In re Garcia

• Decision Date: 22 April 2002
• Docket Number: No. 01-12584-PHX-RJH.,01-12584-PHX-RJH.
• Citation: 276 B.R. 627
• Parties: In re Javier A. GARCIA and Adriana M. Garcia, Debtors. Bank of America, N.A., its successors and/or assigns, Movant, v. Javier A. Garcia and Adriana M. Garcia, Debtors; and Russell A. Brown, Chapter 13 Trustee, Respondents.
• Court: U.S. Bankruptcy Court — District of Arizona

Page 627

276 B.R. 627

In re Javier A. GARCIA and Adriana M. Garcia, Debtors Bank of America, N.A., its successors and/or assigns, Movant, v. Javier A. Garcia and Adriana M. Garcia, Debtors; and Russell A. Brown, Chapter 13 Trustee, Respondents.

No. 01-12584-PHX-RJH.

United States Bankruptcy Court, D. Arizona.

April 22, 2002.

Allan D. NewDelman, Phoenix, AZ, for debtors.

Josephine E. Piranio, Moss, Pite & Duncan, L.L.P., El Cajon, CA, for movant.

OPINION

RANDOLPH J. HAINES, Bankruptcy Judge.

Bank of America, N.A. ("Bank") has moved for summary judgment seeking stay relief to enforce its deed of trust encumbering the home of Chapter 13 Debtors Javier and Adriana Garcia ("Debtors"). The Bank argues that the Debtors are not their borrowers, having acquired the house from the Bank's original borrower without the Bank's knowledge or consent, without assuming the loan and in violation of the due on sale clause in the deed of trust. The Bank argues that such a default cannot be cured, and that permitting the Debtors effectively to assume the Bank's loan would constitute a "modification" of the Bank's security interest in the real property that is the Debtors' principal residence, in violation of Bankruptcy Code § 1322(b)(2).¹

For the reasons set forth below, the Court concludes the default arising from the due on sale clause can be cured without impermissibly modifying the Bank's lien rights, and therefore denies the Bank's motion for summary judgment.

Background Facts

The following facts are undisputed.

In 1999, the First Union Mortgage Corporation lent Emmet Murray $72,000 for the purchase of a house, and recorded a deed of trust against the house to secure that debt. The deed of trust contained a due on sale provision in paragraph 17, as follows:

If all or any part of the Property or any interest in it is sold or transferred (or if a beneficial interest in Borrower is sold or transferred and Borrower is not a natural person) without Lender's prior written consent, Lender may, at its option, require immediate payment in full of all sums secured by this Security Instrument. However, this option shall not be exercised by Lender if exercise is prohibited by federal law as of the date of this Security Instrument.

If Lender exercises this option, Lender shall give Borrower notice of acceleration. The notice shall provide a period of not less than 30 days from the date the notice is delivered or mailed within which Borrower must pay all sums secured by this Security Instrument. If Borrower fails to pay these sums prior to the expiration of this period, Lender may invoke any remedies permitted by this Security Instrument without further notice or demand on Borrower.

The deed of trust also provided that "The covenants and agreements of this Security Instrument shall bind and benefit the successors and assigns of Lender and Borrower, subject to the provisions of paragraph 17."

First Union's note and deed of trust were subsequently assigned to the Bank, and Emmet Murray died. Emmet Murray's Personal Representative, James Murray, sold the house to the Debtors for $109,000, paid by a down payment of $13,500 and subject to the Bank's debt, a second lien in the amount of $18,000, and a carry back lien in favor of James Murray for $6,300. Debtors did not assume the debt to the Bank, nor obtain the Bank's consent to the purchase. The Debtors' Agreement for Sale was promptly and properly recorded in the Official Records of Maricopa County in November, 2000.

Debtors apparently made payment on the Bank's debt for four or five months but then defaulted. In June, 2001, the Bank noticed a trustee's sale for September but the Debtors filed their Chapter 13 case just before that sale could be held. The default giving rise to the notice of trustee's sale was apparently only a payment default, not the default arising from the failure to obtain the Bank's consent to the sale, because the Bank states that it did not know of the sale until July 16, 2001, after its trustee's sale had already been noticed. There is no allegation that the Bank ever gave anyone the 30-day notice of its exercise of its option to accelerate pursuant to paragraph 17 of the deed of trust. Nor is there any allegation that the Debtors acted in bad faith either in acquiring the property or in filing this Chapter 13 case.

The Bank moved for stay relief and summary judgment, which the Debtors oppose. After briefing, oral argument was heard on February 25, 2002.

Legal Analysis

Bankruptcy Code § 1322(b)(2) provides that a Chapter 13 plan may "modify the rights of holders of secured claims, other than a claim secured only by a security interest in real property that is the debtor's principal residence ...," Code § 1322(b)(3) provides that a plan may "provide for the curing or waiving of any default," and § 1322(b)(5) provides that "notwithstanding paragraph (2) of this subsection, [a plan may] provide for the curing of any default within a reasonable time...." The question here is which of these provisions governs the facts presented.

This raises three basic issues: (1) can a debtor modify or cure the terms of a security instrument to which it is not a party; (2) what distinguishes a permissible "cure" from an impermissible "modification;" and (3) are there defaults that cannot be cured despite the language of §§ 1322(b)(3) & (b)(5)? Before reaching those issues, however, we must first address the effect of the automatic stay.

Bank Has Not Accelerated On Account of Due on Sale Clause

As noted in the facts, the Bank noticed its trustee's sale based only on the payment default, not upon the violation of the due on sale clause. The Bank never exercised its option to accelerate on account of sale, without its consent, despite having both actual and constructive knowledge of the sale for at least two months prior to the bankruptcy.

Absent stay relief granted pursuant to § 362(d), the automatic stay precludes the Bank from exercising its option to accelerate until the property leaves the estate, the case is closed or dismissed, or the Debtors obtain their discharge, pursuant to § 362(c). In a Chapter 13 case, the discharge is ordinarily granted only after completion of all payments pursuant to a confirmed plan, § 1328(a), which is ordinarily three years but possibly as long as five years. § 1322(d). Consequently, absent stay relief pursuant to § 362(d), if the Debtors confirm a plan and abide by it, they may be entitled to keep their home, subject to the Bank's debt, for three or five years while they make their plan payments. They could do so even without their plan modifying the terms of the Bank's debt or curing the default, so long as they could avoid stay relief.

Because this is summary judgment, the Bank has not made a factual showing that the creditworthiness of the Debtors is so much less than their original borrower's that the Debtors' purchase of the property, without the Bank's consent, constitutes a lack of adequate protection entitling it to stay relief pursuant to § 362(d)(1). That very well may be an issue for another day, after evidentiary hearing.

Instead, the Bank makes a purely legal argument that the violation of its due on sale clause entitles it to stay relief, without tying its argument to any provision of § 362(d).² But neither the Bank's motion nor the case law demonstrates that a violation of a due on sale clause by itself conclusively establishes either that the lender is not adequately protected or that the property is not necessary to an effective reorganization. For example, a plan could provide for a sale of the property for cash in an amount sufficient to pay the lender in full and leave additional cash to fund a plan, which could be an effective reorganization without doing any violence to the Bank's due on sale clause. Consequently, as a matter of law, the violation of the Bank's due on sale clause does not per se entitle the Bank to stay relief.

But even though the Bank may not be entitled to stay relief on this motion for summary judgment, this does not resolve all the legal issues on which the parties seek a ruling. The Bank's argument is really directed at what the Debtor's plan can accomplish with respect to the Bank's debt. Moreover, the Debtors' intent here is undoubtedly not simply to keep their house during the term of their plan, but then be faced with a balloon payment of the full debt because the stay has expired and the Bank exercises its option to accelerate. Rather, both parties need to know whether the Debtors can cure the default and maintain regular payments on the debt both during the term of their plan and thereafter until the regular maturity date of the debt.

A Debtor-Creditor Relationship Exists

The first argument the Bank makes is that these Debtors have no right either to cure a default or modify the terms of the Bank's deed of trust because they were never the Bank's borrower. There is not only case law support for this argument, but in fact perhaps the majority of cases dealing with this issue rely heavily on the fact that the debtor who seeks to cure was never a party to the lender's loan documents. Some courts have held that a lender is entitled to stay relief whenever a debtor has acquired the property securing the lender's debt without the lender's consent and without assuming the loan, even without consideration of a due on sale clause, simply because the court will not "impose" a debtor-creditor relationship on such an unwilling creditor.³ Others conclude that allowing the debtor to maintain payments on the debt would impermissibly "modify" the lender's rights under the due on sale clause in violation of § 1322(b)(2), and it is a default that cannot be "cured" because the debtor was not the original borrower.⁴ But at least one court has rejected the argument based on a lack of a debtor-creditor relationship on the basis of applicable state law,⁵ and others have concluded that...