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Ch. 7 Lien Strip Still No Go

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BoA v. Caulkett, 13–1421 (Jun 1) Supreme Court of the United States

Background

This case came to the Supreme Court due to a Circuit split on the issue of “Lien Stripping.” In this pair of cases the Debtors both filed Chapter 7 Bankruptcy cases, owned houses encumbered with senior mortgages and “underwater” junior mortgages held by the Petitioner banks. Because the amount owed on each senior mortgage was greater than each house’s current market value, the Banks would have received nothing if they foreclosed on the junior liens (i.e. underwater).

Debtors sought to void their junior mortgage liens under the terms of Bankruptcy Code §506, which provides that “To the extent that a lien secures a claim against the debtor that is not an allowed secured claim, such lien is void.” 11 USC §506(d). In each case, the Bankruptcy Court granted the Debtor’s respective motions, and both the District Court and the Eleventh Circuit Court of Appeals affirmed.

Opinion

The Court first noted that the Debtors could only prevail if the interests of the subject petitioning junior lien holders were not “allowed secured claim[s]” under the Code. However, there was no dispute that those claims were “allowed” – only that they were “secured.” Specifically, §506(a)(1) provides that “[a]n allowed claim… is a secured claim to the extent of the value of such creditor’s interest in… such property” and “an unsecured claim to the extent that the value of such creditor’s interest … is less than the amount of such allowed claim.”

Because the value of the Banks’ interests was 0 here, a straight reading of the statute favored the Debtors. Indeed, this is what happened at the Bankruptcy Court, District Court, and Appellate Court levels. But the S.Court noted that its own prior reading of §506(d)’s “secured claim” term in the landmark case of Dewsnup v. Timm, 502 U. S. 410 foreclosed that reading and resolved the question in favor of the Banks.

In declining to permit a Chapter 7 Debtor to “strip” a partially underwater lien to the value of the collateral under §506(d), the Court in Dewsnup concluded that an allowed claim “secured by a lien with recourse to the underlying collateral… does not come within the scope of §506(d).” Id., at 415. Under Dewsnup a “secured claim” is a claim supported by a security interest in property, regardless of whether the value of that property would be sufficient to cover the claim.

Holding

Reversed and Remanded.  The Court stated conclusively that a Debtor in a Chapter 7 Bankruptcy may not void a junior mortgage lien under §506(d) even when the value of the senior mortgage lien exceeds the value of the Debtor’s home if the junior claim is secured by a lien and allowed under §502 of the Code.

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