Direct Mortgage Payments Are ‘Under the Plan,’ Ninth Circuit BAP Says

Circuitously, the Ninth Circuit Bankruptcy Appellate Panel joined what it called the “overwhelming majority of courts” by concluding that direct payments on a mortgage by a chapter 13 debtor are “payments under the plan.”

Assuming the BAP’s ruling is followed by lower courts, debtors in the Ninth Circuit who miss direct payments on their mortgages will not be entitled to discharges under Section 1328(a).

But that’s not how the case arose.

Direct Mortgage Payments Under the Debtors’ Plan

The debtors confirmed a 60-month chapter 13 plan calling for them to make monthly mortgage payments directly to the lender, not through the chapter 13 trustee. To deal with $65,000 in arrears, the plan had alternative provisions.

The plan provided that the arrears would be “cured” if the lender agreed to a mortgage modification. If the lender did not agree, the debtors were to modify the plan to pay the arrears. The plan paid nothing on unsecured claims.

After the last plan payment, the lender filed a motion for modification of the stay, alleging that the debtors failed to make more than $120,000 in mortgage payments. In the 67th month after they began making plan payments, the debtors responded with a motion to modify the plan by surrendering the property.

The bankruptcy court approved the plan modification. The chapter 13 trustee appealed and won in a May 6 opinion for the BAP by Bankruptcy Judge Julia W. Brand.

The Question on Appeal

Section 1329(a) allows modification of a plan “[a]t any time after confirmation of the plan but before the completion of payments under such plan.” Because they had not made direct mortgage payments, the debtors contended that they had not completed plan payments and were thus entitled to modify the plan.

The BAP was thus charged with deciding whether the debtors had completed payments “under such plan.” The analogous question arises under Section 1328(a), where the debtor must receive a discharge “after completion . . . of all payments under the plan.”

Courts around the country are divided on whether a debtor who misses direct mortgage payments is nonetheless entitled to a discharge because the direct payments were not “under the plan.”

Judge Brand said that the “overwhelming majority of courts” have concluded that direct mortgage payments are under the plan and must be made for the debtor to receive a discharge. However, she cited and analyzed two cases holding to the contrary: In re Gibson, 582 B.R. 15 (Bankr. C.D. Ill. 2018), and In re Rivera, 13-20842, 2019 WL 1430273 (Bankr. D. Ariz. Mar. 28, 2019).

In both cases, Judge Brand said, the debtors’ sympathetic circumstances helped explain the outcomes. In Gibson, the debtor innocently misunderstood the plan’s requirements. In Rivera, the debtor did not default on the mortgage until the 41st month of the plan. To read ABI’s discussions of Gibson and Rivera, click here and here.

Although Judge Brand said that Gibson and Rivera were “thoughtful and well-intended,” she “respectfully disagreed” and found “some flaws” in interpreting the statute.

First, Judge Brand did not understand how the debtor could obtain a discharge after missing mortgage payments when defaulting on the mortgage was grounds for dismissal.

Second, Judge Brand said that the computation of disposable income assumes the debtor will make mortgage payments. By skipping the mortgage, she said that the debtor would benefit from “living without mortgage payments at the expense of creditors.” Had the debtors surrendered the home, the distribution to unsecured creditors would have increased.

Modification Shouldn’t Have Been Allowed

Judge Brand laid the foundation for ruling that the debtors were not entitled to discharges. However, her legal analysis also led to the conclusion that the debtors had not completed payments under the plan. Ironically, the debtors were theoretically entitled to propose a plan amendment.

The bankruptcy court nevertheless erred in allowing the amendment.

Judge Brand identified three Code provisions prohibiting a plan running longer than five years, thus barring a payment in the 67th month.

The debtors argued that surrendering the home was not a payment and thus did not run afoul of the Code. Judge Brand disagreed. She held that “surrender is a form of payment for purposes of Section 1329(c).”

Finally, Judge Brand hinted that the proposed modification was not in good faith, thus rendering the amendment unconfirmable under Section 1325(a)(3). She said the debtors’ good faith was “in question” because they paid nothing to unsecured creditors while retaining over $100,000.

The BAP therefore reversed the bankruptcy court for abuse of discretion because the court had no authority to allow an amendment after the 60th month.

N.B.: Since Arizona is in the Ninth Circuit, Rivera likely would have been reversed on appeal. However, there was no appeal, so the Rivera debtors received their discharges. The Gibson debtors likewise received their discharges because there was no appeal.