Janice Miller Karlin, United States Bankruptcy Judge.
Debtors seek confirmation of a Chapter 13 plan
The Court overrules in part and sustains in part the Trustee's objection to plan confirmation. The Code, since being amended in 2005, only prohibits above-median income debtors from voluntarily paying nondischargeable student loan debt using discretionary income outside of a plan when all projected disposable income, as defined by the Code, is paid into a plan when unfair discrimination results from such treatment. The treatment of the student loan creditor in this case does not create unfair discrimination under 11 U.S.C. § 1322(b)(1) if Debtors are not accelerating the repayment of the student loan. Debtors' treatment of the KDOL claim, however, does unfairly discriminate against similarly situated creditors, and the Trustee's objection to this part of the plan is therefore sustained. The Trustee's objection to Debtors' planned retention of a third vehicle is also sustained, as Debtors did not carry their burden to show that this plan provision was filed in good faith under 11 U.S.C. § 1325(a)(3).
Because of these rulings, Debtors' plan cannot be confirmed. Debtors must file an amended plan consistent with this decision within 21 days of the entry of this Memorandum Opinion if they wish to remain in a Chapter 13 proceeding.
The parties stipulate to the following facts,
The plan also provides full payment of the anticipated $4,793 KDOL claim as a special class.
Debtors' plan payment is $980 per month. Debtors are above-median income and thus their applicable commitment period is 60 months.
The Trustee generally objects to confirmation of Debtors' plan on the basis that it does not comply with 11 U.S.C. § 1322(b)(1) because the plan unfairly discriminates against classes within the plan. The Trustee then stated three bases for his objection to confirmation: (1) Debtors' direct payment of $500 per month for student loan debt results in unfair discrimination against other unsecured creditors; (2) there is no legal basis for separate classification of the KDOL claim as a special class; and (3) Debtors are unnecessarily retaining the 2011 motorcycle when they are already paying to retain two other vehicles.
I have fully considered the parties' briefs, the Stipulation of Facts, and the evidence received at trial on the issue of the motorcycle retention.
Debtors, as the proponents of the plan, bear the burden of proof to show that their plan is confirmable.
Section 1322(b)(1) of Title 11 permits a chapter 13 plan to "designate a class or classes of unsecured claims;" the plan, however, "may not discriminate unfairly against any class so designated." Generally stated, § 1322(b)(1) permits the designation of separate classes of unsecured claims and different treatment of the separate classes, as long as the classification does not cause "unfair" discrimination.
The Bankruptcy Code does not define when a plan classification causes unfair discrimination, and courts have struggled to define the limits of unfair discrimination under § 1322(b)(1). The D.C. Circuit, the first Circuit to address unfair discrimination under § 1322(b)(1), simply stated:
Other appellate courts, however, have attempted to offer a "generally applicable definition" through the use of multi-factor tests.
For example, the First Circuit BAP, in Bentley v. Boyajian (In re Bentley),
The Seventh Circuit also appears to favor the Bentley approach. In In re Crawford,
The Eighth Circuit and Ninth Circuit BAP use a different four-part test, referred to as the Leser/Wolff test,
The Tenth Circuit has not considered this issue,
Here, Debtors have discriminated in favor of two unsecured creditors—a student loan creditor and the KDOL. With regard to the student loan creditor, Debtors propose pro rata distribution along with other unsecured creditors (which admittedly is predicted to result in the Trustee paying zero dollars to any unsecured creditor), plus an additional $500 per month Debtors will pay directly to the student loan creditor out of the income not devoted to the plan payment. With regard to Creditor KDOL, Debtors propose a special class to fully pay the anticipated $4,793 claim, which arose from overpayment of unemployment compensation to one of the Debtors.
The Trustee argues that Debtors' treatment of these creditors unfairly discriminates against other unsecured creditors, because the student loan creditor would be paid almost in full and the KDOL claim would be paid in full, while the remaining unsecured creditors would receive nothing. And while the Trustee acknowledges that Debtors' student loan debt is nondischargeable, he argues that this fact, alone, is insufficient to justify separate treatment. He argues that if payments were instead shared pro rata among all unsecured creditors, the dividend to all unsecured creditors would be 51% (rather than zero, as currently proposed). Finally, the Trustee argues that pro rata payment to the student loan creditor in addition to direct payment is doubly unfair because if pro rata distribution to unsecured creditors would occur, perhaps due to non-filing of claims, earlier payment of secured claims, an inheritance, or the like, the student loan creditor would receive dual favorable treatment.
With regard to the treatment of the student loan creditor, Debtors respond that the superior treatment of the student loan creditor is not unfair because that debt is nondischargeable. They argue that paying nearly all of the debt during the plan would enhance their ability to obtain a fresh start after they exit bankruptcy,
With regard to the treatment of the KDOL claim, Debtors argue that Kansas
Using the Bentley court's test, I consider the following factors to aid in the determination whether Debtors' proposed treatment of these "preferred" creditors creates unfair discrimination: (1) equality of distribution; (2) nonpriority of student loans or the KDOL debt; (3) mandatory versus optional contributions (a comparison of what the unsecured creditors holding dischargeable claims would receive in a pro rata distribution of the mandatory contribution under chapter 13); and (4) the Debtors' fresh start.
Regarding the equality of distribution, the Bentley court noted that the Code's focus is to treat all equally situated creditors equally, unless specifically stated otherwise in the Bankruptcy Code. Debtors do not claim that the Code has accorded either "preferred" unsecured creditor priority status under 11 U.S.C. § 507(a).
Admittedly, student loan debts are nondischargeable, but, as stated in Bentley, "nondischargeability is not, and does not entail, priority as to any distribution in or through bankruptcy; it merely permits the holder to continue to enforce the debt after bankruptcy.... Accordingly, as far as the Code is concerned, nothing in the nature of the claims at issue here warrants or justifies treating the student loans more favorably than the others."
That said, however, I agree with one commentator who has opined that the real reason educational loans are nondischargeable has little to do with the debtor at all; they are more likely nondischargeable because Congress wishes to protect the government's fiscal health as a guarantor (or lender) of these loans, and because "if these debts were dischargeable, the availability
I also acknowledge that the nondischargeability rule effectively forbids student loan claimants from pursuing collection from a debtor's post discharge earnings for upwards of 5 years. As a result, if the nondiscrimination rule does not allow favorable treatment of student loan claims during the life of the plan, those claimants may, in fact, be worse off than if the debtor had liquidated under Chapter 7, since they may not pursue collection for a long time. And the result for debtors is even worse—owing more on their student loans after completion of their plan than before filing for Chapter 13 relief because of accumulation of equally nondischargeable interest that will accrue.
Regarding distributions, Debtors show a negative projected disposable income on their B22C means test, so there is no projected disposable income to devote to payment of unsecured creditors.
Application of this factor to the KDOL claim, however, is less clear. As a result of Debtors' special treatment of this claim, other unsecured creditors essentially bear the burden of paying this similarly situated dischargeable debt, although the difference in pro rata distribution would be admittedly small. And while Debtors argue that they must separately classify this debt because they may need unemployment compensation in the future, and they presume that if they do not repay this claim in full they may be denied future benefits, there are no facts in evidence to support this argument. There is nothing in the Stipulation of Facts that provides evidence about the likelihood either Debtor might be laid off during the life of the plan, or, if they were, whether they could defer payment of other expenses until re-employment without the need for unemployment benefits. In addition, Debtors fail to acknowledge that the very statute upon which they rely for this argument— K.S.A. § 44-719(d)(1)—also allows the secretary of the agency to totally waive repayment under certain conditions, making the certainty they would face consequences for nonpayment even more speculative. Debtors are now currently gainfully employed, qualifying as above-median income debtors. Accordingly, any potential future impact on Debtors' fresh start is pure speculation. For that reason, I have no evidence upon which I can find this discrimination is "fair."
Finally, under the Bentley test, I consider Debtors' fresh start. Admittedly, as the Bentley court notes, "affording debtors a fresh start is one of the fundamental purposes of Chapter 13 and of the Bankruptcy Code in general."
Based on the consideration of the Bentley factors, and a weighing of the burdens and benefits established by the Code as a baseline, this Court concludes that the direct payment to the student loan creditor of ongoing contractual payments does not constitute unfair discrimination under § 1322(b)(1). Although student loans are not accorded priority by the Code, Debtors are contributing this excess amount to the student loan debt only from funds not required by the Code to be committed to the plan. As stated by Bentley, "[w]hen a plan prescribes different treatment for two classes but, despite the differences, offers to each class benefits and burdens that are equivalent to those it would receive at the baseline, then the discrimination is fair."
For these reasons, the facts of this case are distinguishable from the case upon which the Trustee relies, In re Kubeczko.
"Debtors' student loan and non-student loan creditors are receiving exactly what the Code requires Debtors to pay them — a pro rata payment of PDI [projected disposable income]. The fact that the student loan creditors are also receiving a discretionary payment from Debtors does not entitle the remaining unsecured creditors to additional moneys, nor `dis-entitle' student loan creditors from receiving a pro rata payment."
The Court finds that the treatment of the debt owed KDOL as a special class, however, is unfairly discriminatory. Debtors do not assert that the KDOL debt commands either priority status or that it is a nondischargeable debt. As a result, and in contrast to the analysis of the student loan debt, the proposed treatment of the KDOL debt does unfairly discriminate against similarly situated creditors. Debtors presented no evidence whatsoever on this issue, and thus failed to demonstrate it was more likely than not that failure to pay 100% of that debt would impair their fresh start. Accordingly, the Court finds that the proposed discrimination merely "alters the allocation of benefits and burdens to the detriment of one class,"
The Trustee also challenges Debtors' plan to retain and pay for three vehicles through their plan. Debtors propose to retain and pay for a 2010 Nissan Sentra, a 2006 Ford F-150 pickup, and a 2011 Harley Davidson motorcycle. Debtors claimed the Nissan and Ford as exempt, and do not dispute that the Harley motorcycle is not exempt. Debtors' plan will also pay more for both the Ford and the Harley motorcycle than they are worth, because they were both purchased within 910 days of filing bankruptcy.
Section 1325(a)(3) requires that a chapter 13 plan be "proposed in good faith and not by any means forbidden by law." Whether a plan has been proposed in good faith is a question of fact based on the totality of the circumstances.
The continued viability of the Flygare factors for all cases, however, has been questioned by a subsequent Tenth Circuit case as a result of the 2005 amendments to the Bankruptcy Code.
In Anderson v. Cranmer (In re Cranmer),
The Trustee argues that Debtors' retention of a third vehicle is unreasonable and unnecessary. He notes that by claiming two other functioning vehicles as exempt, Debtors have essentially admitted that it is the Nissan and Ford that they regularly use for transportation to and from work.
Debtors respond that retaining the motorcycle is not only necessary — because Mr. Knowles rides the motorcycle to work in warm weather — but financially wise, because if required to surrender the motorcycle,
In reaching that conclusion, however, Mr. Knowles failed to consider the other costs associated with retaining this spare vehicle. Mr. Knowles testified that the motorcycle's tags and taxes cost about $200 a year, insurance (at $56.56 per month) $678.72 a year, and the annual note payment totaled $3096 (at $258 each month). The actual comparison is, therefore, a questionable $1920 per year gas savings versus a certain $3,974.72 per year expense of ownership of the motorcycle. And this does not account for any additional maintenance costs (or new tires) that Debtors would likely encounter over a 60 month plan, so the difference is probably even greater.
Debtors' brief additionally contends that, regardless of whether retention of the motorcycle is necessary for their maintenance and support, as long as they comply with the Code's provisions for retention of secured debt, they have filed their plan in good faith, citing Judge Berger's decision in In re Roberts
In Roberts, the above-median debtors proposed a chapter 13 plan that retained their expensive home (valued somewhere between $530,000 and $665,000) while paying nothing to general unsecured creditors.
As a result of these findings of fact, Judge Berger found no unfair manipulation of the Bankruptcy Code, and concluded that the totality of the circumstances indicated that the debtors filed their chapter 13 plan in good faith in accordance with § 1325(a)(3).
In contrast, Mr. Knowles testified that his wife drives the Nissan to work, and that their work shifts do not allow them to ride together. He also testified, however, that he makes no attempt to utilize the far more fuel efficient/30 mpg Nissan for his work transportation on days Ms. Knowles does not work (which, most weeks, is four days, as she is a registered nurse most often working three 12-hour shifts). The facts also showed that both the Ford F150 and the Harley motorcycle were purchased within about 15 months of filing bankruptcy — the Ford F150 was purchased in February 2012, the Harley motorcycle was purchased in August 2012, and Debtors filed their bankruptcy petition in May 2013. Further, the debt on the Harley — which Debtors propose to pay in full through the plan — is $14,272.59, but the motorcycle is worth only $11,375.
As a result of this evidence, I find the totality of the facts in this case are much more similar to those in Sandberg than to the facts in Roberts. First, by exempting the Nissan and the Ford F150, Debtors necessarily claim those were the two vehicles necessary for their transportation to work. For them to now fudge on which vehicle they actually use most places Mr. Knowles' testimony in conflict with their sworn schedules. Second, state law allows the exemption of one vehicle, not 1.5 each as they essentially want. Third, the Harley motorcycle is indisputably a luxury item. While they may save some money on gas when Mr. Knowles elects to ride it to work, they spend far more than they save when considering the overall costs of insurance, tags and taxes, maintenance and debt payments. Fourth, Debtors admit that they seek to retain this motorcycle even though retention will require them to pay $3000 more than it is worth; this makes no financial sense. Fifth, unlike in Roberts where the debtors hoped to retain their one exempt homestead allowed under Kansas law, instead of two, these Debtors think they should be able to retain more than state law exemptions allow. Finally, the debtors in Roberts had pared expenses, contrary to the evidence here, where in spite of having incurred upwards of $65,000 in unsecured debt, Debtors purchased not one, but two, vehicles within 15 months of bankruptcy (and the motorcycle less than 9 months before filing). There is simply no financially responsible reason to retain an expensive Harley motorcycle under these facts other than simply because Debtors like to have it — and this is not enough, especially where Debtors propose zero dividend to their non-preferred unsecured creditors.
The Trustee's objection to confirmation is overruled in part and sustained in part, as indicated more fully herein. Because of these rulings, Debtors' plan, as proposed, cannot be confirmed. Debtors must file an amended plan, tailored to reflect the rulings contained herein, within 21 days of the entry of this Memorandum Opinion, if they wish to remain in this Chapter 13 proceeding. Failure to do so will result in the dismissal of their case for undue delay prejudicial to creditors pursuant to 11 U.S.C. 1307(c)(1).
