§ 145.3     Lienholders’ Rights at Conversion under § 348(f) after BAPCPA
Cite as:    Keith M. Lundin, Lundin On Chapter 13, § 145.3, at ¶ ____, LundinOnChapter13.com (last visited __________).
[1]

The most important changes by BAPCPA at conversion from Chapter 13 to Chapter 7 are in § 348(f) and concern the treatment of secured claims. As amended by BAPCPA, the material provisions of § 348(f) now provide:

(f)(1) [W]hen a case under chapter 13 of this title is converted to a case under another chapter under this title—
        . . . .
(B) valuations of property and of allowed secured claims in the chapter 13 case shall apply only in a case converted to a case under chapter 11 or 12, but not in a case converted to a case under chapter 7, with allowed secured claims in cases under chapters 11 and 12 reduced to the extent that they have been paid in accordance with the chapter 13 plan; and
(C) with respect to cases converted from chapter 13—
(i) the claim of any creditor holding security as of the date of the petition shall continue to be secured by that security unless the full amount of such claim determined under applicable nonbankruptcy law has been paid in full as of the date of conversion, notwithstanding any valuation or determination of the amount of an allowed secured claim made for the purposes of the case under chapter 13; and
(ii) unless a prebankruptcy default has been fully cured under the plan at the time of conversion, in any proceeding under this title or otherwise, the default shall have the effect given under applicable nonbankruptcy law.1
[2]

Section 348(f) was substantially amended by BAPCPA to change the effects of conversion from Chapter 13 to Chapter 7. The “valuations of property” and of “allowed secured claims” in the Chapter 13 case that applied at conversion to Chapter 7 under pre-BAPCPA law2 now apply only at conversion from Chapter 13 to Chapter 11 or Chapter 12. Allowed secured claims are reduced in accordance with payments during the Chapter 13 plan only at conversion to Chapter 11 and Chapter 12—not at conversion from Chapter 13 to Chapter 7.

[3]

BAPCPA added two new consequences at conversion from Chapter 13 to Chapter 7. Under new § 348(f)(1)(C)(i), the claim of any creditor holding security at the petition “shall continue to be secured by that security” unless the full amount of the claim “determined under applicable nonbankruptcy law” was paid before conversion. New § 348(f)(1)(C)(ii) further provides that any prebankruptcy default has the effect “given under applicable nonbankruptcy law” unless the default was “fully cured under the plan at the time of conversion.”

[4]

These amendments by BAPCPA undo most of the 1994 amendments to § 348(f) with respect to secured claims and conversion from Chapter 13 to Chapter 7.3 New § 348(f)(1)(B) allows lienholders to argue at conversion to Chapter 7 that payments during the Chapter 13 case need not be credited as provided in the confirmed plan, but instead can be accounted for consistent with the contract and state law. For example, an undersecured claim holder at conversion from Chapter 13 to Chapter 7 will re-credit payments received during the Chapter 13 case against the unsecured portion of the claim notwithstanding contrary provisions of the plan.

[5]

New § 348(f)(1)(C)(i) says that in a case converted from Chapter 13 to any other chapter a lienholder continues to be secured by its collateral, unless the full amount of its debt was paid before conversion—without regard to any valuation or determination of the amount of an allowed secured claim during the Chapter 13 case.

[6]

Before the 1994 amendments to § 348(f), there was a sharp split of authority in the reported decisions whether valuation, claim splitting and payments during the Chapter 13 case controlled the allowance of secured claims and the rights of lienholders after conversion to Chapter 7.4 Section 348(f), as enacted in 1994, put the dispute to rest by applying the valuations of property and of allowed secured claims during the Chapter 13 case in the converted case and reducing allowed secured claims by amounts paid during the Chapter 13 phase.

[7]

BAPCPA does not return things to the pre-1994 status. New § 348(f)(1)(B) affirmatively takes the side of the pre-1994 debate exactly opposite to what Congress did in the 1994 amendments. New § 348(f)(1)(C)(i) answers the question addressed in Liberty National Bank & Trust Co. v. Burba (In re Burba)5 and similar cases: at conversion from Chapter 13, claims that may have been bifurcated under § 506 because the value of the collateral was not sufficient to secure the entire debt rebound at conversion and the unsecured portion of the claim becomes secured by the collateral unless the entire debt—including the unsecured portion—was paid in the Chapter 13 case before conversion. Conversion of the Chapter 13 case undoes any claim splitting or lien stripping that occurred during the Chapter 13 case as part of valuation or cramdown. This would be true “notwithstanding any valuation or determination of the amount of an allowed secured claim made for the purposes of the case under chapter 13.”

[8]

In some ways, new § 348(f)(1)(C)(i) is duplicative or redundant of the statement in new § 348(f)(1)(B) that valuations of property and allowed secured claims in a Chapter 13 case do not apply in a case converted to a case under Chapter 7. But § 348(f)(1)(C)(i) is broader in that it applies when a Chapter 13 case is converted to any chapter. New § 348(f)(1)(C)(i) neutralizes some of what new § 348(f)(1)(B) would otherwise give to Chapter 13 debtors at conversion to Chapter 116 or Chapter 12.7

[9]

Even if the Chapter 13 debtor completed payment of the allowed secured claim during the Chapter 13 case before conversion to another chapter under § 348(f)(1)(C)(i), the lien of an undersecured claim holder remains attached to the collateral and the unsecured portion of the claim is “secured” by the collateral unless the full amount of the claim—including the unsecured portion—was paid in full before conversion. The cruel logic of new § 348(f)(1)(C)(i) is that once secured, a creditor is always secured in a Chapter 13 case to the full extent of its debt without regard to any valuation that would split the claim or cram down the allowed secured claim to the value of collateral if the case converts to another chapter before the entire debt is paid. This outcome applies at conversion to any chapter under § 348(f)(1)(C)(i) without regard to new § 348(f)(1)(B), which, at least at conversion to Chapter 11 or Chapter 12, seems to allow valuations of property and of allowed secured claims in the Chapter 13 case to apply after conversion. At conversion from Chapter 13 to Chapter 11 or Chapter 12, there is a logical contradiction between new § 348(f)(1)(B) and (C)(i).

[10]

These new provisions would dramatically restrict the sale or replacement of collateral during a Chapter 13 case because the possibility will always be present that at conversion, any lien on the property that was retired through the Chapter 13 plan will continue to exist based on nonbankruptcy law. This would be true with respect to undersecured claim holders even when the allowed secured claim is paid in full before conversion if a balance remains on the separate unsecured portion of the creditor’s debt.

[11]

There may be a collision between new § 348(f)(1)(C)(i) and § 522(f). Under § 522(f), a Chapter 13 debtor can void the lien of a nonpurchase money, nonpossessory security interest in household furnishings, household goods and the like if the lien impairs an exemption.8 The determination whether a lien impairs an exemption for § 522(f) purposes typically involves the valuation of collateral and the measurement of all liens against the property under § 522(f)(2)(A). At conversion from Chapter 13 to Chapter 7, there is no exception in new § 348(f)(1)(C)(i) for liens voided under § 522(f) during the Chapter 13 case. That § 522(f) may be available to the debtor (again?) in the Chapter 7 case after conversion just highlights that the broad impact of new § 348(f)(1)(C)(i) was not fully in focus at the enactment of BAPCPA.

[12]

The amendments to § 348(f) are complemented by the amendments to § 1325(a)(5)(B)(i)(II).9 With respect to allowed secured claims provided for by the Chapter 13 plan, BAPCPA added a requirement that the plan provide that if the case is converted or dismissed before completion of the plan, the “lien shall . . . be retained . . . to the extent recognized by applicable nonbankruptcy law.”10

[13]

There will be an unpredictable interaction between § 348(f), as amended by BAPCPA, and other provisions of § 1325(a)(5). Detailed elsewhere,11 BAPCPA created a new kind of “secured” claim when the debtor in a Chapter 13 case incurred a purchase money debt within 910 days of the petition and the collateral is a motor vehicle acquired for personal use or the debt was incurred within one year of the petition and the collateral consists of any other thing of value. With respect to any such claim, “section 506 shall not apply.”12

[14]

If § 506 does not apply to a 910-day PMSI car claim, then, perhaps, there has been no “valuation of property” or “of allowed secured claims” in the Chapter 13 case for purposes of § 348(f)(1)(B) at conversion to Chapter 7. Without the use of § 506 there is no allowed secured claim that could be reduced by payments under the Chapter 13 plan; instead, there is just a 910-day PMSI car claim that comes into the Chapter 7 case after conversion secured by its collateral under § 348(f)(1)(C)(i).

[15]

What would be the redemption amount under § 722 in the Chapter 7 case after conversion from Chapter 13? Ordinarily, the required amount would be the “allowed secured claim.”13 When § 506 “shall not apply” the redemption amount is up for grabs. Perhaps economics will take over: Chapter 13 debtors should be persuaded not to redeem 910-day PMSI cars after conversion at values greater than the cost of acquiring similar collateral.

[16]

New § 348(f)(1)(C)(i) is not clear whether the collateral at the petition has to be in existence at the time of conversion to have the effect described. Also, because new § 348(f)(1)(B) neutralizes any valuation of collateral or of an allowed secured claim during the Chapter 13 case, that there may have been no value in collateral to secure a lien at the petition would not preclude the lienholder from asserting that its debt is “secured” at conversion to Chapter 7 for purposes of redemption under § 722 and dealings with the Chapter 7 trustee.

[17]

The BAPCPA amendments to § 348(f) extract an unconscionable penalty for attempting and failing in a Chapter 13 case. Even if the debtor pays in full the entire value of a lienholder’s collateral—with postpetition interest, costs and attorneys’ fees—at conversion, BAPCPA resurrects the creditor’s lien and the creditor can extract the value of the collateral a second time without regard to the rights of other creditors. This result far exceeds any reasonable expectation the lienholder had under nonbankruptcy law at the filing of the Chapter 13 petition. The money the debtor used to pay the lienholder during the Chapter 13 case could have been used to pay other creditors, but wasn’t. Yet, at conversion, the value in that collateral created by payments during the Chapter 13 case is paid a second time to the lienholder rather than distributed to the creditors who lost out during the Chapter 13 case. There is no logic or fairness to this outcome.

[18]

The fundamental greed in new § 348(f)(1) is easily illustrated. Imagine a furniture lender with a $5,000 claim secured by furniture worth $2,000. The confirmed plan treated the furniture lender as secured to the extent of the $2,000 value of its collateral and unsecured for the $3,000 balance. The debtor paid the $2,000 with postpetition interest prior to conversion. At conversion, the $3,000 balance on the unsecured portion of the furniture lender’s claim becomes “secured” under new § 348(f)(1)(C)(i).

[19]

To keep the furniture after conversion, the debtor will have to negotiate and the creditor would have to accept a reaffirmation of the entire $3,000 balance at contract interest with the addition of all contract fees and charges or the debtor would have to exercise redemption under § 722 by paying the lienholder the amount of the “allowed secured claim.” Because the $2,000 allowed secured claim during the Chapter 13 case does not apply after conversion to Chapter 7 under § 348(f)(1)(B) and because secured claims are not reduced in the Chapter 7 case to the extent paid in accordance with the Chapter 13 plan, the amount of the allowed secured claim at redemption under § 722 will require a new valuation hearing (or agreement) and the debtor will be required to pay that amount in full at the time of redemption. Whatever the allowed secured claim is determined to be in the Chapter 7 case, it will be an amount in addition to the full value of the collateral already paid during the Chapter 13 case. Because the debtor attempted a Chapter 13 case, new § 348(f) allows the furniture lender to parlay full payment of the value of its collateral into a second measure of full payment after conversion to Chapter 7. There is no economic rationale for this; it is simply greed.

[20]

New § 348(f) creates incentives for Chapter 13 debtors to convert to Chapter 11 (or Chapter 12) if possible. At conversion from Chapter 13 to Chapter 11, the valuation of property and of allowed claims during the Chapter 13 case is not lost.14 Even if the Chapter 11 case later converts to Chapter 7, the punishing effects of new § 348(f)(1) would not apply. By this circuitous route, it is at least conceivable that a Chapter 13 debtor could eventually convert to Chapter 7 and retain some of the benefits of the Chapter 13 case. This is a long shot. Of course, conversion from Chapter 13 to Chapter 11 is only possible before confirmation of a plan.15

[21]

Notice also that under new § 348(f)(1)(C)(ii), at conversion to Chapter 7 efforts to cure defaults through the Chapter 13 plan are forfeited unless the prebankruptcy default has been “fully cured” at the time of conversion. Debtors hoping to come out of the Chapter 7 case after conversion from Chapter 13 with reaffirmations and/or long-term debts that are stable must be certain that all defaults are fully cured before conversion.


 

1  11 U.S.C. § 348(f)(1).

 

2  See § 320.1 [ In Cases Filed after October 22, 1994 ] § 145.2  In Cases Filed after October 22, 1994.

 

3  Id.

 

4  See § 319.1 [ In Cases Filed before October 22, 1994 ] § 145.1  In Cases Filed before October 22, 1994.

 

5  No. 93-6479, 1994 WL 709314 (6th Cir. Nov. 10, 1994) (table decision at 42 F.3d 1388).

 

6  See § 536.1 [ New Incentives to Convert to Chapter 11 ] § 146.3  Incentives to Convert to Chapter 11 after BAPCPA.

 

7  See § 537.1 [ New Incentives to Convert to Chapter 12 ] § 147.2  Incentives to Convert to Chapter 12 after BAPCPA.

 

8  See 11 U.S.C. § 522(f)(1), discussed beginning at § 49.1  Available in Chapter 13 Cases.

 

9  11 U.S.C. § 1325(a)(5)(B)(i)(II), discussed in § 447.1 [ Lien Retention, Including in No-Discharge Cases ] § 74.13  Lien Retention after BAPCPA, Including in No-Discharge Cases.

 

10  11 U.S.C. § 1325(a)(5)(B)(i)(II), discussed in § 447.1 [ Lien Retention, Including in No-Discharge Cases ] § 74.13  Lien Retention after BAPCPA, Including in No-Discharge Cases.

 

11  See §§ 451.1 [ In General: Modification Without § 506 ] § 75.1  In General: Modification Without § 506 and 462.1 [ 910-Day PMSI Car Claims: A Reprise ] § 87.7  910-Day PMSI Car Claims after BAPCPA: A Reprise.

 

12  11 U.S.C. § 1325(a), discussed in §§ 451.1 [ In General: Modification Without § 506 ] § 75.1  In General: Modification Without § 506 and 462.1 [ 910-Day PMSI Car Claims: A Reprise ] § 87.7  910-Day PMSI Car Claims after BAPCPA: A Reprise.

 

13  11 U.S.C. § 722.

 

14  See 11 U.S.C. § 348(f)(1)(B), discussed further in § 536.1 [ New Incentives to Convert to Chapter 11 ] § 146.3  Incentives to Convert to Chapter 11 after BAPCPA.

 

15  See 11 U.S.C. § 1307(d), discussed in § 536.1 [ New Incentives to Convert to Chapter 11 ] § 146.3  Incentives to Convert to Chapter 11 after BAPCPA.