Rewriting 11 U.s.c. § 523 (a)(16): the Problems of Delayed Foreclosure and Judicial Activism

• Publication year: 2014

Rewriting 11 U.S.C. § 523 (a)(16): The Problems of Delayed Foreclosure and Judicial Activism

Jeffrey S. Adams

REWRITING 11 U.S.C. § 523(A)(16): THE PROBLEMS OF DELAYED FORECLOSURE AND JUDICIAL ACTIVISM

ABSTRACT

To protect the interests of homeowners' associations and other housing communities in situations where their member homeowners have declared bankruptcy, § 523(a)(16) of the Bankruptcy Code excepts from discharge any "fee or assessment" that becomes due after the order of relief, as long as the debtor has a "legal, equitable, or possessory ownership interest" in the property. This section was intended to unify through legislation a split of authority deciding how to handle such postpetition fees.

Unfortunately, by electing to protect first and foremost the interests of HOAs, Congress placed debtors in a position not conducive to the idea of a fresh start by which bankruptcy law is ordinarily guided. The result is a group of cases that are inconsistent with one another and with the Code, as some courts have taken steps to attempt to ease the burden on the debtor, while others have noted with resignation that, fair or not, the Code's plain language is clear and precludes judicial intervention. Further muddying the waters, the problems with the Code are different depending on whether the debtor's discharge was affected under § 727, § 1328(a), or § 1328(b).

Given that the Code as written has failed to accomplish the unity sought in curing the split of authority, Congress should revisit not only its language but also the policy that informed the amendment. The nation's economic realities have changed since the 2005 amendment was passed, and these changes have brought into sharp focus the problems with the exception as it currently applies.

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I. Introduction

While a debtor's bankruptcy has the potential to harm all creditors, Congress has set out to protect a class of creditors that is particularly vulnerable to economic turmoil caused by bankruptcy: homeowners' associations, condominium management organizations, and housing cooperatives (collectively, "HOAs").¹ In an effort to protect HOAs, § 523(a)(16) of the Bankruptcy Code (Code) made postpetition HOA dues nondischargeable "for as long as the debtor or the trustee has a legal, equitable, or possessory ownership interest" in the property that is burdened by HOA fees.² On its face, this provision seems obvious and logical, and many courts ruled this way even before the initial version of the provision was enacted in 1994 to cure disagreement among various courts.³ These decisions were based on the theory that "the debtor's obligation to pay the assessments arose from his continued postpetition ownership of the property and not from a prepetition contractual obligation."⁴ This makes sense on the most basic level; to continue reaping the benefits of association membership, as a homeowner does while she continues to own property in the neighborhood, a homeowner should be expected to contribute to that association's financial resources.

However, in practice, § 523(a)(16) creates two distinct problems. The first is that ownership is not such a simple concept. Although debtors in this situation can be essentially broken into two categories—vacating and non-vacating homeowners—the Code does not distinguish between the two groups. As a result, courts sometimes take extraordinary steps to interpret the Code in a way that allows vacating homeowners' postpetition HOA fees to be discharged while still requiring non-vacating homeowners to continue paying. This seems only fair, but is not within the Code's plain language.

The second problem is that, under a strict interpretation of the plain language, this common-sense outcome is achieved only in chapter 7 non-

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vacated-property cases and in some chapter 13 vacated-property cases.⁵ This is because the exception provided for in § 523(a)(16), like most other § 523(a) exceptions, does not apply in ordinary chapter 13 cases when discharge is executed under § 1328(a).⁶ The result of this strict reading of the Code is that in any chapter 7 case in which the debtor vacates a property on which the creditor does not timely foreclose, the homeowner is left paying recurring fees for a home she no longer occupies.⁷ The opposite problem is caused by the inapplicability of the exception to § 1328(a), which can lead to either a non-vacating homeowner having her debts discharged or a vacating homeowner being expected to pay, depending on the court's statutory interpretation.

In the chapter 7 context especially, some courts have reacted by throwing up their collective hands and yielding to the Code's clear, but inequitable, plain language. Others have been more creative in overcoming explicit congressional actions even when they lead to either unfair liability imposed upon debtors (in the case of chapter 7 and § 1328(b) vacating homeowners), or a potential windfall in favor of debtors (in the case of § 1328(a) non-vacating homeowners). By examining cases representing both scenarios, this Comment will argue that it is necessary for Congress to once again revisit the language of § 523(a)(16) to align the outcomes demanded by the Code with the ideals of fairness and reason outlined by those cases that expressed such disapproval of the statutory outcomes. Fixing the legislation is crucial, for despite the importance of protecting vacating debtors⁸ and preventing non-vacating debtors from discharging their HOA fees,⁹ the only way courts can unilaterally

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meet these goals is by taking steps that risk usurping Congress's traditional rulemaking role.¹⁰

This Comment begins with a discussion of the discrepancy between how the § 523(a)(16) exception would operate if applied according to its plain language and how it has been typically applied in practice. Cases decided under each of the discharge provisions illustrate the need for an additional amendment to this portion of the Code. The Comment then concludes with a discussion of the changes Congress could make to better balance the competing interests involved in a bankruptcy case. In the end it depends on which interests Congress most strongly favors. However, because the purpose of this provision as written seems in conflict with the overall goals of bankruptcy, a change of some kind needs to be made to clarify once and for all the role of the HOA creditor in bankruptcy.

II. BACKGROUND

A. Statutory Provisions and Legislative History

Section 523(a) contains various exceptions to any "discharge under [§] 727, 1141, 1228(a), 1228(b), or 1328(b)."¹¹ This Comment will focus on those chapters that deal with bankruptcy proceedings initiated by individual debtors: chapter 7 liquidation cases and chapter 13 payment plan cases. In particular, this Comment considers the consequences of § 523(a)(16), which prevents the discharge of any "assessment[s]" owed to an HOA if those assessments arise postpetition.¹² That section makes nondischargeable any debt:

for a fee or assessment that becomes due and payable after the order for relief to a membership association with respect to the debtor's interest in a unit that has condominium ownership, in a share of a cooperative corporation, or a lot in a homeowners association, for as long as the debtor or the trustee has a legal, equitable, or possessory

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ownership interest in such unit, such corporation, or such lot, but nothing in this paragraph shall except from discharge the debt of a debtor for a membership association fee or assessment for a period arising before entry of the order for relief in a pending or subsequent bankruptcy case.¹³

As introduced above, one notable problem with this exception in its present form is Congress's 2005 extension of the § 523(a)(16) exception to any "legal, equitable, or possessory" interest in the real property on which assessments are due.¹⁴ The second problem is Congress's decision not to except from discharge such debts under § 1328(a) as it does under § 1328(b).¹⁵

While strange, the decision not to apply the § 523(a)(16) exception to all bankruptcy cases seems intentional given that the relevant portion of § 523(a) has been amended once already, despite the fact that it had been effective for less than twenty years.¹⁶ Passed in 1994, the section was enacted to "resolve the split of authority . . . regarding the dischargeability of postpetition assessments."¹⁷ This split consisted of three main lines of authority:¹⁸ (1) under the first, postpetition assessments were not dischargeable because they arose from a covenant that ran with ownership of the land;¹⁹ (2) under the second, they were dischargeable as part of a prepetition contract;²⁰ and (3) under the third, courts favored a compromising position that made debts dischargeable "unless the debtor resided in or leased the unit."²¹ Some courts have concluded that Congress elected to enact this third line of reasoning in the 1994 Act,²² but in fact the amendment created a new question.

Rather than focusing, as the preceding cases had done, on the nature of the agreement from which the obligation arose—that is, in the form of either a covenant running with the land or as a prepetition contract—Congress decided

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to except from discharge all postpetition debts when discharge was brought under certain specified Code provisions.²³

In 2005, the statute was amended again.²⁴ Congress passed the amendments under the influence of private interest groups²⁵ "to broaden the protections accorded to community associations with respect to fees or assessments arising from the debtor's interest in" such communities.²⁶ To achieve this end, Congress expanded the provision's exception, precluding discharge of postpetition assessments for property when the owner retains the much broader "legal, equitable, or possessory" interest, rather than limiting discharge only to properties possessed by or earning rent for the debtor.²⁷ Indeed, the...