Dominion Bank of Cumberlands, NA v. Nuckolls

• Citation: 780 F.2d 408
• Decision Date: 18 December 1985
• Docket Number: No. 85-1012,85-1012
• Parties: 13 Collier Bankr.Cas.2d 1249, 14 Bankr.Ct.Dec. 95, Bankr. L. Rep. P 70,885, 42 UCC Rep.Serv. 1508 DOMINION BANK OF the CUMBERLANDS, NA, Appellee, v. James R. NUCKOLLS; Judy M. Nuckolls, Appellants.
• Court: United States Courts of Appeals. United States Court of Appeals (4th Circuit)

Page 408

780 F.2d 408

13 Collier Bankr.Cas.2d 1249, 14 Bankr.Ct.Dec. 95,

Bankr. L. Rep. P 70,885, 42 UCC Rep.Serv. 1508

DOMINION BANK OF the CUMBERLANDS, NA, Appellee, v. James R. NUCKOLLS; Judy M. Nuckolls, Appellants.

No. 85-1012.

United States Court of Appeals, Fourth Circuit.

Argued June 7, 1985.

Decided Dec. 18, 1985.

Stephen H. Ratliff, Arlington, Va., (Copeland, Molinary & Bieger, Abingdon, Va., on brief) for appellants.

Robert J. Breimann (Street, Street, Street, Scott & Bowman, Grundy, Va., on brief) for appellee.

Before SPROUSE and WILKINSON, Circuit Judges, and HOFFMAN, United States District Judge for the Eastern District of Virginia, sitting by designation.

SPROUSE, Circuit Judge:

James R. Nuckolls and Judy M. Nuckolls, a husband and wife trading as Jim's and Judy's Restaurant (the Nuckolls or debtors), appeal a district court judgment that they are not entitled to exempt certain equipment used in their restaurant business from their Chapter 7 bankruptcy estate and to avoid a security interest in the same equipment asserted by Dominion Bank of the Cumberlands, N.A. (the Bank). Prior to filing the bankruptcy petition, the debtors had recorded homestead deeds covering, among other things, the restaurant equipment at issue. After commencing bankruptcy proceedings the debtors filed in the bankruptcy court a complaint seeking a declaratory judgment as to the validity, priority, and extent of the Bank's security interest. The bankruptcy court held that the Bank had failed to perfect its security interest by not filing a financing statement in both locations required under Virginia law, and that under the Bankruptcy Code, the debtors could exercise the power of the trustee to avoid unperfected security interests. On appeal by the Bank, the district court reversed, finding that the Bank's security interest was enforceable against the debtors even though not perfected against third parties, and that the debtors could and did waive the homestead exemption in favor of the Bank's security interest. The debtors appeal. We agree with the district court that the Bank had perfected its security interest but hold that the debtors had filed a valid homestead exemption and that the Bankruptcy Code permits them to avoid their waiver of it. The decision of the district court is reversed and the case remanded to the bankruptcy court for findings of fact as to which items of property are covered by the Bankruptcy Code's lien avoidance provision.

I.

During the fall of 1982 the debtors received two loans from the Bank, in the amounts of $2500 and $3500, the proceeds of which were used to purchase equipment and inventory for their restaurant business, Jim's and Judy's Restaurant of Grundy, Virginia. They made no repayments and in November 1982 received another loan in the amount of $7094.07 from the Bank. The proceeds of the November loan were used to pay off the earlier two loans and to provide them a cash amount of $1000. The debtors executed an agreement securing the November loan and pledged the restaurant's inventory, equipment, accounts receivable, and cash as collateral. The debtors also signed a Uniform Commercial Code financing statement listing the same collateral. In the loan agreement the debtors waived any right to claim homestead exemptions under Virginia law as to the collateral.

Initially, the Bank filed the financing statement only in the Circuit Court of Buchanan County--not filing with the Virginia State Corporation Commission, as required by the Virginia UCC, until after the debtors had filed their petition in bankruptcy.

On May 20, 1983, the debtors filed homestead deeds in Buchanan County, Virginia, claiming exemptions for, among other things, the restaurant equipment. On May 31, 1983, they filed a petition in bankruptcy. At the time of filing the petition, the debtors owed the Bank $8,857.22, representing the proceeds of the November 1982 loan plus interest.

II.

Under section 522 of the federal Bankruptcy Code, 11 U.S.C. Sec. 522 (1982 & Supp. II 1984), a debtor may exempt certain property from the bankruptcy estate. The Bankruptcy Code defines the types of property exempt under federal law, but states are given the option to enact their own exemption schemes. 11 U.S.C. Sec. 522(b)(2)(A), (d) (1982 & Supp. II 1984). Virginia has opted out of the federal scheme, so its statutory exemptions govern the Nuckolls' bankruptcy case. Va.Code Ann. Sec. 34-3.1 (1984). Under the Virginia scheme, each debtor is entitled to a homestead exemption. Virginia Code section 34-4 provides in part that "[e]very householder or head of family residing in this State shall be entitled ... to hold exempt ... real and personal property, or either, to be selected by him, ... to the value of not exceeding $5,000." Va.Code Ann. Sec. 34-4 (1984). Each of the Nuckolls is entitled to a full $5,000 exemption under this provision. Cheeseman v. Nachman, 656 F.2d 60, 64 (4th Cir.1981). They filed homestead deeds which purport to exclude from their estate property valued at $10,000, including the restaurant equipment. The Bank contends first that the homestead exemption does not protect the restaurant equipment, and second that even if the equipment constitutes exempt property under Virginia law, the Nuckolls expressly waived the homestead exemption in the loan agreement.

III.

Initially we must determine whether the exemption could be claimed in the absence of a waiver by the debtors. The Virginia statute provides that the homestead exemption of section 34-4

shall not extend to any execution order or other process issued on any demand ... [f]or the purchase price of such property or any part thereof. If the property purchased and not paid for be exchanged for or converted into other property by the debtor, such last named property shall not be exempted from the payment of such unpaid purchase money under the provisions of [section 34-4].

Va.Code Ann. 34-5(1) (1984). The Bank contends that this section deprives the debtors of the exemption, because the proceeds of the loan secured by the equipment were used indirectly to purchase the equipment.

The proceeds of the loan at issue here were not used to purchase the equipment. The proceeds repaid outstanding obligations and provided an additional cash advance to the debtors. The cases applying the section 34-5(1) exception involve materially different facts. In each case a bankrupt purchaser of goods had failed to pay the price to the vendor of the goods, but still sought to exempt the goods from the estate under the homestead exemption. In re Tobias, 103 Fed. 68 (W.D.Va.1900); Rose v. Sharpless & Son, 74 Va. 407, 33 Gratt. 153 (1880). Upon objection by creditors, the courts prevented the debtor from applying the homestead exemption to goods for which the debtor could not prove he had paid the purchase price. Tobias, 103 Fed. at 70; Rose, 74 Va. at 409, 33 Gratt. at 158. This result obtained even when the objecting creditor was not the vendor of the goods not paid for. In re Campbell, 124 Fed. 417, 422-23 (W.D.Va.1903). These cases are inapposite, as the instant record contains no suggestion that the vendor of the restaurant equipment failed to receive the purchase price. The Bank is not pursuing an action "[f]or the purchase price" of its collateral, so it is not entitled to the protection of section 34-5(1).

IV.

In the loan agreement, however, the Nuckolls expressly waived "the benefit of any homestead exemption to protect property from being used by [the Bank] to pay off the loan...." Under Virginia law such a waiver is enforceable against the debtor. Va.Code Ann. 34-22 (1984); White v. Owen, 71 Va. 28, 32, 30 Gratt. 43, 53-54 (1878); In re Barbarossa, 438 F.Supp. 840, 842 (E.D.Va.1977). The Nuckolls argue nonetheless that section 522 of the Bankruptcy Code allows them to claim the exemption despite their waiver. We think as to the debtors the loan is secured and the security interest perfected under Virginia law, so we disagree with their contention that the waiver is voided by the operation of section 522(e), covering unsecured loans. We feel, though, that the waiver was properly avoided under the lien avoidance provision of section 522(f).

Section 522(e) provides that

[a] waiver of an exemption executed in favor of a creditor that holds an unsecured claim against the debtor is unenforceable in a case under this title with respect to such claim against property that the debtor may exempt under subsection (b) of this section.

11 U.S.C. Sec. 522(e) (1982 & Supp. II 1984). Without question the security agreement between the Bank and the debtors created a security interest in the equipment in favor of the Bank valid under Virginia law. New Jersey Fidelity & Plate Glass Insurance Co. v. General Electric Co., 160 Va. 342, 347-48, 168 S.E. 425, 427 (1933); Va.Code Ann. Sec. 8.9-201 (1965). The debtors argue, however, that the Bank failed to perfect its interest by proper filing.

Under the Virginia UCC, perfecting the security interest in the restaurant equipment required filing a financing statement in two locations: the office of the clerk of the court of Buchanan County, where the business was located, and the office of the State Corporation Commission. Va.Code Ann. 8.9-401(1)(c) (1965 & Supp.1984). The Bank promptly filed in Buchanan County, but neglected to file with the Corporation Commission until after the bankruptcy petition was filed. This failure strictly to comply with the statute leaves the security interest in the equipment unperfected as against third parties. In re Mauck, 378 F.Supp. 904 (W.D.Va.1974). As against the debtors, however, the interest is perfected. The Virginia UCC provides:

A filing which is made in good faith in an improper place or not in all of the places required by this section is ... effective with regard to collateral covered by the financing statement against any person who has knowledge of the contents of such financing statement....