At least in Illinois, unused vacation pay is exempt as wages, no matter how much, according to Seventh Circuit Judge Frank H. Easterbrook.
The debtor lost his job and filed bankruptcy one week later. On the filing date, the former employer owed the debtor $24,000 in unused vacation pay. The debtor claimed that 85% of the vacation pay was exempt, because Illinois law permits creditors to reach only 15% of unpaid wages but forbids collecting from the remainder.
The bankruptcy judge sustained the trustee’s objection to the exemption and was upheld in district court. According to Judge Easterbrook in his December 13 opinion, the district judge believed that the omission of a reference to bankruptcy in the statute meant that the Illinois legislature did not intend to exempt vacation pay in bankruptcy cases. The district judge believed that the exemption only applied to garnishments or proceedings in state court.
Judge Easterbrook said that the focus on intent was “unfortunate.” Instead, he said that the “federal statute instead asks what is exempt under state law. Whatever is exempt under state law is exempt under federal law.”
Judge Easterbrook said that the court may rely on legislative intent when the statute is ambiguous. But, he said, there is “nothing ambiguous about the text that Illinois has enacted—nor is there any ambiguity in the rule of § 522(b)(2) and (3)(A) that what is exempt under state law is exempt in federal bankruptcy proceedings.” In other words, he said, “federal law itself carries state-law exemptions over to bankruptcy.”
Under state law, Judge Easterbrook noted how the Illinois legislature amended the statute to ensure that all forms of wages are exempt. To avoid the seemingly inevitable reversal, the trustee argued that the vacation pay lost its exempt status because it had been paid.
Judge Easterbrook disagreed. Exemptions depend, he said, “on the state of affairs when bankruptcy begins.” At that time, the debtor only had a claim. The vacation pay claim had not been converted to cash, where it might have lost its exempt status.
The trustee also argued that exempting such a large amount of cash would be inequitable and unjust to creditors. To test the question, Judge Easterbrook posited the bankruptcy of a fired football coach who was owed $3 million in severance pay.
“Exempting that much money might seem inequitable – especially if the debtor times the bankruptcy filing strategically – but the Bankruptcy Code is what it is and cannot be overridden in the name of equity,” citing Law v. Siegel, 571 U.S. 415 (2014).
Judge Easterbrook reversed, holding that 85% of vacation pay was exempt as wages. He handed down the decision 11 days after the appeal was argued.
Observation
Judge Easterbrook could have cited the Fifth Circuit to buttress his holding that converting an exempt claim to nonexempt cash after filing does not destroy the exemption.
In Hawk v. Engelhart (In re Hawk), 871 F.3d 287 (5th Cir. 2017), the Fifth Circuit held that an individual retirement account, exempt on the filing date, does not lose its exempt status even if it is converted to nonexempt property after the filing of a chapter 7 petition.
Six months later, the Fifth Circuit expanded Hawk to protect proceeds of a homestead sold after a chapter 7 filing, even if the debtor did not reinvest the proceeds in another home. Lowe v. DeBerry (In re DeBerry), 884 F.3d 526 (5th Cir. March 7, 2018). In DeBerry, the Fifth Circuit said that fixing the exemption once and for all on the filing date avoids “the uncertainty that the trustee’s position would inject into the large number of chapter 7 cases that bankruptcy courts confront.” Id. at 529.
To read ABI’s discussions of Hawk and DeBerry, click here and here.
At least in Illinois, unused vacation pay is exempt as wages, no matter how much, according to Seventh Circuit Judge Frank H. Easterbrook.
The debtor lost his job and filed bankruptcy one week later. On the filing date, the former employer owed the debtor $24,000 in unused vacation pay. The debtor claimed that 85% of the vacation pay was exempt, because Illinois law permits creditors to reach only 15% of unpaid wages but forbids collecting from the remainder.
The bankruptcy judge sustained the trustee’s objection to the exemption and was upheld in district court. According to Judge Easterbrook in his December 13 opinion, the district judge believed that the omission of a reference to bankruptcy in the statute meant that the Illinois legislature did not intend to exempt vacation pay in bankruptcy cases. The district judge believed that the exemption only applied to garnishments or proceedings in state court.
Judge Easterbrook said that the focus on intent was “unfortunate.” Instead, he said that the “federal statute instead asks what is exempt under state law. Whatever is exempt under state law is exempt under federal law.”