Bankruptcy: Contract Default, Interest Rates and Attorney’s Fees

The United States District Court at Abingdon, in the case of Florida Asset Financing Corp. v. Dixon, ruled that a contractual default interest rate of 36 percent was available to an oversecured creditor as part of its claim against a debtor. The Bankruptcy Court decision denying such interest was reversed. 

The District Court ruled that the Bankruptcy Code provides that, in general, a claim must be oversecured in order to recover postpetition interest in addition to reasonable fees, costs and charges as part of its secured claim. As to the appropriate rate of interest applicable to an oversecured creditor’s principal claim, however, Bankruptcy Code §506 and the accompanying legislative history are silent. The District Court reported that a great majority of courts to have considered the issue of postpetition interest have concluded that the contract rate of interest applies. Default rates of interest generally do not enjoy, however, the same straight-forward treatment that postpetition interest claims for basic interest do. The Supreme Court noted in the case of Rake v. Wade that postpetition interest may be claimed up to the extent of the value of the collateral.

The District Court ruled that entitlement to default interest is generally determined by a reliance on equitable principles or the cure rationale evoked by the 9th Circuit Court of Appeals in the case of In re Entz-White Lumber & Supply, Inc. The District Court, unlike the Bankruptcy Court, found that the Debtor in this case had not “essentially…cured” his default. The District Court noted that the majority of jurisdictions allow, or at least give “a presumption to the allowability of default rates of interest, provided that the rate is not unenforceable under applicable nonbankruptcy law”. The facts and equities specific to each case prove determinative in the analysis of default rates. Within this analysis, the contract default rate is neither irrelevant nor predictive.

The District Court decided that the question presented by this case was just how far the Bankruptcy Court’s equitable powers extended under a modern reading of Bankruptcy Code §506(b). The rule governing the District Court’s consideration of this case was as follows: where the circumstances necessitating an equitable deviation are plainly absent and the contract interest rate does not violate state usury laws, function as a penalty or exceed the value of the collateral, the presumption in favor of the contract rate has not been rebutted. The District Court noted that to do otherwise is to impinge on a creditor’s statutory rights under Bankruptcy Code §506b). The District Court decided that in Dixon the presumption was in favor of the contract default rate. In order to discover what equitable considerations may support the Bankruptcy Court’s decision to deviate from this contract rate, the District Court turned to an analysis of the case law. The District Court found that those cases presenting equitable circumstances necessitating a deviation from the contract default rate were distinguishable on their facts. In this case, the contract default rate of interest in question violated neither state nor federal law, and there was a notable lack of circumstances which would encourage an equitable deviation from the stated contractual default rate.

The District Court stated that it seemed clear as well that the Bankruptcy Court erred when it deemed the default rate to be a penalty.  No evidence existed on the record to support the Bankruptcy Court’s characterization. The default rate was within the bounds of state usury law, and merely calling the rate exorbitant, or noting its large departure from the non-default rate, did not suffice to render it unconscionable.

In summary, the District Court ruled that the contractual default interest rate in Dixon had not been rebutted by equitable considerations. The District Court ruled that the Bankruptcy Court’s decision to reject the default interest rate and apply the nondefault interest rate was therefore erroneous. The Bankruptcy Code and applicable case law, facts of the case and equitable principles of distribution compelled that the debtor should have been held to the contract default rate of interest provided in the note. The District Court stated that to find otherwise would render a windfall to the debtor. While a 36-percent interest rate is high, the courts do not have plenary power to alter commercial contracts or to substitute their judgment for that of the parties. The District Court found it necessary to remand the attorney’s fees portion of the case to the Bankruptcy Court for reconsideration, as the increased recovery available to the creditor altered the context for analyzing the reasonableness of the fee request.

Collections: Payroll Deduction

Payroll deduction is still an excellent way to ensure timely payments. Debtor payments become virtually painless, and the debt is reduced without the debtor having to write a separate check.

Traditional payroll deductions (from company to employee's credit union) are not the only way to achieve this result. Voluntary wage assignments can be prepared and submitted through almost any payroll office.

Foreclosure: Substitute Trustees

Question: What happens if the trustee under your deed of trust is either unavailable, or, is no longer the person you desire to serve as trustee? 

Answer: You can appoint a substitute trustee. Under Virginia Code Section 55.1-320(9), the noteholder, or, the holders of greater than fifty percent of the monetary obligation secured by the deed of trust, have the right and the power to appoint a substitute trustee or trustees for any reason, regardless of whether such right is expressly granted in the deed of trust. The timing of your action is important. The trustee must be empowered before taking action – this occurs when the instrument of appointment has been executed. You do not have to wait for recording. However, as Virginia Code Section 55.1-320(9) states that the appointment of a substitute trustee shall be recorded before, or at the time of, the recording of the deed conveying the property (such as after a foreclosure).

Question: Can a lender appoint their counsel as trustee? 

Answer: Yes. Virginia Code Section 26-58 holds that a trustee is not disqualified merely because he is a stockholder, member, employee, officer or director or counsel to the lender.

Real Estate: Using Real Estate as a Collection Tool

Collecting money owed can be a job. Having more tools to do the work is good! Securing your debt with real estate is a great tool. Each month in Creditor News we will explore ways that use this tool. Articles will include such topics as: Deeds of Trust, Foreclosure, Docketing Judgments, Lis Pendens, Recording Mechanic’s Liens, Suits to Enforce Mechanic’s Liens, Foreclosing on Mechanic’s Liens, Recording Homeowners Association Liens, Foreclosing on Homeowners Association Liens and more.

We have experienced attorneys and staff who can examine title, do real estate closings, seek judgment and docket and enforce the same, and prepare and enforce statutory liens, such as those for litigation, homeowner’s associations and mechanic lien situations. Please call me so that we can discuss how we can help you.

Bankruptcy: Homestead Exemptions - Household Furnishings

In the case of In Re: John W. Haynes, Jr., the United States Bankruptcy Court at Alexandria, Virginia, ruled that the debtor was entitled to claim as "poor debtor's" exemption from the bankruptcy estate two TV's, a VCR and a stereo as part of his "household furnishings" exempt under Virginia Code §34-26.

In Haynes, the creditor, a bank, argued that the items claimed as exempt by the debtor were not the type of property that was necessary to run a household, unlike beds, dressers, stoves, eating utensils and other items listed in the statute.

The Bankruptcy Court, however, stated that it did not read Virginia Code §34-26 so narrowly. In interpreting the statute, the Bankruptcy Court stated that it looked first to the statute's plain language; the Bankruptcy Court noted that the language of the statute was quite broad. The statute allows debtors to exempt from creditor process "all household furnishings", including the items listed in the statute, so long as their value does not exceed $5,000. The term "furnishings" does not necessarily exclude televisions, stereos and VCR's, and the statute includes "non-furniture" items -- such as eating utensils and plates -- as examples of "household furnishings." The Bankruptcy Court also noted that the statute did not contain the term "necessary," which was once included in an earlier version of the statute. The Bankruptcy Court Stated that it did not view exceptions under the current statute as being limited to items necessary for maintaining a household. In addition, the Bankruptcy Court noted that longstanding Virginia precedent established that exemption statutes are to be construed liberally. Accordingly, the Bankruptcy Court overruled the creditor's objection concerning the electronic equipment.