The scenario is that debtors file bankruptcy, typically a Chapter 13 bankruptcy. They might pay an arrearage on the home through the plan. They pay their mortgage payment direct through the plan, meaning the ongoing mortgage payment is included in the plan, but either by the debtors or through the trustee in some jurisdictions the current house payment is being made directly. The mortgage company continues to add charges while the bankruptcy is pending for drive by inspections, attorneys' fees, certain late penalties, and the like. However, the company does little to disclose these to the court. The result is the mortgage company is laying in wait -- hiding -- while these fees build (sometimes called "escrow arrearages") until the bankruptcy is discharged. Then the mortgage servicing company (which is often not the same one as when the bankruptcy was originally filed) makes a demand for these fees, and the accrued interest from the fees. Sometimes the mortgage company makes a demand for back house payments when the past mortgage payments were first applied to paying these fees, costs and expenses. In any event, if not paid after discharge the mortgage company threatens foreclosure.
For years bankruptcy attorneys have been trying to figure out how to effectively deal with this matter, because the situation exists to some extent in nearly every Chapter 13 bankruptcy in which a mortgage is involved. What complicates the matter for both the attorney and the client is deciphering the long -- often erratic -- payment history since the filing of the bankruptcy. It takes an untold number of attorney time to get this accomplished, and there is a question of how to get paid, and how to get the matter resolved. In this, there might now be hope.
Two Houston bankruptcy courts have tackled this issue with different opinions of which laws are violated, but essentially reaching the same conclusion -- these fees must be disclosed by the filing of a 2016(a) fee application with the court or they are likely (1) per se unreasonable, and (2) constitute violations of the Bankruptcy Code, the orders of the Court, and possibly the injunctions of the Court.
That on which the two courts cannot agree is what orders or injunctions have been violated because one court reads the automatic stay and discharge injunction narrowly, while one takes a broad approach to the issue. However, neither decision is good news for these hide and wait mortgage companies. Both decisions are worth reading.
In the first decision, In re Sanchez, effectively describes the overreaching purpose of the bankruptcy laws as it relates to all parties. This explanation is sometimes necessary to give perspective of what is violative conduct and what is not.
Each charge made to the debtor's mortgage account by the mortgage company made has to be looked at in regard to whether it is post-petition, pre-confirmation, or post-petition, post-confirmation, because the standards are different. This is because the lender is subject to 11 U.S.C. § 506(b) which states essentially that fees, costs and charges can only be collected against property in which there is equity. The Court finds nothing that restricts mortgage companies from this provision or requirement.
A lack of equity, especially as might be stated in the lenders own proof of claim or motion for relief filed, would seem to be particularly important because of the administrative fees that are listed in almost every proof of claim filed by mortgage lenders for reviewing the bankruptcy and filing the claim. It would seem that if there is no equity, then such a fee is not allowed. If it is placed in the proof of claim and a later motion for relief is filed, which routinely states that there is no equity in the property, it would seem the mortgage company is digging a hole for itself.
But, whether a post-petition, pre-confirmation creditor can assess these fees and costs, which might arise, these fees and costs still have to be "reasonable" and the burden of proof as to reasonableness is on the mortgage company.
In this regard, the Court ruled that Rule 2016(a) of the Rules of Bankruptcy Procedure, work in tandem with 11 U.S.C. § 506(b). In other words, a mortgage company seeking to charge the debtor's estate must show documentation for these charges, so the bankruptcy court, the debtor, and any other party in interest can review and analyze the compensation sought. This means it is incumbent on the mortgage company, before the time of confirmation at least, to submit all fee in the form of a 2016(a) fee application, and substantiate that there is equity in the property sufficient enough to allow these claims to be paid. If there is no equity in the property on fees that occur pre-confirmation, then there is no recovery. If there is equity, the fees still have to be reasonable based upon full and complete disclosure. This is vitally important.
In the case of Sanchez this was very bad news for the mortgage company that did not think to file a 2016(a) fee application for the fees and costs added, to the mortgage account pre-confirmation because the Court found that the failure to do so the fees, costs and expenses added "per se unreasonable", event though the Court found in this case that there was substantial equity in the real property in question.
The per se unreasonable standard for fees not disclosed is compliant with other bankruptcy law and other decisions and rulings. And, this standard does not speak well for mortgage companies that now face years of undisclosed fees. There is probably not a mortgage company out there has not charged these fees, costs and expenses, without filing a 2016(a) fee application, and who have, who are now, and who are about to try and collect those fees.
The Bankruptcy Court in Sanchez did not buy the argument that 11 U.S.C. § 1322(b)(2), which protects a creditor with a lien on a debtor's home, from having those rights modified in most circumstances. The Court said, " Section 1322(b)(2) gives the holders of secured homestead interests considerable protection, but it does not give them carte blanche to charge any fees that follow the letter of the contract." As the Court pointed out § 1322(b)(2) does not conflict with § 506(b) or Rule 2016(a), in quoting the Supreme Court that "The courts are not at liberty to pick and choose among congressional enactments, and when two statutes are capable of co-existence, it is the duty of the courts, absent a clearly expressed congressional intention to the contrary, to regard each as effective".
Judge Bohm found, however, that although the Court retained jurisdiction over the bankruptcy after confirmation, that 11 U.S.C. § 506(b) no longer applied, but state law governs whether the fees charged pursuant to the Loan Agreement are reasonable. He found that reasonable attorneys' fees must be supported by competent evidence, but that the Court could not apply the appropriate state law factors to determine reasonableness because the fees and costs (including the property inspection fees) were not disclosed.
As to the post-confirmation charges the Court found that although the Chapter 13 plan might be final in many respects, it by no means disposes of the Chapter 13 case and that res judicata cannot bar objections to charges that the debtors did not know existed. The knowledge of the debtor that the Loan Agreement allowed the mortgage company to charge attorneys' fees, costs and property inspection fees does not constitute notice that mortgage company was in fact charging those fees.
The Court refused to consider whether 11 U.S.C. § 506 and Rule 2016(a) gave rise to a private cause of action, noting that the Court can proceed under its equitable powers as contained in 11 U.S.C. § 105(a) to enforce those provisions, and that the charges or fees to the mortgage account also violated 11 U.S.C. § 362(a)(3), (5) and (6), for which the debtor does have a private cause of action under 11 U.S.C. § 362(h) under the pre-BAPCPA Bankruptcy Code, and § 362(k) under the post-BAPCPA Code.
Judge Marvin Isgur's ruling in In re Padilla found essentially the same thing as Judge Bohm in Sanchez, with one important exception. Because he reads the automatic stay provisions so narrowly he could not find where the automatic stay was violated, and found that vesting after confirmation eliminates the relevant automatic stay provisions post-petition, post-confirmation. His argument with Judge Bohm is that Judge Bohm reads the automatic stay "holistically", and Judge Isgur does not.
I find this position of Judge Isgur's troubling, but in the final analysis it lends no comfort to the mortgage companies that elect to adding these fees and costs. This is because Judge Isgur agrees that the mortgage company has a duty to disclose these fees and costs via a Rule 2016(a) fee application, and the failure to do so will get the fees denied en if pre-confirmation there is equity in the property.
The Court also agrees that it can proceed, and will proceed, under 11 U.S.C. § 105(a) as to any pre-confirmation fee or cost added if these Rule 2016(a) and 11 U.S.C. § 506(b) are not followed. Under the American Rule this allows the Court, enforcing the provisions of the Code, to award attorneys' fees and costs as against the mortgage company in any subsequent litigation for these violations.
Post-petition, post-confirmation Judge Isgur rules that Rule 2016(a) still applies, but now the confirmation order is a binding contract between the parties and if violated it can be contested in Bankruptcy Court under relevant case law as well as under 2016(a) And, relevant case law allows for the award of attorneys' fees and costs in any such litigation against the mortgage company. Since these claims are related to a case under Title 11 they may be litigated in the bankruptcy courts.
I tend to believe that Judge Bohm's decision is the better of the two. First, I am troubled some by Judge Isgur's limited view of the automatic stay provisions of 11 U.S.C. § 362(a). You can call Judge Bohm's view of these provisions "holistic" but there is not doubt in the legislative history and almost all relevant case law that these provisions should be very broadly applied. To parse the provisions to so narrowly interpret the Bankruptcy Code is a little troubling.
Also, you can talk about the contractual effect of confirmation, but the Bankruptcy Code has language, which controls the vesting of property of the estate, and hence the applicability of 11 U.S.C. § 362(a) provisions dealing with property of the estate. If the property of the bankruptcy estate is not vested until discharge, it seems that the estate protections still apply, or at least they are incorporated in the order of confirmation. It seems to me that in ruling that the property of the estate provisions, which are the broadest of all protections, vest simply because the case is confirmed would violate the make the vesting provisions in a Chapter 13 superfluous.
No matter which provision you apply, however, the issue seems is clear. Mortgage companies have a duty to file Rule 2016(a) fee applications as to all fees, costs and expenses billed to a debtor's mortgage account both pre and post-confirmation. Further, as to pre-confirmation fees, the mortgage companies cannot add these fees regardless of disclosure unless it is established that there is equity in the real property. And, should the mortgage company fail to disclose their fees timely, the companies will lose that right -- even if such right in fact exists -- to collect those fees. Further, if the mortgage companies fail to disclose these fees properly, those companies face litigation which will be traumatic if for no other reason that the collection of those fees, costs and expenses will be denied, and the debtor's attorney will get paid for his or her time in the case.
More troubling, it would seem there is no statute of limitations as to these violations.
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