Court Allows Dismissal of Chapter 13, Rather Than Conversion to Chapter 7, Even Where Debtor Filed Inaccurate Schedules And Sold Home Without Court Permission

14 Aug Court Allows Dismissal of Chapter 13, Rather Than Conversion to Chapter 7, Even Where Debtor Filed Inaccurate Schedules And Sold Home Without Court Permission

Most chapter 13 debtors have probably been informed by their bankruptcy lawyers that the accuracy of their bankruptcy papers is critically important, that they shouldn’t incur new debt without the trustee’s permission, and that they can’t sell valuable property, such as their home, without court permission. Doing any of these could result in a finding of bad faith, or misconduct, and result in conversion to chapter 7.

For some, the whole reason for filing chapter 13 was to avoid chapter 7, due to owning nonexempt real estate or having debts which aren’t dischargeable in chapter 7. For such persons, conversion to chapter 7 may be the ultimate calamity. Therefore, acting in good faith in a chapter 13 is important.

A New York bankruptcy court recently denied the trustee’s request to convert a chapter 13 case to chapter 7, and instead allowed the debtor to harmlessly dismiss her chapter 13.

In re Armstrong, No. 809-70716-reg (Bky.E.D.N.Y. August 6, 2009), involved a woman who filed chapter 13 to stop a foreclosure. She was behind on house payments in the amount of $174,000 on her $908,500 mortgage. Her only other debts were $15,500 in back property taxes and $23,000 in federal capital gains taxes.

The debtor’s income and expense schedules filed with the court understated her income. After her creditors meeting, she told her lawyer she couldn’t document her business records, and therefore she wouldn’t be providing the trustee with documents he had requested. She further stated she wanted her case dismissed. Within a couple of weeks she entered into a purchase agreement to sell her home for $1.5 million.

Upon learning of this, the trustee asked the court to convert the case to chapter 7 and to deny the debtor the opportunity to simply have her case dismissed.

The debtor testified that she had quit making house payments because her lawyer told her that was acceptable; that she had asked her lawyer to dismiss the case, but he took no action; that she had given her lawyer the correct income figures but he had filled out her papers incorrectly; and that she had informed her lawyer’s staff of the impending sale but was told not to worry about it.

The court ruled that it was reasonable for the debtor to rely on her lawyer’s advice and his preparation of her case. There was no “cause” under the law to find she had acted in bad faith. The court also observed that none of the debtor’s creditors had appeared in court to support the trustee’s request to convert the case to chapter 7. Therefore, conversion of the case did not appear to be in the interest of creditors or the bankruptcy estate. The court thus granted the request to dismiss the chapter 13 case.

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Craig W. Andresen is a consumer bankruptcy lawyer in Bloomington, Minnesota, with 22 years’ experience in consumer and small business bankruptcy cases. He is the Minnesota chair of the National Association of Consumer Bankruptcy Attorneys, and is a member of the Minnesota State Bar Association’s Bankruptcy Section. Mr. Andresen lectures often on the topic of consumer bankruptcy at local and national legal seminars.
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