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Dischargeable debts in divorce--the dissolution of dischargeability.

We all know that support-related obligations, typically alimony, maintenance, child support, and sometimes attorneys' fees emanating from a marital settlement, separation agreement, or divorce decree or judgment are not dischargeable in bankruptcy under [section]523(a)(5) of the Bankruptcy Code. (1) Many believe, however, that nonsupport-related debts, such as credit card obligations, notes secured by mortgages, automobile loans, and equitable distribution payouts and obligations are dischargeable. Although that may have previously been the case, it is no longer true. Virtually all obligations and debts of whatever kind or nature flowing from a divorce are now non dischargeable in bankruptcy, a change of which family law practitioners and judges should be aware.

The BAPCPA

In 2005, Congress enacted the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA). As part of the BAPCPA and the recognition by Congress that "the economic protection of dependent spouses and children under state law is no longer accomplished solely through the traditional mechanism of support and alimony payments," (2) [section]523(a)(15) was revamped. The law was significantly changed to further the underlying public policy of [section]523, favoring the enforcement of familial obligations over the Bankruptcy Code's "fresh start policy." (3) The law applies to all bankruptcy cases filed on or after October 17, 2005.

Historical Perspective

Section 523(a)(15), first implemented in 1994, excepted nonsupport-related debt from discharge unless 1) the debtor did not have the ability to pay the debt from income or property not reasonably necessary for the support of the debtor or a dependent of the debtor, or 2) if discharging such debt would result in a benefit to the debtor that outweighed the detriments to a spouse, former spouse, or child. These factors were considered "affirmative defenses." If established, these factors permitted the court to discharge property settlement obligations and the like, notwithstanding the obligation may otherwise have qualified as a nondischargeable debt within the scope of [section]523(a)(15).

The BAPCPA of 2005 eliminated these affirmative defenses, rendering virtually any debt or obligation falling under [section]523(a)(15) absolutely nondischargeable. As one court succinctly noted:

Under the former version of [section]523(a)(15), the [c]ourt would be required to assess whether the award constitutes maintenance, alimony or support, which are automatically non-dischargeable, as opposed to some other form of debt for which the merits of a discharge would have to be weighed through a multi-factor balancing test.... However, BAPCPA makes this evaluation process largely irrelevant since currently any debt arising from a divorce proceeding which would not fall under [section]523(a)(5) is nevertheless excepted from discharge under [section]523(a)(15). (4)

Simply stated, under current [section]523(a)(15), a debtor may not receive a discharge if the debt is "to a spouse, former spouse, or child of the debtor and not of the kind described in paragraph (5) that is incurred by the debtor in the course of a divorce or separation or in connection with a separation agreement, divorce decree, or other order of a court of record." (5)

Family law practitioners and state court judges exercising concurrent jurisdiction with the bankruptcy court (6) must use caution not to cite or rely upon cases that may no longer be good law due to the BAPCPA, a certain trap for the unwary. (7)

Moreover, practitioners and judges alike must be cognizant that even under the BAPCPA, there is still an important distinction between a Ch. 7 and individual Ch. 11 proceeding and a Ch. 13 proceeding. Stated succinctly, a consumer debtor may choose to liquidate under Ch. 7 or reorganize under Chs. 11 or 13 (depending on the amount of outstanding indebtedness). (8) A consumer debtor who successfully liquidates under Ch. 7 will receive a discharge, which is effectuated by the entry of a discharge order. (9) A consumer debtor who successfully obtains court approval of a reorganization plan under Chs. 11 or 13 generally will receive a discharge following the completion of all payments required by the plan. (10) As in a Ch. 7 proceeding, domestic support obligations may not be discharged in a Ch. 13 proceeding. (11) However, unlike a Ch. 7 proceeding now under the BAPCPA, other types of obligations and debts arising out of a separation or divorce, including property settlements, are still dischargeable in a Ch. 13 proceeding. (12)

Date of Incurring Debt Generally Irrelevant

Under the BAPCPA, debts of a debtor/spouse incurred prior to the marriage will be held nondischargeable provided the nondebtor spouse's obligation to pay emanates from a marital settlement agreement or final judgment of divorce. When the parties or party incurred a particular debt is irrelevant because the marital settlement agreement or final judgment creates a "new" obligation that is controlling for bankruptcy purposes. One court observed:

The critical issue under [section]523(a)(15) is not the timing but the nature of the debt. Entry into the Marital Settlement Agreement created significant new legal consequences because it extinguished some pre-existing obligations between the former spouses and created new ones. Despite any previous obligations or arrangements, the Marital Settlement Agreement created new rights to payment that were independent of the debtor's pre-existing liability. (13)

Of course, a marital settlement agreement or final judgment cannot alter either party's personal liability to third-party creditors, but the agreement or judgment can now create an enforceable obligation running from one former spouse to the other within the exception to discharge under [section]523(a)(15).

Hold Harmless and Indemnification Provisions

Oftentimes, in marital settlement agreements or final judgments, when one spouse is obligated to pay a joint debt or debt of the other spouse, a family law practitioner includes a clause directing the obligated spouse to indemnify and hold the other spouse harmless therefrom. Such a provision is clearly preferable for bankruptcy purposes.

Before the BAPCPA, courts were divided on whether debts owed to a third party related to a separation or divorce agreement required such a clause to be within [section]523(a)(15). Some courts required an indemnification and hold harmless proviso to create a direct liability from the debtor to the former spouse, (14) while other courts did not, reasoning that the obligation thereunder to pay such debts ran from the debtor to the ex-spouse without an express indemnification or hold harmless clause. (15)

However, post-BAPCPA cases evince a clear indication that indemnification and hold harmless clauses are not necessary to a finding of nondischargeability. As one court concluded:

Despite the fact that the Marital Settlement Agreement did not alter either parties' personal liability to third party creditors, it did create, or at least declare, an enforceable obligation running from Debtor [former wife] to Plaintiff [former husband]. Plaintiff's right to an enforceable obligation arising out of the Marital Settlement Agreement created new legal rights that are clearly within the exception to discharge in [section]523(a)(15). This conclusion is not dependent on the presence of a hold harmless clause, but is bolstered by such language. (16)

Debts No Longer Dischargeable

As a result of the BAPCPA, debts and obligations that have been held to no longer be dischargeable simply by virtue of the debts arising out of a divorce proceeding include, but are certainly not limited to, property equalization and equitable distribution payments, (17) lump sum distributions and payments, (18) credit card and charge account obligations, (19) mortgage and HELOC payments, (20) homeowner's association dues, (21) income tax obligations, (22) automobile loan payments, (23) indemnification and hold harmless obligations, (24) medical bills, (25) attorneys' fee obligations between the spouses incurred in matters unrelated to the divorce, (26) and sanctions awarded for contemptuous conduct. (27)

Attorneys' Fees

Attorneys' fees awarded in a divorce proceeding are now clearly nondischargeable, whether in the nature of support under [section]523(a)(5) or otherwise, such as in connection with the equitable division of property, and whether the award is payable to the debtor's spouse, former spouse, or directly to counsel. One court recently articulated:

It is undisputed that the ... attorney's fees awarded by the [s]tate [c]ourt are debts that were incurred by the [d]ebtor in the divorce proceedings. As such, it is irrelevant whether those awards constitute true support obligations, because even if not encompassed within [section]523(a)(5), they are nondischargeable pursuant to [section]523(a)(15). Additionally, it should be noted that the fact that the attorneys' fees are payable directly to [counsel] and not to [former spouse], does not remove these debts from the scope of [section]523(a)(15). (28)

Even post-dissolution fee awards for enforcement purposes can be deemed nondischargeable, (29) and the attorney owed fees from a client's former spouse has standing to pursue a claim of nondischargeability in the bankruptcy proceeding. (30)

Of course, a debtor's liability for his or her own attorneys' fees incurred in a divorce proceeding are still dischargeable, (31) but notwithstanding any such discharge, if the divorce court had awarded the client's former spouse to pay any of such "discharged" fees, that award would remain undischarged. (32)

Potential Deficiency Judgment

As noted above, a marital settlement agreement or final judgment obligating one former spouse to pay the mortgage (or technically the note secured by the mortgage) will constitute a nondischargeable obligation. However, what if that obligated former spouse fails to pay the mortgage, the home is foreclosed, and a deficiency judgment is entered?

In one case, (33) the husband was awarded the marital home. Among other things, the divorce decree required him to refinance within two years of the divorce, but was silent as to which party was responsible for the current mortgage. Husband failed to pay, the house went into foreclosure, and a deficiency judgment was entered against the wife. She sought an order of nondischargeability of husband's purported obligation to pay the mortgage and concomitantly the deficiency judgment. She lost because the decree was silent, and the court could not read into the dissolution decree a provision or term not expressly provided therein, namely, that the husband alone "should bear the burden of any deficiency that may arise as the result of a foreclosure sale of the [p]arties' former marital residence." (34)

The lesson learned is to always provide who is to be responsible for the note and mortgage, as well as who should bear the burden of a deficiency judgment resulting from any foreclosure sale.

Also, attorneys should caution clients about novation type situations as occurred in Cooper v. Cooper, Case No. 09-30751, Adv. Pro. No. 09-3068 (Bankr. E.D. Tenn. May 10, 2010). In Cooper, the former wife was awarded the marital home, and the former husband/debtor was required to pay the mortgage until satisfied. His business began to decline, and he could not continue paying the mortgage. He was, however, able to obtain a loan to pay off the mortgage on the marital home and keep his business operational. In order to do so, the former wife agreed to use the marital home as collateral for the new loan, the note for which both parties executed. In the former husband's subsequent bankruptcy proceeding, his obligation to the former wife was not nondischargeable under [section]523(a)(15), because the new loan constituted a new debt not covered by or arising out of the parties' marital dissolution agreement or divorce decree.

Personal Representatives and Heirs Not Covered by BAPCPA

Under the BAPCPA, debts and obligations covered by the exception to discharge are limited to those owed "to a spouse, former spouse, or child of the debtor...." (35) If such a spouse, former spouse, or child of the debtor dies, it has been held that his or her personal representative is without standing to seek nondischargeability under [section]523(a)(15). (36)

Conclusion

As a result of the BAPCPA, family court judges no longer need to fear that the allocation of a debt or obligation in the equitable distribution scheme to one party may be avoided by that party in bankruptcy with the consequential importation of such debt to the other spouse. Nor do family law attorneys need worry that in settling a case in which the other party is agreeing to be responsible for a joint debt or debt of the attorney's client (such as credit cards, automobile loans, and attorneys' fees) that the obligating party will be able to discharge such debt in bankruptcy. Courts, both bankruptcy or state, no longer need to determine whether a particular debt is or is not support related. In sum, virtually all debts emanating from a divorce are simply no longer dischargeable.

(1) Unless otherwise noted, all statutory references herein are to the Bankruptcy Code, 11 U.S.C.

(2) In re Prensky, 416 B.R. 406, 411 (Bankr. N.J. 2009).

(3) See In re Shepard, Case No. 7-07-10497 SA, Adv. Pro. No. 07-1177S (Bankr. N.M. June 28, 2008).

(4) Mordas v. Schenkein, Case No. 09-14658 (AJG), Adv. Pro. 09-01947 (AJG)(Bankr. S.D. N.Y. August 9, 2010).

(5) Id.

(6) As permitted by 28 U.S.C. [section]1334(b).

(7) In Huete v. Huete, Case No. 10-42426 EDJ, Adv. No. 10-04137 (Bankr. N.D. Cal. July 27, 2010), the debtor sought discharge of a property equalization payment relying upon a 2002 case which the court found to be "outdated." See also Ginzl v. Ginzl, Case No. 6:09-bk-15478-ABB, Adv. Pro. No. 6:10-ap-00015-ABB (Bankr. M.D. Fla. June 29, 2010) (similar); In re Tarone, 434 B.R. 41 (Bankr. E.D. N.Y. 2010) (similar).

(8) See 11 U.S.C. [section]109(e).

(9) See 11 U.S.C. [section]727(a)(1).

(10) See 11 U.S.C. [section][section]1328(a) and 1141(d)(5).

(11) 11 U.S.C. [section]523(a)(5) and 11 U.S.C. [section]1328(a)(2). In order for a debtor's obligation to pay a marital debt to constitute a domestic support order, it must 1) be owed to or recoverable by the spouse or former spouse; 2) be in the nature of alimony, maintenance, or support; 3) be established before the debtor filed for bankruptcy relief by a separation agreement or divorce decree; and 4) may not be assigned other than for collection purposes. See 11 U.S.C. [section]101(14A); In re DeBerry, Case No. 09-12428 (Bankr. M.D. N.C. April 30, 2010).

(12) 11 U.S.C. [section]523(a)(15); 11 U.S.C. [section]1328(a)(2). See also Bullock v. Bullock, Case No. 10561-AJM-13 (Bankr. S.D. Ind. April 28, 2010) (Tax debt, student loan, and equalization payment emanating from marital settlement agreement are still dischargeable in a Ch. 13 proceeding); Kennedy v. Kennedy, Case No. 09-12289-TPA, Adv. No. 10-1020 (Bankr. W.D. Pa. September 15, 2010) (similar); Corso v. Walker, Case No. 09-23605-JAD, Adv. No. 09-02516-JAD (Bankr.W.D. Pa. October 22, 2010) (similar).

Parenthetically, although the distinction between property settlements and domestic support obligations is no longer relevant for dischargeability purposes, the distinction may still be important for determining the priority for a debt, as domestic support obligations have first priority. See 11 U.S.C. [section]507(a)(1).

(13) In re Shepard, Case No. 7-07-10497 SA, Adv. Pro. No. 07-1177S (Bankr. N.M. June 28, 2008).

(14) See, e.g., In re Stegall, 188 B.R. 597 (Bankr. W.D. Mo. 1995); In re LaRue, 204 B.R. 531 (Bankr. E.D. Tenn. 1997); In re Owens, 191 B.R. 669 (Bankr. E.D. Ky. 1996).

(15) See, e.g., In re Gibson, 219 B.R. 195 (B.A.P. 6th Cir. 1998); In re Henson, 197 B.R. 299 (Bankr. E.D. Ark. 1996); In re Montgomery, 310 B.R. 169 (Bankr. C.D. Cal. 2004).

(16) In re Shepard, Case No. 7-07-10497 SA, Adv. Pro. No. 07-1177S at 7 (Bankr. N.M. June 30, 2008). To the same effect, see In re Wodark, BAP No. 09-049 (B.A.P. 10th Cir. March 22, 2010); In re Burckhalter, 389 B.R. 185 (Bankr. D. Colo. 2008).

(17) See In re Tarone, 434 B.R. 41 (Bankr. E.D. N.Y. 2010); In re Gonzalez, Case No. 09-03241, Adv. Pro. 09-00134 (Bankr. P.R. June 29, 2010); In re Klein, Case No. 07-31042, Adv. Pro. 08-7007 (Bankr. N.D. August 1, 2008).

(18) Ginzl v. Ginzl, Case No. 6:09-bl-15478 ABB, Adv. Pro. No. 6:10-ap-00015-ABB (Bankr. M.D. Fla. June 29, 2010).

(19) See In re Williams, Case No. 07-3101 (Bankr. N.D. Ohio August 22, 2008); In re Shepard, Case No. 7-07-10497 SA, Adv. No. 07-1177S (Bankr. N.M. June 30, 2008); In re Burckhalter, 389 B.R. 185 (Bankr. Colo. 2008); In re Hosterman, Case No. 07-10575-M, Adv. Pro. 07-01082-M (Bankr. N.D. Okla. October 9, 2007); In re Corn, Case No. 07-11951--CAG, Adv. Pro. No. 07-1154 (Bankr. W.D. Tex. July 9, 2008).

(20) See Mapley v. Mapley, Case No. 09-6953, Adv. No. 09-64333 (Bankr. E.D. Mich. September 21, 2010); Ginzl v. Ginzl, Case No. 6:09-bk-15478-ABB, Adv. Pro. No. 6:10-ap-00015-ABB (Bankr. M.D. Fla. June 29, 2010); In re Wodark, Case No. 07-16394, BAP No. CO-09-049 (B.A.P. 10th Cir. March 22, 2010); In re Shepard, Case No. 7-07-10497 SA, Adv. Pro. No. 07-1177S (Bankr. N.M. June 30, 2008).

(21) See Ginzl v. Ginzl, Case No. 6:09-bk-15478-ABB, Adv. Pro. No. 6:10-ap-00015-ABB (Bankr. M.D. Fla. June 29, 2010).

(22) See id.;In re Corn, Case No. 07-11951--CAG, Adv. Pro. No. 07-1154 (Bankr. W.D. Tex. July 9, 2008).

(23) See Howard v. Howard, Case No. 2008-CA-001059 MR (Ky. Ct. App. June 12, 2009) (debtor's obligation emanating from divorce decree to pay deficiency judgment arising from the repossession of a Dodge Durango held nondischargeable).

(24) In re Shepard, Case No. 7-07-10497 SA, Adv. Pro. 07-1177S (Bankr. N.M. June 30, 2008); In re Higgins, Case No. 07-81072, Adv. Pro. No. 07-8099 (Bankr. C.D. 1ll. January 10, 2008).

(25) See In re Williams, Case No. 07-3101 (Bankr.N.D.Ohio August 22,2008).

(26) See, e.g., In re Thimson-Villa, Case No. BK09-41923-TJM (Bankr. Neb. April 20, 2010) (in which divorce judgment required each spouse to pay one-half of attorneys' fees incurred in a prior action (unrelated to the divorce action) to relocate the former wife's child from California to Nebraska, the former wife's one-half obligation therefore held nondischargeable under 11 U.S.C. [section]523(a)(15)).

(27) See Monastra v. Monastra, Case No. 09-15638 ELF, Adv. No. 10-090 ELF (Bankr. E.D. Pa. October 6, 2010).

(28) In re Tarone, 434 B.R. 41 (Bankr. E.D. N.Y. 2010). To the same effect, see In re Prensky, 416 B.R. 406 (Bankr. N.J. 2009); Mordas v. Schenkein, Case No. 09-14658 (AJG), Adv. Pro. No. 09-01947 (AJG) (Bankr. S.D. N.Y. August 9, 2010).

(29) See Floody v. Kearney, Case No. 09-36017-H4-7 (Bankr. S.D. Tex. June 28, 2010) (fees incurred in post-divorce enforcement proceeding to remove lis pendens on former spouse's real property held nondischargeable).

(30) See In re Papi, Case No. 09 B 12379, Adv. Pro. No. 09 A 00789 (Bankr. N.D. 1ll. May 4, 2010).

(31) See, e.g., In re Young, Case No. 08-41515, Adv. Pro. No. 09-4054 (Bankr. E.D. Tex. March 8, 2010); In re Brooks, 371 B.R. 761 (Bankr. N.D. Tex. 2007). Brooks involved an unusual situation whereby the law firm intervened in the divorce proceeding suing its own client (former spouse) and the debtor, and was awarded in the final judgment $23,923 recoverable from the debtor and a "separate" award of $11,133.98 against the former spouse. The final judgment further provided the debtor was not liable to either the firm or former spouse for former spouse's amount, nor was the former spouse liable for the debtor's amount. The bankruptcy court discharged debtor's debt because the state court specifically designated separate awards for fees payable and owed by each directly to the firm.

(32) See Berryman v. Sutphin, Case No. 289228 (Mich. Ct. App. April 8, 2010).

(33) In re Williams, Case No. 07-3101 (Bankr. N.D. Ohio August 22, 2008).

(34) Id. at 9.

(35) 11 U.S.C. [section]523(a)(15).

(36) In re Poppleton, 382 B.R. 455 (Bankr. D. Idaho 2008).

Christopher A Tiso is an associate with the law firm of Schuttler & Greenberg, LLC, of Boca Raton. He is admitted to practice in Florida and New York.

This column is submitted on behalf of the Family Law Section, Diane M. Kirigin, chair, and Sarah Sullivan and Amy Hamlin, editors.
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Title Annotation:Family Law
Author:Tiso, Christopher A.
Publication:Florida Bar Journal
Date:Mar 1, 2011
Words:3447
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