to 11 U.S.C. §§ 522(d)(5) and (d)(6). 
 Based on testimony of the debtor, the court deemed the Nissan Frontier, the boat, the trailer, and the motor (“exempted collateral”) to be reasonably necessary to the debtor’s business.  The court found that the debtor did not need the Kubota tractor or the ATV for his business and therefore were not tools of his trade.  Thus, the debtor could avoid the bank’s interest in the Nissan, boat, motor, and trailer to the extent the lien impaired the tools of the trade exemptions. The court then heard testimony from the debtor and the bank’s employees as to the fair market value of the exempted collateral, which the court found to be $16,560.00.
 The court then had to determine whether the bank’s lien actually impaired the debtor’s allowed exemptions.  11 U.S.C. § 522(f)(2) gives the formula for determining whether a lien impairs an exemption:
 
a lien shall be considered to impair an exemption to the extent that the sum of (i) the lien; (ii) all other liens on the property; and (iii) the amount of the exemption that the debtor could claim if there were no liens on the property; exceeds the value that the debtor’s interest in the property would have in the absence of any liens. 
11 U.S.C. § 522(f)(2).  The bank’s lien was stipulated to be $44,310.60.  There were no other liens on the property.  The parties also stipulated that the debtor was entitled to an exemption of $12,105.  From this total––$56,415.60—the court subtracted the fair market value of the property if no liens existed––$16,560.00—to calculate how much of the bank’s lien could be avoided: $39,855.60.  Now the bank’s remaining lien on the property was just $4455 ($44,310.60–$39,855.60).

 The bank was saved, however, by their Motion for Relief because the debtor failed to correctly file a statement of intention indicating what he planned to do with the property pursuant to 11 U.S.C. § 362(h)(1).  The debtor filed the requisite statement of intention indicating that he wanted to redeem the property.  Tools of the trade, however, cannot be redeemed—only “tangible personal property intended primarily for personal, family, or household use” can be.  11 U.S.C. § 722.  The court found that although the bank was not entitled to relief from the stay for lack of equity because the debtor now had approximately $12,000 worth of equity in the exempted collateral, it was entitled to relief from the stay for cause because the debtor had failed to abide by 11 U.S.C. § 362(h)(1). 
 Banks should be aware of any loans on their books such as the one to this fishing guide.  Although this situation will mostly like arise with smaller loans to individuals who run their business as a sole proprietor, such as a fishing guide, duck hunting guide, or landscaper, for example, a bank can save itself a lot of money and grief by documenting exactly what collateral is going to be included in the loan and more specifically, whether each piece of collateral is a tool of that borrower’s particular trade. Banks may also consider adding conspicuous waiver language in which a borrower waives its tools of the trade exemptions in bankruptcy, just as many banks currently do with homestead exemptions.  Most states allow homestead waiver exemptions and most likely would do the same with tools of the trade waivers, if challenged.

Debtors may not be able to obtain a waiver of discharge as easily as once thought.  The Eighth Circuit Bankruptcy Appellate Panel’s (the “BAP”) decision in In re Asbury to allow bankruptcy court’s to consider the best interests of the parties before approving a waiver of discharge may frustrate the attempts of debtors trying to escape bankruptcy unscathed.  423 B.R. 525 (8th Cir. B.A.P. 2010)  Based on this holding, if the court finds that the parties’ interests will not be better served outside of bankruptcy then it does not have to approve the waiver of discharge.

            In In re Asbury, the debtors filed a voluntary Chapter 7 bankruptcy petition with claims in excess of $11 million.  Creditors subsequently filed a number of adversary proceedings against the debtors.  The debtors tried to get out of the bankruptcy asserting that they did not have the funds to litigate all of the adversary proceedings.  The bankruptcy court denied the debtors’ attempted waiver of discharge finding that the debtors did not clearly understand the legal consequences of a waiver, and the waiver would prejudice the creditors.  The debtors appealed, arguing that the bankruptcy court exceeded the scope of its authority under §727(a)(10) by considering the best interests of the parties.

            The BAP upheld the bankruptcy court’s denial of the debtor’s waiver of discharge stating that once a debtor chooses to deal with his creditors in the bankruptcy arena, the bankruptcy court has a duty to protect the interests of both parties, not just the debtor’s.  BAP refused to allow the debtor to waive his discharge in an effort to avoid the perceived consequences of his bankruptcy filing and the subsequent adversary proceedings.

The Eighth Circuit Court of Appeals recently upheld a bankruptcy court’s decision to avoid the transfer of a mortgage from a debtor to a mortgage company because the company failed to record the mortgage before the debtor filed for bankruptcy.  The debtor, Dwight, granted the mortgagee a mortgage on his home on May 16, 2003.  On October 14, 2005, the debtor filed a petition for Chapter 7 bankruptcy relief, and even though the mortgagee never recorded the mortgage, he erroneously listed the mortgagee as a secured creditor.  After the debtor was granted a discharge, the mortgagee’s assignee recorded the mortgage thereby alerting the trustee that the mortgagee failed to record the mortgage before the bankruptcy filing.  At the trustee’s request, the bankruptcy court reopened the case and subsequently held that the transfer of the mortgage occurred immediately before the bankruptcy filing by operation of §547(e)(2)(C).  The court therefore avoided the transfer of the mortgage to the mortgagee as a preferential transfer under §547(b) and ordered the mortgagee to pay the debtor’s bankruptcy estate the amount of the unpaid principal balance on the note as of the bankruptcy filing date, or $190,808.71.  The bankruptcy court’s holding was upheld by both the district court and the Eighth Circuit Court of Appeals.

            The Eighth Circuit noted that because the mortgagee failed to perfect the mortgage before the debtor filed his bankruptcy petition, the date of perfection is irrelevant for the purposes of the §547(b) preferential transfer inquiry.  Furthermore, due to the debtor’s erroneous listing of the mortgagee as a secured creditor, the mortgagee was allowed to receive more than it would have in a hypothetical liquidation, see 11 U.S.C. §547(b), and therefore deprived the bankruptcy estate of an interest in the house equal to the value of the mortgage.

            The mortgagee’s mistake should be a lesson to all creditors:  record a mortgage as soon as possible or face the threat of losing it if the mortgagor files bankruptcy before the mortgage is recorded.

            The case can be found at 592 F.3d 838.

The United States Supreme Court handed down its decision in Milavetz, Gallop & Milavetz, P.A., et. al. v. United States this week, concluding that attorneys are included in the term “debt relief agencies.”  As defined in 11 USC §101(12A), a “debt relief agency” is “any person who provides any bankruptcy assistance to an assisted person.”  The Court stated that the term “bankruptcy assistance” encompasses several services commonly performed by attorneys, and therefore attorneys are debt relief agencies.  An “assisted person” is someone with limited nonexempt property whose debts consist primarily of consumer debts.                                                                                                                

This holding means that attorneys who provide bankruptcy assistance to assisted persons are prohibited from advising their clients to incur more debt in contemplation of filing for bankruptcy.  More specifically, they are prohibited from advising an assisted person to incur more debt when the impelling reason for the advice is the anticipation of bankruptcy.  The Court was quick to point out, however, that attorneys are still allowed to speak “fully and candidly about the incurrence of debt in contemplation of filing a bankruptcy case” as long as they avoid instructing or encouraging assisted persons to take on more debt in that circumstance.

This holding also requires attorneys providing bankruptcy assistance to assisted persons to disclose in their advertisements for certain services that the services are with respect to or may involve bankruptcy relief and to identify themselves as debt relief agencies.  The Court stated that the purpose of the disclosures is to “combat the problem of inherently misleading commercial advertisements—specifically, the promise of debt relief without any reference to the possibility of filing for bankruptcy, which has inherent costs.”  The Court went on to note that the disclosures only require “an accurate statement identifying the advertiser’s legal status and the character of the assistance provided” and they do not prevent attorneys “from conveying any additional information.”

Introduced by Rep. Spencer Bachus (R-AL) on July 23, 2009, H.R. 3310 has been dubbed the “Consumer Protection and Regulatory Enhancement Act.”  The bill seeks to amend the Bankruptcy Code by creating a new Chapter 14 under which a troubled “non-bank financial institution,” (i.e., Lehman Brothers, AIG, etc.) can seek to negotiate its outstanding debts more effectively before having to reorganize or liquidate.  The new chapter would require the non-bank financial institution to take part in a pre-petition consultation “in order to attempt to avoid the need for the non-bank financial institution’s liquidation or reorganization in bankruptcy, to make any liquidation or reorganization of the non-bank financial institution under this title more orderly, or to aid in the nonbankruptcy resolution of any of the non-bank financial institution’s components under its nonbankruptcy insolvency regime.”

While the bill would not affect consumer bankruptcy laws, it would prevent non-bank financial institutions from obtaining credit from the federal government (i.e., another bailout).  The bill effectuates this idea through amending §364 of the Bankruptcy Code by adding a new subsection (g) to provide that “the trustee may not, and the court may not authorize the trustee to, obtain credit, if the source of that credit either directly or indirectly is the United States.”  However, the discretional use of the word “may” leaves the possibility of another bailout wide open.

There has been much debate over the proper definition of “projected disposable income” as that term is used in 11 U.S.C. §1325(b)(1)(B) of the Bankruptcy Code.  The two competing views throughout the circuits are the forward-looking approach and the mechanical approach.  Under the forward-looking approach, a Chapter 13 debtor’s six-month, pre-petition disposable income is presumed to be the  debtor’s “projected disposable income” for purposes of establishing the monthly sum that the debtor must commit to repayment of unsecured creditors in order to advance a confirmable payment plan and overcome objections to it.  Furthermore, the amount of projected disposable income may be rebutted upon a showing of special circumstances at the time of plan confirmation.  Under the mechanical approach, a Chapter 13 debtor’s projected disposable income is equated with the statutorily defined “disposable income” and then that amount is projected over the length of the applicable commitment period.  It does not permit adjustment to projected disposable income to account for special circumstances at the time of plan confirmation.  See In re Lanning, 545 F.3d 1269 (10^th Cir. 2008).  The Eighth Circuit, along with the majority of the circuits, adopted the forward-looking approach in In re Fredrickson because it “realistically determines how much a debtor can afford to pay his creditors and maximizes the amount the debtor must pay to his unsecured creditors.”  In re Fredrickson, 545 F.3d 652, 660 (8^th Cir. 2008).

The In re Lanning case referenced above is set to be heard by the United States Supreme Court this year.  The Court will decide which test is the appropriate test for calculating an above-median Chapter 13 debtor’s projected disposable income.  The debtor in In re Lanning took a buyout from her employer during the six-month period before filing for bankruptcy that increased her monthly gross income.  This increase caused the calculation of her monthly disposable income to be higher than what she would receive during the applicable commitment period.  The trustee argued for the mechanical approach, which would cause the debtor to pay more money to the unsecured creditors over the life of the plan.  On the other side, the debtor argued for the forward-looking approach because she would not receive the buyout payments over the life of the plan, and therefore, in reality, would not have as much income as calculated.  Up to this point, the courts have adopted the forward-looking approach as the proper method of determining the debtor’s projected disposable income.  The Supreme Court’s decision in this case will determine whether a Chapter 13 debtor’s payment plan should reflect the reality of the debtor’s income during the applicable commitment period, or if it should disregard any changes in the debtor’s income over the course of the plan.