§ 74.9 — Direct Payment of Secured Debt after BAPCPA
Revised: January 5, 2011
The Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA)1 did not amend the subsection of the Code that most directly addresses whether creditors will be paid through a confirmed plan by a Chapter 13 trustee or by the debtor. Discussed elsewhere,2 11 U.S.C. § 1326(c) states, except as provided otherwise in the plan or confirmation order, “the trustee shall make payments to creditors under the plan.” There is no further statutory guidance with respect to when it is or isn’t okay for the plan to provide that the debtor will make payments directly to a creditor.
BAPCPA did not amend § 1326(c). BAPCPA did amend § 1326(a)(1) to entitle some lessors of personal property and some allowed secured claim holders to preconfirmation payments in Chapter 13 cases.3 Because these preconfirmation payments can be made by the debtor unless the court “orders otherwise,”4 one court—already inclined to liberally permit direct payments by Chapter 13 debtors—found in the 2005 amendments to § 1326(a)(1) support for direct payment by debtors under § 1326(c).5 In contrast, another bankruptcy court found the destructive effects of BAPCPA on the finances and administration of Chapter 13 cases to be a strong reason to refuse direct payment under most circumstances.6
Prior to BAPCPA, there was general agreement in the reported decisions that Chapter 13 debtors could pay some debts under some circumstances directly to creditors, but there was no agreement about the precise conditions on direct payment—especially when the debt was a home mortgage.7
Cases since 2005 confirm that BAPCPA did not change the general proposition that the Code does not prohibit direct payment by debtors, nor does the debtor have an absolute right to make direct payments to creditors.8 There is still no widespread agreement on the rules to determine whether direct payment will be permitted in the next case.9 There are post-BAPCPA decisions that hinge the direct-payment decision on whether the claim is “impaired” by the plan,10 on the “maturity” date of the debt,11 on whether the plan “alters” the rights of creditors,12 and on “standards” that are more or less articulated.13 Several recent decisions have offered lists of factors to consider, including these 21 factors collected by the bankruptcy court in Perez v. Peak (In re Perez).14
In determining whether to confirm a plan providing for direct payments by the debtor, courts have articulated a number of factors to review, including: (1) the degree of responsibility of the debtor, as evidenced by his past dealing with his creditors; (2) the reasons contributing to the debtor’s need for filing a Chapter 13 petition and plan; (3) any delays that the trustee might make in remitting the monthly payment to the targeted creditor; (4) whether the proposed plan modifies the debt; (5) the sophistication of the targeted creditor; (6) the ability and incentive of the creditor to monitor payments; (7) whether the debt is a commercial or consumer debt; (8) the ability of the debtor to reorganize absent direct payments; (9) whether the payment can be delayed; (10) the number of payments proposed to pay the targeted claim; (11) whether a direct payment by the debtor under the proposed plan will impair the trustee’s ability to perform his standing trustee duties; (12) unique or special circumstances of a particular case; (13) the business acumen of the debtor; (14) the debtor’s post-filing compliance with statutory and court-imposed duties; (15) the good faith of the debtor; (16) the plan treatment of each creditor to which a direct payment is proposed to be made; (17) the consent, or lack thereof, by the affected creditor to the proposed plan treatment; (18) the ability of the trustee and the court to monitor future direct payments; (19) the potential burden on the trustee; (20) the possible effect upon the trustee’s salary or funding the U.S. Trustee system; and (21) the potential for abuse of the bankruptcy system.15
There has been a noticeable increase in the number of districts that have enacted local rules addressing when and how a Chapter 13 debtor gets permission to make direct payments to a creditor.16 Most of these new local rules require the payment of ongoing home mortgage installments through the Chapter 13 trustee—at least when the debtor is in default at the petition or becomes delinquent after the petition. These new local rules evidence a growing understanding that debtors, creditors and the Chapter 13 system as a whole are better off when debtors do not undertake to pay some creditors directly and others through the Chapter 13 trustee. As explained by Bankruptcy Judge Bohm in the Southern District of Texas:
Bankruptcy courts across the nation have recognized the need for debtors to make residential mortgage payments through the trustee and have mandated it in increasing numbers:
The data . . . show secured debt accounting for 54-59 percent of total disbursements over the years 1994-2003. Obscured in the numbers is a re-allocation of percentages of post-petition payments and mortgage arrearage payments. . . . During the past four years, the numbers of trustees making post-petition mortgage payments inside the plan (“conduit payments”), and the amounts being paid, have increased substantially. . . . There are good reasons to believe that this practice works to the benefit of creditors, debtors, and trustees.
Gordon Bermant, Trends in Chapter 13 Disbursements, Feb-24 Am. Bankr. Inst. J. 20 (2005) [App. E].
A research report sponsored by the endowment of the National Conference of Bankruptcy Judges carried out by Gordon Bermant, a retired research professional of the Federal Judicial Center, emphasizes that Chapter 13 plans are more effective when home mortgage payments are made through the trustee. Gordon Bermant, Paying the Ongoing Mortgage Through the Chapter 13 Plan: A Beneficial Practice for All Involved (This report is a draft and will be developed further prior to publication.) [App. F]. In light of the benefits of making mortgage payments through the Chapter 13 trustee, the local rules for the Eastern District of Michigan virtually require debtors to do so:
The district has used local rules to make the practice virtually compulsory by placing the burden of justifying direct payments on the debtor. Debtor’s attorneys have also settled on routine plan language that assures agreement between the trustee’s records and the mortgage holder’s records at the time the case is terminated. Another local rule requires holders to serve notice in advance of any changes contemplated for the size [of] a debtor’s required monthly payment. Requiring notice avoids later litigation in circumstances where the mortgage holder has, for example, obtained force-placed insurance to protect the collateral and passes the cost to the debtor with unannounced increases in the loan amount. All of these provisions benefit the court as well as the debtor, by reducing the amount of litigation over alleged debt remaining at the time the case is terminated.
Id. at 29 (citing Marilyn R. Somers and Kimberly Shorter-Siebert, Is It Really a Fresh Start?, NACTT Quarterly 16 (2004)).17
BAPCPA contains one important new reason why Chapter 13 debtors should never pay a home mortgage (or any other debt) directly to the creditor. Perhaps the most uncharacteristic provision of BAPCPA, new § 524(i) defines a violation of the discharge injunction when a creditor fails to properly credit payments during a Chapter 13 case:
(i) The willful failure of a creditor to credit payments received under a plan confirmed under this title, unless the order confirming the plan is revoked, the plan is in default, or the creditor has not received payments required to be made under the plan in the manner required by the plan (including crediting the amounts required under the plan), shall constitute a violation of an injunction under subsection (a)(2) if the act of the creditor to collect and failure to credit payments in the manner required by the plan caused material injury to the debtor.18
Anyone with significant experience in Chapter 13 practice knows that the mortgage-servicing industry does not interact well with the Chapter 13 system and, in particular, cannot account for payments in Chapter 13 cases with any consistency or reliability.19 Perhaps there are good historical and systemic reasons for this problem, and the mortgage-servicing industry is struggling to improve its technology and techniques. But for the foreseeable future, there is a high likelihood that payments during Chapter 13 cases will not be accurately accounted for by mortgage servicers consistent with the confirmed plan. Arrearage payments will be confused with regular payments of interest and principal. Attorneys’ fees and costs will be paid first even if not allowed or allowable. Late fees and (nonexistent) inspection fees will be charged and paid whether permitted or not. Contractual changes in principal, interest and escrow amounts will not be communicated to debtors or trustees and will not be reflected in payment changes or in the accounting for payments made.
Before and after BAPCPA, debtors, trustees and the courts have struggled to identify remedies that are legally sound and practical when a mortgage holder or servicer notices a foreclosure sale sometimes only days after a Chapter 13 debtor completes payments under a plan that cured all defaults and reinstated a long-term maturity.20 The predicate for that litigation is proof that payments made by the debtor or through the Chapter 13 trustee were not properly credited and accounted for by the lienholder or the lienholder’s agent.
New § 524(i) offers the promise—if not the reality—of a statutory vehicle for enforcing the provisions of a confirmed Chapter 13 plan on a mortgage holder or other creditor.21 But Chapter 13 debtors won’t successfully negotiate new § 524(i) without absolutely concrete evidence of who was paid what and when.
The Chapter 13 trustee is the fuel that will make new § 524(i) run. Debtors who make their mortgage payments and cure payments through the Chapter 13 trustee can provide the detailed, bullet-proof evidence needed as the platform for an action under new § 524(i). The cost of making payments through the Chapter 13 trustee, if any,22 will be a small price for the certainty of the trustee’s accounting and the leverage to ensure that creditors account for plan payments correctly. Chapter 13 debtors rarely keep records over the years of a plan adequate to the task of giving meaning to new § 524(i).
1 Pub. L. No. 109-8, 119 Stat. 23 (2005).
2 See §§ 59.1 [ Make Payments to Creditors Unless Plan or Confirmation Order Provides Otherwise ] § 53.10 Make Payments to Creditors Unless Plan or Confirmation Order Provides Otherwise, 103.2 [ Direct Payment of Secured Claims by Debtor ] § 74.8 Direct Payment of Secured Claims by Debtor before BAPCPA and 147.1 [ Direct Payment of Mortgage or Payment by Trustee ] § 85.6 Direct Payment of Mortgage or Payment by Trustee.
3 See 11 U.S.C. § 1326(a)(1), discussed in §§ 419.1 [ Payments to Creditors before Confirmation ] § 53.11 Payments to Creditors before Confirmation, 426.1 [ Adequate Protection Rights before Confirmation ] § 57.3 Preconfirmation Adequate Protection Rights after BAPCPA and 427.1 [ Preconfirmation Rights of Landlords and Lessors ] § 57.4 Preconfirmation Rights of Landlords and Lessors after BAPCPA.
4 11 U.S.C. § 1326(a)(1), discussed in §§ 401.1 [ Preconfirmation Payments ] § 44.6 Preconfirmation Payments after BAPCPA and 419.1 [ Payments to Creditors before Confirmation ] § 53.11 Payments to Creditors before Confirmation.
5 See In re Clay, 339 B.R. 784, 785–86, 787, 788 (Bankr. D. Utah May 2, 2006) (Thurman) (Citing In re Case, 11 B.R. 843 (Bankr. D. Utah June 10, 1981) (Mabey), debtor can pay two mortgages and car loan directly to lienholders and pay only prepetition arrearages through the trustee; BAPCPA did not change the right of Chapter 13 debtors to choose to pay secured creditors directly so long as the contract rights of those creditors are not altered. “Before the BAPCPA, it was generally accepted that a debtor might choose . . . to pay a secured creditor directly so long as the creditor was paid pursuant to the contract terms. . . . The lesson of Case, that a debtor may choose to pay secured creditors directly so long as those creditors’ rights are not altered, were [sic] largely accepted throughout the country before the BAPCPA.” The requirement in § 1325(a)(5) that equal monthly payments be made to allowed secured claims provided for by § 1325(a)(5) does not change the pre-BAPCPA result because “a secured claim is only ‘provided for by the plan,’ and thus subject to the requirements of § 1325(a)(5), if the creditor is not paid pursuant to the terms of the contract.” The requirement in § 1326(a)(1)(A) that debtors give evidence to the trustee of direct payments before confirmation does not support the proposition that debtors would ordinarily make postconfirmation payments through the trustee to a secured claim holder. Court cites the prohibition against “stripdown” with respect to motor vehicles purchased within 910 days of a bankruptcy case in “§ 1325(a)(9)” in support of the conclusion that “the policy . . . is to restrict a bankruptcy’s effect on a debtor’s relationship with a creditor secured by the debtor’s vehicle.”).
6 See In re Breeding, 366 B.R. 21, 27 (Bankr. E.D. Ark. May 14, 2007) (Mixon) (Although direct payment of secured claim holder is allowed by statute, direct payment is refused as an exercise of discretion in part because of funding problems created by BAPCPA. “By case law a presumption exists that favors distribution by the trustee. . . . A trustee collects no commission on funds that the debtor distributes directly to a creditor . . . and the Debtors in the instant case seek to avoid paying the Trustee’s commission. . . . Permitting debtors to pay creditors outside the plan over the objection of the trustee does potentially jeopardize the operation of the Office of the Chapter 13 Trustee as a self-funded program. After the advent of BAPCPA, the Court takes judicial notice that the rate of case filings has decreased dramatically, thereby reducing the amount of money passing through the office of the Chapter 13 Trustee . . . . New provisions of BAPCPA . . . could combine to produce more confirmable Chapter 13 plans that make no distribution to unsecured creditors, especially for above-median income debtors. . . . [R]equiring payment to be made to the Chapter 13 trustee by debtors produces an audit trail that minimizes debtor-creditor disputes over whether and when a payment has been made. For these reasons, the objection to confirmation on the basis that the Debtors improperly propose to pay Green Tree outside the plan is sustained.”).
7 See §§ 59.1 [ Make Payments to Creditors Unless Plan or Confirmation Order Provides Otherwise ] § 53.10 Make Payments to Creditors Unless Plan or Confirmation Order Provides Otherwise, 103.2 [ Direct Payment of Secured Claims by Debtor ] § 74.8 Direct Payment of Secured Claims by Debtor before BAPCPA and 147.1 [ Direct Payment of Mortgage or Payment by Trustee ] § 85.6 Direct Payment of Mortgage or Payment by Trustee.
8 See §§ 103.2 [ Direct Payment of Secured Claims by Debtor ] § 74.8 Direct Payment of Secured Claims by Debtor before BAPCPA and 147.1 [ Direct Payment of Mortgage or Payment by Trustee ] § 85.6 Direct Payment of Mortgage or Payment by Trustee. See, e.g., Giesbrecht v. Fitzgerald (In re Giesbrecht), 429 B.R. 682, 690 (B.A.P. 9th Cir. Apr. 28, 2010) (Hollowell, Montali, Markell) (Citing Cohen v. Lopez (In re Lopez), 550 F.3d 1202 (9th Cir. Dec. 24, 2008) (Noonan, Silverman, Bea), Chapter 13 debtors do not have an absolute right to make payments directly to an unimpaired claim holder, but when confirmation of a direct-payment provision is denied, remand is necessary to permit bankruptcy court to articulate standards regarding when it is permissible to pay a creditor directly. “[U]nder the Code, a chapter 13 debtor may directly pay a creditor. . . . The Bankruptcy Code provides no direction as to ‘when it is appropriate to insert such direct payment provisions in the plan or in the confirmation order.’ . . . Bankruptcy courts may require that payments be made through the plan based on specific factors or reasons such as administrative efficiency, tracking of payments, fairness and treatment of creditors, and the determination that there is a reduction of plan failure when all payments are made through the plan.”).
9 See also §§ 103.2 [ Direct Payment of Secured Claims by Debtor ] § 74.8 Direct Payment of Secured Claims by Debtor before BAPCPA and 147.1 [ Direct Payment of Mortgage or Payment by Trustee ] § 85.6 Direct Payment of Mortgage or Payment by Trustee.
10 See, e.g., In re Lopez, 372 B.R. 40, 47–55 (B.A.P. 9th Cir. Aug. 3, 2007) (Markell, Brandt, Pappas) (“Fulkrod I essentially required Chapter 12 trustees to pay claims that the court referred to as ‘impaired’ by the Chapter 12 plan through the plan, while allowing the debtor to pay directly those claims not impaired by the plan. We hold to that distinction . . . . [A] plan impairs an obligation if it allows or provides for payment designed to cure a default and reinstate a scheduled maturity date after acceleration. . . . Mr. Lopez’s plan thus correctly provides for payment of the mortgage arrears by the Chapter 13 trustee. But Mr. Lopez’s obligations, which mature after his bankruptcy filing, are not impaired by the plan. . . . Under Fulkrod I, they could be paid directly by the debtor outside of the plan. . . . Section 1322(a)(1) does not require that all debts must be paid through the plan; it merely requires that the debtor must submit enough money from his future earnings to ‘the supervision and control of the trustee’ as is necessary to fund the plan. Section 1322(a)(1) says nothing else, though, about what exactly must be paid through the plan. . . . A plain reading of [§ 1326(c)] leads to the conclusion that Congress intended that some debts other than those specifically enumerated in Section 1326(a)(1) could also be paid by the debtor outside of the plan, so long as either the plan itself or the order confirming the plan allows it. . . . While the panel sympathizes with the NACTT’s concerns [about the new statutory duties in § 1302(b)(1) and § 1307(c),] . . . this concern could be alleviated through a requirement by the trustee . . . that the debtor send proof of direct payment regularly to the trustee.”).
11 See In re Smith, No. 07-82462, 2009 WL 937144, at *3 (Bankr. C.D. Ill. Mar. 24, 2009) (unpublished) (Perkins) (Direct payment of a secured debt is permissible when debt extends beyond term of plan, but secured debt that will mature during life of plan is payable through trustee. “The Chrysler claim is for a debt that extends beyond the term of the plan and, as such, is permissibly payable outside of the plan. The Harley debt, however, matures during the plan and is more properly payable through the plan.”).
12 See In re Clay, 339 B.R. 784 (Bankr. D. Utah May 2, 2006) (Thurman) (BAPCPA did not change that Chapter 13 debtors can choose to pay secured creditors directly so long as the contract rights of those creditors are not altered.).
13 See Giesbrecht v. Fitzgerald (In re Giesbrecht), 429 B.R. 682 (B.A.P. 9th Cir. Apr. 28, 2010) (Hollowell, Montali, Markell) (When bankruptcy court denies confirmation of a direct-payment plan, it must articulate “standards” regarding when it is permissible to pay a creditor directly.).
14 373 B.R. 468 (S.D. Tex. July 19, 2007) (Rosenthal).
15 In re Perez, 339 B.R. 385, 409 (Bankr. S.D. Tex. Mar. 23, 2006) (Bohm) (internal citations and footnotes omitted). (If citing district court’s opinion: indented 21 factors cited as 373 B.R. at 492.) See also In re Stonier, 417 B.R. 702 (Bankr. M.D. Pa. Nov. 2, 2009) (Opel) (applying factors from In re Miles, 415 B.R. 108 (Bankr. E.D. Pa. Apr. 7, 2009) (Sigmund)).
16 See, e.g., Bankr. D. Kan., Standing Order 09-2 I (effective in cases filed after Oct. 1, 2008; as amended Feb. 2, 2009) (“Regular payments owed by a Debtor to a Creditor holding a claim secured by the Debtor’s principal residence shall be made by the Debtor to the Trustee for payment through the Chapter 13 plan if the Debtor is (i) delinquent as of the petition date, or, (ii) becomes delinquent after the petition date. Such payments are referred to herein as ‘conduit payments.’”), available at http://www.ksb.uscourts.gov/index.php?option=com_content&view=article&id=845%3A2010-local-rules&catid=30%3Arules&Itemid=39&showall=1; Bankr. E.D. Mich. L.R. 3070-1 (“In a chapter 13 case, all claims shall be paid by and through the chapter 13 trustee unless the debtor’s plan establishes cause for remitting payments on a claim directly to the creditor. Any timely objection to such a plan provision will be heard at the confirmation hearing.”), available at http://www.mieb.uscourts.gov/rulesAndForms/rules.html; Bankr. W.D. Mo. L.R. 3094-2 C.2.a. (“For cases filed or converted on or after October 1, 2008, if a debtor is delinquent on the date of the petition on a note secured by real estate, the debtor shall make the post-petition payments to the mortgagee through the Chapter 13 trustee as part of the Chapter 13 plan payment unless the court orders otherwise. For purposes of Rule 3094-1, delinquent (or not current) means there are past due payments or charges due to the mortgagee other than the regular contractual payment due in the month of filing or conversion.”), available at http://www.mow.uscourts.gov/bankruptcy/rules.html; Bankr. S.D. Ohio L.R. 3015-1(d)(1) (“Unless otherwise ordered by the court, regular monthly payments on a real estate mortgage pursuant to § 1322(b)(5) of the Code shall be disbursed by the trustee if the obligation is in arrears as of the petition filing date.”), available at http://www.ohsb.uscourts.gov/FormsPublication/Local_Rules_And_Forms.aspx; Bankr. S.D. Tex. L.R. 3015-1(b) (“Home mortgage payments will be made through the chapter 13 trustee, in accordance with Home Mortgage Payment Procedures. Home Mortgage Payment Procedures shall be procedures adopted by the chapter 13 trustees and approved by the court.”), available at http://www.txs.uscourts.gov/bankruptcy/rulesformsproc/localrules/default.htm.
17 339 B.R. at 391–92.
18 11 U.S.C. § 524(i), discussed in § 559.1 [ Discharge Injunction and New § 524(i) ] § 162.2 Discharge Injunction and § 524(i) after BAPCPA.
19 See §§ 103.2 [ Direct Payment of Secured Claims by Debtor ] § 74.8 Direct Payment of Secured Claims by Debtor before BAPCPA, 147.1 [ Direct Payment of Mortgage or Payment by Trustee ] § 85.6 Direct Payment of Mortgage or Payment by Trustee, 308.2 [ Mortgage Claim Issues ] § 138.8 Mortgage Claim Issues and 357.1 [ In General, Including Discharge Hearing and Discharge Injunction ] § 162.1 In General, Including Discharge Hearing and Discharge Injunction. See, e.g., In re Carey, 402 B.R. 327, 330 (Bankr. W.D. Mo. Mar. 9, 2009) (Federman) (“[T]he Chapter 13 Trustee testified, and Debtors’ counsel acknowledged that, even if no motion for relief is filed during the case, debtors in Chapter 13 are, with increasing frequency, finishing their cases with a significant deficiency due to changes in payment amounts or fees and charges, which are unbeknownst to them, and end up losing the house shortly after exiting bankruptcy.”); In re Breeding, 366 B.R. 21, 27 (Bankr. E.D. Ark. May 14, 2007) (Mixon) (“[R]equiring payment to be made to the Chapter 13 trustee by debtors produces an audit trail that minimizes debtor-creditor disputes over whether and when a payment has been made.”).
20 See §§ 308.2 [ Mortgage Claim Issues ] § 138.8 Mortgage Claim Issues and 357.1 [ In General, Including Discharge Hearing and Discharge Injunction ] § 162.1 In General, Including Discharge Hearing and Discharge Injunction.
21 See § 559.1 [ Discharge Injunction and New § 524(i) ] § 162.2 Discharge Injunction and § 524(i) after BAPCPA.
22 See § 64.2 [ “No-Costing” Payments on a Claim ] § 54.4 “No-Costing” Payments on a Claim.