Appellate Court Approves Chapter 20

“Chapter 20” bankruptcy was very popular before the Bankruptcy Code was revised in 2005. Chapter 20 does not officially exist, it is a colloquial reference to a debtor’s Chapter 13 bankruptcy filed soon after a Chapter 7. Before the Bankruptcy Code revisions, a debtor could discharge Chapter 7 unsecured debts (credit cards, medical bills, etc.), then use a Chapter 13 to cram down a car to value or catch up on mortgage arrears without paying unsecured debts during a three to five year repayment plan.

Several provisions of the new bankruptcy law stopped Chapter 20 filings. Some courts have stated that Chapter 20 is simply no long available. However, the Fourth Circuit Court of Appeals recently concluded that Chapter 20 is a viable option in some circumstances. The Fourth Circuit reviews federal court cases from federal districts in Maryland, North Carolina, South Carolina, and Virginia. In the case at issue, In re Davis (Branigan v. Davis), No. 12-1184 (4th Cir. May 10, 2013), the debtors filed Chapter 7 bankruptcy and discharged all of their debts. They subsequently filed a Chapter 13 and asked the bankruptcy court to strip entirely unsecured second and third mortgage liens. The Chapter 13 trustee objected.

On appeal, the Fourth Circuit sided with the debtors. In a split opinion, the Fourth Circuit stated that while a debtor who receives a Chapter 7 discharge is ineligible for a subsequent Chapter 13 discharge for a period of four years, there is nothing that precludes that discharged debtor from taking advantage of other bankruptcy protections, like catching up on a mortgage arrears, or paying other debts under court protection and supervision.

In the Davis case, the debtors were allowed to strip off their entirely unsecured junior mortgages. Since their prior Chapter 7 bankruptcy had already discharged all of their personal obligations, the debtor’s are not obligated to pay the second or third mortgage at all. Once the Chapter 13 plan is completed, the junior liens are stripped away permanently.

Some courts and commentators (and creditors!) have complained that Chapter 20 is a bad faith attempt to get around the Bankruptcy Code. Under different circumstances, a court could find that the debtor has engaged in bad faith and refuse to provide relief. Every case (and court) is different. To discuss your particular circumstances and explore your options in bankruptcy, contact and experienced bankruptcy attorney.