Courts don’t agree on who gets appreciation when a home is sold during a chapter 13 case or if the case converts to chapter 7. Does post-petition appreciation stay with the debtor, or does it go to creditors? See, e.g., Castleman v. Burman (In re Castleman), 75 F.4th 1052 (9th Cir. July 28, 2023). For ABI’s report, click here.
To avoid losing equity above the homestead exemption when a home is sold, a debtor obtains little or no protection from scheduling the property with a low value, for reasons explained in an opinion by Bankruptcy Judge Benjamin A. Kahn of Durham, N.C.
Originally, the debtor filed a chapter 7 petition and scheduled the value of his home as “unknown.” Five months after filing, the trustee filed a motion to retain a real estate broker to market the property.
The debtor responded by hiring a lawyer and filing a motion to convert the case to chapter 13. The debtor accompanied the motion with amended schedules pegging the value of the home at $260,000. Assuming a 6% cost of sale, the net value of the house was $244,000. The debtor claimed a $35,000 homestead exemption.
The court converted the case to chapter 13, and the debtor confirmed a plan with what Judge Kahn called a “liquidation requirement” of almost $80,000. The plan called for the debtor to retain the home and provided that the home would remain estate property after confirmation. In part, the “liquidation requirement” compensated creditors for equity in the home that the debtor was retaining.
Shortly after confirmation, the debtor filed a motion to sell the home for $289,000, almost $30,000 more than the debtor had scheduled. The chapter 13 trustee responded by filing a proposed amended plan that would require the debtor to pay all net proceeds to the trustee above the debtor’s $35,000 homestead exemption. In effect, the chapter 13 trustee sought to raise the “liquidation requirement” to about $110,000, an increase of $30,000.
The debtor objected to paying anything more than the $80,000 “liquidation requirement” contained in the original plan as confirmed. The debtor lost in Judge Kahn’s November 3 opinion.
No Res Judicata
The debtor argued that the plan’s original $80,000 “liquidation requirement” was res judicata.
Judge Kahn’s opinion was guided primarily by the Fourth Circuit’s decision in In re Murphy, 474 F.3d 143 (4th Cir. 2007), where the debtor sold real property for $80,000 more than the value shown in the schedules. Judge Kahn paraphrased the circuit as holding “that the debtor’s financial condition had improved substantially and [affirming] the bankruptcy court’s order requiring turnover of $30,000 of sale proceeds to the trustee for distribution to unsecured creditors.”
Judge Kahn said that the sale in Murphy represented a “substantial change” in the debtor’s “financial condition” that requires an amended plan in the Fourth Circuit under Section 1329.
Similarly, Judge Kahn found that the sale for some $30,000 more than the scheduled value “constituted a substantial change in Debtor’s ability to pay post-confirmation.” He also found that the change was “unanticipated” given that the plan did not call for a sale.
Judge Kahn held that the unanticipated, substantial change overcame the debtor’s res judicata defense.
Next, Judge Kahn found that the trustee had shown the requirements for confirmation of an amended plan under Section 1329(a). Prominently, he ruled that the amended plan satisfied the so-called best interests test in Section 1325(a)(4). The section requires the court to find that the creditors’ recovery under the plan would be no less than the distribution in chapter 7 “as of the effective date of the plan.”
The debtor contended that the “effective date” should be the date of confirmation of the original plan, not confirmation of the amended plan. Based in part on “plain language,” Judge Kahn held that “the effective date of the plan for purposes of this test is the date of the plan as modified.”
The Carveout for Post-Petition Payments
The sale wasn’t a complete loss for the debtor.
Judge Kahn reasoned that the debtor had increased the equity in the property by using post-petition income to pay down and insure the property, and that the income used by the debtor was not estate property as of the original filing date, citing Section 348(f).
From the net sale proceeds, Judge Kahn held that the debtor was entitled to retain the homestead exemption plus “any amount of proceeds attributable to principal reduction resulting from Debtor’s post-petition payments and any portion of the liquidation value previously paid to creditors in this case.”
Courts don’t agree on who gets appreciation when a home is sold during a chapter 13 case or if the case converts to chapter 7. Does post-petition appreciation stay with the debtor, or does it go to creditors? See, e.g., Castleman v. Burman (In re Castleman), 75 F.4th 1052 (9th Cir. July 28, 2023).
To avoid losing equity above the homestead exemption when a home is sold, a debtor obtains little or no protection from scheduling the property with a low value, for reasons explained in an opinion by Bankruptcy Judge Benjamin A. Kahn of Durham, N.C.