The Last Dance: Righting the Supreme Court's Greatest Bankruptcy Apostasy.

Date22 March 2022
AuthorPonoroff, Lawrence

CONTENTS Introduction I. How the Heck Did We Get Here? A. Dewsnup B. Policy Blunders 1. Right to Appreciation and Sanctity of the Bargain 2. Liens Pass Through Bankruptcy C. Nobleman D. Strip Off as Opposed to Strip Down in Chapter 13 E. Strip Off in Chapter 7 (not) II. The Long Road Back A. Chapter 20 Generally B. Chapter 20 After BAPCPA C. The Status of Stripped Off Claims 1. Claim Discharged 2. Unsecured Claim Endures III. Alternative Paths Leading to the Overruling of Dewsnup A. The Supreme Court Accepts Responsibility for its Mistake 1. Case and Controversy 2. Declaratory Judgments B. Congress to the Rescue (Really?) 1. What it Might Look Like 2. Why it Makes Sense 3. Why it's Unlikely to Happen C. The Judicial Route 1. Secured Claims in Bankruptcy Generally 2. Unsecured Claim for Stripped Off Lien in Chapter 20 Conclusion INTRODUCTION

Few, if any, would quibble with the observation that cases like Dred Scott v. Sandford (1) and Korematsu v. United States (2) were rough both from a moral and a humanitarian perspective. From the standpoint of many commercial lawyers, however, the Supreme Court's 1992 decision in Dewsnup v. Timm (3) is right up there in the running for the worst decision in the Court's venerable history. In 2015, the Court had the opportunity to rectify the disruptions to bankruptcy jurisprudence wrought in the wake of the Dewsnup decision but failed to seize the moment. (4) While we are rarely granted multiple bites at the apple in life, it may not yet be time to throw in the towel on the hope of counteracting the deformities to bankruptcy doctrine and policy that Dewsnup has engendered.

The tale begins with the Supreme Court's decision in Bank of America v. Caulkett, (5) a case in which, ironically, Dewsnup carried the day. (6) However, it is far from farcical to postulate that this 2015 decision came out the way it did because counsel for the borrowers in the cases that had been consolidated for the appeal in Caulkett made a critical tactical mistake during oral argument, namely, asserting that it was not necessary for the Court to overrule Dewsnup in order to find for the respondents. (7) That is to say, the Court invited reconsideration of Dewsnup but the invitation was declined on more than one occasion. (8) Left then with application of a stipulated standard to the undisputed facts of the cases in Caulkett, (9) the 9 to 0 outcome for reversal was practically a fait accompli.

Would that outcome have been different in Caulkett if the respondents' litigation strategy had embraced repeal of Dewsnup? Perhaps not, (10) * considering only three Justices, who otherwise joined in the decision, made a point of withholding their endorsement of a footnote in the opinion reciting some of the many criticisms of Dewsnup. (11) At a minimum, however, it is fair to speculate that the vote would likely not have been 9 to 0 for reversal of the Eleventh Circuit. As it happens, it is perhaps fortuitous that the Court did not take up the issue of the continuing viability of Dewsnup in 2015, because it left open the opportunity to do so now in an environment where the sentiments of the Justices, three of whom were not on the Court in 2015, (12) may have shifted. (13) The challenge, however, is whether a vehicle exists for maneuvering the issue back in front of the Court.

The purpose of this Article is to examine a route potentially leading to that eventuality that does not involve utilizing the direct question of strip-down or strip-off in a Chapter 7 case, as that approach has now been exhausted by virtue of the dubious posturing of the respondents1 argument in Caulkett. (14) However misguided lower courts may feel about the Dewsnup reasoning and outcome, (15) they understand and are beholden to the chain of command and cannot renounce a clear precedent from the High Court. (16) Therefore, an alternative mechanism is required.

The straightforward solution, of course, would be for Congress to overrule Dewsnup by simple amendment of the federal Bankruptcy Code. (17) I explore what such an amendment might look like, (18) but conclude the likelihood of Congress acting is remote. (19) Therefore, a surrogate approach must be found, and I propose that such a path might emerge from the development of the caselaw bearing on two related issues that were birthed in the aftermath of the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, (20) to wit, (1) must a debtor receive a discharge in Chapter 13 in order to strip off an underwater home mortgage lien, (21) and (2) what is the nature of a secured lender's interest with respect to the portion of the debtor's obligation that has been stripped off when the debtor's personal liability on the obligation was earlier discharged. (22)

  1. HOW THE HECK DID WE GET HERE?

    So much ink (or toner) has already been spilled over Dewsnup and its progeny that I hesitate to plough the same ground once more and do so in only the most basic terms, largely just to refresh the reader's recollection. Perhaps of more value, I also try to tease out in this section certain flawed assumptions about contemporary bankruptcy law and policy that drove the result in the majority opinion in Dewsnup to its lasting ignominy, and, as a result thereof, unnecessarily complicated the basic question of what it means to be secured in a bankruptcy sense of the word.

    1. DEWSNUP

      Aletha Dewsnup, the debtor in a Chapter 7 case, filed an adversary proceeding seeking to set aside (strip down) a $120,000 lien against her land to the extent the debt exceeded the fair market value of the property. Ms. Dew' snup reasoned that because, under [section] 506(a) (now 506(a)(1)) of the Code a claim is secured only to the extent of the value of the underlying collateral, the balance could be avoided under authority of [section] 506(d), (23) which provides that a lien is void "to the extent that [it] secures a claim against the debtor that is not an allowed secured claim." Ms. Dewsnup logically and understand' ably maintained that the creditors would have such an "allowed secured claim" only to the extent of the judicially determined value of their collateral. (24) The balance of the claim would then no longer represent an encumbrance against her property.

      Nonetheless, even though the bankruptcy court determined that the value of the land in question was only $39,000, it refused to grant the requested relief and entered a judgment of dismissal with prejudice. (25) The district court and the court of appeals affirmed, (26) and the Supreme Court agreed to review. (27) In his opinion for the majority, Justice Blackmun found that the phrase "allowed secured claim," as used in [section] 506(d) was ambiguous, (28) and, thus, did not necessarily mean the same thing as the identical phrase in [section] 506(a). (29) Instead, the Court concluded that "allowed secured claim," for purposes of subsection (d) referred to a claim that was not allowed and not secured under applicable state law. (30) In this case, because the claim had not been disallowed under [section] 502, and was secured under state real property law, the Court found that [section] 506(d) was simply not applicable, (31) relying heavily on the old (but false) bromide that "liens pass through bankruptcy unaffected." (32)

      Dewsnup was wide of the mark on so many levels it is hard to count. (33) As a starting place, it is useful to focus on the Sixth Circuit's articulation of the three key analytical underpinnings of Dewsnup, namely, that (1) post-filing appreciation up to the point of foreclosure belongs to the creditor; (2) the parties bargained ex ante for the lien to remain with the property until foreclosure; and (3) liens survive bankruptcy unaffected. (34) All three premises are flawed, as summarized below. But perhaps the most malicious upshot of Dewsnup's legacy has been its toxic impact on other issues involving the proper characterization of secured claims in bankruptcy cases, (35) including the issue that, peculiarly enough, might someday provide the vehicle for redressing the injuries precipitated by the misconceptions underlying the holding in Dewsnup. (36)

    2. POLICY BLUNDERS

      The Dewsnup majority's ignorance of bankruptcy history and policy was staggering. And yet, even more egregious and unforgivable was its departure from the most basic precepts of statutory construction, namely, that identical words and phrases when used in different parts of a statute, never mind within different subsections of the same statutory provision, should be presumed to have the same meaning. (37) Justice Scalia's testy dissent does an admirable job of drawing attention to this desecration of the conventional norms of statutory interpretation. (38) Scalia's dissent also makes mincemeat out of the majority's assertion that the text of [section] 506(b) was rendered ambiguous by virtue of the fact that the parties each put forth a different understanding of the statute's meaning, (39) a truism that the dissent acidly pointed out represents "an ailment surely most afflicting every statutory interpretation question in our adversarial legal system." (40)

      As a practical matter, the majority opinion virtually read [section] 506(d) right out of the Code, (41) blinded by a misguided fealty to the state law bargain and a false perception that the lien represented a property interest that could not be divested without running afoul of constitutional protections therefrom. (42) The Court also failed even to begin to explain how an undersecured claim that is bifurcated under [section] 506(a) could be treated as a wholly allowed claim for purposes a of [section] 506(d). In summing up the rationales offered by the majority opinion in Dewsnup, Judge (now Justice) Gorsuch commented that the decision "warped the bankruptcy code's seemingly straight path into a crooked one," but that [r]ight or wrong, the Dewsnuppian departure from the statute's plain language is the law."...

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