Opinion
Case No. 01-31187, AP No. 01-3099
February 5, 2002
MEMORANDUM OPINION
Trial was held October 31, 2001, on debtors' complaint to set aside a preferential transfer. The dispute arises out of debtors' default on a credit card issued by NSWC Federal Credit Union, and NSWC's transfer of funds from debtors' deposit accounts to offset the past due balance.
The court finds that the defendant NSWC held a valid security interest in the debtors' deposit accounts and that the transfer did not constitute a preference.
PROCEDURAL BACKGROUND
Debtors filed this chapter 7 bankruptcy case on February 27, 2001. The meeting of creditors required by 11 U.S.C. § 341 was held on March 30, 2001. Debtors filed a homestead deed in King George County Circuit Court on April 2, 2001. The bankruptcy case was discharged on June 8, 2001, and closed on June 20, 2001. This adversary proceeding was filed June 8, 2001.
FINDINGS OF FACT
Debtors have held joint deposit accounts and credit card accounts with defendant. They were also borrowers. This dispute arises out of transfers made by defendant from debtors' deposit accounts. The transfers were made to offset the balance of debtors' delinquent balance on an NSWC Visa credit card account.
1994 Visa Gold Application
In 1994, debtors filed a joint application for a Visa Gold credit card with NSWC. The application included a "Pledge of Shares" statement, signed by each debtor on January 10, 1994. The pledge states that the applicants grant a security interest in their NSWC shareholdings to NSWC to secure the Visa Gold account. Further, the applicants authorized NSWC to apply the shareholdings to any amount due if they default on the credit card.
"By signing below, you hereby pledge and grant us a security interest in the following shareholdings, now held or hereafter acquired with us, to secure your Visa Gold account. You authorize us to apply these shareholdings to pay any amount due on the account or under this Agreement if you should default." Pledge of Shares Statement, 1994 Visa Gold Credit Application.
1998 Loanliner Application and Credit Agreement
In 1998, debtors applied to NSWC for an automobile loan of $3,200.00. Each debtor signed a "Pledge of Shares" statement as a condition for receiving the advance. As with the previous pledge, by signing, the debtors granted a security interest in their shareholdings to NSWC to secure the advance. They once again authorized NSWC to apply the shareholdings to any amount due on the account in the event of a default. The Loanliner application for the loan also included a "Truth in Lending Disclosure" that the loan advanced to debtors would be secured by the shares and deposits held by debtors with the credit union.
By signing below, you hereby pledge and grant us a security interest in the following shareholdings, now held or hereafter acquired with us, to secure your Credit Card Account and all advances from your line of Credit Account by using your ATM and/or Visa Check Card(s). You authorize us to apply these shareholdings to pay any amount due on the account or under this Agreement if you should default. Pledge of Shares Statement, 1998 Loanliner Application.
Section 8 of the application, "Credit Agreement and Truth in Lending Disclosure," elaborates on the commitment made by applicant in signing the pledge. The disclosure states:
You agree that all advances under this Plan will be secured by the shares and deposits in all joint and individual accounts you have with the credit union now and in the future. If you have granted us a "pledge of shares" on page 1, you are granting us a security interest in all individual and joint share accounts you have with the credit union now and in the future.
Loanliner Application and Credit Agreement, p. 3. The disclosure further states that the applicants will be in default if they fail to make required payments when due, and NSWC may make a demand for immediate payment. See id. Once demand for immediate payment has been made, "the shares and deposits given as security for this plan can be applied towards what you owe." Id.
The loan application was not signed at the credit union but was taken home by Vicki Buttram. The application contained instructions as to where applicants were required to sign, but they were given no further guidance by NSWC. Debtors provided all necessary signatures but also signed, in error, under section 10, "Credit Card Security Agreement." Section 10 serves as a security agreement for customers receiving a Share Secured Visa Account. Unlike the pledge of shares agreement, section 10 limits the collateral in which NSWC has a security interest to those accounts with a suffix of "5" or "0." Section 10 applies specifically to customers applying for a Share Secured Visa Account. Debtors did not apply for and did not hold a Share Secured Visa.
Debtors' Credit Card Debt
The car loan was paid off by debtors in September 2000. However, in February 2001 the debtors had a past due balance of $7,801.45 on their Visa account and were unresponsive to NSWC's attempts to collect the outstanding balance. On February 26, 2001, NSWC offset against four deposit accounts held by debtors and applied a total of $3,997.89 from these accounts toward the outstanding Visa balance. On February 27, 2001, NSWC informed debtors of the setoff. The transfer reduced the total past due balance of the Visa account to $3,803.56.
POSITION OF THE PARTIES
Debtors contend that the transfer of $3,997.89 from their deposit accounts constituted an avoidable preference pursuant to 11 U.S.C. § 547(b). Debtors also claim that the funds are exempted under Virginia Code § 34-4, the homestead exemption. They further assert that even if NSWC had a valid security interest, when they signed under section 10 of the 1998 application this limited the accounts secured as collateral so that it did not include any of the four accounts foreclosed upon by NSWC.
Section 547(b) provides that the trustee may set aside any transfer of the debtor's interest that qualifies as a preference. See infra note 6 and accompanying text.
Debtors are entitled "to hold exempt from creditor process arising out of a debt, real and personal property, or either, to be selected by the householder, including money and debts due the householder not exceeding $5,000 in value." Va. Va. Ann. § 34-4 (Michie 1996).
NSWC maintains that it holds a valid, consensual, duly perfected security interest in the deposit accounts owned by debtors and held by NSWC and that the transfer was not a preference.
DISCUSSION AND CONCLUSIONS OF LAW
Section 547(b) of the Bankruptcy Code permits a trustee to set aside certain pre-petition transfers of a debtor, generally referred to as preferences. See Lubman v. C.A. Guard Masonry Contractor, Inc. (In re Gem Constr. Corp.), 262 B.R. 638, 644 (Bankr.E.D.Va. 2000). Thus, all unsecured creditors may share in property brought back to the estate. Id.
"Except as provided in subsection (c) of this section, the trustee may avoid any transfer of an interest of the debtor in property —
(1) to or for the benefit of a creditor;
(2) for or on account of an antecedent debt owed by the debtor before such transfer was made;
(3) made while the debtor was insolvent;
(4) made —
(A) on or within 90 days before the date of the filing of the petition; or
(B) between ninety days and one year before the date of the filing of the petition, if such creditor at the time of such transfer was an insider; and
(5) that enables such creditor to receive more than such creditor would receive if —
(A) the case were a case under chapter 7 of this title;
(B) the transfer had not been made; and
(C) such creditor received payment of such debt to the extent provided by the provisions of this title." 11 U.S.C. § 547(b).
On two separate occasions, in applying for a credit card in 1994 and an automobile loan in 1998, debtors signed a pledge of shares statement with NSWC. The applications of which these statements were a part provided 1) that the debtors were granting a security interest to NSWC in shares and deposit accounts held by the debtors, 2) that debtors were required to sign the statements in order to receive the advances, and 3) that if debtors defaulted in repaying their debt, NSWC was authorized to apply the balance of debtors' accounts to cure any default.
NSWC's security interest was perfected by its possession of the accounts. Virginia's Uniform Commercial Code (UCC) provides that a security interest in deposit accounts may be perfected by control of the accounts. Control of deposit accounts is present where "the secured party is the bank with which the deposit account is maintained." Virginia Code Ann. § 8.9A-104(a)(1) (Michie 2001). Debtors' deposit accounts were maintained by NSWC, which retained control over the accounts until the time of the disputed transfer. Therefore, NSWC's interest in debtors' deposit accounts was a properly perfected secured interest that is not avoidable by the debtors under § 547(b).
"A security interest in investment property, deposit accounts, letter-of-credit rights, or electronic chattel paper may be perfected by control of the collateral under §§ 8.9A-104, 8.9A-105, 8.9A-106, or 8.9A-107." Va. Code Ann. § 8.9A-314(a) (Michie 2001).
The pledge of shares security agreements were enforceable against debtors under § 8.9A-203(b) of the UCC, which provides that a security interest may be enforced against a debtor "only if: (1) value has been given; (2) the debtor has rights in the collateral or the power to transfer rights in the collateral to a secured party; and (3)(D) the collateral is deposit accounts . . . and the secured party has control [of the accounts] . . . pursuant to the debtor's security agreement." Debtors received value in the form of a loan or credit card from NSWC. The accounts given as collateral were owned by debtors and they had the right to transfer rights in the accounts to NSWC. The collateral given by debtors in exchange for credit advances from NSWC were deposit accounts held by NSWC.
The central issue to determining whether this transfer is a preference is whether "the creditor received more than it would if the case were a chapter 7 liquidation case, the transfer had not been made, and the creditor received payment of the debt to the extent provided by the provisions of the Code." 5 Collier On Bankruptcy, ¶ 547.03[7] (Lawrence P. King ed., 15th ed. rev. 2001). Where the creditor is fully secured, payments "will not be considered preferential because the creditor would not receive more than in a chapter 7 liquidation." Id.; see also Committee of Creditors Holding Unsecured Claims v. Koch Oil Co. (In re Powerline Oil Co.), 59 F.3d 969 (9th Cir. 1995), cert. denied, 516 U.S. 1140 (1996).
NSWC is a fully secured creditor. The Buttrams granted NSWC a security interest in their deposit accounts by signing the pledge of shares statements. NSWC would not receive more in a chapter 7 liquidation than it did through this transfer, and this transfer may not be set aside as a preference.
Debtors argue that by signing the Credit Card Security Agreement, NSWC has a security interest only in the accounts with the suffix "5" or "0," not in all of debtors' deposit accounts held by NSWC. The court rejects this argument. The Credit Card Security Agreement in section 10 of the Loanliner application is an optional application for a Share Secured Visa Account and is wholly separate from the advance sought by the debtors in the Loanliner application.
Section 10 limits the collateral in which the credit union has an interest to Secured Visa Share accounts (suffix — 5) and Prime Share accounts (suffix — 0) only. Debtors signed this portion of the application in error and now claim that their signature, along with NSWC's signed approval of the application limits the collateral in which NSWC has an interest. Debtors do not hold a Share Secured Visa Account, were not assigned such an account upon submitting this application, and have not shown the court that they made any effort to receive such an account in the three years since this application was signed by the parties.
The Homestead Exemption
Under Bankruptcy Code § 541, the filing of a bankruptcy petition creates an "estate" composed of all legal and equitable interests in property of the debtor wherever located and by whomever held. Pursuant to 11 U.S.C. § 522(b), debtors can exempt property of the bankruptcy estate. Generally, under § 522(b)(1), debtors may exempt property as designated under § 522(d), which provides for a standard federal exemption.
However, under § 522(b)(1), states may "opt out" of the federal exemption provision in § 522(d), and replace the federal exemptions with exemptions available under state or local law. Virginia has chosen to opt out, and as a result, debtors in Virginia may claim only those exemptions allowed under Virginia law. See Va. Code Ann. § 34-3.1 (Michie 1996).
The statutory provision creating the Virginia homestead exemption permits Virginia debtors to selectively exempt real and personal property up to a specified value of $5,000.00 ($10,000.00 for a married couple). Id. at § 34-4. Though courts generally apply the homestead exemption liberally in favor of the debtor, the exemption will not apply here. The Virginia statute provides that property a householder is entitled to exempt "may be set apart at any time before it is subjected by sale under creditor process, or . . . before it is turned over to the creditor." Id. at § 34-17 (emphasis added).
The exemption allows "every householder" in Virginia "to hold exempt from creditor process arising out of a debt, real and personal property, or either, to be selected by the householder, including money and debts due the householder not exceeding $5,000.00 in value." Id.
Virginia courts have interpreted § 34-17 to allow for the homestead exemption to be claimed prior to the time when the debtor "loses [his] interest in the property." In re Smith, 45 B.R. 100, 107 (Bankr.E.D.Va. 1984); see also Wilson v. Virginia Nat'l Bank, 196 S.E.2d 920, 921 (1973) (per curiam) (holding that property may not be set aside under the homestead exemption after it is subject to a lien of judgment). The intent of § 34-17 is to allow the debtor sufficient time to claim all possible exemptions, while protecting the interests of creditors by placing "a stamp of finality on the matter." Smith, 45 B.R. at 107.
The court has found that the transfer of funds was a valid exercise of defendant's security interest in debtors' accounts. The transfer was made on February 26, 2001. Debtors filed for bankruptcy on February 27, 2001, and filed their homestead deed on April 2, 2001. The accounts having been rightfully transferred by NSWC pursuant to its agreement with debtors were no longer part of debtors' estate at the time the petition was filed, and debtors no longer had any interest in the accounts. The creditor's exercise of its secured setoff rights thus preempted debtors' right to exempt the deposit accounts.