What happens if the debtors fail to disclose certain assets in their Chapter 13 bankruptcy and those assets come to light after the confirmation of their Chapter 13 plan? This situation was recently addressed by Judge Ninfo of the United States Bankruptcy Court for the Western District of New York in In re Cram.
On March 24, 2004, Richard and Pamela S. Cram filed a petition in Rochester, in the United States Bankruptcy Court for the Western District of New York, initiating a Chapter 13 case. A Chapter 13 trustee was appointed. On their Schedule B of Personal Property, the debtors stated that they had no “[o]ther contingent and unliquidated claims of [any] nature….”. On April 30, 2004, the court orally confirmed their Chapter 13 Plan, and on October 5, 2004 an order confirming the plan was entered.
At the time the bankruptcy was filed, the debtors had a pending medical malpractice claim which resulted a subsequent lawsuit. On June 14, 2005, the debtors’ lawyer filed an amendment to their Schedule B of Personal Property, which amended the answer to question No. 20 regarding contingent and unliquidated claims, but did not amend their Schedule C to claim any proceeds that might be received from the malpractice claim as exempt.
Between June 14, 2005 and April 7, 2008 the debtors or their attorneys did not notify the court of the existence of the pre-petition medical malpractice claim set forth in the amendment, which was a Section 541 asset of the estate at the time the court confirmed their plan, even though in confirming their plan pursuant to Section 1325(a), the court believed that the requirement of Section 1325(a)(4), that the creditors would receive at least as much under the plan that they would in a Chapter 7 liquidation.
Section 1325(a)(4) provides that:
(a) Except as provided in subsection (b), the court shall confirm a plan if—
(4) the value, as of the effective date of the plan, of property to be distributed under the plan on account of each allowed unsecured claim is not less than the amount that would be paid on such claim if the estate of the debtor were liquidated under chapter 7 of this title on such date[.] 11 U.S.C. § 1325 (2009).
This section is known as “the best interests test”.
Once the trustee learned of the settlement, he moved to revoke the discharge, as well as for other relief. He asserted that on April 28, 2008, after the discharge order had been entered on April 7, 2008, the trustee learned that the claim had been settled on or about February 20, 2008 for $125,000 and that neither the debtors, their bankruptcy attorneys nor their personal injury attorney ever notified the trustee of the settlement or any prior settlement offers. The trustee argued, inter alia, that in view of the settlement, the debtors’ confirmed plan did not meet the best interests test.
Unlike in Chapter 7 cases, the court, in confirming a plan in a Chapter 13 case, makes an affirmative determination, as required by Section 1325(a), that, among other things, the plan meets the best interests test. Judge Ninfo held that because of the debtors’ failure to disclose the malpractice claim, which was a Section 541 pre-petition asset of the estate, either at the time of the oral confirmation of their plan or when the confirmation order was entered, the plan did not meet the best interests test, and neither the debtors, nor the trustee, ever corrected that failure by taking the necessary steps to insure that the plan was amended to include the proceeds of any recovery on the malpractice claim, either before or after the settlement. Thus, the confirmation order had to be vacated, and with no confirmed plan completed, the debtors would not be entitled to a Section 1328 discharge and the court vacated the confirmation order pursuant to Section 105(a).
Judge Ninfo further held that when the debtors filed the amendment to include the malpractice claim, they, as debtors, and their bankruptcy attorneys, as officers of the court, had an affirmative obligation to advise the court, not simply the trustee or their creditors, of the undisclosed asset, so that the court would be aware that its confirmation of the plan was improper and its confirmation order incorrectly entered, and could insure that the confirmation order was vacated or a proper modification to the plan filed to include any recovery.
The court further granted trustee’s motion to dismiss the bankruptcy, unless prior to July 6, 2009, the debtors: (a) pay to the trustee the amount necessary for the trustee to make a distribution to their unsecured creditors of 100% plus 9%; or (b) otherwise make arrangements with the trustee for the payment of the necessary amount within a reasonable period of time that is acceptable to the trustee and the trustee files with the court the details of such an acceptable arrangement.
The lesson of this case is that the debtors and their bankruptcy lawyers have an affirmative obligation to disclose any and all assets of the debtors, including any contingent or unliquidated claims. In this case, the consequences to the debtors could have been much more severe.
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