Lien Strip Allowed in Chapter 20

Posted by NCBRC - March 10, 2012

In a positive outcome in the growing debate over “chapter 20” lien stripping, the Eastern District of California found that a debtor may strip off of a wholly unsecured junior lien in chapter 13 even though the debtor was ineligible for discharge because of a prior chapter 7 discharge. Real Time Resolutions v. Frazier, No. 11-290 (E.D. Cal. March 9, 2012) (creditor appealed bankruptcy court’s allowance of lien strip).

Listing cases in support of each view, the District Court outlined the three schools of thought that have arisen out of the bankruptcy courts addressing this issue.

1)      Courts finding that chapter 20 lien stripping is permitted and is permanent upon completion of the plan rely on the plain language of the Code and the absence of any language which would prohibit such conclusion.

2)      The second view allows lien stripping for the life of the plan, but finds that upon completion of the plan, the pre-petition rights of lien-holder are reinstated.

3)      The final view, relying largely on the decision in Dewsnup v. Timm, 502 U.S. 410 (1992), is that lien stripping in chapter 20 is impermissible altogether because it results in de facto discharge and is, in effect, an end run around the Code’s specific denial of discharge.

Adopting the first view, the court analyzed the language of the Code, beginning with the application of section 506(a)(1). The court noted that a “security interest” outside of bankruptcy does not necessarily render a claim “secured” within the bankruptcy context. Under 506(a)(1) there must be some value in the collateral upon which to pin the claim. Where there is no value, the claim is unsecured.

Turning to section 1322(b)(2) the court found that Nobelman v. American Savings Bank, 508 U.S. 324 (1993), teaches that a claim that is even partially secured by a residence may not be modified under the anti-modification rule. Subsequent appellate cases, however, have found that the reasoning in Nobelman would not apply to cases in which there is no equity in the underlying collateral and have uniformly concluded that a junior lien that is wholly unsecured is not subject to the anti-modification rule and may be stripped off in chapter 13.

Turning to the question of the effect of section 1328(f)(1)’s non-dischargeability provision and the decisive question of whether discharge is required to effectuate a lien strip, the court noted that while specifically prohibiting discharge, Congress did not prohibit any of the other benefits of chapter 13 bankruptcy. It specifically rejected the view that a chapter 13 plan can only be concluded in one of three ways: discharge, dismissal or conversion. Instead the court found that the 2005 revision of section 1325(f) introduced a fourth method of conclusion: successful completion of the plan and administrative closing of the case. The court concluded, therefore, that the only requirement that must be met to effectuate a lien stripping in a chapter 20 is successful completion of the plan.

Frazier Opinion


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