Property Appreciation Belongs to Ch 13 Debtor

Posted by NCBRC - September 30, 2021

Under the “estate replenishment” theory, post-confirmation appreciation on the chapter 13 debtor’s residence belongs to the debtor. In re Larzelere, 2021 WL 3745428 (Bankr. D. N.J. Aug. 24, 2021) (case no. 1:17-bk-34411).

When the debtor filed for chapter 7 bankruptcy on December 4, 2017, his residential property was valued at $219,000 and was encumbered by a $172,877 mortgage. He converted to chapter 13 and confirmed a less-than-100% plan, which he committed to paying out of future earnings. Three years into the plan, the debtor moved the court for an order allowing him to sell his property for $348,000, use the proceeds to make all of the remaining plan payments at once, and retain the remaining proceeds. The trustee objected. She argued that, as an above median debtor, the debtor cannot complete his plan in fewer than 60 months unless he pays 100 percent of the claims. She further argued that the proceeds from the sale of the house are property of the estate under section 1306.

The primary question before the court was whether, under sections 1306 and 1327, the bankruptcy estate captures post-confirmation appreciation of the debtor’s real property. Section 1306 provides that property of the estate includes all property specified in section 541 “that the debtor acquires after the commencement of the case but before the case is closed, dismissed or converted” as well as “earnings from services performed by the debtor after the commencement of the case but before the case is closed, dismissed, or converted.” Section 1327(b) provides that once a plan is confirmed, all estate property revests in the debtor and, under section 1327(c) “the property vesting in the debtor under subsection (b) of this section is free and clear of any claim or interest of any creditor provided for by the plan.”

Finding the issue to be one of first impression, the court walked through various approaches taken by other court to the question of post-confirmation treatment of appreciation and the interplay between sections 1306 and 1327.

Under the “estate preservation” theory, the vesting of section 1327(b) merely fixes the debtor’s rights and interests in the property at the time of confirmation with enjoyment of those rights and interests triggered upon completion of the plan. “Estate termination” theory holds that, upon confirmation, the estate ceases to exist and all property rights revert back to the debtor. Not surprisingly, the trustee pushed the estate preservation approach and the debtor advocated for the estate termination approach.

The court found that both theories suffered from rendering one section of the Code surplusage: the estate preservation approach relied too heavily on section 1306(a) to the detriment of section 1327(b), and the estate termination approach relied too heavily on section 1327(b) to the detriment of section 1306(a).

The court turned to two middle-ground approaches. The “estate transformation” approach holds that “[a]t confirmation, all property of the estate becomes property of the debtor except property essential to the debtor’s performance of the plan.” Under this theory “the Chapter 13 estate continues to exist, but it contains only property necessary to performance of the plan, whether acquired before or after confirmation.” The “estate replenishment” theory holds that “at confirmation, all property of the estate becomes property of the debtor, but then provides that the estate then refills, regardless of whether or not that property is necessary to carry out the plan.”

The court rejected the estate transformation approach as necessitating a determination not required by the Code of what property is “necessary” to the plan.

The court settled on the estate replenishment theory as the approach that best harmonized sections 1306 and 1327. That theory makes section 1327(b)’s vesting provision more meaningful while still recognizing section 1306’s potential to increase the post-confirmation estate. The court found the property revested in the debtor once the plan was confirmed and rejected the trustee’s argument that appreciation of the residential property was separate from the property itself, finding that appreciation was neither a separate asset nor disposable income. Significantly, the court found that “[t]o allow the trustee to reach the asset that has vested in the debtor renders section 1327(c) moot and would have the effect of placing the trustee in a position not contemplated by the Bankruptcy Code.”

The court noted that In re Barbosa, 236 B.R. 540 (Bankr. D. Mass. 1999), aff’d, Barbosa v. Solomon, 243 B.R. 562 (D. Mass. 2000), aff’d, 235 F.3d 31 (1st Cir. 2000), applied the replenishment theory, and treated appreciation as a new asset that entered the estate under section 1306, likening the situation to a chapter 7 liquidation where the entire sale proceeds of the debtor’s residence would be part of the bankruptcy estate. The court rejected the reasoning in Barbosa, finding instead that when the property revested in the debtor, it fell out of the bankruptcy estate altogether becoming the debtor’s property outright. As such, the debtor was entitled to its appreciation in value and the rights of creditors remained circumscribed by the terms of the debtor’s chapter 13 plan.

With respect to the part of the debtor’s motion seeking to pay off the plan in one fell swoop, the court found that the issue was one for a motion to modify under section 1329. As neither party filed such motion, the court declined to grant that portion of the debtor’s motion.

Larzelere Bankr NJ Aug 2021



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