In re Engle
MEMORANDUM OPINION AND ORDER ON TRUSTEE’S OBJECTION TO CONFIRMATION OF CHAPTER 13 PLAN
I. Introduction
In order to be confirmed, a Chapter 13 plan must provide that each holder of an allowed unsecured claim will receive property having a value (as of the effective date of the plan) that “is not less than the amount that would be paid on such claim if the estate of the debtor were liquidated under chapter 7 of this title on such date[.]” 11 U.S.C. § 1325(a)(4). When determining the amount that unsecured creditors would receive in a hypothetical Chapter 7 liquidation, the Court is required to assign values to possible recoveries from avoidance actions, including actions to avoid preferential transfers under § 547(b) of the Bankruptcy Code. A potential preference action (“Preference Action”) exists in favor of the estate of Chapter 13 debtors Kevin D. Engle and Tonya C. Engle (“Debtors”) and, if this were a Chapter 7 case, any net recovery from the Preference Action would be available for distribution to the Debtors’ unsecured creditors. Under the terms of the Debtors’ Chapter 13 plan (“Plan”) (Doc. 2), however, each general unsecured creditor will receive cash payments having a value as of the effective date of the Plan that is less than the creditor’s pro rata share of the estimated net recovery from the Preference Action. In an effort to address this problem, the Plan requires the Debtors to pay the actual net recovery from the Preference Action to their general unsecured creditors to the extent that Chapter 13 Trustee Jeffrey P. Norman (“Trustee”) “elects to pursue the [Preference Action]
II. Jurisdiction
The Court has jurisdiction to hear and determine this contested matter pursuant to 28 U.S.C. §§ 157 and 1334 and the general order of reference entered in this district. This is a core proceeding. See 28 U.S.C. § 157(b)(2)(L).
III. Background
On October 16, 2012 (“Petition Date”), after commencing this case by filing a petition for relief under Chapter 13 of the Bankruptcy Code, the Debtors filed the Plan. As of the Petition Date, the Debtors had no non-exempt, unencumbered property available for distribution to their unsecured creditors. See Schedules of Assets and Liabilities (“Schedules”) (Doc. 1). In the 90 days prior to the Petition Date, however, Mary Rutan Hospital allegedly garnished $2,317.14 from Mr. Engle’s wages. See Debtors’ Brief in Support of Confirmation (“Debtors’ Br.”) (Doc. 22) at 1. The potential avoidance and recovery of the garnishment forms the basis of the Preference Action.
In the Plan, the Debtors, who are above-median-income debtors and thus subject to an applicable commitment period of five years, propose to pay the Trustee $250 per month for 60 months. See Plan at 1. It is from these monthly payments that, after other allowed claims have been paid, “allowed general unsecured claims shall be paid a dividend as provided on page one of the Plan,” id. at 5, and “no less than the dividend set forth on page one of the plan.” Id. at 7. The dividend set forth on page one of the Plan is 2%. See id. at 1. The aggregate amount of unsecured claims filed as of the bar date was $19,771.53.
The Plan also includes the following provision, which the Court will refer to as the “Preference Provision”:
The Debtors believe that Mary Rutan Hospital has obtained a preference by way of wage garnishments within the preference period set forth in 11 [U.S.C. § ] 547. In the event the Trustee elects to pursue the preference and succeeds, then the dividend to unsecured creditors shall be adjusted based upon the net recovery from the preferred creditor after deduction of attorney fees and other expenses.
Id. at 7.
The Trustee filed an objection and an amended objection to confirmation of the Plan (“ArmObjection”) (Doc. 14) based on, among other things, his contention that the Plan “does not meet the best interest test[,]” Am. Objection at 1, which is a reference to the confirmation requirement imposed by § 1325(a)(4).
The Trustee’s calculation deducts [from $2,317.14] a hypothetical Chapter 7 trustee fee of $579.00[5 ] pursuant to 11 [U.S.C.] § 326 and a hypothetical Chapter 7 Trustee attorney fee of $425.00[6 ] to determine a base best interest amount of $1,313.14. The Trustee then calculates the future value of $1,313.14 over 60 months (plan length) at a Till interest rate of .4375 per period (5.25% annual interest or 2 points over the Wall Street Journal Prime Rate as of the date of the bankruptcy filing) for a total best interest calculation of $1,706.34, which includes Till interest.7
Stipulation at 1.
The Court will refer to the Trustee’s estimate of the net recovery on the Preference Action ($1,313.14) as the “Liquidation Amount.”
IV. Legal Analysis
A. Because the Present Value of the Plan Distribution Amount Is Less than the Liquidation Amount, the Plan Does Not Satisfy § 1325(a)(4).
Section 1325(a)(4) states:
(a) Except as provided in subsection (b), the court shall confirm a plan if—
(4) the value, as of the effective date of the plan, of property to be distributed under the plan on account of each allowed unsecured claim is not less than the amount that would be paid on such claim if the estate of the debtor were liquidated under chapter 7 of this title on such date[J
11 U.S.C. § 1325(a)(4).
Commonly known as the best-interests-of-creditors test or the liquidation test, this provision of the Bankruptcy Code “requires two separate calculations.” Jensen v. Dunivent (In re Dewey),
“Next, the court must consider the amount that would be paid on each allowed unsecured claim if the debtor’s estate were liquidated in a hypothetical Chapter 7 case, taking into account the Chapter 7 administrative expenses.” Dewey,
The Trustee’s calculation of the Liquidation Amount assumes that the full amount of the Transfer can be recovered. Although the Debtors state that full recovery of the Transfer in a Chapter 7 case is “extremely unlikely,” Debtors’ Br. at 11, they offer no explanation for that statement. The Court finds, to the contrary, that the Trustee’s assumption in this regard is not unwarranted. Mary Rutan Hospital is a going concern, the amount of the Transfer is relatively small, and Sixth Circuit authority generally supports the avoidability of preferential transfers made by way of garnishment. See Morehead v. State Farm Mut. Auto. Ins. Co. (In re Morehead),
After the present value of the amount that is to be distributed under a Chapter 13 plan is calculated and the amount that would be paid in Chapter 7 is estimated, the two amounts must be compared. “The Chapter 13 plan will meet the best interests of creditors test if the distribution amount determined in the first, Chapter 13, calculation is not less than the amount in the second, Chapter 7, calculation.” Dewey,
As already noted, the present value of the Plan Distribution Amount is less than the Liquidation Amount. The Plan, therefore, does not satisfy the best-interests-of-creditors test of § 1325(a)(4).
The Debtors contend that the difference between the Liquidation Amount and the present value of the Plan Distribution Amount is of no moment because the Plan contemplates that any net recovery on the Preference Action would be paid to unsecured nonpriority creditors. The Plan, however, conditions the payment of the net recovery on the Preference Action—and, indeed, conditions recovery itself—on the Trustee’s election to pursue the Preference Action. The Trustee argues that this condition does not satisfy § 1325(a)(4). In response, the Debtors contend that “the condition in the plan is the exact same condition as exists in the Chapter 7 liquidation,” Debtors’ Br. at 3, and that “the Debtor must presume that the Trustee will perform his duties and recover preferences that would benefit the estate.” Id. at 7.
The Debtors’ argument is not well-taken. Although Chapter 13 trustees have the authority to pursue avoidance actions under Chapter 5 of the Bankruptcy Code on behalf of debtors’ estates, see In re Cecil,
Unless a Chapter 13 plan provides that the present value of property to be distributed to unsecured creditors is not less than the estimated net recovery on a viable avoidance action, the plan must provide for the prosecution of an actual avoidance action in order to satisfy § 1325(a)(4).
In support of their contention that the conditional nature of the Preference Provision does not run afoul of § 1325(a)(4), the Debtors rely on In re Loeffler,
With limited exceptions, a debtor in a chapter 13 case, unlike a debtor-in-possession in chapter 11, exercises no control over avoidance actions of the kind described in §§ 544, 547 and 548. It is the chapter 13 trustee who must pursue those recoveries. In order to satisfy the requirements of § 1325(a)(4), the Debt- or’s plan need do no more than provide that the net proceeds of any such recovery shall be paid out to creditors.... The Court cannot require the Debtor to personally fund payment of the hypothetical value of an asset that the Debtor does not possess and that the Code gives her no authority to recover. By its very nature, an avoidance action to recover money from a third party is unlike property that vests in the debtor upon plan confirmation, the value of which the debtor pays to creditors under his plan. Except for actions to avoid the transfer of exempt property under § 522(h), avoidance actions are not under the control of the debtor. It is the trustee who chooses to pursue an avoidance action .... That does not mean that a creditor in a chapter 13 proceeding should not expect to receive a distribution on account of assets that may be subject to recovery under §§ 544, 547 or 548. But, because a chapter 13 debtor has no control over such recovery actions, the creditor must look to the chapter 13 trustee to recover and distribute those assets exactly as it must look to the trustee to pursue those recovery actions in a chapter 7 case. So long as the Debtor’s plan provides for that eventuality and provides that any such recovery must be distributed to creditors under a the Plan, it passes muster under § 1325(a)(4).
Loeffler,
In other words, the decision in Loeffler was predicated on the bankruptcy court’s view that Chapter 13 debtors lack the authority to pursue avoidance actions on behalf of the estate.
The Debtors apparently believe that the Trustee’s position is that § 1325(a)(4) requires them to guarantee a distribution to creditors in an amount equal to the Liquidation Amount. See Debtors’ Br. at 5 (“If the Court were to sustain the Trustee’s position, then the Debtors would be put in an untenable and inequitable position. The Trustee does not argue that the preference has to be brought into the estate. To the contrary, the Trustee argues that the debtor must pay the preference regardless of whether the preference is ever recovered by the estate.”). And in his briefing the Trustee has in fact used language that suggests that he believes that the Debtors must provide such a guarantee. See Chapter 13 Trustee’s Resp. to Debtors’ Br. in Support of the Confirmation (“Trustee’s Resp.”) (Doc. 23) at 2, 3 (“While the [Preference Provision] does in part provide 100% of the net recovered by the Trustee from the garnishing creditor, it does so conditionally.... It is not a guarantee and it doesn’t set a value of the preference recovery or an exact percentage to be paid to unsecured creditors.... The [Debtors] propose a plan at 2% with the addition of a [Preference Provision] which they claim satisfies the best interest/liquidation test. It is the Trustee’s position that it does not, as it is not an absolute guarantee that [the required] distribution to unsecured creditors will be made under the proposed plan ... and therefore it fails the best interest/Kqui-dation test. The dispute between the Debtors and the Chapter 13 Trustee could not be stated more succinctly.”) (emphasis added).
“[T]he best interest of creditors test of Code § 1325(a)(4) will preclude confirmation of a plan in the absence of prosecution of an avoidance action when the debtor cannot pay enough out of income so that unsecured creditors receive what they
Debtors, however, sometimes elect to bring avoidance actions in order to fund their Chapter 13 plans. See Houston v. Eiler (In re Cohen),
Because the property distributed to each unsecured creditor under a Chapter 13 plan must have a value as of the effective date of the plan that is no less than the amount the creditor would receive in a Chapter 7 liquidation, plan payments must be discounted to their present value as of the plan’s effective date. See Till,
Although the Debtors and the Trustee agree that the language “as of the effective date of the plan” used in § 1325(a)(4) requires debtors to provide interest to unsecured creditors receiving payments over time, they do not agree on the appropriate interest rate in this case. The Debtors contend that “the Bankruptcy Code compels using a interest rate that solely accounts for expected inflation,” Debtors’ Br. at 10, and that “the interest rate on short-term Treasury notes is the most accurate index for determining the proper discount rate,” a rate that “today stands at .88%.” Id. By contrast, the Trustee’s “position based on Till, is that an interest rate of 2 points over the Wall Street Journal prime rate, as of the day of filing, should be set as the effective Till interest rate in all Chapter 13 cases,” Trustee’s Resp. at 3-4, a rate that the Trustee pegs at 5.25% per annum. See Stipulation at 1.
The interest rate question in Till arose in the Chapter 13 cramdown context; the section of the Bankruptcy Code at issue was § 1325(a)(5), under which a court may confirm a Chapter 13 plan, if at all, only if each holder of an allowed secured claim (1)
While Till was decided in the context of a cramdown of a secured claim in a Chapter 13 case, and this case involves unsecured claims, that difference does not counsel against applying Till or in favor of using a discount rate as low as the Debtors suggest. See In re Evans,
Based on the Court’s independent research, it appears that it is only in the context of cases involving solvent debtors that bankruptcy courts have used discount rates lower than a Till rate when calculating the present value of a future stream of payments in order to satisfy the best-interests test. See, e.g., In re Smith,
The Court, while not deciding the minimum interest rate that would satisfy the requirement of § 1325(a)(4) in this or any other case, concludes that using the rate proposed by these insolvent Chapter 13 debtors is not justified. Cf. In re Schuckenbrock,
V. Conclusion
In order to satisfy § 1325(a)(4), the Plan must provide that holders of allowed unsecured claims will receive distributions of property having a value (as of the effective date of the Plan) that is not less than the amount that would be paid on the claims in a Chapter 7 liquidation of the Debtors’ estates. The Plan fails to provide for such distributions to the holders of allowed unsecured nonpriority claims. The Objection, therefore, is SUSTAINED.
IT IS SO ORDERED.
Notes
. According to a stipulation filed by the parties, the aggregate dollar amount of unsecured claims filed by the bar date was $16,072.96. See Joint Stipulation as to the Chapter 13 Trustee’s Calculation of Best Interest ("Stipulation”) at 1. However, this amount apparently does not include the unsecured portion ($3,698.57) of the claim filed by Santander Consumer USA, Inc., which holds a lien on a 2006 Chevrolet Equinox owned by the Debtors. See Claims Register, Claim No. 4. There are no unsecured priority claims in the case.
. In their brief in support of confirmation, the Debtors state that the "2% will be paid to unsecured creditors by month 55” and that "[ujnder the plan as proposed, the unsecured creditors will receive an additional 5 months of plan payments which correlate to nearly $1,200.00 additional distribution.” Debtors’ Br. at 11 n. 14. The Plan, however, does not require the Debtors to make anything more than a 2% distribution to unsecured creditors. The Debtors’ statement regarding an additional distribution does not take into account administrative expense claims that they may incur during the case, including the additional fees that their attorney may seek as compensation for litigating this matter.
. The Court entered an agreed order between the Trustee and the Debtors (Doc. 29) providing that the Plan would be confirmed subject to the terms set forth in the agreed order. Those terms are that the Objection would be held in abeyance pending the Court’s decision in this matter; that if the Court sustains the Objection, the Debtors will have 30 days from the entry of the Court’s opinion and order in which to file a motion to modify the Plan so that it complies with the Court’s ruling; and that the failure to so modify the Plan would constitute a material default under the terms of the Plan and be grounds for dismissal of the case pursuant to § 1307(c)(6). The Court then entered an order confirming the Plan (Doc. 31).
. The Plan states that "[t]he effective date of the Plan shall be the date of entry of an order confirming the Plan.” Plan at 1. See also Hamilton v. Lanning,
. This amount, which the Debtors do not challenge, is calculated by multiplying $2,317.14 by 25% — the maximum percentage that a Chapter 7 trustee may receive on the first $5,000 recovered on behalf of a bankruptcy estate. See 11 U.S.C. § 326(a).
. The Debtors have not challenged the hypothetical $425 attorney fee. This amount likely would be sufficient to compensate the Chapter 7 trustee’s counsel for drafting a demand letter and communicating with Mary Rutan Hospital or its counsel. Depending on the hourly rate of the Chapter 7 trustee’s counsel, it also might compensate counsel for drafting a complaint. For the reasons discussed in Section IV.A, however, the filing of a complaint might be unnecessary under the circumstances.
. "Till” refers to the Supreme Court’s decision in Till v. SCS Credit Corp.,
. Using a simple interest rate of 5.25% per annum as the applicable interest rate, the amount that the Trustee would require the Debtors to pay over the term of the Plan in order to satisfy the best-interests-of-creditors test is $1,706.34. This amount has a present value (as of the effective date of the Plan) equal to the Liquidation Amount only if the entire $1,706.34 is paid in one lump sum in month 60 of the Plan. The Debtors, however, estimate that all claims other than unsecured nonpriority claims will be paid in full by month 53 of the Plan and that payments to unsecured nonpriority creditors will com
. See Till,
. See also In re Lewis
. The Sixth Circuit affirmed the BAP on other grounds and did not reach the issue of whether Chapter 13 debtors may be authorized to pursue avoidance actions on behalf of the estate. See Dickson,
. The Debtors contend that it is premature for them to have standing to seek to avoid the Transfer under Dickson because in that case the BAP held that Chapter 13 debtors have standing to pursue avoidance actions "in the face of the Trustee failing to take action.” Debtors’ Br. at 7. It seems reasonable here to view the Trustee’s objection to the Preference Provision as an indication that he will decline to bring the Preference Action himself.
. Similarly, in other cases outside the Sixth Circuit where Chapter 13 debtors have not
. As explained in footnote 8 above, if the best-case scenario posited by the Debtors turns out to be correct, then the monthly amounts paid to unsecured nonpriority creditors beginning in month 54 and ending in month 60 of the Plan would aggregate $1,676.50, and the present value of the payments might, depending on the discount rate used, equal or exceed the Liquidation Amount of $1,313.14. Again, however, the entire amount of those payments would not be distributed to the Debtors' general unsecured creditors if the Debtors’ attorney were to seek additional compensation for litigating this matter or if any other administrative claims (or claims allowed under § 1305(b)) were to accrue during the case. A Chapter 13 plan under which unsecured creditors will receive