In re Reider

• Decision Date: 30 December 1994
• Docket Number: Bankruptcy No. 93-10764.
• Citation: 177 BR 412
• Parties: In re Michael Lawrence REIDER, Debtor.
• Court: U.S. Bankruptcy Court — District of Maine

177 B.R. 412 (1994)

In re Michael Lawrence REIDER, Debtor.

Bankruptcy No. 93-10764.

United States Bankruptcy Court, D. Maine.

December 30, 1994.

Gary M. Growe, Chapter 7 Trustee, Bangor, ME.

Laurie A. Dart, Eaton, Peabody, Bradford & Veague, P.A., Bangor, ME, for debtor.

Janice Reider, pro se.

MEMORANDUM OF DECISION

JAMES B. HAINES, Jr., Bankruptcy Judge.

Before the court is the Chapter 7 trustee's objection to Janice Reider's secured proof of claim. For the reasons set forth below, I conclude that Ms. Reider holds rights superior to the estate in one half of a $24,205.11 fund held by the trustee and, therefore, overrule the trustee's objection and order that the funds be disbursed to her at once.¹

Background

1. Facts.

Michael and Janice Reider divorced on March 23, 1992. The divorce judgment provided, inter alia:

DIVISION OF REAL AND PERSONAL PROPERTY

The marital residence ... having a fair market value of $65,000 and subject to a first mortgage to Skowhegan Savings Bank in the amount of $55,000, shall remain in the names of both the Plaintiff Janice and the Defendant Michael, but Janice shall have the right to exclusively possess and reside at said residence for five years from the date of this judgment rent free. Thereafter, said residence shall be sold and the net proceeds shall be split equally between Janice and Michael. In addition, Michael shall pay the mortgage payment on the marital residence payable to Skowhegan Savings Bank each month, as well as the property taxes and homeowner\'s insurance for said residence, and the costs of any necessary repairs and maintenance until said residence is sold....

(Emphasis supplied).

Pursuant to the divorce judgment, Michael Reider obtained insurance, including casualty insurance, for the residence. The policy listed Michael as the sole "insured" and designated Skowhegan Savings Bank as the "loss payee."

On November 22, 1993, Michael filed a voluntary Chapter 7 bankruptcy petition. On December 17, 1993, fire destroyed the residence. A portion of the insurance proceeds was paid to Skowhegan Savings Bank in satisfaction of the mortgage debt, and the balance, amounting to $24,205.11, was remitted to Michael's bankruptcy trustee.

2. Procedure.

Janice Reider filed a timely secured proof of claim for $16,500, later reduced to $12,500 (approximating one half the surplus insurance proceeds). The trustee objected to her claim. Appearing pro se, Janice argued in response that as co-owner of the residence (and under the terms of divorce judgment), she, rather than Michael's bankruptcy estate, is entitled to one half the surplus proceeds.

Discussion

1. The Nature of Janice's Claim.

Janice's claim is not garden variety. Such rights as she holds rest upon a claim of constructive trust. She seeks a determination that although the trustee holds the insurance proceeds, he does so subject to her senior rights. She asserts that, although Michael held "legal title" to the insurance policy and its surplus proceeds, he held (and the estate acquired) no "equitable interest" in "her" half of the proceeds.²

Before proceeding to analyze whether Janice can establish rights in the proceeds fund under a constructive trust theory, we turn to the question whether such rights can prevail against the trustee.

2. Constructive Trusts and the Bankruptcy Estate.

The bankruptcy estate "is comprised of ... all legal or equitable interests of the debtor in property as of the commencement of the case which includes proceeds ... of or from property of the estate." § 541(a)(1) and (6). But:

Property in which the debtor holds, as of the commencement of the case, only legal title and not an equitable interest ... becomes property of the estate under subsection (a)(1) or (2) of this section only to the extent of the debtor\'s legal title to such property, but not to the extent of any equitable interest in such property that the debtor does not hold.

§ 541(d).

In this circuit recognition of a constructive trust upon assets ostensibly the debtor's provides the beneficiary rights superior to those of the bankruptcy estate.

When a debtor is in possession of property impressed by a trust — express or constructive — the bankrupt estate holds the property subject to the outstanding interest of the beneficiaries. American Service Co. v. Henderson, 120 F.2d 525, 531 (4th Cir. 1941); 4 Lawrence King, Collier on Bankruptcy ¶ 541.13 at 541-76 (15th ed. 1994) hereinafter "Collier". In order to establish such a right as trust beneficiary, a claimant must ... prove the existence and legal source of a trust relationship which is usually a question of state law.

Connecticut General Life Insurance Co. v. Universal Insurance Co., 838 F.2d 612, 618 (1st Cir.1988).³ See Pare v. Campopiano (In re Campopiano), No. 92-11669, 1994 WL 675317, at *3 1994 Bankr. LEXIS 1849, at *9 (Bankr.D.R.I. Nov. 23, 1994); In re Mill Concepts, 123 B.R. 938, 944-45 (Bankr. D.Mass.1991).

There is contrary authority, most notably XL/Datacomp, Inc. v. Wilson (In re Omegas Group, Inc.), 16 F.3d 1443 (6th Cir.1994). In Omegas the Sixth Circuit held that, because constructive trusts are remedial, unless such a trust has been judicially declared before bankruptcy, they (and beneficiaries' rights under them) do not trump the estate's interests. 16 F.3d at 1449. The court declared that "nowhere in the Bankruptcy Code does it say, `property held by the debtor subject to a constructive trust is excluded from the debtor's estate.'" Id. at 1448. Under Omegas' rule, establishing rights under a constructive trust theory after a bankruptcy filing merely provides the beneficiary with a claim against the estate. Id. at 1449. According to Omegas "§ 541(d) cannot properly be invoked as an equitable panacea," id. at 1453, and, more bluntly, "constructive trusts have no place in bankruptcy." Id. at 1452 n. 9.

Omegas' holding reflects concern that a debtor's property be ratably distributed among its creditors in accordance with statutory priorities. Id. at 1451-53. See Oxford Organisation, Ltd. v. Peterson (In re Stotler and Co.), 144 B.R. 385, 387-88 (N.D.Ill.1992) (expressing reluctance to impose constructive trust because it elevates one unsecured claim above others) (dictum); Neochem Corp. v. Behring International, Inc. (In re Behring International, Inc.), 61 B.R. 896, 902 (Bankr. N.D.Tex.1986) (same). See also Almar Communications, Ltd. v. Telesphere Communications, Inc. (In re Telesphere Communications, Inc.), 167 B.R. 495, 503-04 n. 5 (Bankr. N.D.Ill.1994) (Omegas holding reflects concern about ratable distribution).

Although I agree that § 541(d) is not carte blanche to "do equity" in derogation of explicit distribution rules, Omegas goes too far. Properly applied, constructive trust theory does not conflict with the Code's distribution scheme. Section 541(d) establishes that the Code will not ratably distribute among a debtor's creditors property that belongs to third parties. See Pearlman v. Reliance Ins. Co., 371 U.S. 132, 135-36, 83 S.Ct. 232, 234-35, 9 L.Ed.2d 190 (1962) (law "does not authorize a trustee to distribute other people's property among a bankrupt's creditors.")

It's not that constructive trust beneficiaries gain an impermissible priority over other creditors in the distribution of assets. Rather, § 541(d) recognizes that property ostensibly the estate's may in reality be subject to superior rights. In such circumstances those rights supersede the estate's. In re Mill Concepts, 123 B.R. at 944.⁴

If the parties' prebankruptcy relationship entitles Janice to declaration of a constructive trust on one half the surplus insurance proceeds, that fund, to the extent of her interest, is excluded from Michael's bankruptcy estate by § 541(d). See Connecticut General Life Insurance, 838 F.2d at 618. See also In re Howard's Appliance Corp., 874 F.2d at 95; Vineyard v. McKenzie (In re Quality Holstein Leasing), 752 F.2d 1009, 1013 (5th Cir.1985); In re Mill Concepts, 123 B.R. at 944; Reliance Insurance Co. v. Brown, 40 B.R. 214, 218 (W.D.Mo.1984) (court decree establishing constructive trust is retroactive in effect).

In other words, the First Circuit follows the majority rule, recognizing that, through imposition of a constructive trust, a beneficiary can establish rights in property superior to those of the estate. Consistent with § 541(d) and with the beneficiary's interests, the property will be excluded from the estate; the beneficiary is not paid through the estate.⁵

If Janice is entitled to benefit from a constructive trust on the insurance policy or its proceeds, that trust dates from the divorce judgment. And her equitable interest will be superior to the bankruptcy estate. Connecticut General, 838 F.2d at 618; Mill Concepts, 123 B.R. at 944.⁶

3. Janice's Rights Under Maine Law.

Janice claims superior rights in one half the insurance proceeds: (1) by virtue of her joint ownership of the insured property, and (2) by virtue of the divorce judgment's directive that the property be insured for her benefit.

a. Rights To Fire Insurance Proceeds As Co-Owner.

There are at least three approaches to a co-owner's claim that he or she is entitled to a share of fire insurance proceeds when not named as an insured or designated as a beneficiary in the policy.

The first approach might be considered the general rule. Some authorities state that "a stranger to the contract cannot collect thereon simply because he was the owner of an undivided interest in the property destroyed and this is true even though the insurance was not limited to the policyholder's separate interest." 5A J. Appleman, Insurance Law and Practice § 3361 at 188-89 (1969 and 1993 Supp.) hereinafter "Appleman". See Collette v. Long, 179 Miss. 650, 176 So. 528 (1937).

Some courts recognize exceptions to the general rule case-by-case:

Among relevant inquiries in determining whether insurance proceeds should be shared are: whether insurance was obtained for

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