Hunter, Matter of

• Decision Date: 28 July 1992
• Docket Number: No. 91-3462,91-3462
• Citation: 970 F.2d 299
• Parties: 27 Collier Bankr.Cas.2d 536, Bankr. L. Rep. P 74,764 In the Matter of Walter N. HUNTER, Debtor-Appellee. Appeal of SHIPSHEWANA STATE BANK.
• Court: U.S. Court of Appeals — Seventh Circuit

Page 299

970 F.2d 299

27 Collier Bankr.Cas.2d 536, Bankr. L. Rep. P 74,764

In the Matter of Walter N. HUNTER, Debtor-Appellee Appeal of SHIPSHEWANA STATE BANK.

No. 91-3462.

United States Court of Appeals Seventh Circuit.

Argued June 2, 1992.

Decided July 28, 1992.

Grant F. Shipley (argued), Miller, Carson & Boxberger, Fort Wayne, Ind., for appellant.

Michael M. Yoder (argued), Kendallville, Ind., for debtor-appellee.

Before BAUER, Chief Judge, and COFFEY and RIPPLE, Circuit Judges.

RIPPLE, Circuit Judge.

After Walter Hunter was granted a Chapter 7 bankruptcy discharge, Shipshewana State Bank filed with the bankruptcy court a Motion to Lift Permanent Injunction and Stay. The Bank sought permission to sue Mr. Hunter and his wife in state court, obtain a joint judgment, and assert it against property which the Hunters hold as tenants by the entirety. The bankruptcy court denied the Bank's motion, and the district court affirmed. For the following reasons, we agree with both courts and affirm.

I BACKGROUND

A

In January 1973, Mr. Hunter and his wife, Dixie Hunter, purchased real estate in LaGrange, Indiana (the LaGrange property), as tenants by the entirety. Subsequently, Mr. Hunter borrowed several thousand dollars ¹ from Shipshewana State Bank (the Bank) in connection with the purchase of personal property. The Bank required Mrs. Hunter to sign as a guaranty on the loan, but did not obtain any security interest in or mortgage upon the LaGrange property. Thus, the debt was unsecured and unrelated to the LaGrange property.

B

On September 12, 1989, Mr. Hunter, individually, filed a petition for relief under Chapter 7 of the Bankruptcy Code. On his Schedule A statement of liabilities, Mr. Hunter included his indebtedness to the Bank. Upon his Schedule B statement of property owned by the debtor, Mr. Hunter included the LaGrange property. He estimated the value of the property to be $60,000. On Schedule B-4, Mr. Hunter claimed the LaGrange property as exempt pursuant to Ind.Code § 34-2-28-1(a)(5). The Bank received notice of the proceedings and of the contents of Mr. Hunter's petition and schedules. Neither the trustee, the Bank, or any other creditor objected to the exemption. The bankruptcy court granted the exemption, and the trustee therefore took no action to sell the LaGrange property or otherwise transfer interest in it to the Bank or other creditors. On December 22, 1989, the bankruptcy court discharged Mr. Hunter. Under 11 U.S.C. § 524, this discharge enjoined the Bank from pursuing its unpaid claim against Mr. Hunter.

On April 3, 1990, the Bank filed with the bankruptcy court a Motion to Lift Permanent Injunction and Stay. The Bank sought permission from the bankruptcy court to file suit in state court against both Mr. and Mrs. Hunter in order to reduce its claim against them to judgment and assert a lien against the LaGrange property. On December 11, 1990, the bankruptcy court denied the Bank's motion. 122 B.R. 349. In a careful opinion, the court analyzed the interaction between Indiana property law, the law under the 1898 Bankruptcy Act, and the changes brought about by the 1978 Bankruptcy Code and 1980 amendments to the Indiana Code. The court concluded that, under the current scheme, the LaGrange property entered the bankruptcy estate through 11 U.S.C. § 541, was properly exempted by Ind.Code § 34-2-28-1(a)(5), and thus could not form the jurisdictional basis of or otherwise justify a post-discharge proceeding against Mr. Hunter. The Bank moved the court to alter or amend this judgment, but the court denied this motion.

C

The Bank appealed the bankruptcy court's judgment to the district court. On July 11, 1991, the district court affirmed the judgment of the bankruptcy court. The district court's opinion tracked the reasoning of the bankruptcy court; the district court found that the LaGrange property entered the bankruptcy estate, was properly exempted, and thus Mr. Hunter's discharge had the effect of enjoining the Bank from proceeding against Mr. Hunter in the manner proposed. Subsequently, the Bank filed with the district court a motion to alter or amend its judgment. On September 17, 1991, the district court denied the Bank's motion. The Bank timely filed a notice of appeal.

II LEGAL FRAMEWORK

A

Indiana continues to recognize the common law form of marital property ownership--tenancy by the entirety. It is based upon the ancient common law principle that, upon marriage, each spouse loses his or her individual identity, and the two people become one entity. This entity, rather than either spouse, holds title to entirety property. State v. Union Bank & Trust Co., 177 Ind.App. 632, 380 N.E.2d 1279, 1280 (1978) ("The law in this State is clear that property held in a tenancy by the entireties is held by a single legal entity created by the ... unity of husband and wife."). While neither spouse claims title individually, each spouse has an undivided interest in the whole. Heffner v. White, 113 Ind.App. 296, 45 N.E.2d 342, 346 (1942) ("[A] tenancy by the entirety is vested in two persons only, who in law are regarded as only one, and each of whom becomes seised of the estate as a whole."). Neither spouse can transfer or encumber the property by himself or herself; it takes a joint act to affect the property. Union Bank, 380 N.E.2d at 1280 ("[O]ne spouse cannot convey or encumber the property so held without the consent of the other."). This form of property interest is not limited to the family residence; a husband and wife can own any real estate as tenants by the entirety.

B

Under section 70a(5) of the Bankruptcy Act of 1898, the bankruptcy estate included

property, including rights of action, which prior to the filing of the petition [the bankrupt] could by any means have transferred or which might have been levied upon and sold under judicial process ... or otherwise seized, impounded, or sequestered....

11 U.S.C. § 110(a)(5) (1970). This provision limited the property of the estate to property that the debtor could transfer or that could be seized through judicial process. Thus, property that was held by spouses as tenants by the entirety did not enter the bankruptcy estate of one spouse individually filing bankruptcy, because that individual spouse did not have the power to transfer the property, and creditors with judgments against the individual spouse could not seize the property. Reid v. Richardson, 304 F.2d 351, 353 (4th Cir.1962) ("It is too clear to admit of doubt that an estate by the entireties does not pass to the trustee in bankruptcy of one of the tenants...."). Because the property never became a part of the estate, the bankruptcy trustee never had the ability to act upon it--e.g. sell it or transfer it--for the benefit of creditors.

Under this pre-Code scheme, there was a potential for legal fraud against joint creditors of a husband and wife. The couple could shelter their assets as unencumbered entirety property, then one spouse could file bankruptcy and obtain a release from his share of all joint debts without exposing the entirety property to any claims because it would not enter the bankruptcy estate. After bankruptcy, all joint creditors could sue only the remaining spouse, a judgment against whom would be ineffective as against the entirety property. This was the situation recognized by the Fourth Circuit in Reid, 304 F.2d at 354-55:

The effect of the coincidental interrelation of these rules of law is to allow the tenants by the entireties to keep the entireties property secure from the claims of their creditors even though that property was never available in bankruptcy for the satisfaction of those claims.

Two procedures arose to counteract this potential for fraud, one in the bankruptcy courts, and one in state courts. First, the bankruptcy courts allowed a joint creditor to request a stay of the entry of discharge in order to allow the creditor to sue both spouses jointly in state court and, thereby, reduce the claim to a judgment lien that the creditor then could press against the entirety property regardless of discharge. ² Second, several state courts (including Indiana courts) interpreted the joint-debt transaction as creating three liabilities: one of each spouse, and one of the marital unit (the entirety). Thus, even though an individual spouse's discharge might extinguish that spouse's liability on the debt, the entirety property was still vulnerable if the creditor could obtain a judgment against the entirety. ³ As will be discussed below, this state law bypass depended upon both the fact that entirety property never entered the bankruptcy estate, and the fact that, at least up until 1970, the effect of discharge was merely to create an affirmative defense to post-discharge suit, not to enjoin such suit.

C

The Bankruptcy Code of 1978 (the Code) changed the legal landscape. Most significantly for the present case, the Code expanded the definition of property included in the debtor's estate. Under section 541(a)(1), the estate now includes "all legal or equitable interests of the debtor in property as of the commencement of the case." 11 U.S.C. § 541(a)(1). This provision eliminated the requirement that the property be transferable or subject to process in order to enter the estate:

Under the Bankruptcy Act it was additionally necessary under Section 70a(5) to determine whether under local law the debtor's interest in a tenancy by the entirety, joint tenancy, or the like could by any means have been transferred or levied upon or seized at the time the petition was filed. If the debtor's interest met any of these requirements, and was not exempt property, it would pass to the trustee as an asset of the estate. These requirements have been omitted under the Code.

4 Collier on Bankruptcy p 541.07[a] (1992). As will be discussed below, this change had the effect of allowing entirety property to enter the bankruptcy estate. ⁴

The Code also...