First-In First-Out Applies to Commingled Account

Posted by NCBRC - September 15, 2020

The Bankruptcy Court correctly used the first-in first-out approach to determine how much of a commingled account could be attributed to exempt funds. Tydings v. Reed (In re Tydings), No. 20-4057 (W.D. Mo. Sept. 3, 2020).

After her husband died, the chapter 7 debtor received surviving widow’s social security benefits which she deposited into her bank account where she also deposited her weekly pay checks. Prior to receiving the social security payments, the debtor had $581.27 in her bank account. In the three months prior to her bankruptcy filing, the debtor deposited $15,171.57 in social security funds and $6,670.38 in wages into the account. During that same period, the debtor withdrew $13,461.07 from the account, leaving a balance of $8,939.15 on the petition date. The debtor claimed the entire balance in her account as exempt in bankruptcy. The trustee objected on the grounds that not all the funds in account were exempt. The trustee argued that the court should apply a first-in first-out (FIFO) analysis which would allow the debtor to exempt $3,981. The bankruptcy court sustained the objection and the debtor appealed to the district court.

On appeal, the debtor, citing In re Danduran, 657 F.3d 749 (8th Cir. 2011), asked the court to apply a presumption that, where an account contains commingled funds, disbursements are made from the non-exempt funds before the exempt funds.

The court disagreed with the debtor’s interpretation of Danduran. In Danduran, the debtor sold his exempt homestead along with non-exempt personal property, used some of the proceeds from the sale to pay off the mortgage debt, and put the rest in a savings account. He then claimed the entire contents of the account as exempt. The trustee objected, arguing that the entire contents of the savings account was attributable to the sale of personal property. The Danduran court found that the trustee had presented no evidence that the proceeds from the sale of the property had ever been segregated into exempt homestead proceeds and non-exempt personal property proceeds. Nor did the trustee present any evidence that only homestead proceeds had been used to pay off the mortgage. Due to the lack of evidence to support it, the court rejected the trustee’s argument that the account at the time of bankruptcy consisted only of non-exempt funds and overruled the objection.

The Tydings court found the lesson to be learned from Danduran was merely that “when exempt and non-exempt funds are commingled in a bank account and partially spent, the remaining amount in the account is presumed, without any evidence to the contrary, to no longer be all of the non-exempt funds or all of the exempt funds, as the trustee had argued in that case.”

The court turned to the factual issue of how much of the balance of the debtor’s account could be attributed to the exempt social security benefits, noting that the trustee bore the burden of demonstrating that the debtor was not entitled to the claimed exemption. Starting from the point of the first social security deposit, the record showed that there were 154 deposits into the account, five of which were social security deposits. During that same period, there were hundreds of withdrawals from the account. Because there was no effort to segregate exempt funds from non-exempt funds, the court found the bankruptcy court did not err in finding that the balance of the account was composed of exempt and non-exempt funds.

The court addressed the applicability of the FIFO approach to distinguishing exempt from non-exempt funds. In instances where it is impossible to make the determination of what funds are exempt after they have been commingled with non-exempt funds, the court pointed to three equitable approaches courts have adopted: “the lowest intermediate balance test (“LIBT”); the percentage (or pro-rata) approach, and FIFO.” When selecting the best method to use, courts should bear in mind the often-competing principles that exemptions should be construed in the debtor’s favor and that the interests of the debtor must be balanced against the interests of the creditors in accessing non-exempt funds.

Where LIBT usually applies where the debtor commingles his funds with those of a non-debtor, and the pro-rata approach typically applies when there are no additional deposits made between the deposit of the exempt funds and the petition date, the bankruptcy court decided the FIFO approach was the most applicable to the facts before it. The district court found that the bankruptcy court properly reviewed the various tracing methods in conjunction with the unique facts of the case before reaching its well-reasoned decision.

The district court affirmed.

Tydings WD Mo Sept 2020


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