Creditors Rights

Creditors Beware: Potential Pitfalls of Automatic Stay Violations

The “automatic stay” is one of the principal immediate benefits of filing bankruptcy. Upon filing a bankruptcy petition, the automatic stay springs into effect to stop any creditor’s debt collection efforts, lien enforcement actions, lawsuits and a host of other actions against the debtor and the debtor’s property. It is primarily designed to maintain the status quo while the court examines the debtor’s financial situation. The automatic stay is often likened to “closing the windows and locking the doors” to prevent any property from leaving the newly-created bankruptcy estate. As its name implies, the automatic stay is effective without any further action by the debtor or the court, and the court will eventually monitor the gathering and distribution of the debtor’s assets. However, until that time, or until the stay is lifted, creditors are generally precluded from taking any action against the debtor or the debtor’s estate.

Pursuant to the Bankruptcy Code, 11 U.S.C. 362(b), there are exceptions to the stay such as civil actions involving the establishment of paternity or the collection of a domestic support obligation. However, the exceptions outlined in § 362(b) are often narrowly construed, and the courts have broad powers to extend the reach of the automatic stay even further when necessary.

Most creditors readily acknowledge that the automatic stay applies to them, but they ask the court to lift the stay via a “motion for relief” under 11 U.S.C. § 362 of the Bankruptcy Code. Such motions commonly allege a lack of adequate protection of an interest in estate property, or lack of an adequate “equity cushion,” or, alternatively, that the debtor does not have equity in the subject property and that the property is not necessary to an effective reorganization in bankruptcy. If the court grants the creditor’s motion for relief, the creditor may repossess and foreclose upon its collateral; however, the creditor is still prohibited from pursuing any actions against the individual debtor. The stay continues until the earlier of the dismissal or the closing of the bankruptcy case, and any actions in violation of the stay are void in Texas. See In re Pierce, 272 B.R. 198, 204 (Bankr. S.D. Tex. 2001).

Not only are actions taken in violation of the stay void in Texas, but they may also be punishable by the court, particularly where the court finds that the creditor willfully violated the automatic stay. See In re Repine, 536 F.3d 512 (5th Cir. 2008). For example, Section 362(k) creates a private cause of action for a debtor to file suit against a creditor who willfully violates the automatic stay to the injury of the debtor. If the creditor is aware of the stay and intentionally acts in violation of the stay, the law provides that the debtor shall recover actual damages, including costs and attorney’s fees.

In addition to economic loss, emotional damages also qualify as actual damages. For example, in a recent appeal before the Fifth Circuit, the Court found that emotional distress damages may also be awarded in the appropriate case, but the plaintiff is required to set forth “specific information” concerning damages caused by his alleged emotional distress rather than relying only on “general assertions.” Repine, 536 F.3d at 521—522. For example, in Repine, the creditor was an attorney for the Debtor’s ex-wife in connection with a child support enforcement action wherein the family court held the debtor in criminal contempt for failure to pay child support and ordered that he be incarcerated until he paid the amounts due and owing to his wife and child. The parties eventually negotiated options for settling the child support enforcement action and securing the debtor’s release from jail, and the court entered an agreed order lifting the automatic stay to enforce the settlement terms. Specifically, the agreed order provided that attorney’s fees due and owing to the ex-wife’s attorney shall be provided for as a priority unsecured claim to be paid through the debtor’s Chapter 13 plan.

In light of the bankruptcy court’s entry of the agreed order, the family court held a hearing regarding the debtor’s release from jail, where the attorney opposed the debtor’s release, as she was concerned that her fees would not be paid. After the hearing, the debtor remained in jail since he had still not paid child support, during which time his father passed away. Also, the attorney threatened in a fax that she would refuse to appear in court to submit an agreed order releasing the debtor from jail, despite her client’s wishes, until she received “a copy of the certified checks” for her attorney’s fees. Subsequently, the attorney’s client and the debtor jointly moved to enforce the bankruptcy court’s agreed order, and the court ordered the attorney to appear and show cause why she should not be held in contempt for attempting to collect her attorney’s fees in violation of the automatic stay.

Despite being personally served with the show cause order, the attorney failed to appear, and the bankruptcy court issued a warrant for her arrest. The U.S. Marshal took the attorney into custody, and the bankruptcy court admonished the attorney to cease any and all collection efforts. Nevertheless, the attorney continued her efforts to collect her attorney’s fees and continued to refuse to consent to the debtor’s release from jail so he could attend his father’s funeral. Consequently, the ex-wife and debtor commenced an adversary proceeding seeking damages and attorney’s fees for the attorney’s willful violation of the automatic stay. After a two-day trial, the bankruptcy court awarded the plaintiffs actual damages (including $4,400.00 for emotional distress, punitive damages and attorney’s fees.) The attorney appealed; however, the district court affirmed the bankruptcy court’s decision.

Subsequently, the Fifth Circuit Court of Appeals vacated the bankruptcy court’s decision in part, finding that the debtor’s general testimony that he felt “very upset” at what his sons would think of him for being in jail and that it was “very traumatic” for him to miss his father’s funeral was insufficient evidence to support an award of emotional damages. Repine, 536 F.3d at 522. However, it is important to note that such an award is available to the plaintiff who makes specific, supportable assertions of emotional distress.

Furthermore, Section 362(k) provides that, in “appropriate circumstances,” a debtor may recover punitive damages. 11 U.S.C. 362 (k). In defining “appropriate circumstances,” the Fifth Circuit recently ruled that an “egregious” intentional misconduct is required on the violator’s part in order to impose punitive damages. Repine, 536 F.3d at 521. In Repine, the Fifth Circuit affirmed the bankruptcy court’s award of punitive damages, finding that the attorney’s violation of the stay was particularly egregious, “reckless,” and “arrogant,” especially since the attorney ignored the court’s orders and her client’s wishes, and she persisted in her collection efforts despite the bankruptcy court’s admonishment.

Accordingly, once a creditor becomes aware of a debtor’s bankruptcy filing, it is imperative that all collection efforts and communications of any kind with the debtor cease immediately in order to prevent any violation of the automatic stay. Once a creditor is aware of the stay and acts in violation of the stay, the debtor likely becomes entitled to actual damages and, in certain cases, may be awarded punitive and emotional damages. Such consequences may be easily avoided with a quick bankruptcy search of the subject obligor(s) prior to any communications, demands or other debt collection acts.

Creditors should consult with legal counsel soon after a bankruptcy filing in order to obtain advice for promptly and effectively protecting such creditors’ rights.

By David M. O’Dens and Kerry M. Hayden

Business Counsel Services

Judgment Liens vs. Texas Homesteads: Down for the Count?

Perhaps one of the most famous lines in American pugilism was Muhammad Ali’s: “Float like a butterfly, sting like a bee.” For decades, judgment creditors and judgment debtors have been trading punches in the post-judgment ring, either in an effort to collect judgments owed or to avoid paying the same. The ebb and flow of this fight has seen the exchange of heavy punches, sometimes staggering one or the other. Now, the Texas Legislature may have delivered a knock-out blow to judgment creditors.

The fight usually starts the same. In the first round, a creditor secures a judgment against a debtor and then files an abstract of the judgment in every county where the debtor possesses, or may possess, real property. The filing of the abstract creates a judgment lien on any real property in that county. TEX. PROP. CODE ANN. § 52.001 (West 2007). Usually, although not always, the judgment lien attaches to the debtor’s homestead property. This, in and of itself, is not an issue. The Texas Supreme Court has observed that a lien against a homestead is never valid (in the sense of being enforceable) unless it secures payment for certain debts provided for in the Texas Constitution. TEX. CONST. art. XVI, § 50; Benchmark Bank v. Crowder, 919 S.W.2d 657, 660 (Tex. 1996). This does not mean, however, that a lien that is not valid and enforceable is completely without effect. As one Texas Court of Appeals has observed: “Under [the Texas Property Code] statutory provisions, a judgment lien is ‘perfected,’ or brought into existence against a debtor’s property, by recording and indexing an abstract of judgment in the county where the property lies. The debtor’s homestead is not exempt from the perfected lien; rather, the homestead is exempt from any seizure attempting to enforce the perfected lien.” Exocet, Inc. v. Cordes, 815 S.W.2d 350, 352 (Tex. App. – Austin 1991, no writ).

This is true, because as a principle of Texas law, “a judgment lien attaches to the judgment debtor’s interest if he abandons the property as his homestead before he sells it.” Hoffman v. Love, 494 S.W.2d 591, 594 (Tex. Civ. App. – Dallas 1973, no writ). For example, where a debtor acquires a second homestead before selling the first homestead, the first homestead is deemed abandoned and is no longer exempt from seizure. England v. Federal Deposit Insurance Corp., 975 F.2d 1168, 1175 (5th Cir. 1992). Furthermore, if the debtor retains the property as his homestead until he sells it,unless the debtor reinvests the proceeds of the sale in another homestead within six months from the date of the sale, the proceeds are subject to seizure by creditors. TEX. PROP. CODE ANN. § 41.001(c) (West 2007); Sharman v. Schuble, 846 S.W.2d 574, 576 (Tex. App. – Houston [14th Dist.] 1993, no writ). Even during this six-month window, if the debtor purchases another homestead, any remaining proceeds from the sale of the first homestead are instantly rendered non-exempt. England, 975 F.2d at 1174. Thus, judgment lien holders have a significant interest in filing and maintaining their judgment liens, even against a debtor’s homestead property.

As the fight moves toward the middle rounds, the debtor who was attempting to sell his homestead property demands that a judgment lien creditor release the judgment lien so as to not interfere with the sale of his homestead. Although the abstract does not create a lien on the debtor’s homestead, it can still create a cloud on the title. Where a judgment lien creditor refuses to release the judgment lien in conjunction with the debtor’s sale of his homestead, when requested to do so by the debtor, the judgment creditor may be held liable for damages occasioned by the refusal. Tarrant Bank v. Miller, 833 S.W.2d 666, 667-68 (Tex. App. – Eastland 1992, writ denied). Notwithstanding the requirement that a judgment lien creditor release a judgment lien on homestead property when requested to so, the creditor is entitled to evidence that the property is, in fact, a debtor’s homestead.

To this end, most judgment lien creditors require that the debtor(s) sign and file in the appropriate county real property records, an affidavit designating the property at issue as their homestead.

This practice finds support in the Texas Property Code, which provides for the filing of such a voluntary designation of homestead. TEX. PROP. CODE ANN. § 41.105 (West 2007). Indeed, under Chapter 41, Subchapter B entitled “Designation
of a Homestead in Aid of Enforcement of a Judgment Debt,” the judgment creditor may force the judgment debtor to elect his homestead and file such a designation. TEX. PROP. CODE ANN. § 41.021 et seq. (West 2007).

That procedure has now been amended by the Texas Legislature, effective September 1, 2007. A new section to Chapter 52, Subchapter A of the Texas Property Code was enacted to address homestead property interests and the release of judgment liens. TEX. PROP. CODE ANN. § 52.0012 (West 2007). Under this new provision, entitled “Release of Record of Lien on Homestead Property,” a judgment debtor may now avoid and remove an abstracted judgment lien without the judgment creditor signing a release of that lien. The judgment debtor does so by first preparing and then later filing a prescribed form of an affidavit in the real property records of the county in which the homestead is located. TEX. PROP. CODE ANN. § 52.0012(b(West 2007). Once filed, if a judgment creditor does not respond to the filing, the affidavit “serves as a release of a judgment lien,” upon which a bona fide purchaser or a mortgagee for value (including successors and assigns) “may rely conclusively,” so long as the affidavit complies with the statutory requirements. TEX. PROP. CODE ANN. § 52.0012(c) & (d) (West 2007).

The affidavit must state that the judgment debtor: (1) sent a letter and a copy of the affidavit (without attachments and before execution of the affidavit), notifying the judgment creditor of the affidavit and the judgment debtor’s intent to file it of record; and (2) the letter and affidavit were sent by registered or certified mail, return receipt requested, at least thirty days before the affidavit was filed, (a) to the judgment creditor’s last known address; (b) to the address appearing in the judgment creditor’s pleadings in the underlying lawsuit (if different from the last known address); (c) to the address of the judgment creditor’s last known attorney as shown in those pleadings; and (d) to the address of the judgment creditor’s last known attorney as shown in the records of the State of Bar of Texas. TEX. PROP. CODE ANN. § 52.0012 (d) (1) & (2) (West 2007).

However, the affidavit will not result in a release of the judgment lien if the judgment lien creditor files a contradicting affidavit in the real property records of the county in which the property is located asserting that: (1) the affidavit filed by the judgment lien debtor is untrue; or (2) “another reason exists as to why the judgment lien attaches to the judgment debtor’s property.” TEX. PROP. CODE ANN. § 52.0012(e) (West 2007).  The new statutory provision does not address two very important issues. First, the new statute does not set a deadline or a timeframe for a judgment creditor to file its contradicting affidavit. Because the new statute provides that a bona fide purchaser or mortgagee may rely upon the judgment debtor’s filed affidavit “conclusively,” a judgment lien creditor will necessarily have to file its contradicting affidavit almost immediately upon the expiration of the thirty-day notice. Second, assuming that such a contradicting affidavit is filed, the new statute does not provide a procedure or mechanism for resolving the dispute. Presumably, the parties will be left to pursue litigation to resolve the dispute, with the attendant risk that if the judgment creditor is wrong, it may be held liable for damages. It appears that the Texas Legislature has now added a haymaker punch to the homestead judgment debtor’s arsenal of punches. If a judgment creditor is not careful, it may find itself on the canvas only to learn that it has been counted out of the fight. As George Foreman quipped: “There’s more to boxing than hitting. There’s not getting hit, for instance.”

By David M. O’ Dens