McCormick 105, LLC et al v. Stroh, Jr.

NOT FOR PUBLICATION
UNITED STATES BANKRUPTCY COURT
SOUTHERN DISTRICT OF NEW YORK
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: 	Chapter 7
In re: 	:
: 	Case No. 18-36301 	(CGM)
Ronald James Stroh, Jr., 	:
:
Debtor. 	:
:
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: 	Adversary Proceeding
McCormick 105 LLC, 	:
Plaintiff, 	: 	Case No. 20-09000 (CGM)
:
v. 	:
:
Ronald James Stroh, Jr., 	:
:
Defendant. 	:
:
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MEMORANDUM DECISION [GRANTING DEFENDANT’S MOTION TO DISMISS]
A P P E A R A N C E S :
Jeffrey S. Greene, Attorney for the Plaintiff
Rick S. Cowle, Attorney for the Defendant
CECELIA G. MORRIS
CHIEF UNITED STATES BANKRUPTCY JUDGE
Jurisdiction
This Court has subject matter jurisdiction pursuant to 28 U.S.C. § 1334(a), 28 U.S.C. §
157(a) and the Standing Order of Reference signed by Chief Judge Loretta A. Preska dated
January 31, 2012. This is a “core proceeding” under 28 U.S.C. §§ 157(b)(2)(A) and 157(b)(2)(J)
(matters concerning the administration of the estate and objections to discharge).
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Background
Ronald James Stroh, Jr. (“Defendant”) filed a Chapter 13 petition on August 3, 2018 and
requested Loss Mitigation on August 7, 2018. Def.’s Mem. 6-7, ECF No. 5. On August 23, 2018,
McCormick 105, LLC (“Plaintiff”) objected to the Loss Mitigation Request. Id. The Court
granted the Defendant’s request and the parties entered Loss Mitigation on November 8, 2018.
Id. After the Defendant learned he did not qualify for a loan modification on his mortgage, he
began to pursue a short sale. Id. On March 15, 2019, the Defendant filed a Motion to Employ
Broker for the short sale. Def.’s Mot. To Dismiss. Mem., ¶ 7, ECF No. 5-3. By April 2, 2019, the
Defendant cancelled his homeowner’s insurance. Pl.’s Compl. ¶ 24. ECF No. 1. On May 28,
2019, the Defendant vacated the property in question. Pl.’s Compl. ¶ 23. ECF No. 1.
The Plaintiff requested to terminate Loss Mitigation and did not appear to a June 11,
2019 Loss Mitigation Conference to address the issue. Def.’s Mot. To Dismiss. Mem., at 8, ECF
No. 5-3. On June 21, 2019, the Plaintiff moved for Relief from the Stay. Id. In September of
2019, the Defendant decided to stop pursuing a short sale. Id. On September 24, 2019, this Court
terminated Loss Mitigation. The Defendant voluntarily converted his petition to Chapter 7 on
September 26, 2019. Def.’s Mot. To Dismiss. Ex. B, 12, ECF No. 5-5. On October 1, 2019, the
Defendant stated he intended to surrender the house. Pl.’s Compl. ¶ 20, ECF No. 1. A
foreclosure sale was held on December 17, 2019, pursuant to the November 2015 state court
judgement, and the Plaintiff now owns the Defendant’s former house. Pl.’s Compl. ¶ ¶ 6-7, ECF
No. 1.
On January 7, 2020, the Plaintiff initiated the current adversary proceeding by requesting
this Court to dismiss the Defendant’s Chapter 7 case. The Plaintiff alleges three causes of action
under a § 707(b)(3)(B) totality of the circumstances demonstration of abuse, a § 707(b)(3)(A)
bad faith filing, and a § 707(b)(2) presumption of abuse. Id. at ¶ ¶ 44, 52, 55. The Defendant
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moves to dismiss the Plaintiff’s Complaint under Federal Rule of Civil Procedure 12(b)(6) and
Federal Rule of Bankruptcy Procedure 7012 for failure to state a claim for which relief can be
granted, bar the Plaintiff from amending its complaint, and request damages. Def.’s Mot. To
Dismiss 12, 32, ECF No. 5.
Discussion
Pursuant to Federal Rule of Civil Procedure 12(b)(6), “a complaint must contain
sufficient factual matter, accepted as true, to ‘state a claim to relief that is plausible on its face.’”
Ashcroft v. Iqbal, 556 U.S. 662, 678 (2009) (quoting Bell Atlantic Corp. v. Twombly, 550 U.S.
544, 570 (2007)). Courts “must accept as true all facts alleged in the complaint and draw all
reasonable inferences in favor of the plaintiff.” In re Tracht Gut, LLC, 503 B.R. 804, 810 (B.A.P.
9th Cir. 2014). Only facts stated in the complaint must be accepted as true, not legal conclusions.
Iqbal, 556 U.S. at 678. For claims to be plausible, the facts accepted as true must allow “the
court to draw the reasonable inference that the defendant is liable for the misconduct alleged.”
Id.
I. 	Plaintiff’s § 707(b)(3)(B) Cause of Action
The Plaintiff alleges that the Defendant’s Chapter 7 discharge should be dismissed under
the § 707(b)(3)(B) totality of the circumstances test. The Plaintiff’s basis for this is that the
Defendant has a “formidable” household income and as he is “no longer burdened with
oppressive secured debt payments which consumes approximately 46% of his (pre-tax) income,
the Defendant surely should have available consequential monthly income to fund a bankruptcy
repayment plan.” Pl.’s Compl. ¶ 43, ECF No. 1.
Section 707(b)(3)(B) provides that in determining abuse in a debtor’s Chapter 7 relief, the
court can consider whether, “the totality of the circumstances…of the debtor’s financial situation
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demonstrates abuse.” 11 U.S.C. §§ 707(b)(3), 707(b)(3)(B). Historically, a “totality of the
circumstances” test involves eschewing a bright-line rule and looking at “the entire situation” in
the case at hand. Totality-of-the-Circumstances Test, BLACK’ S LAW DICTIONARY (11th ed. 2019).
This remains true regarding the § 707(b)(3)(B) test.
The Second Circuit has adopted a multi-factor totality of the circumstances approach to §
707(b)(3)(B). Kornfield v. Schwartz (In re Kornfield), 164 F.3d 778 (2d Cir. 1999). In In re
Kornfield, the Second Circuit approved the Western District of New York’s approach to §
707(b)(3)(B). Id. The Western District applied the totality of the circumstances test there as:
a two-part inquiry which considers the debtor’s ability to pay as the primary
factor and then weighs other circumstances to determine whether there are any
mitigating factors warranting discharge or any aggravating factors warranting
dismissal of the chapter 7 petition.
In re Aiello, 284 B.R.756, 760 (Bankr. E.D.N.Y. 2002) (citing In re Carlton, 211 B.R. 468, 477-
78 (Bankr. W.D.N.Y. 1997)). The Carlton court listed fifteen equitable “mitigating or
aggravating factors” that could contribute to the second part of the inquiry. Aiello, 284 B.R. at
760 (quoting Carlton, 211 B.R. at 478). It is important to note that these factors are applicable to
the § 707(b)(3)(B) test, as opposed to the § 707(a)’s In re O’Brien factors cited by the
Defendant, which are inapplicable here. Def.’s Mem. 15, ECF No. 5 (quoting In re O’Brien, 328
B.R. 669, 675 (Bankr. W.D.N.Y. 2005)).
The debtor’s ability to pay is the main factor, and under the totality of the circumstances
test “[t]he mere fact that a debtor has a relatively high income should not be sufficient to warrant
a finding of abuse.” 6 COLLIER ON BANKRUPTCY 707.04 (16th ed. 2020). To do so “would be to
invent a new means test, different than the uniform standard enacted by Congress.” Id.
The Plaintiff maintains that the totality of the circumstances test is “a standalone ‘per se’
test” and that additional factors aside from ability to pay are not required. Pl’s. Mem. 19, ECF
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No. 7. To support this assertion, the Plaintiff cites an Eastern District of New York decision, In
re Perelman. Despite the Plaintiff’s near-verbatim copying of Perelman in his complaint, aside
from a change in percentage (“No longer burdened with oppressive secured debt payments which
consumes approximately 68% of his (pre-tax) income, the Debtor surely should have available
consequential monthly income to fund a bankruptcy repayment plan.” In re Perelman, 419 B.R.
168, 178 (Bankr. E.D.N.Y. 2009)), the Plaintiff misconstrues Perelman and neglects the Second
Circuit.
When the Second Circuit affirmed the Western District’s decision it “rejected the per se
test sought by the U.S. Trustee and applied a totality of the circumstances test that was well
within the mainstream of analysis used by other circuits.” In re Kornfield, 164 F.3d 778, 783 (2d
Cir. 1999). In Perelman, the court dismissed a Chapter 7 case partly for the debtor’s ability to
pay due to “significantly above-median income” and a “major reduction to expenses through the
surrender of encumbered properties.” The Perelman court considered other factors in its
dismissal other than an ability to pay: namely, the debtor’s “stable employment,” “absence of
dependants,” and failure “to present any evidence of mitigating or aggravating circumstances.”
Perelman, 419 B.R. at 178. The Perelman decision represents an archetypical analysis under the
totality of the circumstances test, not a per se test advocated for by the Plaintiff.
Accepting all of the Plaintiff’s alleged facts as true, the Plaintiff has not pled enough facts
under the Iqbal plausibility standard to survive a 12(b)(6) motion to dismiss. The Plaintiff states
that the Defendant has a “formidable” income, no longer has burdensome “secured debt
payments,” and “surely should have available consequential monthly income to fund a
bankruptcy repayment plan.” Pl.’s Compl. ¶¶ 19, 43, ECF No. 1. The Plaintiff’s conclusion here
fails to consider that, absent the mortgage payments on the Defendant’s former house, the
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Defendant now must make three-thousand-dollar monthly rental payments for his family’s
current home. Def.’s Mot. To Dismiss Mem., 3–4, ECF No. 5-3; Pl.’s Compl., Ex. D at 16, ECF
No. 1-4. Given that § 707(b)(3)(B) considers more than income and ability to pay, the Plaintiff
failed to plead sufficient facts to show plausible abuse under the Second Circuit’s interpretation
of the totality of the circumstances test.
II. Plaintiff’s Cause of Action under 11 U.S.C. § 707(b)(3)(A)
The Plaintiff alleges that the Defendant’s discharge should be dismissed under §
707(b)(3)(A)’s bad faith standard. Section 707(b)(3)(A) permits dismissal dependent on
“whether the debtor filed the petition in bad faith…” 11 U.S.C. § 707(b)(3)(A). “Under §
707(b)(3)(A), a bad faith filing is defined as the act of submitting a bankruptcy petition that is
inconsistent with the purposes of the Bankruptcy Code or is an abuse of the bankruptcy system
(that is, by not being filed in good faith).” In re Campbell, No. 11-70038-AST, 2012 WL
360031, at *5 (Bankr. E.D.N.Y. Feb. 1, 2012) (quoting In re Hornung, 425 B.R. 242, 248
(Bankr. M.D.N.C. 2010)) (emphasis added). In examining a case under § 707(b)(3)(B), “a
dishonest or nefarious act may be sufficient to prove bad faith.” Campbell, 2012 WL 360031, at
*5 (quoting In re Webb, 447 B.R. 821, 824 (Bankr. N.D. Ohio 2010)). Bad faith must “exist at
the time of commencing of the bankruptcy and it is the debtor’s intent and purpose at that time
which is the subject of the analysis.” In re Hageney, 422 B.R. 254, 260 (Bankr. E.D. Wash.
2009).
Attention should be drawn to the specific language of § 707(b)(3)(A). Dismissal under
this section depends on “whether the debtor filed the petition in bad faith.” 11 U.S.C. §
707(b)(3)(A) (emphasis added). The Defendant did not file the instant case as a Chapter 7, he
converted the case from a Chapter 13. Section 348(a) provides that conversion of a case from
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one chapter to another “does not effect a change in the filing of the petition, the commencement
of the case, or the order for relief.” 11 U.S.C. § 348(a).
Courts have historically upheld the plain-language interpretation of § 348(a) that
conversion does not alter the petition date of filing. See In re Cyrilla, No. 18-20017-GLT, 2020
WL 96680, at *2 (Bankr. W.D. Pa. Jan. 8, 2020); see also Matter of Erchenbrecher, 85 B.R. 42
(Bankr. N.D. Ohio 1988). The Code affords exceptions to this rule for other code provisions, not
for § 707(b)(3)(A). See 11 U.S.C. § 348(b). For a bad faith dismissal under § 707(b)(3)(A) in a
converted case, the debtor must have filed the original case, prior to conversion, in bad faith. As
all the Plaintiff’s allegations of bad faith arose after the Defendant’s original Chapter 13 filing,
the Plaintiff did not plead a valid cause of action under § 707(b)(3)(A).
Even had § 348(a) not applied, the Plaintiff’s allegations of bad faith are not facially
sufficient for a dismissal under § 707(b)(3)(A). The Plaintiff’s § 707(b)(3)(A) cause of action
consists of three allegations of bad faith. One, that “[t]he Defendant lacked any genuine intent to
engage in the Court Loss Mitigation Procedure of a Short Sale.” Pl.’s Compl. ¶ 47. ECF No. 1.
Two, that “[t]he Defendant knowingly and wrongfully abandoned the subject Property and
cancelled hazard insurance exposing the Plaintiff’s interest to harm.” Id. at ¶ 48. Three, that
“[t]he Defendant knowingly and fraudulently, in connection with this case made false oaths or
accounts.” Id. at ¶ 49. The Plaintiff alleges that these “false oaths or accounts” consist of the
lease security deposit in Amended Schedule A/B and C, the Schedule J expenses, and “false or
misleading testimony” at the § 341 Meeting. Id. at ¶¶ 33–5, 51.
The Short Sale
The Plaintiff alleges that the Defendant engaged in bad faith by pursuing a short sale
through Loss Mitigation without “any genuine intent” to do so. Pl.’s Compl. ¶ 47. ECF No. 1.
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The Plaintiff claims that the Defendant engaged in the short sale in bad faith by moving his
family to a new property during the process.
In re Roberts exemplifies a set of facts where a debtor did engage in a short sale in bad
faith. In Roberts, the debtors filed for Chapter 7 and claimed the equity in their house as exempt.
See In re Roberts, 527 B.R. 461, 462 (Bankr. N.D. Fla. 2015). The debtors pursued a short sale
of the house, which was approved by SunTrust, the secured creditor holding the house’s
mortgage. See id. at 471. After the closing the creditor forgave the debtors’ remaining $
205,570.97 indebtedness. Id. The court found that before pursuing the short sale, the debtors
liquidated their non-exempt assets and claimed these assets as the exempt equity in their house
on Schedule C in order to build a new home. Id. at 462, 476. The Debtors requested the initiation
of the short sale from the creditor six months after having moved out of the first house into the
second. Id. at 468. As the court summarized,
At no time did the Debtors disclose to SunTrust that during the months between
their first inquiry about a short sale and the short sale closing they were spending,
or had spent, more than $385,000 building a new home just down the street. Nor
did the Debtors disclose to SunTrust until the day of closing the short sale that
they had moved out of the short sale property and into a home worth in excess of
$400,000.
Id. The court found that this conduct by the debtors during the short sale was intended to
“hinder, delay, or defraud a creditor.” Roberts 527 B.R. at 473. Though the action in
Roberts was brought under 11 U.S.C. § 522(o)(4) rather than § 707(b)(3)(A), the facts of
Roberts show what would be needed to sufficiently allege a bad faith intent to pursue a
short sale in a Chapter 7.
The Plaintiff supports its allegations of bad faith related to the short sale and
surrender of the property based on the fact that upon vacating the property, it was
technically no longer the Defendant’s primary residence. Pl.’s Compl. ¶ 47. ECF No. 1.
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Another look at Roberts illustrates the difference between it and the instant case. In
Roberts, the debtors vacated the property before initiating the short sale procedure, and
then moved into a new house of their own construction. Here, the Defendant moved to
employ a broker for the short sale on March 15, and vacated the property by May 28.
Pl.’s Compl. ¶ 23. ECF No. 1. Unlike in Roberts, where the debtors deceived the creditor
about the nature of their primary residence, here, the Plaintiff knew that the property in
question was the primary residence at the time short sale efforts began. The Plaintiff
knew that the Defendant had moved out, as notified by the broker. Pl.’s Compl. ¶ 23.
ECF No. 1.
In Roberts, the creditor did not know there was another residence and that the
debtors had lived there the entire time until after closing. Roberts, 527 B.R. at 468. There,
the debtors vacated the short sale property to move into a house constructed with the
money they hid from creditors. Id. at 462, 476. Here, the Defendant moved out of the
property into a rented, not owned, property. Pl.’s Compl. ¶ 22. ECF No. 1. The Plaintiff
offers no facts that, if taken as true, tend to show that the Defendant vacated the property
in order to frustrate the Plaintiff and the short sale effort. Pl.’s Compl. ¶¶ 25, 48, ECF No.
1.
Surrender of the Property
The Plaintiff’s allegations regarding the short sale closely mirror its allegations that the
Defendant acted in bad faith regarding the surrender of the property. The Plaintiff alleges that the
Defendant’s Statement of Intention to surrender the property was “untrue, deceitful, and made in
bad faith” as the Defendant moved into another property, cancelled his homeowner’s insurance,
and notified the court late of his change of address. Pl.’s Compl. ¶ 20, 22, 24–5, ECF No. 1. As
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dealt with above, absent more information, there are no allegations in the complaint
demonstrating that the Defendant abandoned the property in bad faith rather than to find a new
home for his family in anticipation of the short sale.
The Defendant cancelled his homeowner’s insurance, and while it might have exposed
the Plaintiff to loss on the property, nothing in the complaint supports the Defendant’s
conclusory statement that this was done to “purposefully expose” the Plaintiff to loss. Id. at ¶ 25.
Though the Defendant notified the court late about his change of address, he filed the change of
address on the same day as the conversion to a Chapter 7. Def.’s Mot. To Dismiss. Ex. B, 12,
ECF No. 5-5. The Court was then aware of the residential situation going into the case
conversion. The Plaintiff, through information received by the real estate broker, knew of the
Defendant’s move well before the conversion. Pl.’s Compl. ¶ 23, ECF No. 1.
Taken together, these allegations of the Plaintiff do not show a plausible claim that the
Defendant acted during the surrender in bad faith at the time of filing which resulted in a
substantial abuse of the bankruptcy system.
“False Oaths or Accounts”
The Security Deposit
Turning to the allegations that the Defendant made “false oaths or accounts,” the
Plaintiff claims that the Defendant did not initially include his lease security deposit in
his Schedules and that the Amended Schedules reflect a three-thousand-dollar security
deposit as opposed to a six-thousand-dollar deposit. Pl.’s Compl. ¶ 33–4. ECF No. 1.
Accepting these allegations as true, they do not rise to the level of being “inconsistent
with the purposes of the Bankruptcy Code” or “an abuse of the bankruptcy system.”
Campbell, 2012 WL 360031, at *5. The Plaintiff did not plead sufficient facts to show
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that these mistakes on the schedule constituted knowing bad faith, rather than oversights.
Pl.’s Compl. ¶¶ 33–4, 49–50, ECF No. 1.
On cross-examination at the § 341 Meeting, the Plaintiff’s counsel asked the Defendant
about the amount of his security deposit and whether he listed it on his petition. Pl.’s Decl. in
Opp’n, Ex. A at 10 ¶¶ 22–25, ECF No. 6. The Defendant responded that he thought it was six
thousand dollars and that he did not know whether he included it on the petition. Id. Defendant’s
counsel responded that they can amend the petition to include the deposit should it not already be
there. Id. at 11 ¶ 1. The Chapter 7 trustee noted the absence of the security deposit on the
Defendant’s Schedule A/B. He commented that, as the Defendant took the federal exemption, the
deposit on the schedule would be exempt when amended. Id. at 15 ¶¶ 12–16. Absent additional
facts, this does not plausibly suggest that the Defendant “knowingly failed to disclose his lease
security deposit.” Pl.’s Compl. ¶ 33, ECF No. 1.
The Amended Schedule A/B includes a security deposit of three thousand dollars as
opposed to the six thousand dollars the Defendant said he thought it was at the § 341 Meeting.
Id. at 34. The Defendant argues that while the security deposit is six thousand dollars, the deposit
value is split fifty percent between him and his wife, resulting in the three-thousand-dollar
deposit listed on the amended schedules. Def.’s Mot. To Dismiss Mem., 20, ECF No. 5-3.
Accepting the Plaintiff’s allegation as true, that the Defendant’s deposit value is six thousand
dollars, the complaint does not show or allege how the filing of the amended schedule was
knowingly false. The Plaintiff also does not show how the misstated deposit rises to “an abuse of
the bankruptcy system.” Campbell, 2012 WL 360031, at *5. As the Trustee observed at the § 341
Meeting, where the Defendant said he thought the deposit was six thousand dollars, the deposit
would be exempt. Pl.’s Decl. in Opp’n, Ex. A at 15 ¶¶ 12–16. The Plaintiff fails to plead how the
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difference in deposit amount, which would be exempt under either value, is an abuse warranting
dismissal of a case. Pl.’s Compl. ¶¶ 33–4. ECF No. 1.
Schedule J
The Plaintiff alleges that the Defendant’s statements on his Schedule J are false,
specifically under Part 2 – Ongoing Expenses, Item 4b – Renter’s Insurance and Item 12 –
Transportation. Pl.’s Compl. ¶¶ 34–5, ECF No. 1. In its complaint, all that the Plaintiff alleges is
that “[u]pon information and belief, the Defendant’s filed Schedule J, Expenses is knowingly
false (i.e. part 2, 4b, and 12).” Id. at ¶ 35. Absent anything else to be said, solely a statement that
“[u]pon information and belief” the items on the schedule, which is a sworn statement by the
Defendant, are “knowingly false,” is nothing more than “legal conclusions masquerading as
factual allegations.” Bishop v. Lucent Technologies, Inc., 520 F.3d 516, 519 (6th Cir. 2008)
(citing Mezibov v. Allen, 411 F.3d 712, 716 (6th Cir. 2005)); Pl.’s Compl. ¶ 35, ECF No. 1.
The Plaintiff argues that the Item 4b – Renter’s Insurance amount listed on the Schedule
is false. Pl.’s Compl. ¶ 35, ECF No. 1. The Plaintiff bases this claim on the § 341 Meeting
testimony where the Defendant responded that he was unsure of the insurance amount and that
his wife knew. Pl.’s Decl. in Opp’n ¶ 24, ECF No. 6. The Plaintiff also claims that the Item 12 –
Transportation amount included on the Schedule and testified to at the § 341 Meeting is
“seemingly high.” Id. at ¶ 23. The Plaintiff finds fault in the Defendant’s statement that the
transportation expenses were an estimate while he understood that the information to be provided
at the § 341 Meeting should be accurate. Id. The Plaintiff offers no facts that, accepted as true,
tend to plausibly show that the Defendant falsely stated the renter’s insurance on Schedule J.
Pl.’s Compl. ¶ 35, ECF No. 1.
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The observation that the Defendant claimed that his transportation expenses were an
estimate does not support a showing of false testimony. Part 2 of Schedule J itself instructs one
to “Estimate Your Ongoing Monthly Expenses.” Amended Schedules, at 16 – 17, Pet. 18-36301-
cgm, ECF No. 80. Based on the filed Schedule J, removing the Items 4b and 12 expenses ($165
and $427.50, respectively) in totality would still leave the Defendant with a negative monthly
income of -$709.75. Id. The Defendant would still be incapable of funding a Chapter 13 plan.
The Plaintiff failed to show that any of the alleged “false oaths and accounts” were indeed
plausibly false, and if so that they rose to “an abuse of the bankruptcy system.” Campbell, 2012
WL 360031, at *5; Pl.’s Compl. ¶ 35, ECF No. 1.
§ 341 Meeting Testimony
The Plaintiff may argue that its allegation of “false or misleading testimony” at the § 341
Hearing is not a separate allegation and only refers to the issues of the security deposit and
Schedule J. If not, this one allegation is the only time the Plaintiff mentions it in its complaint. In
the complaint, the Plaintiff never states what, if any, other statements from the Defendant’s
Testimony it considers to be false or misleading. This statement of “false or misleading”
testimony is a legal conclusion without any factual support. As pled, the Plaintiff has alleged no
facts that would allow the court to draw the reasonable inference that the Defendant did in fact
give false testimony. Iqbal, 556 U.S. at 678, Pl.’s Compl., ¶ 51, ECF No. 1.
The Plaintiff did not plead a valid cause of action under § 707(b)(3)(A) as the filing is
required to be in bad faith, and per § 348(a) the filing date in a converted case is the same as the
original case. 11 U.S.C. § 348(a). The Plaintiff did not plead any bad faith, or any intent to act in
bad faith, on the part of the Defendant “at the time of commencing of the bankruptcy.” Hageney,
422 B.R. at 260. Even had the Plaintiff’s allegations occurred before the filing or § 348(a) did
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not apply, the facts accepted as true do not support a plausible inference that the Defendant acted
in bad faith.
III. The Plaintiff’s Cause of Action Under § 707(b)(2)
Under § 707(b)(2), a presumption of abuse warranting dismissal arises when a debtor’s
monthly income surpasses the amount allowed under that section. See 11 U.S.C. § 707(b)(2).
The extensive provisions of § 707(b)(2) calculating the allowable amount are referred to as the
“means test” in practice. 6 COLLIER ON BANKRUPTCY 707.04 (16th ed. 2020). In its third cause of
action, the Plaintiff alleges that the calculations provided by the Defendant are incorrect, and that
the Defendant fails the means test, giving rise to a presumption of abuse. Pl.’s Compl. ¶ 55, ECF
No. 1.
The Plaintiff alleges that, due to the foreclosure sale of the property, the Defendant lost
the right to redeem his mortgage contract and no longer owes any secured debt under the
mortgage contract. Id. at ¶¶ 36–7. The Plaintiff reasons that this requires the Plaintiff’s claimed
expense deductions to be reduced by $5,431.56. Id. at ¶¶ 38–9. This results in the Defendant
having a monthly disposable income of $4,831.72. Id. The Defendant would then fail the means
test establishing a presumption of abuse under § 707(b)(2).
The Means Test in Converted Cases
There is a split among bankruptcy courts as to whether the means test applies in cases
converted to Chapter 7. The Eleventh Circuit, the Eighth Circuit Bankruptcy Appellate Panel, the
Western District of Arkansas, and a majority of the bankruptcy courts hold that the means test
does apply in converted cases. See Pollitzer v. Gebhart, 860 F.3d 1334 (11th Cir. 2017); In re
Chapman, 447 B.R. 250 (B.A.P. 8th Cir. 2011); In re Justice, No. CIVIL 07-5231, 2008 WL
4368668 (W.D. Ark. Sept. 22, 2008); In re Summerville, 515 B.R. 651 (Bankr. M.D. Fla. 2014).
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The rationale for holding so is that converted cases are still “filed under” Chapter 7 for
the purposes of § 707(b)(2) as § 348(a) provides that a converted case is considered filed under
the converted chapter, only with the original chapter petition date as the filing date. Garrett Pratt
et al, Harmonizing Conversion and the Means Test in Bankruptcy, 3 BUS . ENTREPRENEURSHIP &
TAX L. REV. 36, 65 (2019). These courts also suggest that not requiring the means test in
converted cases would create a loophole allowing debtors who would not pass the means test to
file for Chapter 13 and then immediately convert to Chapter 7. Chapman, 447 B.R. at 253.
A significant minority of courts, along with most of the academic literature, has adopted
or advocated for the position that the means test does not apply in converted cases. See, In re
Dudley, 405 B.R. 790 (Bankr. W.D. Va. 2009); In re Fox, 370 B.R. 639 (Bankr. D. N.J., 2007);
In re Ryder, No. 07-40192 EDJ, 2008 WL 3845246 (Bankr. N.D. Cal. Aug. 18, 2008); Pratt et al,
3 BUS . ENTREPRENEURSHIP & TAX L. REV. at 39.
These courts have held that requiring a means test would contradict the plain meaning of
the statute when referring to Chapter 7 and not referencing conversion. Fox, 370 B.R. at 647.
The Dudley court reasoned that, should “filed” refer to the original filing date and not Chapter 7,
the following phrase “under this chapter,” is rendered superfluous. Dudley, 405 B.R. at 794.
Requiring the means test in converted cases also creates contradictions within other sections of
the Code. For example, § 348(b) does not include § 707(b) in the list of sections where an “order
for relief” applies to the conversion of the case. Fox, 370 B.R. at 647. Section 342(d) requires the
clerk to file notice to creditors within ten days of when the presumption of abuse arises. Pratt et
al, 3 BUS . ENTREPRENEURSHIP & TAX L. REV. at 63. If the presumption of abuse in the means test
applies to the converted cases, it would be impossible for the clerk to fulfill this duty. Id.
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The minority courts hold that the means test should not apply in converted cases to avoid
“an unreasonably unjust result for debtors.” In re Layton, 480 B.R. 392, 397 (Bankr. M.D. Fla.
2012), abrogated by Pollitzer, 860 F.3d 1334. By requiring the means test in converted cases,
many debtors who could not make a Chapter 13 plan work would also not be eligible for a
discharge under Chapter 7. Id. at 399. These debtors would become so-called “phantom debtors,”
who, try as they might, would never be able to obtain the “fresh start” Congress provides through
the bankruptcy system. Kathleen Murphy & Justin H. Dion, "Means Test" or "Just A Mean
Test": An Examination of the Requirement That Converted Chapter 7 Bankruptcy Debtors
Comply with Amended Section 707(b), 16 AM . BANKR. I NST . L. REV. 413, 446, 450 (2008).
The minority courts argue that the loophole debtors the majority of courts worry about
could be denied a discharge under Chapter 7 for bad faith. Fox, 370 B.R. at 648. Although this is
an important question for higher courts or Congress to resolve, in the instant case it is not
necessary to answer whether a means test is required in converted cases as the Defendant would
still pass the means test.
The Presumption of Abuse
Should the means test apply in this case, the Defendant’s schedules do not create a
presumption of abuse. At the time of the petition’s filing, the mortgage debt was still “scheduled
as contractually due” for the purposes of the Code. 11 U.S.C. § 707(b)(2)(A)(iii)(I). The Plaintiff
argues that this court should hold the debt as no longer “scheduled as contractually due" given
that the Defendant lacked the intent to pay the debt back, and that the Defendant lost the right to
redeem the mortgage as a result of the foreclosure sale. Pl.’s Compl., ¶¶ 36–8. This second
argument lacks merit, as the Defendant converted his Chapter 13 petition to a Chapter 7 on
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September 26, 2019; while the foreclosure sale occurred almost four months later on December
17, 2019. Def.’s Mot. To Dismiss. Ex. B, 12, ECF No. 5-5; Pl.’s Compl. ¶ ¶ 6-7, ECF No. 1.
Regardless of the Defendant’s intent to actually repay the debt, the amount was still
“scheduled as contractually due” for purposes of the means test. Many bankruptcy courts,
including several in this Circuit, apply the “snapshot approach” in these cases. In re Longo, 364
B.R. 161, 165 (Bankr. D. Conn. 2007); In re Osborne, 374 B.R. 68 (Bankr. W.D.N.Y. 2007); In
re Willette, 395 B.R. 308 (Bankr. D. Vt. 2008). This means that “the Section 707(b)(2)(A)(iii)
calculation is (in all relevant senses) intended to be a “snapshot” of the state of matters as of the
petition date.” Longo, 364 B.R. at 165. An intent to surrender the secured property does not
change the fact that, under the secured debt instrument, the payments are still due. “A surrender
of collateral proposed in a Statement of Intention filed with the petition does not change the fact
that the relevant contractual secured debt still was extant as of the petition date.” Id. at 165–6.
To regard the debt as not due would violate the Congressional intent behind §
707(b)(2)(A)(iii) and the Code’s allowance of chapter conversions. This would place the
Defendant and similarly situated debtors in the “phantom debtor” position, where they could
neither afford to make a Chapter 13 plan work, nor surrender their property and start afresh in
Chapter 7. In the narrower context of § 707(b)(2)(A)(iii), the statute requires a look at the
debtor’s situation at the time of filing, not post-petition events. Longo, 364 B.R. at 165 (quoting
In re Walker, No. 05-15010-WHD, 2006 WL 1314125, at *6 (Bankr. N.D. Ga. May 1, 2006)).
The Eastern District of New York Bankruptcy Court declined to adopt the “snapshot
approach” for Chapter 13 petitions in lieu of a “future-oriented approach.” In re Rahman, 400
B.R. 362, 369 (Bankr. E.D.N.Y. 2009). In the Chapter 7 context, three other bankruptcy courts in
the Second Circuit have adopted the snapshot approach, and for the reasons stated above this
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Court should apply it here. As the secured debt was an allowable expense deduction, the Plaintiff
failed to sufficiently allege that the Defendant failed the means test and created a presumption of
abuse under § 707(b)(2). In fact, the Plaintiff agrees with this analysis. While arguing that intent
is still a relevant factor for whether payments are due, the Plaintiff states that this analysis is
“only successful to rebut § 707(b)(2), not § 707(b)(3).” Pl.’s Mem., at 16, ECF No. 7. The
Plaintiff goes on to say that it is “prepared to withdraw its’ [sic] allegations relative to the
‘presumption of abuse’ Mean [sic] Test violation under § 707(b)(2).” Id.
IV. Whether the Plaintiff Pled Under § 727 or Has Leave to Amend
The Plaintiff argues that its complaint stated causes of action for an objection to
discharge under § 727, besides its § 707 causes of action for dismissal. Pl.’s Mem., at 5, ECF No.
7. Further, the Plaintiff claims that leave to amend its complaint should be granted, or that its
complaint should be construed as a motion for dismissal under Federal Rule of Bankruptcy
Procedure 1017(e). Id. at 5, 7, 10.
The Plaintiff does title its complaint as “Complaint Objecting to Discharge of
Defendant,” and mention § 727 in its jurisdictional statement and wherefore clause. Pl.’s Compl.,
ECF No. 1. The body of the complaint, including all of its allegations and causes of action,
makes no reference to § 727. The causes of action stated by the Plaintiff are causes of action for
dismissal under §§ 707(b)(2); (b)(3)(A); and (b)(3)(B), not objections to discharge under § 727.
A title and a wherefore clause do not constitute a pleading of a cause of action. “Defendants
should not have to guess which claims plaintiffs will ultimately attempt to prove.” In re
Bozeman, 226 B.R. 627, 631 (B.A.P. 8th Cir. 1998). By pleading only § 707 causes of action and
then asking for those claims to be construed under § 727, the Plaintiff failed to give the
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Defendants adequate notice of any § 727 claims. The Plaintiff is asking this court to construe its
complaint as stating causes of action it did not plead.
Besides the fact that a § 727 claim involves more factors that the plaintiff pled, it also
involves an intent to defraud a creditor, implicating the heightened pleading standards under
Federal Rule of Civil Procedure 9(b). 11 U.S.C. § 727; FED. R. CIV. P. 9(b). As the objection to
discharge under § 727 “impos[es] an extreme penalty for wrongdoing, [it] must be construed
strictly against those who object to the debtor's discharge and liberally in favor of the bankrupt.”
In re Bub, 516 B.R. 685, 693 (E.D.N.Y. 2014) (quoting In re Cacioli, 463 F.3d 229, 234 (2d Cir.
2006)). Given that the Plaintiff did not plead any causes of action under § 727, only § 707, the
Plaintiff’s complaint will not be construed as stating a claim under § 727.
The Plaintiff’s statement that its complaint should be construed as a motion for dismissal
under § 707(b) pursuant to Rule 1017(e) is superfluous, as causes of action for dismissal under §
707(b) are what the Plaintiff pled, and what the analysis of this decision focused on. The Plaintiff
will not be granted leave to amend its Complaint to include a cause of action under § 727.
Federal Rule of Civil Procedure 15 provides that a court “should freely give leave when justice
so requires.” FED. R. CIV. P 15. The deadline to file an objection to discharge passed on January
13, 2020. Pl.’s Compl. ¶ 10. ECF No. 1. The Plaintiff pled causes of action that, taken as true, do
not amount to plausible claims. The Plaintiff’s pleadings violate Federal Rule of Bankruptcy
Procedure 9011.
Under Rule 15(c), an amendment to a pleading can relate back to the date of the original
pleading when “the amendment asserts a claim or defense that arose out of the conduct,
transaction, or occurrence set out – or attempted to be set out – in the original pleadings.” FED. R.
CIV. P. 15( C). Even had the Plaintiff originally attempted to set out a claim under § 727, its
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allegations are related to its cause of action under § 707. The requirements to sustain a § 727
claim would require different allegations than those the Plaintiff pled under § 707; namely,
fraudulent conduct and an intent to defraud the creditor, rather than allegations of bad faith or a
presumption of abuse that would show the Defendant’s ability to fund a Chapter 13 repayment
plan. As a claim under § 727 would arise out of a different “conduct, transaction, or occurrence”
that those alleged, a § 727 claim would not relate back to the original pleading. In In re
Bozeman, the plaintiffs sought to amend a complaint to include claims under § 727 and § 543.
Bozeman, 226 B.R. at 629. The Eight Circuit Bankruptcy Appellate Panel affirmed denial of
these amendments due to the fact that “issues of nondischargeability” were raised “[f]or the first
time” and the amendments were the first time the plaintiffs sought “denial of a discharge
pursuant to § 727(a)(3). Id. at 631. Relation back under Rule 15(c) allows for the amendment of
claims absent prejudice to the defendant. Bozeman, 226 B.R. at 630 (citing Fuller v. Marx, 724
F.2d 717, 720 (8th Cir. 1984)). Rule 15 does not “contemplate depriving defendants of the
protections of a statute of limitations;” or in this case, the deadline for objections to discharge.
Id.
Granting leave to amend is at the discretion of the court, not a perfunctory right. In re
Mendel, 351 B.R. 449, 458 (Bankr. S.D. Tex. 2006). An objection to discharge under § 727 is
inherently separate from a cause of action for dismissal under § 707. The Plaintiff seeks to
amend its complaint to allege a distinctly different cause of action than the three causes of action
its complaint contains. In light of the inadequacy of the Plaintiff’s original § 707 pleadings, the
passing of the deadline for objections to discharge, and the Plaintiff’s failure to plead any
allegations under a § 727 cause of action in its original complaint, allowing the Plaintiff to
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amend its complaint would be unfairly prejudicial to the Defendant. The interests of justice
require that this Complaint be dismissed without leave to amend.
V. The Defendant’s Request for Damages
The Defendant, in his Motion to Dismiss, requested the Court award damages in the form
of attorney’s fees. Def.’s Mot. To Dismiss 12, 32, ECF No. 5. Section 707(b)(5)(A) permits a
court to award reasonable costs and attorney’s fees incurred in contesting a motion to dismiss
under § 707. In re Smith, 468 B.R. 235, 241 (Bankr. W.D. Ky. 2012). For damages to be
awarded, § 707(b)(5)(A) requires that the motion be dismissed, and that the movant either
violated Federal Rule of Bankruptcy Procedure 9011 or the filing attorney failed to perform a
reasonable investigation and is attempting to coerce the debtor to waive a right guaranteed under
Chapter 7. Smith, 468 B.R. at 241 (citing 11 U.S.C. § 707(b)(5)(A)). As there is no evidence that
the Plaintiff attempted to coerce the debtor to waive any rights, this analysis for damages under §
707(b)(5)(A) will only look at the requirements of Rule 9011. Procedurally, the party seeking
damages must give some notice to the opposing party in its responsive pleadings. Smith, 468
B.R. at 242. The Defendant provided adequate notice when it requested attorney’s fees in its
Motion to Dismiss. Def.’s Mot. To Dismiss 31–2, ECF No. 5.
Rule 9011 requires that a party’s representations to the court not be “(1) for any improper
purpose, (2) based upon frivolous legal arguments, (3) without adequate evidentiary support for
its allegations, and (4) without a basis for denials of fact.” In re Ryan, 411 B.R. 609, 615 (Bankr.
N.D. Ill. 2009) (citing FED. R. BANKR .P. 9011(b) (1–4)). Examples of improper purposes under
Rule 9011 include “to harass or to cause unnecessary delay or needless increase in the cost of
litigation.” FED. R. BANKR.P. 9011(b)(1).
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As Rule 9011 is modeled after Federal Rule of Civil Procedure 11, the rules are treated
with the same standard. Ryan, 411 B.R. at 613. The Plaintiff’s legal arguments are not frivolous,
and there are no issues of denials of fact, so an analysis under Rule 9011(b)(2) or (b)(4) is not
applicable here. These sanctions “are only to be granted sparingly, and should not be imposed
lightly.” Ryan, 411 B.R. at 613 (quoting Lefkovitz v. Wagner, 219 F.R.D. 592, 592–93
(N.D.Ill.2004)).
Though seeking a dismissal of a Chapter 7 case for bad faith or a presumption of abuse is
a proper purpose, the Plaintiff’s complaint creates unnecessary delay and seeks to deny the
Defendant the “fresh start” he may seek under the Bankruptcy Code. Marrama v. Citizens Bank
of Massachusetts, 549 U.S. 365, 367 (2007) (quoting Grogan v. Garner, 498 U.S. 279, 286
(1991)). The existence of an improper purpose under Rule 9011(b)(1) is a “subjective,” “fact-
specific inquiry.” In re Collins, 250 B.R. 645, 662 (Bankr. N.D. Ill. 2000). The Plaintiff intends
to dismiss the Defendant’s Chapter 7 case and convert it to a Chapter 13, regardless of the fact
that the Defendant converted to Chapter 7 in the first place due to a failure to make a Chapter 13
plan work. The Plaintiff claims that the Defendant can fund the plan due to the foreclosure of his
former home, despite the fact that the Defendant now needs to pay rent so that his family may
live somewhere. Pl.’s Compl. ¶ 43, ECF No. 1.
In Collins, the Northern District of Illinois Bankruptcy Court found an improper purpose
where a debtor filed a bankruptcy petition to try a shed a single creditor that the debtor had been
involved with in years of losing litigation and had the ability to pay. Collins, 250 B.R. at 662.
Parallels can be drawn to the instant case. The Plaintiff is the Defendant’s major creditor and for
years the parties have been involved in Loss Mitigation, the attempted short sale, the original
Chapter 13 plan, and now the converted Chapter 7. Loss Mitigation, the short sale, and the
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Chapter 13 plan did not work, and the Plaintiff recovered the house. At this stage, attempting to
dismiss the Defendant’s Chapter 7 based on claims without evidentiary support is unnecessarily
delaying this case.
Many of the Plaintiff’s allegations seem to be without evidentiary support. None of its
causes of actions fulfill the Iqbal standard of plausibility. The Plaintiff itself said that it would
consider withdrawing its § 707(b)(2) cause of action in light of the Defendant’s argument. The
Plaintiff even “concedes that its allegations could have included more detail.” Pl.’s Decl. in
Opp’n. ¶ 27, ECF No. 6. For example, one of the Plaintiff’s causes of action involved allegations
of bad faith in the filing of the Defendant’s schedules. Pl.’s Compl. ¶¶ 33–5. ECF No. 1. During
an investigation of the disputed amounts on the schedule, the Plaintiff should have been able to
see that, whether the security deposit was three thousand dollars or six thousand dollars, the
security deposit would have been exempt. The Plaintiff should have known that, even had the
disputed rental insurance and travel expenses be completely removed from the Defendant’s
schedules, the Defendant would still not have been capable of funding a Chapter 13 plan. Rule
9011 requires that representations to the court contain evidentiary support. FED. R. BANKR.P.
9011(b)(3). If the Plaintiff “concedes that its allegations could have included more detail,” see
Decl.¶ 27, Dkt No. 6, then the Plaintiff should have included more detail in its pleadings. The
Plaintiff’s improper purpose of creating unnecessary delay and the dearth of evidentiary support
for its claims creates a violation of Rule 9011.
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Conclusion
For the foregoing reasons, the Plaintiff’s causes of action under 11 U.S.C. §§
707(b)(3)(B); 707(b)(3)(A); and 707(b)(2) are dismissed with prejudice. The Defendant’s request
for damages in the form of attorney’s fees is granted. Defendant is, hereby, instructed to provide
the Court with a proposed Order consistent with this Memorandum Decision.
Dated: May 2, 2020
Poughkeepsie, New York
/s/ Cecelia G. Morris
_______________________
Hon. Cecelia G. Morris
Chief U.S. Bankruptcy Judge
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