Berger Singerman's Paul Avron
Berger Singerman’s Paul Avron (Melanie Bell)

WELLS FARGO BANK, APPELLANT, V. TAHISIA L. SCANTLING, APPELLEE

Case no.: 13-10558

Date: June 18, 2014

Case type: Bankruptcy

Court: U.S. Court of Appeals for the Eleventh Circuit

Author of opinion: U.S. District Judge Harvey E. Schlesinger, Jacksonville

Lawyers for petitioner: Larry M. Foyle, Kass Shuler, Tampa, and Marie Tomassi, Trenam Kemker, St. Petersburg

Lawyers for respondent: Paul Singerman and Ilyse M. Homer, Miami, and Arthur J. Spector and Paul A. Avron, Boca Raton, Berger Singerman

Panel: District Judges Schlesinger and Michael K. Moore, Southern District of Florida, and Circuit Judge Gerald Bard Tjoflat

Originating court: Middle District of Florida Bankruptcy Court

Not long ago home values were so inflated and credit was so easy to get that owners seemed to think they had money trees.

Need $50,000? Just shake the tree and add a second mortgage, or a third.

The 2008 real estate collapse ended that excess. And though the market is slowly rebounding, many bankrupt homeowners are paddling desperately to rise above the waterline.

Much to the dismay of mortgage lenders, courts have started throwing Chapter 13 debtors a life preserver.

The courts allow debtors to strip away valueless junior liens from homesteads once they complete their Chapter 13 payments. The junior lienholder winds up in the same position as the lawn guy looking for payment—with no hope of getting 100 cents on the dollar.

On June 18 the U.S. Court of Appeals for the Eleventh Circuit became the second federal appellate court, after the Fourth Circuit, to approve this practice. The bankruptcy bar calls it Chapter 20 (colloquial for Chapter 13 following Chapter 7) lien-stripping.

Home-equity lenders and their lawyers are not overjoyed about losing the main benefit of their bargain with borrowers: secured claims on real estate.

“From that vantage point, they’re less than whole now,” said Paul Avron, pro bono appellate counsel to Tahisia Scantling. She’s the debtor in the Eleventh Circuit case who may eventually see more than $100,000 worth of junior liens turned into unsecured debts, allowing her to build equity as her $118,500 home appreciates.

Still, he sees an advantage for lenders.

“Maybe this will militate in favor of people not abandoning their homes,” said Avron of Berger Singerman in Boca Raton. “Once that happens and there’s foreclosure, the bank has to maintain the property to recapture as much of their debt as possible.”

“For the debtor it’s a plus-plus and for the bank it’s a negative and a plus,” he said.

Liening On Debtors

The Eleventh Circuit added its influential voice to a raging debate over how to handle worthless junior liens in Chapter 20 actions.

The problem is all too familiar. According to RealtyTrac, the real estate data source, foreclosure filings targeted 109,824 U.S. properties in May, on top of the millions already clogging the pipeline.

Florida had the nation’s highest state foreclosure rate in May, with a filing for 1 in every 436 housing units, three times the national average, RealtyTrac reported.

Foreclosure and bankruptcy go hand in hand.

In 2005 Congress made some creditor-friendly changes to the Bankruptcy Code intended to discourage serial Chapter 20 filers. Lawmakers called their creation the Bankruptcy Abuse Prevention and Consumer Protection Act, or BAPCPA.

The act tightened many Chapter 13 provisions, including discharge. It says a bankruptcy judge “shall not” grant one if the debtor was discharged from a Chapter 7 proceeding less than two years before the Chapter 13 filing.

Lenders opposing lien-stripping say it is contingent upon a debtor’s ability to receive a Chapter 13 discharge. When the debtor isn’t eligible for discharge, therefore, the lien must remain in force until the debt is paid.

Debtors seeking relief from valueless junior liens argue that Congress did nothing to alter the pre-2005 Chapter 13 lien-stripping procedure as applied to Chapter 20 cases.

Lower courts are split on the issue. Some interpret the relevant statutes and precedents to conclude BAPCPA disallows lien-stripping.

The emerging majority view adopted by the Eleventh and Fourth circuits is that BAPCPA left the process unscathed and that eligibility for a Chapter 13 discharge doesn’t matter.

No doubt public policy concerns inform the debate, even when the decisions say nothing about them.

U.S. Bankruptcy Judge Michael Williamson, whose Scantling ruling was affirmed on appeal, showed he was focusing on the big picture when he wrote:

“A central purpose of Chapter 13 is to save homes. It is not uncommon for a debtor, even after discharging various unsecured debts in a Chapter 7, to suffer new financial problems leading the debtor to default on the home mortgage.

“Chapter 13 is available to allow the debtor to cure any such default within a reasonable time and reinstate payments to save the home.”

It’s Not Over

When Scantling bought her home in Southwest Florida, she took out a $121,808 mortgage from Wells Fargo. She returned to the same lender for a $79,370 second mortgage and a $24,416 third mortgage.

According to Scantling, the bank valued her property at $118,500, or about $3,000 less than the first mortgage.

In 2009 she filed a voluntary Chapter 7 petition and received her discharge less than a year later.

On Jan. 1, 2011, 10 months after the Chapter 7 discharge, Scantling filed for Chapter 13.

She sought a declaration that the junior liens were void. Wells Fargo opposed it.

Williamson ruled for Scantling, saying the second and third liens will be extinguished when she makes the last payment under her confirmed Chapter 13 plan.

While the Scantling case was pending in the Eleventh Circuit, the Fourth Circuit decided In re Davis, approving lien-stripping in a Chapter 20 case.

“It was more than a stroke of luck, it was like the legal lottery,” Avron said.

The resulting decision frees bankruptcy judges to act on strip motions they’ve held in abeyance while awaiting guidance from Atlanta.

It sets Avron’s client on the road to residential stability—without guaranteeing success.

“She’s still got to follow through on the plan,” he said. “She’s got a ways to go.”