In re Burkholder

• Decision Date: 21 May 1981
• Docket Number: Adv. No. 80-0220.,Bankruptcy No. 80-00303T
• Parties: In re John H. BURKHOLDER and Carol A. Burkholder, Debtors. John H. BURKHOLDER and Carol A. Burkholder, Plaintiffs, v. NATIONAL CENTRAL BANK and its successors, Defendant.
• Court: United States Bankruptcy Courts. Third Circuit. U.S. Bankruptcy Court — Eastern District of Pennsylvania

11 B.R. 346 (1981)

In re John H. BURKHOLDER and Carol A. Burkholder, Debtors.

John H. BURKHOLDER and Carol A. Burkholder, Plaintiffs, v. NATIONAL CENTRAL BANK and its successors, Defendant.

Bankruptcy No. 80-00303T, Adv. No. 80-0220.

United States Bankruptcy Court, E.D. Pennsylvania.

May 21, 1981.

Jacques H. Geisenberger, Jr., Lancaster, Pa., for debtors.

William C. McCarty, Lancaster, Pa., for defendant.

OPINION

THOMAS M. TWARDOWSKI, Bankruptcy Judge.

The debtors in this case have filed a complaint to avoid the lien of National Central Bank now Hamilton Bank and hereinafter referred to as the Bank, pursuant to 11 U.S.C. § 522(f)(1) (1979).¹ For reasons hereinafter given, we conclude that the lien should be avoided.²

On March 23, 1978, the debtors entered into a reconsolidation loan transaction with the Bank. The debtors signed an Installment Loan Note containing a confession of judgment clause, a Disclosure for Confession of Judgment and a Notice of Right to Rescission. Judgment was entered on April 11, 1978. On that date, debtors owned real property located at 471 Valley Road, Lancaster, Pennsylvania. On February 14, 1980, the debtors filed a voluntary joint petition under Chapter 7 of the Bankruptcy Code, codified as Title 11 of the United States Code. An order for relief was entered on that date. The debtors listed a portion of their equity in the above named property as exempt under Section 522(d)(1) of the Code.³ The Bank filed an objection to the claim of exemption to which the debtors have moved for dismissal. Subsequent to the Bank's filing of objections, the debtors filed a complaint to avoid the judicial lien impairing their exemption. The Bank responded by raising the affirmative defenses of incorrect characterization of its lien as a judicial lien, and the unconstitutionality of applying Section 522(f)(1) retroactively to avoid liens arising prior to enactment of the Code. The Bank contends that the lien securing their loan to the debtors arising from a recorded confession of judgment note is a security interest rather than a judicial lien. The Bank further contends that if the lien were found to be a judicial lien, the application of Section 522(f)(1) to liens arising prior to the enactment of the Bankruptcy Reform Act amounts to a violation of the Fifth Amendment to the United States Constitution. For reasons hereinafter given, we conclude: (1) the Bank's objections to the debtors' claim of exemptions do not lie and therefore shall be dismissed; (2) the lien of the Bank is a judicial lien within the definition of the Bankruptcy Reform Act; (3) the lien is constitutionally avoidable to the extent it impairs the debtors' exemption.

The first issue presented is whether the Bank's objection to the debtors' claim of exemption is proper. The debtors request dismissal of the objection, and assert that the right to claim such an exemption is unconditional. This court has resolved this issue in In re Anspach, 6 B.R. 700 (Bkrtcy. E.D.Pa.1980).

Our decision in Anspach supports the debtors' contention that the existence of liens is no barrier to the right to claim an exemption. The Bank's objection is unfounded because the claim of exemption itself in no way affects the Bank's interest in the real estate involved. In re Anspach, supra. In order to avoid the Bank's lien, or otherwise adversely affect its interest in the exempt property, the debtor must affirmatively seek the Court's review to avoid the lien pursuant to Section 522(f). This procedure provides the secured party with notice and an opportunity to be heard before its interest is affected. In re Anspach, supra; In re Riffle, Bankr. No. X-XX-XXXXX (M.D. Pa. July 18, 1980). Therefore, the Bank's objections to the debtors' claim of exemptions are dismissed.

In response to the debtors' application for avoidance of the Bank's lien pursuant to Section 522(f)(1), the Bank contends that its lien on the exempt property is not a judicial lien, but rather, a security interest created by the terms set forth in the purported security agreement, the Installment Loan Note and the accompanying Disclosure. The issue of whether a confession of judgment constitutes a security interest was recently before this court in In re Porter, 7 B.R. 356 (Bkrtcy.E.D.Pa.1980). In a similar fact situation, the creditors contended that the lien arising from a confessed judgment note was a security interest because the parties agreed to allow a judgment to be recorded against them. We adopted the reasoning of our colleague, Judge Goldhaber, in In re Natale, 5 B.R. 454 (Bkrtcy.E.D.Pa.1980):

While it is true that under the Code a security interest is a lien created by agreement of the parties, a judicial lien is defined as a "lien obtained by judgment, levy, sequestration, or other legal, equitable process or proceedings." We interpret that definition to include liens created by "voluntary" judicial process as well as "involuntary" judicial process.

In the instant case no lien arose merely by the agreement of the parties (since, as we found above, the documents signed by the debtors did not constitute a security agreement.) The lien in question arose by virtue of the action of the Credit Union in filing the promissory note and the statement of income and the action of the prothonotary in issuing the D.S.B. This was judicial process and the fact that the parties agreed that this should be done did not change its nature.

Natale, at 458.

The laws governing secured transactions in Pennsylvania prohibit the creation of a security interest in real property except by mortgage. 13 Pa.Con.Stat. Ann. § 9104 (Purdon). Since the clause purporting to create the security interest contained in the Installment Loan Note is insufficient to create a mortgage (nor is it recorded as such), we conclude no security interest was created in the debtors' real property. Therefore, following the above named and other reported decisions on this issue⁴, we find that the lien held by the Bank is a judicial lien which arose when the note was left for entry of judgment, not when the debtors agreed that judgment be entered against them.

The final issue presented is whether Section 522(f) can be constitutionally applied to avoid a lien which arose prior to the enactment of the Code. The Bank contends that the retroactive application of that section to avoid its judicial lien on debtors' real estate constitutes a taking of private property without just compensation in violation of the Fifth Amendment of the United States Constitution.⁵ We agree with those cases which have decided that it was the intent of Congress that the Code be applied retroactively, and we also conclude that the Section is valid as applied to the facts of this case.

The power to legislate on the subject of bankruptcies is expressly granted to Congress by the Constitution. Article 1, section 8, clause 4. This power is subject to the Necessary and Proper Clause of Article 1, section 8, clause 18, and limited by the requirements of the Fifth Amendment. Louisville Joint Stock Bank v. Radford, 295 U.S. 555, 55 S.Ct. 854, 79 L.Ed. 1593 (1935). For provisions of the Bankruptcy Act to violate the Fifth Amendment, they must be grossly arbitrary and unreasonable as to be incompatible with fundamental law. Hanover National Bank v. Moyses, 186 U.S. 181, 22 S.Ct. 857, 46 L.Ed. 1113 (1902); Campbell v. Alleghany Corporation, 75 F.2d 947 (4th Cir. 1935), cert. denied 296 U.S. 581, 56 S.Ct. 92, 80 L.Ed. 411 (1937).

In Pennsylvania Coal Co. v. Mahon, 260 U.S. 393, 43 S.Ct. 158, 67 L.Ed. 322 (1922), the Court determined that a taking could occur as the consequence of otherwise valid legislation. The Court in that case noted that Congress may properly regulate property rights, but that when regulation goes too far, it may amount to a taking. However, the Court in other cases decided that not all takings affront the constitution. Not every loss of, or injury to, property requires constitutional protection. Armstrong v. United States, 364 U.S. 40, 80 S.Ct. 1563, 4 L.Ed.2d 1554 (1960); Omnia Commercial Co. v. United States, 261 U.S. 502, 43 S.Ct. 437, 67 L.Ed. 773 (1922). The subject has been treated as a question properly turning upon the particular circumstances of each case. United States v. Central Eureka Mining Co., 357 U.S. 155, 78 S.Ct. 1097, 2 L.Ed.2d 1228 (1958).

As noted above, Section 522(f) of the present Bankruptcy Code is here challenged as an unconstitutional retroactive taking of property. The question of retroactivity has been the subject of varying interpretation by the bankruptcy courts.⁶ We conclude that Congress intended the Bankruptcy Reform Act to operate retroactively; that is, it affects rights which may have vested before the effective date of the Code, or even those which may have vested before the enactment date. This alone, however, is insufficient to find the section unconstitutional. While the retroactive application of legislation may be a consideration in determining the fairness and reasonableness of particular legislation, it is established that the retroactive scope of a statute may properly affect property rights which have vested. Usery v. Turner Elkhorn Mining Co., 428 U.S. 1, 96 S.Ct. 2882, 49 L.Ed.2d 752 (1976); Howell Electric Motors v. United States, 172 F.2d 953 (6th Cir. 1947). In Usery, the Supreme Court noted,

. . . our cases are clear that legislation readjusting rights and burdens is not unlawful solely because it respects otherwise settled expectations. See Fleming v. Rhodes, 331 U.S. 100, 67 S.Ct. 1140, 91 L.Ed. 1368 (1947); Carpenter v. Wabash R. Co., 309 U.S. 23, 60 S.Ct. 416, 84 L.Ed. 558 (1940); Norman v. Baltimore & Ohio R. Co., 294 U.S. 240, 55 S.Ct. 407, 79 L.Ed. 885 (1935); Home Bldg. & Loan Asso. v. Blaisdell, 290 U.S. 398, 54 S.Ct. 231, 78 L.Ed. 413 (1931); Louisville & Nashville R. Co. v. Mottley, 219 U.S. 467, 31 S.Ct. 265, 55 L.Ed. 297 (1911).

Usery, 428 U.S. at 16, 96 S.Ct. at...