SELECTED BANKRUPTCY ISSUES FOR THE FAMILY LAW PRACTITIONER
Rountree & Leitman, LLC
There are six types of bankruptcy cases, each designated by the chapter of the Bankruptcy Code under which the case is filed: A Chapter 7 case is a straight liquidation, which may be filed by either a business or a consumer; Chapter 11 is a reorganization available to both businesses and consumers, although utilized mostly by businesses; Chapter 13 is a consumer reorganization, or payment plan; Chapter 12 is specific to family farmers and fishermen; Chapter 9 is specific to municipalities; and Chapter 15 covers cross-border cases involving debtors and assets located in multiple countries. The relevant chapters for clients generally are Chapters 7, 11, and 13:
Chapter 7 – A Chapter 7 case is a straight liquidation, which can be filed by either a business or a consumer. Individual debtors may be subjected to a “means test” to determine income eligibility for Chapter 7. However, if the majority of the individual’s debt is “non consumer debt,” then the means test is not applicable and the individual will qualify for Chapter 7 regardless of income. Examples of “non-consumer debt” include personal guarantees given to creditors of a debtor’s business, credit cards or home equity loans used to fund a business, and even personal income tax debt.
Once a Chapter 7 case is filed, a trustee is appointed from the local standing panel of trustees to administer the case. The trustee becomes the owner of all property of the Debtor, except property allowed as exempt in individual cases. Georgia has “opted out” of the federal exemption scheme provided in the Bankruptcy Code; the Georgia exemptions are encoded at OCGA Section 44-13-100. The vast majority of Chapter 7 filings are “no asset” cases, meaning that the trustee does not administer any assets or make any distributions to creditors. A knowledgeable lawyer generally will not file a case under Chapter 7 if the debtor’s equity in any asset exceeds the amount that can be exempted. Most “asset” cases result from the trustee exercising powers to avoid preferences, fraudulent transfers, etc. The typical “no asset” Chapter 7 case lasts approximately 5 months. “Asset” cases can last many years.
Chapter 13 – In a Chapter 13 case, a debtor proposes a payment plan to resolve all or part of the debt from future income over a period of three to five years. The case is administered by a Chapter 13 Trustee, a quasi-govemmental office that accepts payments from the debtor, makes distributions to creditors, and generally oversees the case. If the debtor is able to get a plan confirmed at the beginning of the case and complies with all payments and other plan provisions over the three-to-five year life of the plan, then the debtor receives a discharge upon completion. Chapter 13 provides for a “super-discharge,” whereby a debtor can discharge categories of debt that cannot be discharged under other Chapters, such as non-support obligations owed to an ex spouse. See infra. NOTE: the Supreme Court held recently that a creditor is bound by a confirmed Chapter 13 plan where the creditor fails to object to confirmation, even if the plan violates statutory protections to which the creditor is clearly entitled. Therefore, it is extremely important that creditors review the Chapter 13 plan and file a timely objection to protect their
Chapter 11 – A Chapter 11 case may be filed by a business, or by an individual whose aggregate secured and/or unsecured debt exceeds the respective limits for filing a Chapter 13 reorganization – currently $1,184,200.00 secured and $394,725.00 unsecured. Unlike a Chapter 7 or 13 case, a trustee is not automatically appointed on the filing of the bankruptcy petition. Rather, there is a presumption that a debtor should remain in control over the administration of the estate. Upon the filing of a Chapter 11 case, the Debtor becomes a “Debtor-in-possession” and continues to operate its business through pre-petition management under court supervision, unless and until the court appoints a Chapter 11 trustee for cause. A Chapter 11 case may be filed to attempt reorganization of the Debtor’s business (or personal finances, in the case of an individual) or to attempt an orderly liquidation. In the context of liquidation, a debtor’s principals will often choose Chapter 11 over Chapter 7 so as to retain control of the liquidation process and to maximize the value of the estate assets in an orderly wind down of the business. This is a particularly attractive notion to principals who are personally guaranteed on the business debts, and have a personal interest in generating dollars for creditor claims. One of the principal uses of Chapter 11 is to allow the Debtor to sell real or personal property free and clear of liens, with liens attaching to sale proceeds in order of priority. The sale of estate assets free and clear of liens does not require confirmation of a plan, but merely an Order of the Court granted after 21 days’ notice to parties in interest. As a practical matter, sales free and clear of liens are utilized far more often than plans of reorganization and liquidation.
A. The Automatic Stay
The most basic element of bankruptcy is the automatic stay of 11 U.S.C. Section 362. When a bankruptcy case is filed, the automatic stay goes into effect immediately to act as an injunction against almost all collection actions against the debtor. However, there are some important exceptions to the automatic stay, particularly in the family law context. The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (“BAPCPA”) added amendments limiting the application of the automatic stay in a number of family law matters. Section 362(b)(2) now provides that the automatic stay does not act as an injuction:
- (A) of the commencement or continuation of a civil action or proceeding-
- (i) for the establishment of paternity;
- (ii) for the establishment or modification of an order for domestic support obligations;
- (iii) concerning child custody or visitation;
- (iv) for the dissolution of a marriage, except to the extent that such proceeding seeks to detennine the division of property that is property of the estate; or
- (v) regarding domestic violence;
- (B) of the collection of a domestic support obligation from property that is not property of the estate;
- (C) with respect to the withholding of income that is property of the estate or property of the debtor for payment of a domestic support obligation under a judicial or administrative order or a statute;
- (D) of the withholding, suspension, or restriction of a driver’s license, a professional or occupational license, or a recreational license, under State law, as specified in section 466(a)(16) of the Social Security Act [42 USCS $ 666(a)(16)];
- (E) of the reporting of overdue support owed by a parent to any consumer reporting agency as specified in section 466(a)(7) of the Social Security Act [42 USCS §(a)(7)];
- (F) of the interception of a tax refund, as specified in sections 464 and 466(a)(3) of the Social Security Act 142 USCS §§ 664 and 666(a)(3)] or under an analogous State law; or
- (G) of the enforcement of a medical obligation, as specified under title IV of the Social Security Act [42 USCS §§ 601 et seq,];
11 U.S.C. Section 362(b)(2).
Some of these exceptions to the automatic stay are fairly straightforward, but others can be quite ambiguous. For instance, there is frequently considerable disagreement over whether a particular obligation constitutes a “domestic support obligation” as defined under the Bankruptcy Code. See infra. Whether particular property constitutes property of the bankruptcy estate might also require complex analysis. A bankruptcy court can impose sanctions, including actual and punitive damages, for a violation of the automatic stay. Therefore, it is recommended that a creditor consult bankruptcy counsel before assuming that any of the above-listed exceptions apply.
B. Domestic Support Obligations.
The BAPCPA defined the term “domestic support obligation” in Section 101(14A) of the Bankruptcy Code:
(14A) The term “domestic support obligation” means a debt that accrues before, on, or after the date of the order for relief in a case under this title, including interest that accrues on that debt as provided under applicable nonbankruptcy law notwithstanding any other provision of this title, that is-
- (A) owed to or recoverable by-
- (i) a spouse, former spouse, or child of the debtor or such child’s parent, legal guardian, or responsible relative; or
- (ii) a governmental unit;
- (B) in the nature of alimony, maintenance, or support (including assistance provided by a governmental unit) of such spouse, former spouse, or child of the debtor or such child’s parent, without regard to whether such debt is expressly so designated;
- (C) established or subject to establishment before, on, or after the date of the order for relief in a case under this title, by reason of applicable provisions of-
- (i) a separation agreement, divorce decree, or property settlement agreement;
- (ii) an order of a court of record; or
- (iii) a determination made in accordance with applicable nonbankruptcy law by a governmental unit; and
- (D) not assigned to a nongovernmental entity, unless that obligation is assigned
voluntarily by the spouse, former spouse, child of the debtor, or such child’s parent, legal
guardian, or responsible relative for the purpose of collecting the debt.
11 U.S.C. Section 101(14A).
Debts qualifying as domestic support obligations (“DSOs”) are subject to special treatment in a number of bankruptcy contexts. As discussed in the previous section, there are exceptions to the automatic stay for the collection of DSOs, Moreover, DSOs cannot be discharged under any Chapter of the Code, and must be paid in full in order to confirm a plan under Chapter 11, 12 or 13. DSO arrearages receive first priority claim status under Section 507 of the Code, and the debtor must remain current on post-petition DSO payments under Chapters 11, 12 and 13.
Whether a debt qualifies as a DSO is determined under federal bankruptcy law, though state law can be instructive. The Eleventh Circuit has instructed bankruptcy courts to look to the substance of the obligation to determine whether it is actually in the nature of alimony, maintenance, or support. The labels placed on the obligation by the parties or the trial court are not controlling. The party seeking to establish that a debt is a non-dischargeable DSO bears the burden of proof.
Bankruptcy courts’ construction of Section 101(14A) has been inconsistent, but the following factors have been considered in determining whether an obligation is actually in the nature of alimony, maintenance or support:
- Disparity in earning capacities;
- Relative business opportunities;
- Physical condition;
- Future financial needs;
- Educational backgrounds;
- Number and age of children;
- Length of marriage;
- Whether the agreement includes a waiver of support rights;
- Whether payments terminate on death or remarriage; and
- Benefits that each party would have received if the marriage had continued.
When drafting agreements and orders, the family law practitioner should:
- Include a detailed discussion of the factors that were considered in arriving at the award, bearing in mind the evidentiary factors that bankruptcy courts consider under Section 523(a)(5) of the Code; and
- Structure payment obligations to be received directly by the other party and to terminate upon death or remarriage.
C. Discharge of Property Settlements and Other Non-Support Obligations
Prior to the BAPCPA, property settlements owed to an ex-spouse could be discharged under certain circumstances. That can now be accomplished only under Chapter 13. Under the other Chapters of the Code, Section 523(a)(15) now prevents discharge of all debts owed “to a spouse, former spouse, or child of the debtor” and that are “inclined by the debtor in the course of a divorce or separation or in connection with a separation agreement, divorce decree or other order of a court of record, or a determination made in accordance with State or territorial law by a governmental unit,” 11 U.S.C. Section 523(a)(15). It is no longer necessary for a creditor to file an adversary complaint to determine the dischargeability of a debt under Section 523(a)(15).
D. Fee Awards
One issue that frequently arises is whether a debtor can discharge attorney fees that were awarded directly to the non-debtor spouse’s law firm. Such fee awards are usually found to be in the nature of support and thus non-dischargeable. Even where the award is found not to be in the nature of support, some courts have ruled the award non-dischargeable under Section 523(a)(15). However, the case law is not consistent on this issue, and counsel should be aware that these types of fee awards can be subject to discharge. With regard to fees that the debtor owes directly to its own attorney, courts have consistently held that these are not domestic support obligations and are dischargeable.