Bankruptcy

10th Circuit: Legal Interest Acquired Post-petition is Property of the Estate

By Bill McLeod, Esq.

When someone files bankruptcy, an estate is created. The property in the estate is defined in the Code, and it is the property in the estate that is used to pay creditors. But how do you value property of the estate if the nature of the interest held in the real estate changes after the petition date? On Friday, the 7th Circuit Court of Appeals answered that question.

In January 2004, the debtors filed for chapter 13 relief and sought to avoid a judgment lien (valued at about $8,200) on their residence. The lien arose from a deficiency judgment following an automobile repossession. Debtor?s estimated their interest in the residence to be valued at $65,000, subject to a mortgage of about $58,000. Their interest in the residence reflected an encumbrance of a life estate interest held by a relative. Under Indiana law, the homestead exemption at the time was $15,000 ($7,500 per debtor).

Two years later, after the plan was confirmed, the debtor?s filed a motion seeking to avoid the lien on the property. A month prior to the filing of the motion, the mother released her life estate interest by a quit claim deed, thus conveying the property to the debtors a fee simple interest. The value of that interest was determined to be $95,000. However, when the debtors sought to avoid the lien on the property, they used the prior valuation of $65,000.

The creditor argued that the valuation that should be used is the new one of $95,000. After an unsuccessful appeal to the District Court, the Court of Appeals was called upon to answer one question: for the purposes of avoiding a lien under Section 522, when should the debtors? interest in the real estate be determined?

The Court looked to Section 1306 and what constitutes property of the estate:

Property of the estate includes, in addition to the property specified in section 541?. all property?that the debtor acquires after the commencement of the case but before the case is closed.

Section 541(a)(1) identifies property in the estate as including ?all legal or equitable interests of the debtor in property at the commencement of the case.? And Section 541(a)(7) lists property of the estate as including ?[a]ny interest in property that the estate acquires after the commencement of the case.? Based on that, the Court held that the value of the real estate should be determined at the fair market value at the time it was recorded in December 2005. The lien could not be avoided.

To get access to the opinion, and to hear the oral arguments of the case, Click Here.

Full post as published by McLeod Law Offices on September 17, 2008 (boomark / email).