Supreme Court Finds that Court May Not Surcharge Homestead Exemption

Posted by NCBRC - March 4, 2014

In a unanimous decision authored by Justice Scalia, the Supreme Court found that a bankruptcy court may not surcharge the homestead exemption as a result of the debtor’s misconduct. Law v. Siegel (In re Law), No. 12-5196, 571 U.S. ___ (March 4, 2014). The bankruptcy court found that the debtor created a fictional loan “to preserve his equity in his residence beyond what he was entitled to exempt” by perpetrating “a fraud on his creditors and the court.” That court surcharged the debtor’s $75,000 homestead exemption to reimburse the trustee’s attorney fees. The surcharge was upheld on appeal to the Bankruptcy Appellate Panel, 2009 WL 7751415 (Oct. 22, 2009) (per curiam), and the Ninth Circuit Court of Appeals, In re Law, 435 Fed. Appx. 697 (2011) (per curiam), on the basis that the surcharge reimbursed actual costs incurred by reason of the fraud, and would protect the integrity of the bankruptcy process. The Supreme Court reversed.

NCBRC filed an amicus brief in the Supreme Court on behalf of the NACBA membership in which it set out the arguments ultimately relied on by that Court in reversing the decision below.

The Court began its analysis noting that section 105(a) permits a court to “issue any order, process, or judgment that is necessary or appropriate to carry out the provisions of ” the Bankruptcy Code. But it went on to caution that this power may not contravene specific provisions of the Code. The Court found that the surcharge in fact contravened section 522(k) which prohibits use of exempt property to pay administrative expenses. By violating the express terms of section 522(k), the bankruptcy court exceeded its powers under section 105(a).

The Court rejected the trustee’s argument that section 522 authorizes an exemption but does not give the debtor’s an absolute right to it and, therefore, a court has discretion to deny the exemption. This argument failed for two reasons. First, the trustee had not objected to the exemption and the surcharge was imposed after the exemption had already “become final.” Second and more improtantly, the statutory language that the debtor “may” claim an exemption, extends discretion to the debtor to claim an available exemption, rather than to the court to deny the exemption for reasons not authorized by the Code. (“The Code’s meticulous—not to say mind-numbingly detailed—enumeration of exemptions and exceptions to those exemptions confirms that courts are not authorized to create additional exceptions.”). Distinguishing cases in which equitable considerations have permitted a court to deny or surcharge a state exemption, the Court found no such leeway under the federal bankruptcy law.

With respect to the trustee’s reliance on the holding and dictum in Marrama v. Citizens Bank of Mass., 549 U. S. 365 (2007), the Court said, “Marrama most certainly did not endorse, even in dictum, the view that equitable considerations permit a bankruptcy court to contravene express provisions of the Code.”

Recognizing the potential administrative costs that the trustee may have to incur as a result of its decision, the Court restated its duty to apply the law as it is written. Finally, the Court noted that the bankruptcy court is not without other avenues of redressing the wrongs of a misbehaving debtor including denial of discharge under section 727(a)(2)–(6), sanctioning bad faith conduct under Rule 9011 or section 105(a).

Law opinion

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