In re Westfall

• Decision Date: 24 September 2007
• Docket Number: No. 06-60297.,06-60297.
• Citation: 376 B.R. 210
• Parties: In re Jamie Allen WESTFALL and Angela Ann Westfall, Debtors.
• Court: U.S. Bankruptcy Court — Northern District of Ohio

376 B.R. 210

In re Jamie Allen WESTFALL and Angela Ann Westfall, Debtors.

No. 06-60297.

United States Bankruptcy Court, N.D. Ohio, Eastern Division.

September 24, 2007.

James F. Ciccolini, Medina, OH, for Debtor.

MEMORANDUM OF OPINION

RUSS KENDIG, Bankruptcy Judge.

This case is before the court on the objections to confirmation filed by creditor Nuvell Credit Corporation ("Nuvell") and creditor WFS Financial, Inc. ("WFS"). Both objections were based on debtors' proposed treatment of the creditors' secured vehicle loans. Through the plan, debtors proposed to bifurcate the loans into secured and unsecured portions. Creditors argued that the language in 11 U.S.C. § 1325(a), the. "hanging paragraph," protected their claims from bifurcation because the loans are qualifying purchase money security interests. Toby L. Rosen, chapter 13 trustee ("Trustee") disagreed, contending that the inclusion of negative equity into the loans excepted the loans from the protection of the hanging paragraph based on the definition of the term purchase money security interest.

In an amended memorandum of opinion entered on May 17, 2007, the court concluded that pursuant to Ohio law the payment of negative equity is not purchase money enabling a purchaser to acquire rights in the purchased vehicle. Consequently, both purchase money and nonpurchase money interests existed in the transaction. After reviewing Ohio law, the court concluded that Ohio would apply the transformation rule to the transaction, which transforms the entire transaction into a nonpurchase money status due to the contamination by a nonpurchase money component, thereby removing the transaction from the benefit of the hanging paragraph.

The court requested additional briefing on one issue: whether it is appropriate to use state law to define purchase money security interest or, as an alternative, whether it is superior to use a federal definition solely to interpret and apply the hanging paragraph in the bankruptcy code ("Code"). This issue is now before the court. Nuvell submitted an additional brief on April 27, 2007, as well as four filings of supplemental authority, the latest dated July 30, 2007. WFS¹ and Trustee also filed pleadings in support of their respective positions.

The court has jurisdiction of this case pursuant to 28 U.S.C. §§ 1334 and the general order of reference entered in this district on July 16, 1984. Venue in this district and division is proper pursuant to 28 U.S.C. § 1409. The following constitutes the court's findings of fact and conclusions of law pursuant to Federal Rule of Bankruptcy Procedure 7052.

FACTS

The facts were adequately set forth in the court's previous entry.

DISCUSSION

The issue before the court is whether state or federal law should define the term purchase money security interest as it is used in 11 U.S.C. § 1325(a). To date, the decisions on this issue have drawn from individual state law, specifically the state statutes adopting Revised Chapter 9 of the Uniform Commercial Code (hereafter "UCC"). See, e.g., Citifinancial Auto v. Hernandez-Simpson, 369 B.R. 36, 45 (D.Kan.2007) (stating that "[t]he law of the State of Kansas is applicable here, as the transaction occurred in Kansas"); Graupner v. Nuvell Credit Corp., 2007 WL 1858291 (M.D.Ga.2007) (reporter citation not yet available) (utilizing Georgia law, but also relying on definitions contained in the federal Truth in Lending Act and Georgia Motor Vehicle Sales Finance Act); In re Cohrs, 373 B.R. 107 (Bankr.E.D.Cal.2007) (reporter citation not yet available) (finding that, "logically," must look to law governing the parties' contract, California Commercial Code § 9103); In re Pajot, 371 B.R. 139 (Bankr.E.D.Va.2007) (Virginia); In re Petrocci, 370 B.R. 489 (Bankr.N.D.N.Y.2007) (New York); In re Price, 363 B.R. 734 (Bankr.E.D.N.C.2007) (North Carolina); In re Bray, 365 B.R. 850 (Bankr. W.D.Tenn.2007) (Tennessee).

The absence of a clear state law definition of purchase money security interest and conflicting state law definitions have resulted in disparate treatment of creditors' claims. In some cases, courts found that the negative equity was part of the purchase money security interest and therefore creditors were entitled to the benefits of the hanging paragraph. See, e.g., General Motors Acceptance Corp. v. Peaslee, 373 B.R. 252 (W.D.N.Y.2007) (reporter citation not yet available); Graupner, 2007 WL 1858291; Cohrs, 373 B.R. 107; Petrocci, 370 B.R. 489. In others, courts determined that the payment of the negative equity on an existing loan is not value given to enable the purchase of the new vehicle and concluded that creditors do not have a purchase money security interest to the extent of the loan amount. See, e.g., Citifinancial Auto, 369 B.R. 36; Pajot, 371 B.R. 139; Price, 363 B.R. 734; In re Acayo, 369 B.R. 564 (Bankr.N.D.Cal. 2007); In ire Bray, 365 B.R. 850; In re Vega, 344 B.R. 616, 622 (Bankr.D.Kan. 2006). The latter decisions lead to an inquiry on how to treat partial purchase money security interests, which causes further divergences in the treatment of creditors' claims. See, e.g., Citifinancial Auto, 369 B.R. 36 (adopting the dual-status rule); Pajot, 371 B.R. 139 (finding that adoption of the dual Status rule preserves legislative intent); Price, 363 B.R. 734 (adopting transformation rule because of difficult in tracing payments between the PMSI and non-PMSI portions of the loan); Bray, 365 B.R. 850 (relying on case law to determine that creditor did not have a purchase money security interest in the vehicle because there was no method to determine how the payments had been applied under a dualstatus approach); Vega, 344 B.R. 616, 622 (dual status).

The maddeningly inconsistent body of decisions impels the conclusion that a consistent rule of law is needed. The most logical method of developing a consistent rule would be to develop a federal definition of purchase money applicable only in this narrow context. The question remains whether it is appropriate to apply a federal definition.

In responding to the question posed by the court in its previous opinion, Nuvell argues that Congress did not mandate use of a state law definition of purchase money security interest, so it should be open to a federal interpretation which honors the legislative intent.²

Trustee asserts that the adoption of a federal definition would require the court to create federal common law, a practice discouraged by the federal judiciary. According to Trustee, the issue here is not of sufficient magnitude to warrant the creation of a federal definition. Trustee posits that Congress' failure to define the term purchase money security interest demonstrates Congress' desire to resort to state law for the definition.

The Sixth Circuit, relying on United States Supreme Court precedent, defined federal common law as "a rule of decision that amounts, not simply to an interpretation of a federal statute or a properly promulgated administrative rule, but, rather to the judicial creation of a special federal rule of decision." Mickowski v. Visi-Trak Worldwide, LLC, 415 F.3d 501, 511 (6th Cir.2005) (citing Atherton v. Federal Deposit Ins. Corp., 519 U.S. 213, 218, 117 S.Ct. 666, 136 L.Ed.2d 656 (1997)). The court opined that cases which required application of federal common law would be limited. Id. at 511 (quoting O'Melveny & Myers v. FDIC, 512 U.S. 79, 87, 114 S.Ct. 2048, 129 L.Ed.2d 67 (1994)); see also Texas Ind. Inc. v. Radcliff Materials, Inc., 451 U.S. 630, 641, 101 S.Ct. 2061, 68 L.Ed.2d 500 (1981) (stating "absent some congressional authorization to formulate substantive rules of decision, federal common law exists only in such narrow areas as those concerned with the rights and obligations of the United States, interstate and international disputes implicating the conflicting rights of States or our relations with foreign nations, and admiralty cases."). The Sixth Circuit further advised that "normally, when courts decide to fashion rules of federal common law, the guiding principle is that a significant conflict between some federal policy or interest and the use of state law ... must first be specifically shown.'" Visi-Trak, at 511 (quoting Atherton, 519 U.S. at 218, 117 S.Ct. 666 and Wallis v. Pan Am. Petroleum Corp., 384 U.S. 63, 68, 86 S.Ct. 1301, 16 L.Ed.2d 369 (1966)). Thus, it is necessary to determine if this matter involves the creation of federal common law.

Application of the hanging paragraph hinges on the undefined term, purchase money security interest. Since the term is central to the application, any attempt to define the term naturally clarifies the hanging paragraph. The line between interpretation and decision is indistinct. Upon consideration, however, the court is not convinced that assigning a definition to the term is the equivalent of reaching a federal rule of decision, although the court recognizes that a federal interpretation will result in a body of decision. This inquiry misses its goal. Instead, the question should be narrowed to whether it is appropriate to resort to defining the term at the federal level, or whether multiple, varying state law definitions should be used.

Recently, the Eleventh Circuit Court of Appeals explored the federal law/state law dichotomy. See Dzikowski v. Northern Trust Bank of Florida (In re Prudential of Florida Leasing, Inc.), 478 F.3d 1291 (11th Cir.2007). In Prudential of Florida Leasing, the issue was whether the bankruptcy court should use Florida law to interpret 11 U.S.C. § 550(d), involving the principle of single satisfaction. The facts and issues in the case were explained in the first paragraph of the opinion:

The question in this appeal is how the rule of single satisfaction for claims brought by a bankruptcy estate should be applied to 11 fraudulent transfers that were at least partially satisfied in a settlement of a lump sum of $3.9 million involving 377 transfers and several other pa...