§ 49.5 — Protecting Lienholder after Lien Avoidance
Revised: May 24, 2004
The creditor that has lost a lien through lien avoidance in a Chapter 13 case is in an awkward position. If the Chapter 13 plan is consummated and a discharge is entered, the creditor will have permanently lost its lien. However, if the Chapter 13 plan fails and the case is dismissed, 11 U.S.C. § 349 reverses the lien avoidance and reinstates the creditor’s lien to its condition at the petition.1 Similarly, § 522(c) provides, “unless the case is dismissed, property exempted under this section is not liable during or after the case for any debt of the debtor that arose, . . . before the commencement of the case.”2 This lien resurrection at dismissal is not a problem if the property that was subject to the creditor’s lien is still in existence and is in the same condition at dismissal as it was at the petition. However, in a Chapter 13 case that may last three to five years, the property subject to the creditor’s lien is likely to depreciate, be transferred, be further encumbered, or be replaced.
It is not obvious how a creditor with an avoided lien can protect itself from loss of the now unencumbered property during the Chapter 13 case. On less than compelling logic, a few courts have held that lien avoidance in a Chapter 13 case is not available until after the lienholder has received all to which it is entitled under the confirmed plan or the debtor is entitled to a discharge.3 A few reported decisions protect creditors with avoided liens with plan provisions that prohibit transfer or wasting of the collateral pending completion of payments.4 The creditor with an avoided lien at least might argue for a provision of the plan requiring notice if the debtor proposes to transfer or replace the property that was subject to the creditor’s lien.
In contrast, in the (analogous) context of a bankruptcy court holding that the Chapter 13 trustee must hold property exempted by a Chapter 13 debtor until after completion of payments under the plan to protect creditors from the possibility that exempt property would be exhausted and the debtor would then dismiss the case, the Eleventh Circuit held in Gamble v. Brown (In re Gamble),5 that a Chapter 13 debtor is entitled to possession and use of exempt property during the case notwithstanding the possibility of dismissal. As explained by the Eleventh Circuit:
The plain language of [§ 522(c)] and precedent from this court are clear that exempt property is no longer part of the bankruptcy estate, and is available for the debtor’s use. . . . [O]nce the debtor lists property as exempt from the estate, and neither the trustee nor the creditors object during the 30-day time period, the property no longer belongs to the estate and the debtor “may use it as his own.”6
1 11 U.S.C. § 349(b) provides in part: “unless the court, for cause, orders otherwise, a dismissal of a case . . . (1) reinstates— . . . (B) any transfer avoided under § 522 . . . .” See § 338.1 [ In General ] § 153.1 In General.
2 11 U.S.C. § 522(c). See also § 49.1 [ Available and Important in Chapter 13 Cases ] § 48.1 Available and Important in Chapter 13 Cases.
3 In re Prince, 236 B.R. 746, 750 (Bankr. N.D. Okla. 1999) (“[W]hen an affected creditor objects, the avoidance of a lien which impairs a properly claimed exemption should be delayed until the entry of an order of discharge. Accordingly, the Court will enter an order today avoiding the lien held by Greenwood. However, in order to ensure that the operation of § 349(b)(1)(B) is not impaired, the Court will require that the order of lien avoidance not be entered upon the real estate records relating to the Homestead until an order of discharge has been entered in this case and the Homestead not be transferred or encumbered prior to the entry of an order of discharge in this case without further order of the Court.”); In re Stroud, 219 B.R. 388, 390 (Bankr. M.D.N.C. 1997) (Although all of the conditions for avoidance of GMAC’s judicial lien are present under § 522(f), Chapter 13 debtor is precluded from avoiding a lien that impairs an exemption until discharge at the completion of payments. “Order avoiding liens in Chapter 13 are predicated upon the Debtor receiving a discharge in their underlying bankruptcy. Lien avoidance is not available until the Debtor receives a discharge. . . . Lien avoidance must be conditioned upon Debtor’s completion of the Chapter 13 Plan and granting of the discharge in order to ensure that creditors’ interests are protected.”); In re Bowers, 69 B.R. 822 (Bankr. D. Conn. 1987) (Judicial lien is avoidable in a Chapter 13 case under § 522(f), but only after creditor has received its entitlement under confirmed plan.). See also In re Sadala, 294 B.R. 180, 185 (Bankr. M.D. Fla. 2003) (Addressing a wholly unsecured home mortgage under § 506: “[t]o protect creditors’ interests in the event a debtor defaults in payments under a Chapter 13 plan before the conclusion of his or her case, the Court will treat any secured claim valued at zero as an unsecured claim during the Chapter 13 case. If the debtor completes all required payments and receives a discharge, then the lien related to this unsecured claim shall be declared void upon the entry of the discharge.”).
4 See In re Evaul, 152 B.R. 31, 32 (Bankr. W.D.N.Y. 1993) (Debtor can use § 522(f) to avoid the lien of the New Jersey Higher Education Assistance Authority; however, to protect the Authority during the pendency of the case, the court instructed that the Authority’s judgment lien would be avoided only to the extent necessary to permit the debtor the $10,000 homestead exemption upon any sale or disposition of the property. Any excess proceeds after the debtor’s $10,000 exemption must be paid to the Authority until its judgment lien is paid in full. During the pendency of the case, “the Order confirming the Debtor’s Plan shall require a specific Bankruptcy Court Order approving the sale or disposition of [the property] during the pendency of the case. . . . [S]hould the Debtor’s case be dismissed, the New Jersey Higher Education judgment lien will be reinstated in full pursuant to Section 349(b). . . . [T]he partial avoidance of the judgment lien . . . does not void the judgment itself since the underlying debt is non-dischargeable.”). See also McRoberts v. Transouth Fin. (In re Bell), 194 B.R. 192, 198 (Bankr. S.D. Ill. 1996) (After Chapter 13 trustee avoids an unperfected security interest in a car and the car vests in the debtor at confirmation free and clear of the creditor’s lien under § 1327(b), court protects the creditor from the possibility that the Chapter 13 case will be dismissed and the creditor’s lien reinstated. “In order to protect the creditors’ interests in the event their liens are reinstated upon dismissal of the debtors’ cases prior to discharge, the Court finds that the debtors should be prohibited from transferring the subject vehicles until further order of the Court or until their Chapter 13 plans have been completed and their orders of discharge entered.”).
5 168 F.3d 442 (11th Cir. 1999).
6 168 F.3d at 443–44. Accord Rodriguez v. First Am. Bank (In re Rodriguez), 278 B.R. 749, 757 (Bankr. N.D. Tex. 2002) (In response to garnishing creditor’s argument that avoidance of its lien put it at the debtors’ mercy with respect to dismissal of the Chapter 13 case: “[I]f Debtors dismiss their case, JLM’s lien in the garnished funds is reinstated, and JLM can immediately move in state court to protect such funds. . . . [A]s exempt property, the garnished funds can be expended by the Debtors at their discretion while in bankruptcy. The court is not inclined to speculate on the possible dismissal of the case.”).