Tax Sale May Be Avoided as Constructively Fraudulent

Posted by NCBRC - July 24, 2018

A tax sale was avoidable as constructively fraudulent where the state tax foreclosure sale procedures did not include notice and bidding procedures likely to result in the debtors’ receiving “reasonably equivalent value.” Hampton v. Ontario County, No. 17-6808, and Gunsalus v. Ontario County, No. 17-6810 (W.D. N.Y. July 18, 2018).

In two separate cases with substantially identical facts, the Western District of New York addressed whether the bankruptcy court improperly dismissed the debtors’ adversary proceeding seeking to avoid the transfers of the debtors’ homes in tax sales.

Gliee and Brian Gunsalus, and Joseph and Brenda Hampton, owned their homes free and clear of mortgages. When both couples failed to pay county taxes, Ontario County instituted foreclosure actions in accordance with state law, and foreclosure judgments were entered against the homeowners. Both couples filed chapter 13 bankruptcy plans proposing to pay the tax arrears in full. The homes were sold at auction and the buyers notified of the pending adversary proceeding. The surplus from the sale of the properties went to the county.

On appeal of the bankruptcy court’s dismissal of their adversary complaints, the district court made quick work of the initial issue of whether the debtors had standing to challenge the tax sales. The court found the Code clear. Section 522(h) endows debtors claiming the federal homestead exemption with standing to bring a lien avoidance action. The cases relied on by the county involved New York State exemption laws which, contrary to federal law, specified that the state homestead exemption was no protection against a tax lien. The court therefore found that, under federal law, the debtors had standing to pursue avoidance of the liens. Furthermore, the debtors were not attempting to avoid liability for the taxes, so section 522(c)(2)(B) did not come into play.

The court turned to whether the transfers were avoidable as constructively fraudulent under sections 548(a)(1) and 522(h). Under section 548(a)(1)(B)(i), a transfer may be avoided if the debtor “received less than a reasonably equivalent value in exchange for such transfer or obligation.”

In BFP v. Resolution Trust Corp., 511 U.S. 531 (1994), the Court rejected use of fair market value as the benchmark for this analysis finding that a forced sale necessarily diminishes the value of the property. In that case, the Court found that the requirement of “reasonably equivalent value” was intended to avoid the “draconian consequences of strict foreclosure.” It held that so long as the sale adhered to foreclosure procedures like “notice to the defaulting borrower, a substantial lead time before the commencement of foreclosure proceedings, publication of a notice of sale, and strict adherence to prescribed bidding rules and auction procedures,” the debtors in a mortgage foreclosure action could be presumed to have received “reasonably equivalent value.” The Court however specifically left open the question of whether that presumption would apply in the case of a tax sale.

The court here found that New York Real Property Tax Law did not encompass the same procedural protections to the tax debtor that the mortgage foreclosure procedures encompassed in BFP. Significantly, the RPTL did not provide for a pre-seizure auction where the debtor may recover his equity. Because the county took title prior to auction, the debtors saw no benefit from any post-seizure bidding procedures. For that reason, and contrary to the intent of section 548(a), the county received a windfall to the disadvantage of other creditors, and the debtors were left homeless and unable to meet the demands of their chapter 13 plans.

The court dismissed the county’s fears of inability to collect taxes and clouds on titles in future tax sales finding that the debtors’ plans provided for payment of the delinquent taxes, the bidders on the debtors’ homes were informed of the challenge to the transfer, and the equities weighed in favor of eliminating the county’s advantage over other creditors in the bankruptcy.

The court reversed the bankruptcy court’s order of dismissal and remanded.

Gunsalus W.D. N.Y. July 2018


Tags: , ,

One Comment

  • Richard Weiskopf
    Posted July 30, 2018 at 2:42 pm | Permalink

    Exactly the finding concerning NY Tax Foreclosures under the NYRPTL in Herkimer Forest Products v. County of Clinton almost 15 years ago in the Northern District.

Post a Comment

Your email is never shared. Required fields are marked *