ILC e-Bulletin: BAP resolves split of authority regarding “chapter 20” cases and disallows unsecured claim of lien-stripped creditor

These materials were prepared by ILC member Joseph Boufadel.

ILC E-Bulletin: ILC e-Bulletin: BAP resolves split of authority regarding “chapter 20” cases and disallows unsecured claim of lien-stripped creditor

March 6, 2020

Dear constituency list members of the Insolvency Law Committee, the following is a recent case update:

SUMMARY

In Gwendolyn Washington v. Real Time Resolution, Inc. (In re Washington), 602 B.R. 710 (B.A.P. 9th Cir. 2019), the Bankruptcy Appellate Panel for the Ninth Circuit, resolving a split of authority, held that, in a “chapter 20” case, a prior chapter 7 discharge enjoins enforcement of an unsecured claim against the debtor personally, and such claim is not resurrected even after the underlying lien has been stripped and valued at zero in a subsequent chapter 13 case. In reversing the bankruptcy court, the BAP recognized that after a lien is avoided in a chapter 13 case, the junior lienholder is generally left with an unsecured claim that must be treated as an allowed claim in the debtor’s plan; however, the Panel held that the outcome is different when a debtor previously obtained a chapter 7 discharge, thereby extinguishing its personal liability on the underlying debt, and leaving the lienholder with no allowed claim required to be paid under the plan.

To read the published decision, please click here.

FACTS

In 2012, the debtor obtained a chapter 7 discharge, extinguishing her personal liability on a debt secured by a second deed of trust on her residence. Five years later, the debtor commenced a chapter 13 case. On her bankruptcy schedules, the debtor valued her primary residence at $410,000, encumbered by a first position deed of trust for $577,070 and a second deed of trust in favor of Option One Mortgage Corporation, as serviced by Real Time Resolutions, Inc. (RTR) for $174,000.

Because RTR’s junior lien was wholly unsecured, the debtor filed a motion to avoid the junior lien on the principal residence, seeking to “strip” the lien and to value it at zero. RTR did not oppose and the bankruptcy court granted the lien avoidance motion. At the same hearing, the bankruptcy court also confirmed the debtor’s chapter 13 plan, which provided for payment of 100% of all allowed general unsecured claims.

After the debtor’s plan was confirmed, RTR filed a proof of claim, asserting a secured claim of $307,050. The debtor objected, contending that the proof of claim needed to be amended or withdrawn in light of her previous chapter 7 discharge that extinguished the debt to RTR. In response, RTR amended its proof of claim to reclassify the debt as unsecured.

The bankruptcy court overruled the debtor’s claim objection and allowed RTR’s amended unsecured claim in full. Notwithstanding the prior chapter 7 discharge, the bankruptcy court found that the plain language of Bankruptcy Code § 506(a) required that a claim based on an avoided lien be treated as an allowed unsecured claim that must be provided for in full in the chapter 13 plan. Also, the bankruptcy court determined that the language in the district’s local forms supported its conclusion because the form order granting the motion provided that “[t]he claim of the junior lienholder is to be treated as an unsecured claim and is to be paid through the plan pro rata with all other unsecured claims.”

The BAP reversed.

REASONING

The BAP began its analysis by explaining that ordinarily the anti-modification provision in Bankruptcy Code § 1322(b)(2) prohibits a chapter 13 plan from modifying the rights of holders of secured claims whose claim is secured only by a security interest in the debtor’s principal residence. However, when the lien is determined to be wholly unsecured—i.e. the interest does not attach to any equity in the residence—a debtor may avoid the lien without violating § 1322(b)(2). See Zimmer v. PSB Lending Corp. (In re Zimmer), 313 F.3d 1220 (9th Cir. 2002).

Therefore, a debtor seeking to avoid a wholly unsecured lien on her principal residence must first obtain an order valuing the lien at zero. Under Bankruptcy Code § 506(a), reducing the lien value to zero generally results in the creditor having an allowed unsecured claim for the full amount owed that must be provided for in the debtor’s chapter 13 plan in the same manner as other general unsecured claims.

However, the BAP determined that the resulting unsecured claim after a lien has been “stripped” is different if the debtor has previously obtained a chapter 7 discharge that has extinguished the underlying debt owed to the lienholder. That is, the junior lienholder does not have an allowed unsecured claim entitled to payment under the plan. In so holding, the BAP rejected a line of lower court cases—including In re Gounder, 266 B.R. 879 (Bankr. E.D. Cal. 2001), aff’d, 2001 WL 1688479 (E.D. Cal. Dec. 19, 2001) and In re Akram, 259 B.R. 371 (Bankr. C.D. Cal. 2001)—holding that a resulting unsecured claim pursuant to § 506(a) must be provided for in the debtor’s chapter 13 plan, notwithstanding the debtor’s prior chapter 7 discharge. Those cases reasoned that, in accordance with Dewsnup v. Timm, 502 U.S. 410, 418 (1992), a chapter 7 discharge only extinguishes the debtor’s personal liability and does not eliminate the liens themselves. Relying on Johnson v. Home State Bank, 501 U.S. 78 (1991), those other cases concluded that a creditor has an allowable claim against the estate in a subsequent chapter 13 case because a chapter 7 discharge does not eliminate a lienholder’s in rem rights, which constitute a claim against the debtor’s property.

In rejecting the reasoning in Gounder, Akram, and their progeny, the BAP held that a lienholder whose lien has been valued at zero in a chapter 13 case is not entitled to an allowed unsecured claim where the underlying debt has been previously discharged, citing approvingly to a Northern District of California Bankruptcy Court decision. In re Rosa, 521 B.R. 337, 340-42 (Bankr. N.D. Cal. 2014). Agreeing with the analysis in Rosa, the BAP found that neither Johnson nor § 506(a) (or any other provision of the Bankruptcy Code) requires that a lienholder have an allowed unsecured claim when its lien has been valued at zero.

Importantly, the BAP highlighted the distinction between a “claim” and an “allowed claim” under § 502, noting that a claim is allowed unless it is unenforceable against the debtor or property of the debtor. As noted above, the claim is not enforceable against the debtor’s property after the lien is valued at zero under § 506(a), and the claim is not enforceable against the debtor as result of the prior chapter 7 discharge. Thus, the lienholder has no allowable claim required to be paid in the debtor’s chapter 13 plan. The BAP concluded that to hold otherwise would impermissibly resurrect a lienholder’s in personam rights where none exist against the debtor because of the previous discharge.

The BAP also noted that its holding comported with its previous decision in Free v. Malaier (In re Free), 542 B.R. 492 (9th Cir. BAP 2015) that held debts for which the debtor’s personal liability have been discharged do not count toward the unsecured debt limitation for chapter 13 eligibility under § 109(e).

The BAP also rejected the servicer’s argument that the bankruptcy court’s form avoidance motion and order governed—which provided that the unsecured portion of a bifurcated claim is allowed and must be paid as an unsecured claim under a chapter 13 plan—because local rules and forms must be consistent with the Bankruptcy Code and may not enlarge, abridge, or modify substantive rights. Sigma Micro Corp. v. Healthcentral.com (In re Healthcentral.com), 504 F.3d 775, 784 (9th Cir. 2007). Otherwise, the local forms would impermissibly abridge the debtor’s rights under § 524, which operates as an injunction against collection of a discharged debt.

AUTHOR’S COMMENTARY

Prior to Washington, bankruptcy courts in California fell on both sides of the issue. Washington provides welcome clarity and guidance on this not so uncommon fact pattern in the Ninth Circuit.

While not discussed, this result is consistent with the junior lienholder’s rights in the absence of a second bankruptcy filing by the debtor. In light of the prior discharge and the lack of any value in its lien, the junior lienholder could not enforce the debt against the debtor or its property outside of bankruptcy and should not fare better in a subsequent chapter 13 case.

These materials were prepared by ILC member Joseph Boufadel of Salvato Law Offices in Los Angeles (JBoufadel@salvatolawoffices.com), with editorial contributions from ILC member Gary M. Kaplan of Farella Braun + Martel LLP in San Francisco (GKaplan@fbm.com).

Federal Bar Association's 16th Annual Bankruptcy Ethics Symposium - November 22, 2019

November 22, 2019
Time: 9:00 a.m.
Roybal Federal Building, Conference Room 283
255 E. Temple St., Los Angeles, CA 90017

Click here to register online
Click here for flyer and additional event information

Coffee, Tea, Bagels, Pastries provided

SPEAKERS

Hon. Victoria S. Kaufman, United States Bankruptcy Court
Hon. Scott C. Clarkson, United States Bankruptcy Court
J. Scott Bovitz, Bovitz & Spitzer
M. Jonathan Hayes, Resnik Hayes Moradi LLP
Stella Havkin, Havkin & Shrago
Arthur Margolis, Margolis & Margolis LLP
Jim Selth, Weintraub & Selth APC
John Sheller, Esq.
Cathy Ta, SulmeyerKupetz APC

Program Chair: Joseph Boufadel, Salvato Law Offices

9:00 a.m. - 12:45 p.m. | Three Programs

• Common ethical traps for bankruptcy practitioners

• Bankruptcy Lawyer Trip Ups: Law Firm Technology; Less Than Perfect Law Firm Practices; and The Very Best of Those Gosh Darn Solicitations That Land in My In Box Every Single Morning

• Day One: Retainers, Trust Accounts and Getting Started on the Right Foot

MCLE: 3.5 Hours Legal Ethics. This activity has been approved for Minimum Continuing Legal Education Credit by the State Bar of California. The FBA certifies that this activity conforms to the standards of approved education activities prescribed by the rules and regulations of the State Bar of California governing minimum continuing legal education.

Cost: $25 (FBA members); $35 (CDCBAA and LABF members);
$40 (non-members). At Door $50
Judges and Clerks - No Charge

Win: Ninth Circuit BAP affirms client's objection to lender’s claim in Chapter 13, holding that the unsecured claim resulting from successful lien avoidance was wiped out by prior Chapter 7 discharge

Asset Management Holdings, LLC v. Aleli A. Hernandez, 9th Cir. BAP Appeal No. 19-1013 (October 8, 2019)

Debtor Aleli A. Hernandez (Client) obtained a chapter 7 discharge, then later initiated this chapter 13 proceeding to strip off the second mortgage lien held by appellant AMH. She obtained a lien avoidance order, but did not immediately challenge AMH’s assertion of an unsecured claim, so the trustee began making distributions under the confirmed plan to AMH as an unsecured creditor. Over two years into her plan, Ms. Hernandez filed an objection to AMH’s proof of claim, arguing that her debt to AMH was not an allowed unsecured claim because her personal liability had been wiped out by the prior chapter 7 discharge.

The bankruptcy court sustained the objection.

AMH appealed from the order sustaining the claim objection, arguing that Bankruptcy Code § 506 and the language of the lien avoidance order dictate that its claim must be treated as unsecured debt under the plan notwithstanding the prior discharge. AMH also argued that Mrs. Hernandez acquiesced to such treatment, sat on her rights, and that other equitable doctrines and policy considerations preclude her from challenging its claim.

The BAP determined that the Bankruptcy Court’s ruling sustaining the claim objection comports with the Ninth Circuit BAP’s recent decision in Washington v. Real Time Resolution, Inc., 602 B.R. 710 (9th Cir. BAP 2019), which rejected the same arguments that § 506 and the lien avoidance order require that the lender’s claim be treated as an allowed unsecured claim under the Chapter 13 plan. The BAP also held that AMH’s various equitable and policy consideration arguments were meritless.

Therefore, the bankruptcy court did not err in sustaining the claim objection and disallowing AMH’s claim.

Judgment in favor of Client was Affirmed.

ILC e-Bulletin: In re Miller (9th Cir. BAP) Party had no standing to pursue Rule 9011 sanctions for attorney’s fees when that claim was not scheduled or administered in his own bankruptcy case

These materials were prepared by ILC member Gregory M. Salvato of Salvato Law Offices in Los Angeles.

ILC E-Bulletin: In re Miller (9th Cir. BAP) Party had no standing to pursue Rule 9011 sanctions for attorney’s fees when that claim was not scheduled or administered in his own bankruptcy case.

June 26, 2019

Dear constituency list members of the Insolvency Law Committee, the following is a case update.

SUMMARY

In an unpublished memorandum decision, the U.S. Bankruptcy Appellate Panel of the Ninth Circuit in In re Miller, BAP No. CC 18-1267-SFL, filed March 11, 2019, reversed the bankruptcy court’s award of Rule 9011 sanctions in the amount of $50,875 because the claimant lacked standing to seek a recovery of his attorney’s fees. A copy of the decision is available here.

FACTS

After more than ten years of litigation between two parties, including several bankruptcy filings by each of them, creditor Edward Gilliam obtained a dismissal of Minon Miller’s sixth bankruptcy petition on the grounds of bad faith. Gilliam then sought recovery of his attorney’s fees under Section 105 and Federal Rule of Bankruptcy Procedure 9011. The bankruptcy court agreed that Miller’s latest bankruptcy petition violated Rule 9011 because Miller filed it in bad faith and for an improper purpose — to impede Gilliam’s collection efforts — and awarded fees in the amount of $50,875.

The BAP reversed on the grounds that Gilliam lacked standing to file the claim for fees because the claim became property of Gilliam’s bankruptcy estate after he filed for bankruptcy. Gilliam had filed a chapter 7 bankruptcy case in 2017, in which he had received a discharge, but he had not listed his claim for fees in his schedules. Thus, the fee claim had not been administered by the chapter 7 trustee and remained property of the bankruptcy estate. Accordingly, only Gilliam’s chapter 7 trustee had the right to prosecute the Rule 9011 sanctions motion to recover the fees. The bankruptcy court’s sanctions order was reversed.

REASONING

The BAP first held that standing is a jurisdictional issue, to be reviewed by the appellate court de novo.

Because all of Gilliam’s attorney’s fees were incurred prior to filing his 2017 bankruptcy case, his claim for fees constituted a pre-petition asset that became property of the bankruptcy estate upon filing his bankruptcy petition. Generally, a debtor’s scheduled assets are deemed abandoned to the debtor upon the closing of the chapter 7 bankruptcy case if not otherwise administered by the chapter 7 trustee. See 11 U.S.C. § 554(c); Diamond Z Trailer, Inc. v. JZ L.L.C. (In re JZ L.L.C.), 371 B.R. 412, 418 (9th Cir. BAP 2007). However, when estate property is not scheduled and not administered by the chapter 7 trustee, it is not deemed abandoned. Rather, the omitted property remains property of the estate even after the bankruptcy case is closed. See 11 U.S.C. § 554(d); JZ L.L.C., 371 B.R. at 418.

In this case, the BAP held that Gilliam’s claim against Miller for fees remained property of his bankruptcy estate even after the case was closed because Gilliam failed to list the claim in his bankruptcy schedules. And, Gilliam’s mere mentioning of Miller’s bankruptcy filing as an impediment to his collection actions in his schedules did not constitute proper or adequate scheduling of the fee claim. See Cusano v. Klein, 264 F.3d 936, 945 (9th Cir. 2001). The BAP finally noted that there was nothing in the record to support the bankruptcy court’s conclusion that Gilliam’s lack of standing was irrelevant, as it would be Gilliam’s attorney who would ultimately receive the attorney’s fees. Only Gilliam, and not his attorney, ever had standing to recover attorney’s fees from Miller. Thus, Gilliam’s bankruptcy, and the failure to disclose his attorney’s fee claim, divested him of standing to pursue that claim.

AUTHOR’S COMMENTARY

This case is a reminder that absent a full and adequate disclosure of all litigation claims and causes of action that exist as of the petition date, a debtor will be precluded from pursuing those claims after the case is closed. This rule prohibits a lack of candor that interferes with the proper functioning and integrity of the bankruptcy system.

Addressing this issue as a question of proper standing seems to be an analytically preferable alternative approach to ruling that the debtor was judicially estopped from asserting a contrary position to that previously asserted; that is, asserting a litigation claim that the debtor had omitted, under oath, in the previous bankruptcy proceeding. See Hamilton v. State Farm Fire and Cas. Co., 270 F.3d 778 (9th Cir. 2001); Elston v. Westport Ins. Co., 253 Fed. Appx 697, 699 (9th Cir. 2007).

ILC e-Bulletin: In re Reddy, California bankruptcy court rules that a pending appeal did not preclude a finding of “good cause” to permit registration of a judgment in other federal districts

These materials were prepared by ILC member Gregory M. Salvato of Salvato Law Offices in Los Angeles, with editorial contributions from ILC members Gary B. Rudolph of Sullivan Hill Rez & Engel and Adam A. Lewis of Morrison & Foerster.

ILC E-Bulletin: In re Reddy, California bankruptcy court rules that a pending appeal did not preclude a finding of “good cause” as required in order to permit registration of a judgment in other federal districts.

June 25, 2019

Dear constituency list members of the Insolvency Law Committee, the following is a case update analyzing a recent case of interest, In re Harish Venkat Reddy and Deepika Basi Reddy, 589 B.R. 867 (E.D. Cal 2018).

SUMMARY

In Reddy, the bankruptcy court reviewed the law and procedure for registering a federal judgment in another district while the judgment is on appeal and concluded that there was “good cause” within the meaning of 28 U.S.C. § 1963 to permit registration of the judgment in two other federal districts, even before the appeal was concluded.

FACTS

After the bankruptcy court entered a non-dischargeable judgment against the debtors for $8.46 million, the debtors filed an appeal without posting a supersedeas bond to stay enforcement. The nonexempt assets in the Eastern District of California were inadequate to satisfy the judgment, yet potentially nonexempt assets were located in two other judicial districts; Western District of Texas and Central District of California. The judgment creditor filed a motion in the bankruptcy court seeking registration of the judgment in these two other judicial districts. The court granted the motion and authorized the registration.

REASONING

The bankruptcy court’s analysis focused on its review of 28 U.S.C. Section 1963, which entailed a review of basic federal judgment enforcement procedure. Section 1963 is applicable to registration of a judgment in another district “when the judgment has become final by appeal or by expiration of the time for appeal or when ordered by the court that entered the judgment for good cause shown.” (Emphasis added)

The “good cause shown” clause was enacted in 1988 to balance 28 U.S.C. Section 1963 and Rule 62(d) of the Federal Rules of Civil Procedure. Absent an out-of-district registration, a judgment creditor could not obtain a judgment lien in that other district. That restriction could be critical to the judgment creditor’s successful execution on the judgment by limiting the pool of available assets. Judgment debtors could use the delay occasioned by an appeal to transfer assets out of the reach of creditors. The bankruptcy court explained that the addition of the “good cause” requirement to the statute in 1988 enabled a judgment creditor to proceed to enforcement of a judgment that was on appeal. That is, the judgment debtor could not use the fact of the pending appeal to prevent registration in another district and frustrate enforcement of the judgment in that district even without posting an appeal bond. Thus, while enforcement of the judgment would not be stayed in the district where the judgment was rendered (because no supersedeas bond had been posted), the judgment creditor could not register and or enforce the judgment in another district during the pendency of the appeal unless the court where the judgement had been entered first authorized such registration based on good cause shown.

In this case, the bankruptcy court found the existence of “good cause” because (a) there were insufficient assets listed in the debtors’ schedules located within the Eastern District of California to satisfy the judgment, (b) there were multiple parcels of non-exempt real estate assets located in the Western District of Texas, and (c) there were colorable allegations of the debtors’ transfer of assets to persons in the Central District of California to insulate them from execution. These allegations were credible based on the debtors’ lack of credibility in testimony at trial, as well as the debtors’ demonstrated “patent animosity, evasiveness and willingness to manipulate assets in order to frustrate collection.” All of these factors led the court to find that “good cause” had been shown, and registration of the judgment in other districts was therefore authorized, despite the pendency of the appeal of that judgment.

AUTHOR’S COMMENTARY

Judge Klein’s analytical opinion is a useful summary of the federal law and procedures governing registration of a judgment in another district. Where a judgment debtor appeals a judgment but does not post an appeal bond to stay enforcement, he cannot preclude registration and enforcement of that judgment in other districts if the court finds there is good cause to do so. This seems a desirable provision because out-of-district assets should not be any less accessible than forum assets during an appeal.

ILC e-Bulletin: In re Preserve, LLC (9th Cir. BAP) – BAP analyzes the distinctions between 362(k) and contempt sanctions with respect to violations of the automatic stay

The following is an independent case analysis of the matter prepared by ILC member Judy Descalso of the Law Offices of Judith A. Descalso in San Diego and Escondido, California, with editorial contributions from ILC member Gregory M. Salvato of Salvato Law Offices in Los Angeles. It has been reproduced below.

Insolvency Law Committee E-Bulletin: In re Preserve, LLC (9th Cir. BAP) – BAP analyzes the distinctions between 362(k) and contempt sanctions with respect to violations of the automatic stay

May 21, 2019

Dear constituency list members of the Insolvency Law Committee, the following is a case update.

SUMMARY

In Ress Fin. Corp. v. Beaumont 1600, LLC (In re Preserve, LLC), 2018 WL 4292023, filed September 7, 2018, the Bankruptcy Appellate Panel of the Ninth Circuit vacated the Bankruptcy Court’s grant of attorney’s fees arising from a stay violation and remanded the case to the Bankruptcy Court for further proceedings. The BAP reversed on the grounds that (1) the trustee should have filed the contempt action as a contested matter as opposed to an adversary proceeding; (2) the trustee was ineligible to recover damages under section 362(k) because a trustee is not an “individual” within the meaning that section; and (3) the court was required to determine, under the clear and convincing standard of review, that the contemnor had knowledge of the stay and intended to violate it before awarding civil contempt damages. The BAP overturned the Bankruptcy Court’s Order awarding $424,118.98 in damages against the foreclosure trustee and remanded to determine whether the evidence met this standard.

FACTS

After defaulting on its confirmed Sixth Amended Chapter 11 Plan, the Bankruptcy Court converted the case to a case under Chapter 7 and granted the lender relief from stay to pursue its state law remedies. The trustee under the deed of trust, National Financial Lending (“NFL”) and its agent, Ress Financial Corporation (“Ress”), commenced a non-judicial foreclosure. However, the debtor’s counsel and the trustee’s counsel both notified Ress that, due to pre-bankruptcy reconveyances, the lender had released its lien on two of the debtor’s parcels that were erroneously included in the Notice of Default, and that proceeding with the foreclosure would constitute a violation of the automatic stay. Ress nevertheless continued, asserting the reconveyances were not valid. The trustee filed a complaint seeking declaratory relief and damages for stay violations. Ress rescinded the NOD, but continued to litigate. On summary judgment, the court determined that the attempted foreclosure was a violation of the automatic stay. After trial, the court determined that defendants’ violation of the stay was willful and intentional, that Ress’s belief that it was acting in accordance with applicable non-bankruptcy law was reckless and unreasonable, and further, that recordation of a Notice of Trustee’s Sale was a slander of title. Upon the parties’ subsequent fee applications, the Bankruptcy Court awarded fees totaling $424,118.98 against Ress and NFL.

REASONING

The BAP first considered appellant’s argument that the trustee should have proceeded by motion instead of by adversary proceeding, but held that such error “if any” was harmless.

On the merits, the BAP held that although a bankruptcy trustee is not eligible to recover damages under section 362(k) because a trustee is not an “individual,” a trustee may recover damages for violations of the automatic stay as a sanction for ordinary civil contempt. For this, the trustee must meet the clear and convincing standard for obtaining contempt sanctions.

The automatic stay qualifies as a specific and definite court order, and in determining whether the contemnor violated the stay, “the court is to focus on whether the contemnor’s conduct complied with the stay, not its subjective belief or intent. To find a willful violation of the stay under either the contempt standard or under section 362(k), a bankruptcy court need not find bad faith or subjective intent, but only that the defendant knew of the automatic stay and that the defendant’s actions were intentional. However, the standard for awarding damages differs. Damages are mandatory under section 362(k), but damages are discretionary under the court’s contempt power. Under section 362(k), a party with knowledge of bankruptcy proceedings is charged with knowledge of the automatic stay, but in the contempt context, the party must not only know of the stay but also that the stay applies to its conduct. In other words, in a contempt proceeding, knowledge of the stay may not be inferred simply because the creditor knew of the bankruptcy. Even an unreasonable belief that the stay does not apply to a creditor’s claims would preclude a finding of contempt.

The BAP noted that a plaintiff seeking contempt sanctions must show by “clear and convincing evidence” that the contemnors violated a specific and definite order of the court. The Bankruptcy Court’s application of a “preponderance of the evidence standard” was error. The clear and convincing standard applies to the issue of whether the stay has been violated as well as the issue of the contemnor’s knowledge and intent. And the evidence offered by the movant must “place in the ultimate factfinder an abiding conviction that the truth of its factual contentions are highly probable.”

Thus, the BAP remanded to the Bankruptcy Court to determine whether the trustee had established by clear and convincing evidence that Ress knew that the stay applied to its conduct and then acted intentionally to violate the stay. The BAP indicated that the Bankruptcy Court should award only those attorney’s fees incurred in litigating an issue that flows from the stay violation.

AUTHOR’S COMMENTARY

This ruling highlights the distinction between an individual seeking a remedy for a stay violation under section 362(k) – which the BAP characterized as a “robust remedy” – and the remedies provided as a sanction for ordinary civil contempt. A trustee is not eligible for the former and the standards for the latter are very high. While creditors may get a “free pass” because of the high burden of proving intent to violate the stay for contempt damages, those creditors would remain liable for injuries to individuals for actual damages and, possibly, punitive damages under Section 363(k).

Win: Ninth Circuit affirms Chapter 13 plan for SLO client, finding good faith and eligibility under Bankruptcy Code section 109(e).

Asset Management Holdings, LLC v. Aleli A. Hernandez,
9th Cir. Appeal No. 17-60044 (9th Cir. February 25, 2019)

In 2010, Debtor filed a Chapter 7 bankruptcy case and obtained a discharge, including a discharge of her personal liability on the debts secured against her residence. More than four years later, Debtor filed for Chapter 13 relief. On her Chapter 13 bankruptcy schedules, Debtor identified her residence and the debts secured by the residence, including the junior lien of the lender. Since the amount of the senior lien exceeded the value of the residence, Debtor indicated her intent to avoid the junior lien. On Schedule D of her bankruptcy petition, Debtor listed the junior lien as a secured debt of $0 and identified her intent to avoid the lien. On Schedule F, Debtor listed the junior lien as an unsecured debt.

The Ninth Circuit affirmed the Bankruptcy Appellate Panel and the Bankruptcy Court’s orders determining that the Debtor was eligible for Chapter 13 relief under Bankruptcy Code section 109(e). The junior lender’s lien was unsecured because the amount of the senior lien exceeded the value of the residence. This was readily ascertainable from the bankruptcy schedules, which were made in good faith. The lender’s resulting unsecured junior lien was unenforceable because the Debtor’s personal liability had been previously discharged in a Chapter 7 case. Therefore, the Bankruptcy Court correctly determined that the lender’s debt did not place Debtor over the debt limits for the purpose of section 109(e) eligibility because the lender held neither an allowed secured claim where its lien was avoidable under section 506(a), nor an allowed unsecured claim because the Debtor’s personal liability on the debt had been discharged by her previous Chapter 7 bankruptcy case.  

The Ninth Circuit also affirmed the Bankruptcy Court’s determination that the Chapter 13 petition was filed in good faith because none of the relevant factors for evaluating bad faith were present. There was no evidence of misrepresentation, serial bankruptcy filings, filings to defeat state court litigation, or egregious behavior. Furthermore, the Ninth Circuit rejected the lender’s argument that the filing of a Chapter 13 petition after receiving a prior Chapter 7 discharge is bad faith per se because that conclusion is unsupported by the Bankruptcy Code and case law.

Default interest provision declared a penalty, successfully eliminating more than $10 million in interest from a commercial loan

Salvato Law Offices successfully objected to a default interest provision in a commercial loan that resulted in the Bankruptcy Court declaring that the provision was an unenforceable penalty under California Civil Code Section 1671(b). As a result, more than $10 million in default interest was eliminated from the commercial loan.

The following is an independent case analysis of the matter from Dan Schechter, Professor Emeritus, Loyola Law School, Los Angeles, for his Commercial Finance Newsletter, published weekly on Westlaw. It has been reproduced in full.

Insolvency Law Committee E-Bulletin: In re Altadena Lincoln Crossing LLC - CA Bank. Ct finds default interest rate provision is an unenforceable penalty

November 16, 2018

Dear constituency list members of the Insolvency Law Committee:

The following is a case update prepared by Professor Dan Schechter, Loyola Law School, Los Angeles, analyzing a recent decision of interest:

SUMMARY:

A California bankruptcy court has held that a default interest rate provision was an unenforceable penalty because the loan agreements did not contain any estimate of the probable costs to the lender resulting from the borrower's default. [In re Altadena Lincoln Crossing LLC, 2018 Westlaw 3244502 (Bankr. C.D. Cal.).]

FACTS: A lender and a commercial borrower entered into two related real estate construction loan agreements, both of which contained clauses increasing the base interest rate by 5% in the event of default. The agreements also contained late fee provisions, which were intended to compensate the lender for any additional administrative costs arising from late payments. The principal amount of the obligation eventually rose to about $26 million.

Several years later, when the project ran into difficulty, the parties executed a series of forbearance agreements; several of those agreements contained "default interest forgiveness provisions," under which accrued default interest would be forgiven if the debtor paid the outstanding balance of the loan on the extended maturity date.

After the developer filed a Chapter 11 petition, the lender sought to recover interest at the default rate set out in the parties' governing documents. The debtor objected, claiming that the default rate of interest was an unenforceable penalty under California Civil Code §1671(b).

REASONING: The court sustained the objections and awarded the debtor attorney's fees for its successful objection to the claim. After reviewing the applicable case law, the court observed:

The standard is whether the default interest provisions were the result of a reasonable endeavor at the time the parties entered into the agreement to estimate a fair average compensation for any loss that might later be suffered and not whether the default interest figure eventually produced appears after the fact to be reasonable in relation to the principal amount of the loan.

The lender argued that because the borrower had waived its defenses to the default interest provision in the forbearance agreements, the borrower could not challenge that provision. The court disagreed:

[The lender] has cited no authority for the proposition that an unenforceable penalty will be rendered enforceable if the borrower signs an acknowledgment that it is obligated to pay the penalty or if the borrower agrees to waive any defenses it may have to the obligation to pay this amount. Moreover, in each Forbearance Agreement . . . , [the lender] agreed to forgive default interest provided the obligation was repaid at maturity, effectively creating a new liquidated damages provision that would need to be examined to ascertain whether it was an unenforceable penalty. As the amount of accrued default interest was larger each time [the parties] executed a new forbearance agreement, it would become harder and harder for the Court to find a reasonable relationship between the liquidated damages amount and any damages that the parties anticipated would flow from breach of the Forbearance Agreement. The Court finds no reason to conclude that the drafters of section 1671(b), who intended for the analysis to be performed at the inception of a loan, would have meant for the court to re-examine the result produced by a liquidated damage provision each time the parties extended the maturity date of a loan or any other due date for performance.

The lender next argued that because a 5% default interest provision is the admitted industry standard, the provision was reasonable. The court again disagreed:

[W]hile it might be relevant to the issue of reasonableness to know that other lenders typically charge 5 percent or more as default interest on construction loans, it is not dispositive. Industry standard or custom in the industry is different from reasonableness in this context. (The Court is not in a position to determine, and the parties have not litigated whether, lenders make a practice of imposing a default interest rate that is intended to function as a penalty to incentivize borrowers to pay in a timely fashion or whether they select default interest rates in an effort to provide compensation for anticipated losses.)

The court noted that there was no evidence the parties had negotiated the 5% provision or had attempted to quantify the probable loss to the lender resulting from a default:

[T]he selection of the 5 percent default interest rate was not the result of a reasonable endeavor by the parties to estimate a fair average compensation for any loss that might be suffered by [the lender] in the event of a default, in that the Debtor has established that there was no endeavor at all by either of the parties at the time they entered into the loans, let alone a reasonable endeavor, to estimate any losses that might be suffered by [the lender] in the event of a default. The default interest provision was selected arbitrarily pursuant to [the lender's] standard practice of utilizing a default interest rate in this amount.

The lender's expert testified that the probable loss in value resulting from a default justified the imposition of a 5% default rate, but the court reasoned that just because there is a correlation between the borrower's default and the lender's losses does not mean that the default caused the losses:

[T]here is no reason to believe, in this case or in any case, that a borrower’s default increases the risk that a lender will not receive payment of its principal. Such [an argument] is an invitation to the court to fall into the trap of confusing correlation with causation. The only conclusion that this court can legitimately draw from [the expert's] report is that, as a statistical matter, lenders recover less on loans that fall into default, but his report does not have any tendency whatsoever to establish that defaults cause a loss of principal or even a greater risk of loss of principal. In fact, as a logical matter, it is equally if not more likely that the causal relationship is the other way around, namely, that a borrower who lacks the ability to repay a loan in full or who owns collateral that will not produce enough to pay off the debt in full through sale, foreclosure or refinancing is more likely to default than a borrower who has sufficient resources to pay off the loan either from other sources of cash or by monetizing the value of the collateral. The factors that lead a borrower to fall into the former camp (borrowers who can pay) rather than the latter camp (borrowers who cannot pay) are likely to be present at the inception of the loan and are not themselves caused by the borrower’s default. Only when the loan agreement itself imposes adverse financial consequences after a borrower defaults, as, for example, by increasing the interest rate by 5 percent, does the default itself make the borrower’s financial condition more bleak than it already was.

AUTHOR'S COMMENT: This is a very well-written and well-researched opinion by a highly respected bankruptcy judge. Given the amount of money involved, I predict an appeal, and I predict affirmance. If so, this opinion will have a substantial impact on the real estate lending industry. As I will discuss below, I think that there are drafting techniques that lenders can use to increase the chances of collecting interest at the default rate, whether or not this decision is affirmed.

First, however, the inevitable quibbles: if an extra 5% default rate is the industry standard (as both the lender and the borrower argued), then isn't that a signal from the market that this is a reasonable provision? It is not outside the mainstream. It is not unprecedented. Shouldn't the concept of "reasonableness" take into account prevailing practices? That is certainly true, for example, in malpractice cases: the reasonableness of the defendant's behavior is assessed in light of customary norms. Why isn't that dispositive in this case?

Second, I am not sure that I agree with the court's analysis of correlation vs. causation. Isn't it true that the fact of default devalues the collateral? The project is immediately tainted; the lender is forced to foreclose, and foreclosures inevitably yield prices lower than fair market value.

Third, the court put the lender's expert into an impossible bind. He was tasked with showing the loss suffered by the lender as a result of the default. The court then used his own testimony to show that the lender could have estimated the probable losses from default at the outset of the transaction: "[T]he ease with which [the expert] was able to perform the calculations contained in his expert opinion demonstrates that a loss of this kind, if it can be characterized as a loss, would not be costly or difficult to estimate at the inception of a loan." The error in the court's logic is that although hindsight may be 20/20, foresight isn't.

Note that the documents contained the usual late payment provisions, which were designed to compensate the lender for its losses resulting from late payments. In the court’s view, the mere existence of those late payment provisions undermined, in part, the lender's argument that the default rate was designed to compensate the lender for the same losses. But I would argue that the losses covered by those two different sets of provisions are not the same: the late payment fees deal with the lender's administrative costs, while the default rate provision is more properly aimed at the devaluation of the collateral resulting from the default.

And that, of course, points the way toward a couple of different solutions. The first, which I have long (and unsuccessfully) recommended, is to support the default interest rate provision with carefully-worded factual recitals, right in the body of the agreement, demonstrating as a factual matter why the provision is needed and why it is the parties’ best approximation of the anticipated losses.

Could the borrower later repudiate those factual recitals? Maybe not. See Cal. Evid. Code § 622: “The facts recited in a written instrument are conclusively presumed to be true as between the parties thereto . . . . " For a discussion of a case in which that drafting technique was successful, see 2015-30 Comm. Fin. News. NL 60, Liquidated Damages Claim for Default Interest Is Enforceable Because Promissory Notes Recite Difficulty of Ascertaining Lender’s Actual Damages.

Note that this solution (to insert appropriate recitals in the agreement itself) is ex ante. But the court suggested an intriguing after-the-fact technique, one which I have never seen before:

[I]t would not be costly or inconvenient for [the lender] to have calculated its actual administrative costs in overseeing and servicing a defaulted loan. It would be difficult to predict with any degree of certainty at the inception of a loan how much these costs would prove to be later, but [the lender] could readily have kept track of such information by, for example, requiring its employees to keep timesheets to reflect how much time they spent overseeing or servicing which loans, and could have included provisions in the loan agreement passing these costs along to the Debtor as they accrued.

Assuming that the court's novel post hoc solution is viable, I would add a couple of additional "pass-through" cost items: the devaluation of the property resulting from the default itself, and the "time value of money" cost resulting from the illiquidity of a set of loan documents connected with a failing project. To describe that latter concept in a different way, a lender that had anticipated selling off a performing loan is now forced to hold a non-performing loan on its books, tying up the lender's capital. The inability to re-lend that money is a lost opportunity that damages the lender.

Given the bankruptcy courts' perennial antipathy to default interest rates, I am surprised that the finance industry still uses bland and generic "one-size-fits-all" default interest provisions, without including anticipatory verbiage to forestall the borrower's inevitable liquidated damages attack.

For discussions of other cases dealing with related issues, see:

• 2016-45 Comm. Fin. News. NL 89, When Plan of Reorganization Cures Debtor’s Default, Creditor is Entitled to Interest at Default Rate Specified by Promissory Note.

• 2006 Comm. Fin. News. 20, Postdefault Interest Rate of 36% Is Approved Because Congress Did Not Impose “Reasonableness” Requirement.

• 2005 Comm. Fin. News. 22, Oversecured Lender's Claim for Default Interest Is Actually a “Charge” That Must Be Reasonable and Cannot Be Awarded in Addition to Late Fees.

• 2004 Comm. Fin. News. 19, Contract Rate Governs Cramdown Interest, Unless Creditor Produces Evidence to Show That Default Rate Reflects Actual Damages.

These materials were written by Dan Schechter, Professor Emeritus, Loyola Law School, Los Angeles, for his Commercial Finance Newsletter, published weekly on Westlaw. Westlaw holds the copyright on these materials and has permitted the Insolvency Law Committee to reprint them. 

Thank you for your continued support of the Committee.

Best regards,
Insolvency Law Committee

Co-Chair
Marcus O. Colabianchi
Duane Morris LLP
mcolabianchi@duanemorris.com

Co-Chair
Rebecca Winthrop
Norton Rose Fulbright US LLP
rebecca.winthrop@nortonrosefulbright.com

Co-Vice Chair
Kyra Andrassy
Smiley Wang-Ekvall, LLP
kandrassy@swelawfirm.com

Co-Vice Chair
Gary Rudolph
Sullivan Hill Rez & Engel, APLC
rudolph@sullivanhill.com

Federal Bar Association's 15th Annual Bankruptcy Ethics Symposium - November 16, 2018

November 16, 2018
Time: 9:00 a.m.
Roybal Federal Building, Conference Room 283
255 E. Temple St., Los Angeles, CA 90017

Click here to register online
Click here for flyer and additional event information

Coffee, Bagels, Pastries provided

SPEAKERS

Honorable Martin R. Barash, United States Bankruptcy Court
Honorable Robert N. Kwan, United States Bankruptcy Court
 Honorable Barry Russell, United States Bankruptcy Court
Ron Maroko, Office of the United States Trustee
Kristin Ritsema, Office of Chief Trial Counsel, State Bar of CA
Jolene Tanner, U.S. Attorney’s Office
Ellen A. Pansky, Pansky Markle Attorneys at Law
Elmer Dean Martin III, Elmer Dean Martin III, a Professional Corporation
Daniel M. Cislo, Cislo & Thomas LLP
J. Scott Bovitz, Bovitz & Spitzer

Program Chair: Joseph Boufadel, Salvato Law Offices


9:00 a.m. - 12:45 p.m. | Four Programs

• How Not to be Befuddled by Bankruptcy Tax

• Outsourcing, Delegating, and Abdicating: What Are Your Professional Responsibilities?

• The Ethical Lawyer’s Dilemma: Information Technology in the Era of the iPhone, Software as a Service, and the Internet of Things

• The New California Rules of Professional Conduct: How They Will Affect Your Bankruptcy Practice

MCLE: 3.5 Hours Legal Ethics. This activity has been approved for Minimum Continuing Legal Education Credit by the State Bar of California. The FBA certifies that this activity conforms to the standards of approved education activities prescribed by the rules and regulations of the State Bar of California governing minimum continuing legal education.

Cost: $25 (FBA members); $35 (CDCBAA and LABF members);
$40 (non-members). At Door $50
Judges and Clerks - No Charge

ABI Published Article: "There and Back Again: Perspectives on Practicing Law While Parenting"

American Bankruptcy Institute
December 2017 Journal
Chapter 8 Humor

By Joseph Boufadel

"At a recent outing of the Monday Night Lawyers Movie Club in Los Angeles, I bombarded the group with photographs of my daughter. As a proud new parent, I assumed that everyone would love to see pictures of my favorite (and only) “mini-me” daughter, Emma, with her big brown eyes and curly dark hair. What’s not to love? After enduring the onslaught of pictures and stories, J. Scott Bovitz1 of Bovitz & Spitzer retaliated.

Bovitz: Cute photos. You should write a Chapter 8 Humor article — you know, a personal-interest story about how becoming a parent has impacted your practice.

Boufadel: I’m not comfortable writing about myself.

Bovitz: Do it. Aren’t you a millennial? Talking about yourself should come easily. Plus, maybe at least a few readers of the ABI Journal will find it interesting and refreshing to hear a different perspective on being a parent today as a bankruptcy litigator.

I know what many of you are thinking: “Who wants to hear from only a millennial?”2 Good question. Luckily, I agree with you and recruited my mother-in-law, who kindly agreed to compare notes on her experiences parenting a bunch of millennials. Some of you probably know her as Lisa Hill Fenning, who has also been an ABI member since 1992. She was a bankruptcy judge in Los Angeles from 1985-2000, when she returned to practice to pay for college for my then-future wife, Danielle, and Danielle’s three siblings.3 Along the way, she found time to sit on the boards of ABI and NCBJ, handle a bunch of mega-cases, and do some other good bar stuff. And, from my personal perspective, her kids still managed to turn out OK (“OK” equals “terrific” if they are reading this).

What follows is a discussion about our experiences in practicing law and being a parent during the 1980s, 1990s and now, and how the tools available to attorneys have evolved since that time..."

Bankruptcy Appellate Panel affirms Court's Orders confirming Chapter 13 Plan and denying creditor's motion to dismiss on eligiblity grounds

Asset Management Holdings, LLC v. Aleli A. Hernandez, BAP No. CC-16-1228
(BAP 9th Cir. Apr. 11, 2017)

Salvato Law Offices successfully defended an appeal by a lienholder attacking the debtor's Chapter 13 plan confirmation for lack of good faith and seeking dismissal of the Chapter 13 case on eligibility grounds under Bankruptcy Code Section 109(e). The Bankruptcy Court denied the creditor's motion to dismiss and confirmed the Chapter 13 plan. The Bankruptcy Appellate Panel affirmed.

INTRODUCTION

Debtor filed a chapter 7 case in 2010 and obtained a discharge, including a discharge of her personal liability on two debts secured by deeds of trust against her residence. More than four years later, Debtor filed a subsequent chapter 13 case. On her schedules, Debtor listed her residence and the two debts secured by that residence. Because the amount of the senior lien exceeded the value of the residence, Debtor indicated her intent to avoid the junior lien held by Appellant’s predecessor-in-interest pursuant to § 506(a). She listed the debt to the junior lienholder on Schedule D as a secured debt of $0, and again on Schedule F as an unsecured debt of $278,396.71.

Appellant Asset Management Holdings, LLC (“AMH”) objected to confirmation for lack of good faith and moved to dismiss the chapter 13 case on eligibility grounds. The bankruptcy court ruled that Debtor’s debts did not place her over the eligibility limits because the debt to AMH did not need to be included in the eligibility calculation. The court found that the debt should not be treated as secured because the lien was avoidable under § 506(a), nor should it be treated as unsecured because Debtor’s personal liability on the debt had been discharged in her prior chapter 7 case. The bankruptcy court also found that the plan was filed in good faith. Accordingly, the court denied the motion to dismiss and confirmed the plan, and AMH appealed.

We AFFIRM.

***

Federal Bar Association-LA's 14th Annual Bankruptcy Ethics Symposium on November 17

November 17, 2017
Time: 9:00 a.m.
Roybal Federal Building, Conference Room 283
255 E. Temple St., Los Angeles, CA 90017

Click here to register online
Click here for flyer and additional event information
 

SPEAKERS
    Honorable Barry Russell, United States Bankruptcy Court
Honorable Meredith A. Jury, United States Bankruptcy Court
 Honorable Martin R. Barash, United States Bankruptcy Court
Ron Maroko, Office of the United States Trustee
J. Scott Bovitz, Bovitz & Spitzer
Michael T. O’Halloran, Law Office of Michael T. O’Halloran
Carey Caruso, Law Office of Carey Caruso
Kenneth D. Sulzer, Constangy, Brooks, Smith & Prophete, LLP
Jade Brewster, Constangy, Brooks, Smith & Prophete, LLP

Program Chair: Joseph Boufadel, Salvato Law Offices


9:00 a.m. - 12:45 p.m. | Morning Programs

• An Ounce of Discipline

• A mixed bag of ethical issues arising with client retention, client management, and termination of the attorney-client relationship

• Benefits, Pitfalls, and Ethical Considerations of Corporate Chapter 7 Bankruptcy

1:00 p.m. - 3:00 p.m. | Afternoon Programs

• Competence Issues/Substance Abuse:  Carey Caruso, Law Office of Carey Caruso

• Elimination of Bias - Recognizing and Adjusting for Bias in the Legal Profession:  Kenneth D. Sulzer and Jade Brewster of Constangy, Brooks, Smith & Prophete, LLP

MCLE: 3.5 Hours Legal Ethics; 1 Hr. Substance Abuse; 1 Hr. Elimination of Bias. This activity has been approved for Minimum Continuing Legal Education Credit by the State Bar of California. The FBA certifies that this activity conforms to the standards of approved education activities prescribed by the rules and regulations of the State Bar of California governing minimum continuing legal education.

Cost: $25 (FBA members); $35 (CDCBAA and LABF members);
$40 (non-members). At Door $50
Afternoon Session Only $20; FBA Member (Afternoon Only) - No Charge
Judges and Clerks - No Charge

Ninth Circuit affirms nondischargeable judgment based upon issue preclusion

Hai Lecong v. Ashley Tran, No. 15-60039 (9th Cir. Feb. 13, 2017)

Salvato Law Offices successfully defended an appeal by the plaintiff attacking the nondischargeable judgment entered by the Bankruptcy Court. 
 

"Hai Lecong appeals the grant of summary judgment in favor of Ashley Tran, entered by the bankruptcy court and upheld by the Bankruptcy Appellate Panel (BAP), which held that the debt was nondischargeable under 11 U.S.C. § 523(a)(2)(A). We affirm.  ***

The doctrine of issue preclusion applies to dischargeability proceedings pursuant to § 523(a). Grogan v. Garner, 498 U.S. 279, 284 n.11 (1991). Issue preclusion, or collateral estoppel, bars relitigation of factual issues that have been adjudicated in a prior action. Under the principles of “full faith and credit,” 28 U.S.C. § 1738, federal courts give prior state-court judgments the same preclusive effect as the courts of the state from which the judgment derived. Cal-Micro, Inc. v. Cantrell (In re Cantrell), 329 F.3d 1119, 1123 (9th Cir. 2003). Therefore, we apply California’s collateral-estoppel principles.  ***

We disagree with Lecong’s argument that the first three requirements of issue preclusion are not met in this case. Section 523(a)(2)(A) of the Bankruptcy Code excepts from discharge any debt for money, property, services, or credit obtained by “false pretenses, a false representation, or actual fraud.” ***

The jury verdict also affirms that these questions were actually litigated and necessarily decided. An issue is “actually litigated” when both parties “presented evidence and witnesses in support of their positions, and . . . had the opportunity to present full cases.” Lucido, 795 P.2d at 1225. Here, both parties presented evidence and argued the merits of the fraud claim. To conclude that an issue was “necessarily decided,” California “courts have previously required only that the issue not have been ‘entirely unnecessary’” to the judgment in the initial proceeding. Id. at 1226. In reaching the verdict in this case, the question of fraud was not “entirely unnecessary” in the initial proceeding. No public policy factors weigh against application of the doctrine. Therefore, Tran has met the burden of establishing the threshold requirements of issue preclusion. The bankruptcy court and the BAP did not abuse their discretion in applying the doctrine. AFFIRMED."

 

NY Times quotes Gregory Salvato in art recovery case→

Artists Fight to Get Works Back from Ace Gallery by Jori Finkel
April 20, 2016

LOS ANGELES — Lawsuits by artists and collectors, seeking the return of consigned works, demanding profits, or both, have never stopped Douglas Chrismas, the founder of Ace Gallery, from doing business. An early champion of trailblazers like Robert Irwin, Richard Serra and Michael Heizer, Mr. Chrismas has spent nearly 50 years helping to start or jump-start the careers of artists here, even as he was scrutinized for sometimes failing to pay when works sold.

But on April 6, Mr. Chrismas lost the keys to his gallery, after failing to make a $17.5 million court-ordered payment to settle his debts in a long-running Chapter 11 bankruptcy case. Sam Leslie, a bankruptcy trustee, took over as what he calls a “de facto C.E.O. of the reorganized business,” which includes a 30,000-square-foot mega-gallery in a historic Art Deco building in the mid-Wilshire district, and a space in Beverly Hills.

De Wain Valentine is one of a handful of artists who filed claims during the bankruptcy case, seeking back payments or return of artwork, bringing to light the sort of artist-dealer disputes that often remain behind closed doors...

He is seeking the return of eight early, experimental sculptures, made in resin or acrylic, consigned to Ace in 2010 to 2012. The group includes a study for his monumental “Gray Column” sculpture once featured at the Getty Museum. His claim placed their value at around $1.45 million.

“The artworks are not on display at the gallery,” said Mr. Valentine’s lawyer, Gregory Salvato, “so we don’t even know for sure whether they’ve been sold or if they’re in storage.”

Asked in an interview last week why he had not returned the eight artworks, Mr. Chrismas said, “It’s complex because we believe De Wain owes the gallery a large chunk of money.”

Mr. Salvato responded, “We have absolutely no idea what he is talking about.” Mr. Valentine said, “He’s never advanced me any money.”

Win: Reversal of $3 million judgment affirmed on appeal in published opinion

Dhawan v. Biring, 241 Cal.App.4th 963 (Cal. App. 2d Dist., October 28, 2015)

Salvato Law Offices successfully reversed a $3,200,000 default judgment entered more than seven years earlier that was affirmed by the California Court of Appeal in a published decision.

A recent California Court of Appeal decision re-affirmed the longstanding rule that damages in a default judgment cannot exceed the amount of damages claimed in the complaint, and that a later-filed statement of damages specifically identifying the damages sought is no substitute for an amended complaint, at least in an action not involving personal injury or wrongful death. Dhawan v. Biring, 241 Cal.App.4th 963 (Cal. App. 2d Dist., October 28, 2015).

In Dhawan, The Second District Court of Appeal held that a default judgment is void on its face and subject to attack at any time where the default judgment awards damages that exceed the relief demanded in the complaint, citing Code of Civil Procedure Section 580(a). A complaint seeking monetary damages must state the amount of damages sought. Code of Civil Procedure Section 425.10(a)(2). Any amount awarded in excess of the amount stated in the complaint is beyond a court’s jurisdiction to grant, and the resulting judgment is void. Section 580(a). Furthermore, service of a statement of damages under Code of Civil Procedure Section 425.11 or 425.115 only satisfies the requirements of Code of Civil Procedure Section 580 when the law prevents a plaintiff from stating an amount of damages in the body of the complaint; i.e., in personal injury or wrongful death cases, or where the plaintiff is seeking punitive damages. In all other cases, a statement of damages does not substitute for an amended complaint, as it does not provide formal notice of the actual damages sought in compliance with the requirements of Section 580(a).

The plaintiff in Dhawan filed a complaint that did not specify the amount of damages, seeking merely an award of damages “according to proof.” Defendants failedto answer the complaint. At the default hearing -- likely at the instigation of the trial judge – the plaintiff moved to vacate the default so that he could personally serve a statement of damages on the defendants. Plaintiff subsequently filed and served a statement of damages, identifying each category of damages and the amount sought. Defendants again did not respond, and a default judgment was entered.

Nearly seven years later, defendant Biring moved to vacate the default judgment, contending that a default judgment in excess of the amounts demanded in the complaint is void, and merely voidable, because the award was in excess of the trial court’s jurisdiction. (Code Civ. Proc. § 580(a)). That is, the trial court did not have the power to enter a default judgment that exceeded the relief sought in the complaint, and such an excess damage judgment could be set aside at any time. (Code Civ. Proc. § 473(d)). The trial court agreed and vacated the default judgment. On appeal, plaintiff argued that defendants had actual notice of the lawsuit and the precise amount of damages sought, as they did not contest receipt of the statement of damages. At most, plaintiff argued, the judgment was merely voidable, and not void. And, as the time period to challenge a voidable judgment had long since passed, the default judgment should not have been overturned.

The Court of Appeal rejected each of the plaintiff’s arguments and affirmed the court’s order setting aside the default judgment. Even though it contained the same information, a statement of damages was not a substitute for a properly amended complaint. And, where the plaintiff had sought only “damages according to proof,” the original trial court had exceeded its jurisdiction in awarding any damages at all.