In re Lindsey

• Decision Date: 19 March 1986
• Docket Number: Adv. No. 185-0124.,Bankruptcy No. 185-00938
• Citation: 64 BR 19
• Parties: In re Wayne Rodney LINDSEY, Margaret A. Lindsey, Debtors. Wayne Rodney LINDSEY; and, Margaret A. Lindsey, Plaintiffs, v. The FEDERAL LAND BANK OF ST. LOUIS; and, United States of America, acting through Farmer's Home Administration, a division of the United States Department of Agriculture, Defendants.
• Court: U.S. Bankruptcy Court — Central District of Illinois

64 B.R. 19 (1986)

In re Wayne Rodney LINDSEY, Margaret A. Lindsey, Debtors.

Wayne Rodney LINDSEY; and, Margaret A. Lindsey, Plaintiffs, v. The FEDERAL LAND BANK OF ST. LOUIS; and, United States of America, acting through Farmer's Home Administration, a division of the United States Department of Agriculture, Defendants.

Bankruptcy No. 185-00938, Adv. No. 185-0124.

United States Bankruptcy Court, C.D. Illinois.

March 19, 1986.

Carl F. Reardon, East Peoria, Ill., for plaintiffs/debtors.

Douglas R. Lindstrom, Galesburg, Ill., for defendant/Federal Land Bank.

L. Lee Smith, Asst. U.S. Atty., Peoria, Ill., for defendant/Farmers Homes Admin.

OPINION

LARRY LESSEN, Bankruptcy Judge.

Introduction

The plaintiffs/debtors, Wayne Rodney Lindsey and Margaret A. Lindsey, filed a Complaint to Determine Secured Status pursuant to the provisions of Section 506(d) of the Bankruptcy Code against defendants/secured creditors, the Federal Land Bank of St. Louis and the United States of America, acting for the Farmer's Home Administration. The defendants filed an answer and affirmative defense.

The plaintiffs filed a voluntary petition in bankruptcy under Chapter 7 of the Bankruptcy Code and an order of relief was entered. At the time of their filing they were owners of approximately 80 acres of farm land located in Knox County, Illinois, consisting of tillable acreage, permanent pasture, waterways, roads, building site with a residence, hog support building, grain storage structures, wells, residence and extensive hog confinement structures.

It is undisputed that there is a first mortgage of $208,665.59 on the farm in favor of the Federal Land Bank of St. Louis and a second mortgage of $341,450.00 in favor of Farmer's Home Administration. The parties agree that the fair market value of the farm at the present time is less than the total of the first and second mortgages. There is a substantial difference of opinion as to what is the fair market value.

The court received testimony from four appraisers. The appraisals of Owen A. Aruin and Robert Tracy presented by the plaintiffs were $141,200.00 and $102,500.00, respectively. The appraisal of Richard C. Geeger on behalf of the Federal Land Bank of St. Louis was for $233,000.00. Finally, the appraisal submitted by the manager of the local Farmer's Home Administration office was for $320,466.00.

The plaintiffs contend that the court has jurisdiction under Section 506(d) to value the defendants' security which is the real estate and improvements and to the extent that mortgages exceed the fair market value of the real estate and improvements, declare them void. In other words the defendants shall retain a secured claim with a lien upon the real estate only for the appraised value of the property and to the extent their claim exceeds the fair market value of the real estate it shall be treated as an unsecured claim and this amount is not secured by a lien upon the property. In addition, the plaintiffs ask the court once it has valued the real estate to determine how, when and what amount the plaintiffs must pay the defendants to retain title to the property free and clear of the defendants' liens.

The defendants take the position that the court does not have to reach the question of valuation of the real estate; rather, the complaint must be dismissed for failure to state a claim because a Chapter 7 debtor cannot utilize Section 506(d) to redeem his interest in the real estate. The defendants argue that Section 506(d) should not be utilized because Section 722, the Code provision allowing redemption, applies only to personal property; lien avoidance would allow a Chapter 7 debtor to retain something he could not retain in a Chapter 11 or Chapter 13 bankruptcy and the lien avoidance would deprive defendants of a property interest without adequate compensation.

Issues

Two tasks are before the court. The first is to decide whether Section 506(d) of the Bankruptcy Code allows for the avoidance of a real property mortgage to the extent that the mortgage exceeds the value of the property. The second is to decide whether the Bankruptcy Code authorizes the court in a Chapter 7 no asset case to rewrite the amount and payment terms of a debtor's mortgage. Section 506 of the Bankruptcy Code provides in relevant part:

Section 506. Determination of Secured Status.

(a) An allowed claim of a creditor secured by a lien on property in which the estate has an interest, or that is subject to set off under section 553 of this title, is a secured claim to the extent of the value of such creditor\'s interest in the estate\'s interest in such property, or to the extent of the amount subject to set off, as the case may be, and is an unsecured claim to the extent that the value of such creditor\'s interest or the amount so subject to set off is less than the amount of such allowed claim. Such value shall be determined in light of the purpose of evaluation and of the proposed disposition or use of such property, and in conjunction with any hearing on such disposition or use or on a plan affecting such creditor\'s interest.

. . . .

(d) To the extent that a lien secures a claim against the debtor that is not an allowed secured claim, such lien is void, unless —

(1) Such claim was disallowed only under Section 502(b)(5) or 502(3) of this title; or

(2) Such claim is not an allowed secured claim due only to the failure of any entity to file a proof of such claim under Section 501 of this title.

11 U.S.C. Section 506 (1984) (emphasis added).

The courts are divided over the application of Section 506 to avoid a lien on real property in a Chapter 7 case. The leading case on point is In re Tanner, 14 B.R. 933 (Bkrtcy.W.D.Penn.1981) in which it was held that a Chapter 7 debtor can use the provisions of Section 506 to avoid a lien on real property to the extent that the amount of the lien exceeds the value of the collateral. That opinion was cited with approval in several cases and most recently in In re Bain, 52 B.R. 58 (Bkrtcy.W.D.Va. 1985). See also, In re Lyons, 46 B.R. 604 (Bkrtcy.N.D.Ill.1985); In re Frost, 19 B.R. 804,808 (Bkrtcy.Kansas 1982); In re Spadel, 28 B.R. 537, 539 n. 3 (Bkrtcy.E.D.Penn. 1983); In re Parr, 30 B.R. 276, 277 (Bkrtcy.N.D.Ala.1983); Brace v. State Farm Mutual Insurance, 33 B.R. 91, 93-94 (Bkrtcy.S.D.Ohio 1983); In re Bracken, 35 B.R. 84, 85 (Bkrtcy.E.D.Penn.1983); In re Gibbs, 44 B.R. 475, 478-79 (Bkrtcy.Minn. 1984); and In re Roth, 38 B.R. 531, 540 (Bkrtcy.N.D.Ill.), aff'd, 43 B.R. 484 (N.D.Ill. 1984). The court is persuaded by the analysis of these courts and is confident that the Lyons decision presents an accurate summary of divergent positions on this question. However, because this question is an important one before several courts, this court will elaborate on the response to these divergent views.

The arguments against the avoidance of liens on real estate find their roots in a long line of cases which allow a creditor with a loan secured by a lien to ignore the bankruptcy proceeding and look to the lien for the satisfaction of the debt. See Long v. Bullard, 117 U.S. 617, 620-21, 6 S.Ct. 917, 918, 29 L.Ed. 1004 (1886). Section 506(d), however, allows a party in interest to petition the bankruptcy court to rule on the validity of a lien; that is, to determine whether the collateral falls short on the amount of the claimed debt, and if there is a shortfall, to declare that portion of the debt unsecured. A lien is invalid and a bankruptcy court may void it, to the extent it is unsecured.

Another of the early arguments against avoidance attacks the constitutionality of the bankruptcy court's power to void a lien as allowed by Section 506. Such objections are based upon the right to substantive due process which prohibits the taking of property by the government without just compensation. This objection was fully addressed in In re Tanner, 14 B.R. 933 (Bkrtcy.W.D.Penn.1981). The response to this objection not only establishes the constitutionality of the use of 506(d) to void liens, but also sets forth the policy guiding the bankruptcy court in this case:

First, voiding a mortgage to the extent it is undersecured is not an actual deprivation or property. The lienholder is deprived of an empty legal right rather than a valuable property right. If a totally undersecured mortgagee brought an action to foreclose, he would not receive anything but the extinguishment of his lien. All that Section 506(d) does is allow in bankruptcy what would occur out-side bankruptcy in a foreclosure sale — the extinguishment of a lien lacking any present property value. The fact that a mortgagee may have some sort of expectancy interest based upon anticipated appreciation or increase in equity does not require a different conclusion, since it would also be extinguished in a foreclosure proceeding.

14 B.R. at 938.

The realities of foreclosure proceedings bear out the conclusions of the Tanner court. Rarely will a bank foreclose and not immediately sell the property for its current value. The mortgagees's right to maintain ownership of the property for a certain period of time after foreclosure does not change the Tanner analysis. To the extent that this right to "manage" property acquired pursuant to a foreclosure is valuable, it may be incorporated into the Court's determination of the value of the property. No property is taken from a lienholder in Section 506 proceedings. See In re Tarnow, 749 F.2d 464, 466 (7th Cir.1984) (a lien is "property," but unsecured claim is not a valid lien). An examination of the interests of the lienholders to the Lindsey's properties support this conclusion. Cf. In re Mahaner, 34 B.R. 308, 309-10 (Bkrtcy.W.D.N.Y.1983).

Plaintiffs claim the fair market value of the real estate securing the liens of the Federal Land Bank of St. Louis and Farmer's Home Administration is somewhere between $102,500 and $141,200. If the court were to accept these allegations, ...