Bankruptcy Court Takes 7th Circuit to Task

Posted by NCBRC - July 28, 2022

The bankruptcy court gave the debtors guidance on how to challenge a decision issued by the Seventh Circuit earlier this month by pointing out, among other things, that the circuit court decision addressed an order not actually on appeal before it. In re Terrell, No. 18-28674 (Bankr. E.D. Wisc. July 19, 2022).

On September 21, 2021, the bankruptcy court granted the debtors’ objection to the priority status of their debt to the State of Wisconsin. In a separate order, dated November 3, 2021, the court granted the debtors’ motion to modify their chapter 13 plan to reduce the period of the plan from 60 months to 36 months. On December 8, 2021, the court granted the debtors a discharge.

The State appealed the September 21st order to the Seventh Circuit, which granted leave to take a direct appeal. The appeal did not address the November 3 modification order. In an opinion dated July 12, 2022, the circuit court treated the bankruptcy court’s September 21st order as a ruling on the debtors’ motion to modify and reversed the bankruptcy court’s decision. (See discussion of Seventh Circuit opinion here).

On remand, the State filed a motion under Rule 60(b)(1) and (5) to vacate the bankruptcy court’s order of modification issued on November 3.

The bankruptcy court found two initial problems with the State’s motion. First, the State failed to properly serve the debtors under Rule 9014(a) & (b). Second, the motion was premature as the circuit court had not yet issued its mandate. In fact, the earliest date the mandate could issue under the rules is August 2, 2022, seven days after the expiration of the debtors’ right to file a petition for rehearing. The court opined that the debtors may have plausible grounds for such a petition.

The court went on to explain the basis for a possible rehearing: the Seventh Circuit’s opinion misconstrued the order on appeal as granting modification, where, in fact, the order on appeal dealt solely with the issue of whether the State’s claim was entitled to priority status. The motion to modify was dealt with in a separate order that was not on appeal.

The circuit court premised its decision on the understanding that the “bankruptcy judge sensibly treated the Terrell’s motion not as an objection to the state’s claim (the Terrells do not deny owing the money) but as a proposal to amend the confirmed plan to eliminate the debt’s priority and cut the length of payments to 36 months. This motion, so understood, was granted over the state’s objection.” In re Terrell, 21-3059, 2022 WL 2688232, at *1 (7th Cir. July 12, 2022).

In fact, the bankruptcy court specifically did not make a ruling on the debtors’ motion to modify which was pending at the time of the September 21 opinion. After concluding that the debtors were entitled to change the priority status of the State’s claim, the bankruptcy court, in its September 21st order stated: “Unless following this determination the trustee withdraws her objection to the debtors’ pending request to modify the plan, the trustee must file, by no later than October 12, 2021, a brief that explains, in detail, all remaining bases for her objection to the modification; the debtors must file a response brief by no later than October 28, 2021.” Thus, the court clearly left open the issue of plan modification.

The bankruptcy court pointed to another perceived error in the circuit court decision. The Seventh Circuit found that, under Rule 3012(b), the debtors could challenge only the amount of a priority claim, not its priority status. The bankruptcy court noted that the Rule states, “A request to determine the amount of a claim entitled to priority may be made only by motion after a claim is filed or in a claim objection.” In its November 3rd opinion granting the debtors’ motion to modify the court found the Rule is correctly interpreted to permit debtors to challenge both the amount of a priority claim and whether that claim should be allowed, in whole or in part. In re Terrell (Terrell II), 637 B.R. 129, 135 (Bankr. E.D. Wis. 2021).

Where, in its opinion, the Seventh Circuit noted that the bankruptcy did not rely on section 1329, the bankruptcy court stated the reason for that omission was not because the plan could not be modified under that section as concluded by the circuit court, but because the motion to modify was not under consideration in the September 21st decision. In fact, the bankruptcy court relied on section 1329 in its November 3rd decision granting the debtors’ motion to modify. In that opinion the bankruptcy court held that the debtors’ motion fell squarely within its authority under sections §1329(a)(1) & (2) to modify a confirmed plan to “increase or reduce the amount of payments on claims to a particular class provided for by the plan” and to “extend or reduce the time for such payments.” That order was entered after the “only hurdle” to modification—the State’s priority claim—was eliminated by the September 21st order.

The court went on to acknowledge that once the mandate issues in the circuit court, it must comply with the circuit court decision without regard to its belief that the decision was wrong.

As of this writing, the debtors have not moved for a rehearing in the circuit court.

Terrell Bankr ED Wisc July 2022

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