In re KVN Corp.
| Decision Date | 29 July 2014 |
| Docket Number | BAP No. NC–13–1318–JuKuD.,Bankruptcy No.13–10477. |
| Citation | 514 B.R. 1 |
| Parties | In re KVN CORPORATION, INC., Debtor. Linda S. Green, Chapter 7 Trustee, Appellant. |
| Court | U.S. Bankruptcy Appellate Panel, Ninth Circuit |
OPINION TEXT STARTS HERE
Jean Barnier, Esq., on brief, Sonoma, CA, for appellant Linda S. Green.
Before: JURY, KURTZ, and DUNN, Bankruptcy Judges.
Linda S. Green, chapter 7 1 trustee (Trustee) in the bankruptcy estate of KVN Corporation, Inc. (KVN or debtor), filed a motion seeking approval of a stipulation between Trustee and Wilshire State Bank (Bank) which contemplated a sale of the Bank's fully encumbered property in exchange for a carve out from the lien proceeds paid to the bankruptcy estate. The bankruptcy court denied the motion and Trustee's later filed motion for reconsideration. This appeal followed. For the reasons discussed below, we VACATE and REMAND this matter to the bankruptcy court for proceedings consistent with this decision.
The essential facts are few and undisputed. KVN owned a sporting goods store. KVN was indebted to the Bank under the terms of a note in the original principal sum of $915,000. The note was secured by KVN's real property and by substantially all of its business assets.
On March 8, 2013, KVN filed its chapter 7 petition and Green was appointed chapter 7 trustee. In Schedule A, debtor listed inventory including “liquor, gun, ammunition, cleaning kits, and fishing reels” with a value of $28,950. Debtor failed to reflect the Bank's security interest in the inventory, but listed the Bank as a secured creditor against its real property in Schedule D. At the time of the filing, debtor owed the Bank approximately $309,569. In Schedule F, debtor listed unsecured claims in the amount of $107,565. After the filing, Trustee removed rifles and guns from debtor's store and placed them in a gun storage locker at the cost of $25 per day. Trustee employed an auctioneer to conduct a public sale of these assets, which would likely bring $10,000. After reviewing public records, Trustee learned that the Bank held a perfected UCC–1 on all of debtor's inventory, including the firearms. Trustee contacted the Bank and informed it that the firearms had been removed for safekeeping and that the Bank could retrieve them.
In late April 2013, the Bank contacted Trustee and requested her assistance in selling the firearms through the auctioneer she had employed. The Bank agreed that it would pay for the storage costs and split the net proceeds with the bankruptcy estate. Trustee agreed based on her belief that the transaction would net between $4,200 to $4,400 for the benefit of unsecured creditors. Trustee and the Bank entered into a stipulation setting forth these terms.
Trustee subsequently filed a motion seeking approval of the stipulation from the bankruptcy court. At the May 10, 2013 hearing, the bankruptcy court denied Trustee's motion. Initially, the court made reference to Charles Duck, a former trustee in the Northern District of California, who 2 The court further opined:
[T]he role of a chapter 7 trustee is to closely examine the secured creditor's security interest and defeat it, if the trustee can. And, if not, turn the asset over to the secured creditor. It is a slippery slope, to my mind, when the debtor and the secured creditor start making deals. I do not believe it's the appropriate role of a chapter 7 trustee to liquidate fully-encumbered assets.
Counsel for Trustee and the Bank both emphasized that there was full disclosure, everything was above board, and there would be a return to the unsecured creditors. The Bank's counsel further explained that the auctioneer hired by Trustee had the expertise to sell the firearms in a lawful manner which caused it to agree to release its lien on fifty percent of the proceeds. The bankruptcy court responded: The court opined that “arrangements like this are dangerous because they can lead to improper activity.” The court concluded: “So in this particular case I do not believe that the benefits to the estate outweigh my concerns for the proper role of the trustee and the bankruptcy system.” On May 15, 2013, the bankruptcy court entered the order denying approval of the stipulation.
Trustee moved for reconsideration. Trustee argued that there was nothing in the bankruptcy code which prevented her from entering into agreements with secured creditors or that stated a chapter 7 trustee's proper role was to liquidate only unsecured assets. Trustee further asserted that there was nothing in the agreement between her and the Bank which suggested the parties were acting in an improper manner. Trustee noted that § 506(c) provided authority that administrative expenses could be paid from the sale of secured assets even if there was no benefit to unsecured creditors and when the secured creditor caused or consented to the expense. See Compton Impressions, Ltd. v. Queen City Bank, N.A. (In re Compton Impressions, Ltd.), 217 F.3d 1256 (9th Cir.2000).
On June 14, 2013, the bankruptcy court heard the matter and took it under advisement. Two days later, the bankruptcy court issued its Memorandum of Decision and denied Trustee's motion for reconsideration. The bankruptcy court opined that arrangements between trustees and secured creditors raised a presumption of impropriety and found that Trustee had not rebutted that presumption. On June 17, 2013, the court entered the order denying Trustee's motion for reconsideration. Trustee timely appealed.
The bankruptcy court had jurisdiction pursuant to 28 U.S.C. §§ 1334 and 157(b)(2)(A), (N) and (O). We have jurisdiction under 28 U.S.C. § 158.
Whether the bankruptcy court abused its discretion by denying approval of the stipulation between Trustee and the Bank which contemplated a sale of the Bank's fully encumbered property in exchange for a carve out from the lien proceeds to the bankruptcy estate.
The bankruptcy court's decision denying approval of the stipulation between Trustee and the Bank is reviewed for abuse of discretion. A & A Sign Co. v. Maughan, 419 F.2d 1152, 1155 (9th Cir.1969). A bankruptcy court abuses its discretion when it applies the incorrect legal rule or its application of the correct legal rule is “(1) illogical, (2) implausible, or (3) without support in inferences that may be drawn from the facts in the record.” United States v. Loew, 593 F.3d 1136, 1139 (9th Cir.2010).
We begin with an overview of the chapter 7 trustee's duties under § 704 and his or her power to sell under § 363. Under § 704(a)(1), a chapter 7 trustee has the duty to “collect and reduce to money the property of the estate for which such trustee serves....” To fulfill this duty, the trustee's “primary job is to marshal and sell the assets, so that those assets can be distributed to the estate's creditors.” U.S. Tr. v. Joseph (In re Joseph), 208 B.R. 55, 60 (9th Cir.BAP1997). Indeed, a core power of a bankruptcy trustee under § 363(b) is the right to sell “property of the estate” for the benefit of a debtor's creditors. See§ 363(b)(1) (). Under § 363(f)(2), a bankruptcy trustee may sell property of the estate free and clear of a lien or other interest where the holder of the lien or interest consents.
It is universally recognized, however, that the sale of a fully encumbered asset is generally prohibited. Carey v. Pauline (In re Pauline), 119 B.R. 727, 728 (9th Cir. BAP 1990); In re Scimeca Found., Inc., 497 B.R. 753, 781 (Bankr.E.D.Pa.2013) () ); In re Covington, 368 B.R. 38, 41 (Bankr.E.D.Cal.2006) (); In re Feinstein Family P'ship, 247 B.R. 502, 507 (Bankr.M.D.Fla.2000) (); In re Preston Lumber Corp., 199 B.R. 415, 416 (Bankr.N.D.Cal.1996) (); In re Tobin, 202 B.R. 339, 340 (Bankr.D.R.I.1996) ().
The prohibition against the sale of fully encumbered property is also embedded in the official Handbook for Chapter 7 Trustees in several places:
Generally, a trustee should not sell property subject to a security interest unless the sale generates funds for the benefit of unsecured creditors. A secured creditorcan protect its own interests in the collateral subject to the security interest.
U.S. DOJ Exec. Office for U.S. Trs., Handbook for Chapter 7 Trustees at 4–16 (2012) (hereinafter, Handbook). The Handbook also provides:
A chapter 7 case must be administered to...
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