Opinion
No. 585-01087
April 8, 1991
Mary E. Jansing, Charles E. Logan, P.C., San Jose, California.
Ernest Robles, United States Trustee's Office, San Jose, California.
Debra Moe, Special Assistant U.S. Attorney, San Jose, California.
Jay R. Weill, Assistant U.S. Attorney, Chief, Tax Division, San Francisco, California.
Confirmation of Plan — Valuation — Time of Determination. — The valuation of an allowed secured claim in a Chapter 11 case should be determined, under Section 506(a) of the Bankruptcy Code, as of the time of the confirmation of the plan. Since a debtor filed for bankruptcy six years before and the value of his property increased substantially during that period, it would have been unfair for the debtor to remain in Chapter 11 without filing a plan and then obtain a windfall at the expense of the judgment lien creditor.
See Sec. 506(a) at ¶ 9022.
Confirmation of Plan — Conversion — Disclosure Statement — Disapproval. — A Chapter 11 plan violated Section 1129(a)(7) of the Bankruptcy Code since the Internal Revenue Service, as a judgment lien creditor, would receive less under the plan than if the debtor had converted to Chapter 7. A higher assessed value of property gave the debtors additional equity. The debtor's disclosure statement was not approved.
See Sec. 1129(a)(7) at ¶ 12,137.
I. INTRODUCTION.
Before the Court is an objection by the United States of America on behalf of the Internal Revenue Service ("IRS") to the Disclosure Statement filed by James and Velma Eblen ("the Debtors") on November 23, 1990.
This Court served an Order Establishing Procedures for Disclosure Statement Hearing and Confirmation Hearing on the Debtors on November 14, 1990. Paragraph 8 of the Order states in pertinent part:
"The Court will not approve a disclosure statement for a plan which, on its face, does not conform to the requirements of Chapter 11."
For the reasons hereinafter stated, the objection of the IRS will be sustained, and the Disclosure Statement of the Debtors will not be approved, in that the Plan violates the requirements of Chapter 11.
II. BACKGROUND.
The IRS has a federal tax lien on the Debtors' residence in the amount of $231,849.76. In their Disclosure Statement, the Debtors propose to value their residence at $170,000.00, which was the value of the property as of June 28, 1985, the date of the filing of the Chapter 11 petition. Using this valuation, the Debtors calculate their equity in the property to be $91,827.99. Adding additional equity of $12,500.00 in farm property and $2,025.00 in personal property, the Debtors calculate the total equity in all of their property to be $106,352.99. It is this amount that the Debtors propose to pay the IRS in cash on the effective date of the Plan, in satisfaction of its secured claim. The remainder of the IRS claim would be classified as a general unsecured claim.
The IRS objects to the Disclosure Statement on the basis that the present value of the Debtors' residence is currently $280,000.00, which provides the Debtors with additional equity in the amount of $110,000.00. The IRS contends that the total amount of the Debtors' equity should be calculated as of the effective date of the Chapter 11 Plan, which would give the IRS approximately $216,352.99 in satisfaction of its claim. The IRS argues that the Plan violates 11 U.S.C. § 1129(a)(7), in that they will receive less under the Plan than they would if the Debtors were converted to Chapter 7.
III. DISCUSSION.
The primary issue to be decided by the Court is whether the value of an allowed secured claim in a Chapter 11 case should be determined under section 506(a) as of the time of the filing of the bankruptcy case, or as of the effective date of a Chapter 11 Plan.
The IRS cites the legislative history of section 506(a), a number of bankruptcy decisions, and 3 L.King, Collier on Bankruptcy, ¶ 506.04 [2], pp. 506-24 — 506-39 (15th ed. 1990), and cases cited therein, in support of the latter position. The Court has reviewed this authority, which represents the majority view.
The Debtors rely primarily on the case of In re Beard, 108 B.R. 322 (Bankr. N.D.Ala. 1989), in support of the former position. Beard is a Chapter 11 case where the collateral was heavy equipment which was rapidly depreciating in value due to constant use. In an effort to protect the secured creditor's interest in the collateral and prevent a "taking" of the secured creditor's property in contravention of the Fifth Amendment, the Beard court found the "the weighty authority to the contrary [to be] insupportable," and the court fixed the value of the collateral as of the date of the filing of the bankruptcy petition. 108 B.R. at 327.
The Debtors have also cited In re Adams, 2 B.R. 313 (Bankr. N.D. Fla. 1980), a two-page decision regarding the valuation of an automobile in a Chapter 13 case, relied upon by the Beard court; In re Flagler-at-First Associates, Ltd., 101 B.R. 372 (Bankr. S.D. Fla. 1989), a maverick decision in a Chapter 11 case where real property was the collateral; In re Luchenbill, 112 B.R. 204 (Bankr. E.D. Mich. 1990), a Chapter 12 case; and Fox v. Peck Iron Metal Co., 25 B.R. 674 (Bankr. S.D. Cal. 1982), a Chapter 11 case involving real property.
The Court does not find the authority cited by the Debtors to be persuasive. The Court is well aware that in some cases secured collateral depreciates rather than appreciates. In those situations, the lienholder or secured creditor may bring a motion for relief from the automatic stay pursuant to 11 U.S.C. § 362(d), or obtain an order for adequate protection. Therefore, a rule which purports to protect creditors by unilaterally fixing the value of the collateral at the time of the filing of the bankruptcy case is somewhat misguided, in that such a rule only protects creditors whose collateral depreciates and who have failed to take advantage of the remedies available to them, but leaves creditors whose collateral appreciates remediless.
In the present case, the Debtors have remained under the protection of Chapter 11 since 1985. During that time, the fair market value of their property has significantly increased, with a concomitant increase in the Debtors' equity. It would be grossly unfair for the Debtors to be allowed to sit in Chapter 11 for six years without filing a Plan, and then in the end to obtain a windfall at the expense of a judgment lien creditor.
Therefore, the Court concludes that the correct rule is that the valuation of a secured claim for purposes of a Chapter 11 Plan should occur at the time of the confirmation of the Plan.
See, e.g., 3 L.King Collier on Bankruptcy, ¶ 506.04 at p. 506-37, and n. 53 (15th ed. 1990).
The Debtors additionally ague that the concerns raised by the IRS under section 1129(a)(7) are premature, because the purpose of this proceeding is solely to determine the value of an allowed secured claim under section 506(a), not to confirm the Plan. On the basis of the reasons peviously stated, the Court does not agree with the Debtors' characterization of this proceeding as one where the claim of the IRS should be evaluated independent of the Plan context. The Court therefore concludes that it is necessary to assess the valuation of the claim in the Plan and Disclosure Statement in light of section 1129(a)(7) for the purpose of this proceeding.
11 U.S.C. § 1129(a)(7) states in pertinent part: "(a) The court shall confirm a plan only if . . . (7) [w]ith respect to each impaired class of claims or interests — (A) each holder of a claim or interest of such class — (ii) will receive or retain under the plan on account of such claim or interest property of a value, as of the effective date of the plan, that is not less than the amount that such holder would so receive or retain if the debtor were liquidated under chapter 7 of this title on such date . . . . ".
Since the IRS would receive $106,352.99 under the Plan, but would receive approximately $216,352.99 if the estate were liquidated, the IRS would receive less under the Plan than it would if the Debtor were converted to Chapter 7. Therefore, the Plan violates section 1129(a)(7).
IV. CONCLUSION.
Based on the foregoing, the objection of the IRS to the Debtors' Disclosure Statement is sustained. The Court concludes that the Debtors' Plan does not conform with the requirements of Chapter 11. Therefore, the Disclosure Statement will not be approved.
IT IS SO ORDERED.