A debtor's proposed chapter 13 plan may not be confirmed if a trustee or the holder of an unsecured claim objects thereto unless a debtor pays in full each allowed unsecured claim, (11 U.S.C. §1325(b)(1)(A)) or pays to his unsecured creditors under the plan all projected disposable income to be received during the applicable commitment period (11 U.S.C. §1325(b)(1)(B)) (emphasis added).  Thus, upon objection, if allowed unsecured claims are not paid in full, a plan may be confirmed only if it pays all allowed unsecured claims a qualifying amount of money over a qualifying span of time.

The Bankruptcy Code explicitly defines disposable income as current monthly income, itself further defined in the Code (see 11 U.S.C. §101(10A)), less reasonably necessary expenditures for a debtor's support for a debtor's dependent's support and for other enumerated expenses not germane to this matter.  11 U.S.C. §1325(b)(2).  If a debtor's current monthly income exceeds the median family income of his state, such as in the instant matter [2], the reasonableness of the expenditure amounts is determined in accordance with 11 U.S.C. §§707(b)(2)(A) and (B).  11 U.S.C. §1325(b)(3).

A different statutory definition is accorded a debtor's projected disposable income.  (See 11 U.S.C. §1325(b)(1)(B).)  According to a majority of courts examining this issue, by the addition of "projected," as well as the particularization of income that is "to be received in the applicable commitment period," the Code requires a determination of a debtor's anticipated income or future ability to pay. Three bankruptcy appellate panels have reviewed the issue of the distinction between "projected disposable income" and "disposable income."  Each has concluded that the two are not the same.  Many other courts have determined the opposite.

Recently, in the first apposite decision to issue from a court of appeals, the Ninth Circuit made its view known. Maney v. Kagenveama,(In re Kagenveama), 527 F.3d 990 (9th Cir. 2008).  In Kagenveama, the debtor's Schedules I and J showed a net excess of approximately $1,500 monthly.  However, because the debtor's current monthly income was above-median, the debtor also completed Official Form 22C, the result of which was a negative number. The debtor proposed a three-year plan. The trustee objected to the plan's confirmation, arguing that the debtor should be using her actual excess income as her projected disposable income. The trustee further argued that the debtor's plan was required to run for five years, because her current monthly income was above the state's median.

The Ninth Circuit found that "projected" served only to modify "disposable income," accordant with the line of cases that trace their analysis back to In re Alexander, 344 B.R. 742 (Bankr. E.D.N.C. 2006).  The 2005 amendments to the Code, according to the court, changed the calculation of disposable income for above-median debtors, replacing the former "reasonably necessary" test for expenses with a formulaic approach. 11 U.S.C. §1325(b)(3).  The trustee argued that when computing projected disposable income, the disposable-income figure derived from Form B22C was merely a starting point for determining projected disposable income.  One could then anticipate future financial factors and could take these factors into account to calculate a more accurate projected disposable income.

The Ninth Circuit rejected the trustee's argument and the line of cases on which it relied, [3] and agreed with the debtor, holding that projected disposable income is directly linked to disposable income.  More specifically, according to the court, "projecting" disposable income is merely multiplying disposable income over the applicable commitment period without taking any "anticipated" variables into account. Since the debtor had no disposable income, according to her Form 22C, she resultantly had no projected disposable income.

The second issue before the court was whether "applicable commitment period" is a period of time.  The debtor proposed a three-year plan in which to pay unsecured creditors.  The trustee lodged objections, based on the language of the Code, insisting that the plan must be five years in length for an above-median debtor for the plan to be confirmed by the court.

While the Ninth Circuit agreed with the trustee that the applicable commitment-period was a temporal measurement, it ruled that the applicable commitment period requirement had no application to a plan that lacked any projected disposable income.  Consequently, the debtor's plan, proposing a voluntary payment to unsecured creditors for three years, was permissible.

Notably, the Kagenvaema court saw some protection for the trustee and the unsecured creditors in 11 U.S.C. §1329, holding out the option to move for the modification of a debtor's plan if a debtor's income rises after confirmation. Maney v. Kagenveama (In re Kagenveama), 527 F.3d 990 (9th Cir. 2008).

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 the court emphasized that the debtor's attorney's conduct in the case was above reproach (honest and straightforward), and held that it should not be inferred "as a criticism of the integrity of [the attorney] or his law practice."

Before analyzing the two major bases for its holding, the court emphasized the critical importance of the attorney's declaration to the reaffirmation agreement review and approval process, especially given the agreement's moment to a debtor's fresh start. The court made it clear that it would normally presume that counsel provided requisite advice and assistance regarding any reaffirmation agreement executed by the attorney's debtor-client.

The court reminded that Oklahoma's Rules of Professional Conduct required an attorney to provide competent representation to a client. Case law, according to the court, showed that advice and assistance with the reaffirmation agreement decision were among the "core services" that comprise competent representation of a chapter 7 debtor. Any mutually acceptable limitation of services could not include the debt-reaffirmation decision because such limitation could be neither reasonable nor the result of a debtor's informed consent in light of the complexity and criticality of such a decision.

The court based its holding on the Bankruptcy Code and showed that it clearly placed a duty to represent a debtor in the negotiation of a reaffirmation agreement on the debtor's attorney, and required that the attorney declare that he did so. Such a requirement, reasoned the court, grew out of an obvious and logical shifting of the oversight of reaffirmation agreements from the sole province of the court, in the 1978 Code, to the debtor's attorney, in the 1994 amendments.

The court recognized that the attorney's effort to avoid involvement in the debtor's reaffirmation process arose not out of concern over sufficiency of his fees.  Rather, the attorney's apprehension arose from the potential liability that he felt the Code forced him to bear in the event of his client's defaulting on a reaffirmed debt. The court showed that the Code did not give rise to such a liability and that it knew of no decision holding an attorney personally liable for a debtor's default of a reaffirmed debt. This was of no consequence because, the court opined, an attorney's putative potential liability cannot vitiate his duties arising under the Code or the Rules of Professional Conduct.
Ultimately, the court determined, it's "all er nuthin'":

This Court will not allow counsel to offer services in a piecemeal fashion that leaves debtors vulnerable and unrepresented at the exact moment they need professional legal advice, especially for routine and fully anticipated matters. Let there be no doubt: in the eyes of this judge, counsel for a debtor may not exclude advice regarding and negotiation of reaffirmation agreements from the scope of services provided to a Chapter 7 debtor. Counsel that are unwilling to undertake and follow through on such duties should not accept employment in a Chapter 7 case, or if currently employed, should withdraw from all further representation of the debtor.[3]

“Subprime Mortgage Crisis!” “Predatory Loans!” These are headlines that have dominated financial news for months. Unfortunately, although the terms are used loosely and frequently, the stories have done little to educate the public—people whose homes may be lost in a foreclosure action—about what the terms mean. More importantly, there are few explanations being given for the current problems. This article will attempt to define the terms and explain the causes for these now-common problems.

The Basics

While there is no legal definition of a “predatory loan,” the concept can be explained. Put most simply, a loan should be considered predatory if the lender or broker convinces a borrower to buy a mortgage loan that lender/broker suspects or actually knows the borrower cannot afford.

The term subprime refers to a credit score. It does not reflect the borrower’s ability to pay or the borrower’s actual financial situation. Originally, the term was used by the mortgage industry and especially by the government agencies like Federal National Mortgage Association referred to as “Fannie Mae” and Federal Home Mortgage Corporation referred to as “Freddie Mac.” Any borrower with a credit score below a certain number was considered subprime; (i.e. not the best risk.)

The scores rendering a consumer “subprime” range between 640 and 680. What is overlooked is that the scores are determined solely by one of three credit reporting agencies using the Fair Isaac Credit Organization system, hence the term “FICO Score.” Obviously, credit reporting agencies don’t actually know the details of a particular consumer’s income, living arrangements, expenses, job opportunities/changes and the like. Essentially, “credit worthiness” is determined by a consumer’s payment history, the amount of credit outstanding, amount of available credit and other objective factors.

The reality of the current “crisis” is that too many consumers were granted loans where an honest evaluation would have led them to realize that they could not afford the payments if they ever increased. As we have seen in recent months, many mortgages that were once affordable have adjusted upwards to a level that consumers can no longer support. A large part of the problem stemmed from the proliferation of new and imaginative mortgage products, like the “one month adjustable rate, level payment loan” or the “you pick your payment” loan or the use of commercial loan products for residential 30 year mortgages.

Many consumers did not understand the consequences of having an adjustable rate mortgage as a result of simple deception, i.e. the lender failing to explain to the borrower that the monthly mortgage payment will, in all likelihood, increase substantially during the term of the loan. Sometimes, this failure to disclose was compounded by the “predatory” nature of the lender. It has been reported that some lenders encouraged or participated in outright fraud, such as by “suggesting” that the borrower state a fictitious income in order for the loan to be approved or by altering the borrower’s application to reflect an income higher than originally stated by the buyer. Other reports cite appraisers, who at the urging of lenders upon whom they may be dependant for business, placed a value on the property much higher than the actual market in order to have the loan approved.

Numbing Numbers

The following example illuminates how consumers can quickly run into trouble. Assume a consumer obtains a “2/28 Loan.” As the name implies, the loan has a fixed rate for two years, and an adjustable rate for 28 years. Generally, this type of loan adjusts every six months after the first two years. Each adjustment can be up to 1 percent. Assume further that a borrower begins with a low rate of 6 percent. If she borrows $100,000, the monthly payment for principal and interest would be $599.55. At the end of the second year the payment increases by $134.21 bringing the monthly payment to $733.76. After another 6 months, the interest rate increases by another 1 percent. Now, the monthly payment is $804.62. Four and one-half years after the loan’s inception, the interest has risen to 12 percent and the monthly payment to $1,028.61. This is an increase of 72 percent! Still affordable? Probably not.

In the example above, a loan is considered predatory when the lender does not fully inform the consumer of the terms of the loan. If the borrower had been supplied with all of the figures, knew and understood the risks, read all of the disclosures and still wanted to consummate the loan and the lender/broker believed that the borrower could afford the payments, the loan would not be considered predatory—foolish maybe, but not predatory.

Questions to Consider

Here are some things to consider when a borrower’s loan has become too expensive to manage. The answers will not, by themselves, prove that a loan is “predatory,” but will give a borrower an indication that there may be a problem or at least an issue to be examined.

1. 1. Who is the lender? Is it a local bank, a well-known mortgage company or an out-of-state direct mail solicitor? Normally, a local bank will lend on the true risk, meaning the borrower’s history with the bank, the value of the collateral (a local bank may have better information), the borrower’s employment history and, of course, the borrower’s FICO score. An out-of-state lender has less personal information on local home values, no knowledge of the local economy, no direct information about borrower’s employment status and no ability to discern if the income shown on the application is accurate. But, it does know the FICO score!

   2. Is the entity who is making the loan the end lender or is it merely originating loans for sale to the secondary market, and therefore, probably for securitization? End lenders stay “on the risk” and therefore tend to be more conservative in underwriting. Further, if the loan is originated for sale and there is an underlying problem, the purchaser may attempt to invoke a Holder in Due Course or Bona Fide Purchaser defense to a borrower’s attempts to force a modification. This makes the borrower’s attorney’s job more difficult when trying to stave off a foreclosure.

   3. If the loan was a refinance, did the borrower receive a full three days to consider rescission or did the borrower execute a document relinquishing her right to rescind at the closing? Without sufficient time to consider the transaction, the borrower may be coerced into a refinance or second mortgage that she later realizes is not in her best interest. That, of course, is the very reason a “cooling off period” is required. One indication that the right to rescind was relinquished is if the refinancing lender paid itself off before the rescission period was over. If so, there was no effective three day rescission period. A full transaction history will determine the answer.

   4. Was the loan in the borrower’s best interest? Did the borrower get cash back, a better rate, a longer term or reduced payments? If not, many states would deem the loan the mortgage equivalent of what is known in securities brokerage terms as “churning,” essentially refinancing where the borrower has a minimal benefit, but the lender/broker/originator receives generous fees.

   5. Could the borrower end up owing more than what was borrowed, despite making all of the payments on-time? Specifically, is the loan a Negative Amortization credit facility? This type of loan can appear to have a low interest rate or may be termed a “Simple Interest Mortgage” wherein the interest is calculated daily with no grace period. (A so-called conventional mortgage that has a fixed rate for thirty years incorporates at least the following terms, as they are contained in all Fannie Mae and Freddie Mac documents: 1. a 30-year term; 2. a 30 year amortization schedule, showing 360 equal payments; 3. a 15-day grace period from the due date of each payment wherein no late fee/penalty is charged; 4. a late fee, if applicable, of 3 percent of the regular P&I payment for that month; 5. no reduction or extra credit for making payments before the contractual due date each month.)

In a Simple Interest Mortgage, there is set amortization schedule and a fixed term. However, there is not one day when interest does not accrue. This product is the mortgage equivalent to the long-gone, 90-day note: pay early and you pay less interest, pay a few days late and pay a few days extra interest. The stakes for mortgages, however, are much higher. Assume a $465,000 loan at 7.5 percent with a payment of principal and interest of $3, 400 +/- each month. Further, assume that in the first few months, the interest portion of the payment is about $3,200. If the borrower pays 15 days late, the borrower pays an additional $1,600 interest for that “month” creating an “interest accrued but not paid” account with the lender. This can multiply quickly with large loans to a point where the borrower owes $25,000 more than what was borrowed after three years.

The “predatory” nature of a loan is often not obvious, in part because the circumstances of the loan’s origination are not typically scrutinized until the threat of or on the eve of a foreclosure that results in a bankruptcy. Additionally, predatory loans and lending practices are not reserved for owner-occupied residential loans or subprime loans, but come in all shapes and sizes. Recall the Lender Liability Theory of the late 1980’s, wherein commercial lenders were held liable for a borrower’s business failure if the lender should have known the business would fail because of, not in spite of, the loan. It seems that nothing changes much, just recycles.

The current “crisis” is similar to an old fashioned “run on the bank.” When confidence erodes enough, all of the depositors in a bank clamor for a cashout of their account at the same time. No bank in the land has enough liquidity to pay every depositor at once. That is, what we are experiencing today in the mortgage market and what the recent Federal Reserve moves on rates and the discount window have tried to address.

The law provides remedies for a consumer if a loan is determined to be predatory. Readers are welcome to contact the author at the e-mail address listed above for further discussion.

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Bankruptcy Judge Donald Steckroth, recently handed down an unpublished decision that declared nondischargeable a debt for money taken by a caregiver-daughter from her elderly mother. Buttimore as Executor for the Estate of Helen C. Buttimore, Plaintiff v. Carole Wolke. Defendant Adversary Case Number 07-01756(DHS). (Bankr. D.N.J. Feb. 13, 2008). The decision interpreted Bankruptcy Code §523(a)(4), which renders nondischargeable a debt owed for the return of funds taken from an elderly parent’s assets without consent. The decision is noteworthy because there was not previous state court ruling finding the daughter’s actions wrongful.

Carole Wolke (debtor) was a registered nurse for 25 years. Her Mother, an elderly widow, moved in with her in 1997. Mom’s health declined and Wolke became her caretaker. Until August of 2005, the debtor was a joint holder of two of her mother’s bank accounts, which were used to pay her Mother’s expenses. Between February 2003 and July 2005, however, the debtor appropriated more than $400,000 of her Mother’s money for her personal use, including transferring some to one of her friends for “investment” purposes. The debtor admitted the withdrawals were without her mother’s consent.

In August 2005, when confronted about the use of her Mother’s money, the debtor wrote a letter to her brother, who eventually became the estate’s executor, in which she admitted taking the money. In the letter, the debtor equated her actions to receiving her share of Mom’s estate “up front.” Shortly afterwards, Mom passed away. Acknowledging her actions, the debtor signed an affidavit and disclaimer, waiving any right to distribution from Mom’s estate. In July 2006, the debtor’s brother, as executor Mom’s estate sued the debtor in state court alleging fraud, breach of fiduciary duty and conversion.

Before the action in state court was heard, the debtor filed a chapter 13 bankruptcy case, which was later converted to chapter 7. On June 7, 2007, the executor/brother filed an adversary proceeding against the debtor, alleging that the $400,000 debt owed to the estate was nondischargeable under 11 U.S.C. 523(a)(4), which renders nondischargeable debts “for fraud or defalcation while acting in a fiduciary capacity, embezzlement or larceny.” The estate moved for summary judgment, asserting that there was no material issue of fact as to the §523(a)(4) requirement of defalcation while in a fiduciary capacity because of the debtor’s prior admissions of wrongdoing.

In response, the debtor claimed that she had executed the affidavit and disclaimer under duress. She averred that her use of $400,000 of her mother’s money was justified because, she alone, cared for her mother for eight years without help from her siblings. She also alleged that she invested her mother’s money with the intention of receiving a favorable return.

The court, interpreting the “defalcation while acting in a fiduciary capacity” prong, of Code §523(a)(4), noted that the plaintiff must prove that:

(1) there was a pre-existing fiduciary relationship between the debtor and the creditor;
(2) debtor acted in violation of that relationship and
(3) the creditor suffered economic loss as a consequence.

See Pa. Lawyers Fund for Client Security v. Baillie (In re Baillie), 368 B.R. 458, 469(Bankr. W.D. Pa 2007) (citing Commonwealth Land Title Co. v. Blaszak (In re Blaszak), 397 F. 3d 386, 390 (6th Cir. 2005)).

The court found the third element clear: the estate suffered a loss of $400,000 due to the defendant’s actions. As to the first two elements, the court noted that the “crux of this adversary proceeding is whether a fiduciary relationship existed between the debtor and her mother and whether the debtor’s conduct constituted a defalcation.”

Fiduciary Duty

Traditionally, a fiduciary is someone who is in a relationship of confidence, trust and good faith with some one else. Bankruptcy courts find this definition to be too broad for the purposes of the bankruptcy laws. See Mercedes-Benz Credit Corp. v. Carretta (In re Carretta), 219 B.R. 66, 69 (Bankr. D.N.J. 1998). Bankruptcy courts limit the definition of a fiduciary for §523(a) (4) purposes to situations where the fiduciary debtor holds an express or technical trust on behalf of beneficiary/creditor. See Int’l Fidelity Ins. Co. v. Marques (In re Marques), 358 B.R. 188, 194 (Bankr. E.D. Pa. 2006) (citing Harris v. Dawley (In re Dawley), 312 B.R. 765, 777 (Bankr. E.D. Pa. 2004)). Further, the fiduciary relationship, “[M]ust have existed prior to or independent of the particular transaction from which the debt arose. The debt must be due to the fiduciary acting in that capacity.” (citing Pa. Manufacturers’ Assoc. In. Co. v. Desiderio (In re Desiderio), 213 B.R. 99, 102-03 (Bankr. E.D. Pa. 1997)); see also In re Carretta, 219 B.R. at 69 ) (“The Trustee’s duties must be independent of any contractual obligation between the parties and must be imposed prior to, rather than by virtue of, any claim of misappropriation”). Judge Steckroth noted that “implied or constructive trusts and trusts ex maleficio do not impose fiduciary relationships within the context of §523(a)(4).”

State law has bearing in determining whether an express or technical trust relation exists See State of New Jersey v. Kaczynski (In re Kaczynski), 188 B.R. 770, 773 (Bankr. D.N.J.1995). In Kaczynski, the court noted that an express trust requires, “(1) a declaration of trust; (2) a clearly defined trust res and (3) an intent to create a trust relationship.” See also Windsor v. Librandi, 183 B.R. 379, 382 (M.D. Pa. 1995). A trust can be created in writing, orally or based on circumstantial evidence. Mugno v. Casale, No. 96-6228, 1997 U.S. Dist. LEXIS 3867, at *24-25 (E.D. Pa. 1997). Technical trusts are not as clearly defined. Instead, it is one that arises out of the state statute or by operation of common law. See In re Kaczynski, 188 B.R. at 774; In re Librandi, 183 B.R. at 383.

Unlike this case, in each of the cases cited above, there was already a state court judgment against the defendant when the bankruptcy was filed. The ruling in this case is noteworthy in that the court did not require the state court to render a judgment determining that the debt was a violation of trust imposed under fiduciary duty and/or there has been a finding of defalcation.

When an elderly person turns over control of money or other property to another by creating a joint bank account, an entrustment of funds exist. The requisite elements of an express (but unwritten) trust existed between the late Mrs. Buttimore and the debtor, based on the circumstances and their actions. For this reason, by New Jersey law, Judge Steckroth found that a “fiduciary relationship exists between Helen Buttimore and the defendant.”

Violation of Fiduciary Duty

The Code does not define defalcation. (See Chao v. Rizzi, No. 06-711, 2007 U.S. Dist. LEXIS 57773, at *7 (W.D. Pa. August 8, 2007); Silver Car Ctr. V. Parks, No. 05-37154, 2007 Bankr. LEXIS 2373, at *51 (Bankr. D.N.J. July 10, 2007) )

Judge Steckroth noted that while affirmative misconduct was necessary, bad intent was not required to establish defalcation. Defalcation is evaluated by an objective standard and no element of intent or bad faith need be shown. Brown v. Colangelo (In re Colangelo), 206 B.R. 78, 85 (Bankr. M.D. Pa. 1996). The judge in Wolke noted that there was a clear showing that the debtor used money belonging to her mother without her mother’s knowledge or consent. The debt and resulting liability flowed from that action. Because there was no consent and because the monies were used for a purpose other than Mom’s care, the court determined that affirmative misconduct existed. The court did not find fraudulent or criminal intent, but still pointed out “this court has no doubt the defendant’s conduct constitutes a defalcation under §523(a)(4).” Buttimore, supra, at 15.

Judge Steckroth drew a distinction between pre-existing trust relationships created by an express trust or by a trust implied by law (such as the creation of a joint bank account between the trustee and beneficiary) and trusts which are imposed by courts as a result of an actual, wrongful taking. For purposes of §523(a)(4), the trust relationship must predate the wrongful conduct. Significantly, if there was a preexisting trust, the funds taken may never have become property of the debtor’s estate. As a result, they are not subject to the claims of competing creditors of the same or higher priority.

Undue influence:

New Jersey law addressing undue influence is important in considering whether or not there has been a pre-existing relationship of confidence and trust. It is possible that an elderly person has been taken advantage of and persuaded or manipulated into signing a document creating a trust or a fiduciary relationship. New Jersey Courts think about undue influence as a form of fraud. Undue influence has been defined as “mental, moral or physical exertion which destroyed the free agency of a testator (or settlor) by preventing the testator from following the dictates of his own mind and will and accepting those of another,” See In the Matter of Niles Trust, 176 N.J. 282 at page 299 823 A.2d 1 (NJ 2003) and Haynes v. First National State Bank of New Jersey, 87 N.J. 163, 176 (1981), 432 A.2d 890 ( NJ 1981). While these cases relate to will contests, they explore the concept of undue influence over an elderly person. In litigating an adversary case with facts similar to those in Wolke, these principles help to prove existence of a trust implied by operation of law.

Confidential relationship:

In analyzing facts to determine whether a trust has been created, it is useful to see if there is a “confidential relationship” between the elderly person and the person against whom the judicial imposition of an implied trust is sought. Haynes, supra addresses “when trust is reposed by reason of a testator’s weakness or dependence although the parties occupied relations in which reliance is naturally inspired or actually exists.” 87 N.J. at 176, 432 A.2d 890.

Suspicious circumstances:

New Jersey courts also look to what are called “suspicious circumstances” to create a presumption of undue or improper influence. The suspicious circumstance could include where the elderly person is excluded from contact from other family members or with friends. Other circumstances should also be considered. (See In Re Blakes Will, 21 N.J. 50,57(1955), 120 A.2d 745 ( 1956).

Conclusion

The elderly can be attractive targets. Persons over the age of 50 are said to control over 70 percent of the nation’s wealth. See National Committee for the Prevention of Elder Abuse website at www.preventelderabuse.org/elderabuse/fin_abuse.html (an excellent website for basic guidelines on the prevalence and indicators of financial abuse of the elderly). Financial abuse of the elderly can span a broad spectrum of conduct. This includes taking money or property without permission. Very often the perpetrators are caretakers who stand to inherit from the victim and feel justified in taking what they believe is almost or rightfully theirs. They may also feel entitled to an older person’s funds if they have been the primary caretaker and resent others who may inherit from the elderly person without having participated in the caregiving. Or, they may view their actions as justifiably getting what will eventually come to them, like the debtor in Wolke. Economic abuse of the elderly is wrong. The ability to prevent the discharge of debts arising out of the financial abuse of older persons is a powerful tool for justice.

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