It is no secret that the 2008 financial crisis, and the real estate collapse that followed, threw the real estate market into chaos. Many lenders found themselves reluctant to foreclose on properties that might have left them liable for homeowners’ dues, association fees, or property taxes. Many of these lenders also found out—or already knew—that the values of their properties were not worth what they had been saying they were worth. As a result, many properties were stuck in limbo. They did not want to continue to deal with property maintenance issues for properties they wanted to surrender back to the banks.
But what happens when the bank refuses to foreclose, or takes an unreasonably long time? In some jurisdictions, the non-payment of property taxes can trigger an automatic foreclosure after several years. But what if a debtor doesn’t want to wait that long?
A bankruptcy court in the District of Oregon dealt with this issue in October 2014. The case was In Re Watt, 520 B.R. 834 (D. Oregon, 2014). In this case, the debtors filed a Chapter 13 plan that provided for the surrender of their property back to the creditor, Bank of NY Mellon. The plan contained language that said the following:
Upon entry of an Order Confirming this Chapter 13 Plan, the property at 56 B NW 33rd Place in Newport, Oregon shall be vested in The Bank of New York Mellon fka The Bank of New York, as trustee for the Certificateholders of the CWALT, Inc., Alternative Loan Trust 2006–OA21, Mortgage Pass–Through Certificates, Series 2006–OA21, its successors, transferees or assigns pursuant to 11 U.S.C. 1322(b)(9). This vesting shall include all of Debtor’s legal and equitable rights. This vesting shall not merge or otherwise affect the extent, validity, or priority of any liens on the property. Creditors potentially affected by this paragraph include: The Bank of New York Mellon aka Select Portfolio Servicing, the Bank of America, Lincoln County Tax Assessor and Meritage Homeowners Association.
The bank objected to this language, claiming that it could not be compelled to accept the property. The court first noted that 11 U.S.C. § 1325(a)(5)(C) provides that with respect to a secured claim, a plan may surrender the property securing the claim to the holder of the claim. The debtors had vacated the property and made it available to BONY Mellon. But the court noted that surrender merely establishes the debtor will not oppose the transfer of the collateral. Absent some further action, such as foreclosure, deed in lieu of foreclosure or short sale of the property, surrender does not divest a debtor of ownership and its obligations. The court cited In re Spencer, 457 B.R. 601 (E.D.Mich.2011) and In re Anderson, No. 12–37458–tmb13, Hr’g Tr. 23–24.
But can a Chapter 13 plan be used to “vest” property in another party, against their will? This was the big issue. The court approached it methodically. It first noted that the debtors were in an unfair situation: they wanted to get a fresh start, but the bank was sitting on its hands and not foreclosing. At the same time, homeowner’s dues were continuing to accrue, and under the Bankruptcy Code, post-petition homeowner’s dues continue to be the debtor’s responsibility until his or her ownership interest in the property ends. The situation was preventing the debtors from getting a fresh start, which is one of the primary purposes of the Bankruptcy Code.
The debtors argued that §1322(b)(9) of the Code permitted them to use a plan to transfer title in real estate back to the lender, even against the lender’s consent. The bank, of course, disagreed. The debtors cited a Chapter 13 case in which debtors sought to compel a secured party to take title to property surrendered in a bankruptcy proceeding. The cited case was In re Rosa, 495 B.R. 522 (Bankr. D. Haw. 2013). In this case, the debtor proposed a plan which provided for surrender of her real property and that title to the property would vest in the secured lender upon confirmation.
The Chapter 13 Trustee in Rosa objected to the plan, arguing that the plan provision vesting title in the secured lender was improper. The debtor disagreed, arguing that the vesting provision of the plan was authorized by §1322( b)( 9). The bankruptcy court agreed with the debtor in this case. However, the court concluded that a debtor’s rights under §1322( b)( 9) were somewhat limited by the requirements of §1325(a)(5) regarding treatment of secured claims.
The debtors also cited another case, In re Rose, 512 B.R. 790 (Bankr.W.D.N.C. 2014). In this case the debtors sought to quitclaim the property back to the lender, the SBA, by using a motion, rather than language in a confirmed plan. The Rose court did not agree that a bank could be compelled to accept title in property without going through the foreclosure process. It concluded that a secured lender could not be compelled to accept title without its consent as “taking title by deed could impair a lender’s rights in the collateral, subject it to ownership liabilities that it never would have voluntarily assumed and contravene state property law.” This was a disappointing conclusion, and probably wrongly decided. It focused entirely on the bank’s rights, while ignoring the rights of the debtors, and the significant hardship that was being imposed on them by being “in limbo” with regard to the property.
Finally, the Watt court was ready to issue its ruling. It disagreed with both the Rosa and the Rose decisions. Section 1322(b)(9) could indeed be used to force a lender to accept back its real estate, period. The court noted that the plain language of the Code section read “vest.” Vesting means transfer of title. It was not appropriate to read additional qualifiers into that language. It was plain and simple: there was nothing in the plain language of §1322(b)(9) that required a lender’s “consent” in the vesting process.
The only limitation to using Section 1322(b)(9) for this purpose was “good faith.” The vesting provision could not be used as an aid to fraud or malfeasance, in other words. The court said the following:
However, under § 1325(a)(3), the court may not confirm a plan unless it is proposed in good faith. Accordingly, confirmation could be denied if a debtor attempts to use §1322(b)(9) to transfer property to a third party in order to relieve him or herself of responsibility for nuisance or environmental problems associated with it. In this case, there are no such concerns.
Obviously, such concerns (i.e., property transfers in bad faith to avoid some sort of “ticking time bomb”) are extremely rare. In the real world of bankruptcy practice, debtors just want to shed themselves of their real estate involvements, and get a fresh start. The court ruled that, in situations where lenders refuse to move, a confirmed plan can accomplish this goal.
What the court found particularly irksome was the bank’s refusal to act. After all, it was the banks who had caused the financial crisis in the first place; and now some of them were trying to keep bad loans on their books by refusing to foreclose. This situation is not acceptable. It hurts the debtors, the other people in the homeowner’s association (who have to absorb the costs), the neighborhood, and the economy at large. The court used the following colorful language:
BONY Mellon resists taking title and surrender but yet seeks relief from the automatic stay to foreclose at an undeterminative date with no commitment to moving forward. BONY Mellon did not offer to waive its security and be treated as an unsecured creditor. It reminds me of the old adage of the dog in the manger. The dog cannot eat the hay but refuses to let the horse or the cow eat it either. BONY Mellon would rather sit on the hay. This creates a stalemate.
It seems likely that such “vesting” cases will become more common in the near future. Bankruptcy courts may (hopefully) in the coming years take a dim view of banks who continue to clog up the local and national economy by refusing to foreclose on properties that belong to them. It is hoped that the Watt case will be a portent of things to come with regards to the glut of surrendered properties in many parts of the country. Thus far, legislators have been blind to the problem. For many debtors, action on this front can’t come soon enough.