Jamie Allen Westfall and Angela Ann Westfall

OCR transcription for search; preserved printed pages are authoritative

UNITED STATES BANKRUPTCY COURT
NORTHERN DISTRICT OF OHIO

EASTERN DIVISION

IN RE: ) CHAPTER 13
)

JAMIE ALLEN WESTFALL AND ) CASE NO. 06-60297

ANGELA ANN WESTFALL, )
) JUDGE RUSS KENDIG

Debtors.

) MEMORANDUM OF OPINION
)

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. WFS' 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

' WES joins in Nuvell’s brief, so the court will refer only to Nuvell’s brief in the context
of this opinion.

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, 2007 WL 2186135 (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, 2007 WL 2318071
(W.D.N.Y. 2007) (reporter citation not yet available); Graupner, 2007 WL 1858291;
Cohrs, 2007 WL 2186135; 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 Acaya, 369 B.R. 564 (Bankr. N.D.
Cal. 2007); In re Bray, 365 B.R. 850; Inre 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
dual-status 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. ”

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 (6" Cir. 2005) (citing Atherton v. Federal Deposit Ins. Corp., 519 U.S.
213, 218 (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 (1994)); see also Texas Ind. Inc. v. Radcliff Materials, Inc., 451 U.S. 630,
641 (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 and Wallis v.
Pan Am. Petroleum Corp., 384 U.S. 63, 86 (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.

? Much of Nuvell’s supplemental brief is of little help in deciding the question posed by
the court. Nuvell focused on urging the court to reconsider its previous interpretation of
Ohio law.

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 (11" 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
parties. See 11 U.S.C. § 550(d). Patricia Dzikowski, as
Chapter 7 Trustee for the estate of Prudential of Florida
Leasing, appeals the summary judgment in favor of Nor-
thern Trust Bank of Florida and against her complaint to
avoid the 11 fraudulent transfers and recover approximate-
ly $900,000 of the debtor’s estate. The bankruptcy court
applied Florida law and credited the entire amount of the
settlement to the Trustee’s claims against Northern Trust,
and the district court affirmed. Because we conclude that
the federal rule of single satisfaction required the bankrupt-
cy court to allocate the amount of the settlement that applies
to the complaint against Northern Trust rather than apply
Florida law, we reverse and remand.

As the court pointed out, “[a]lthough federal law governs the interpretation of a federal
statute, sometimes federal law provides a uniform common law rule and other times
federal law adopts a state law as the federal rule of decision.” Id. at 1298 (citing U.S. v.
Kimbell Foods, Inc., 440 U.S. 715, 727-28 (1979).

The Eleventh Circuit Court of Appeals laid out the legal backbone for determining
when state law should be applied:

‘[F]ederal courts should “incorporat[e] [state law] as the
federal rule of decision,” unless “application of [the parti-
cular] state law [in question] would frustrate specific ob-
jectives of the federal programs.” Kamen v. Kemper Fin.
Servs., Inc., 500 U.S. 90, 98, 111 S.Ct. 1711, 1717, 114
L.Ed.2d 152 (1991) (citations omitted) (alterations in ori-
ginal). The presumption in favor of state law ‘is particu-
larly strong in areas in which private parties have entered
legal relationships with the expectation that their rights and
obligations would be governed by state-law standards.’ Id.
The Bankruptcy Code is often interpreted by reference to
state law because the Code is built on pre-bankruptcy com-
mercial relationships and the property rights arising from
those relationships. See, e.g., Butner v. U.nited States, 440

U.S. 48, 55, 99 S.Ct. 914, 918, 59 L.Ed.2d 136 (1979)

(property interests); In re Connor, 733 F.2d 1560, 1562

(11" Cir. 1984) (lien priorities). There are nevertheless
instances where applying the Code requires a uniform rule

of federal common law. See, e.g., In re Columbia Gas Sys,
Inc., 997 F.2d 1039, 1055 (3d Cir. 1993) (bankruptcy proper-
ty rights in oil and gas refunds defined by federal common

law) .... The decision ‘to adopt state law or to fashion a
nationwide federal rule is a matter of judicial policy depen-
dent upon a variety of considerations always relevant to the
nature of the specific governmental interest and to the effects
upon them of applying state law.’ _Kimbell Foods, 440 U.S.

at 728, 99 S.Ct. At 1458 (citation and quotation marks omitted).
We must consider the need for uniformity, whether application
of state law frustrates important federal policies, and the impact
of federal common law on preexisting commercial relationships
premised on state law. See Redwing Carriers, Inc. v. Saraland
Apartments, 94 F.3d 1489, 1501 (11" Cir. 1996).

Prudential of Florida Leasing, 478 F.3d at 1298.

The first point for consideration under Prudential of Florida Leasing concentrates
on uniformity. In this case, the argument for uniformity would encourage adoption of a
definition of purchase money security interest to promote similar treatment of debtors and
creditors. The Sixth Circuit Court of Appeals discussed the concept of uniformity in
Mickowski v. Visi-Trak Worldwide, LLC, and ultimately discounted its influence when
considering an issue involving successor liability. In Visi-Trak, the court was faced with
the issue of whether the standard for successor liability should be based on the federal
“substantial continuity” test or the state “mere continuity” test. The court determined that
“[a]n asserted need for absolute uniformity in the collection of patent judgments, without
more, is insufficient in itself to justify resort to common law.” Visi-Trak, 415 F.3d at
512. Instead, the court required a showing that “the failure to adopt a uniform federal
standard for successor liability will somehow inhibit patent rights generally.” Id.

The Supreme Court said that an appeal for uniformity does not “prove its need.”
Atherton, 519 U.S. at 220 (citing United States v. Kimbell Foods, Inc., 440 U.S. 715, 728
(1979); O’Melveny, 512 U.S. at 88)). Consequently, the fact that debtors and creditors
are subjected to different treatments, based on the diverse definitions under state law,
does not mandate adoption of federal common law. Rather, courts give regard to
uniformity as a key factor when there is a threat that a federal right would be impinged or
diminished. Put another way, “a conflict is found where compliance with both federal
and state regulations is a physical impossibility, or where state law stands as an obstacle
to the accomplishment and execution of the full purposes and objectives of Congress.” 2
Norman J. Singer, Sutherland Statutory Construction § 36:9 (6" Ed. 2006) (footnote
omitted); see also Barnett Bank of Marion Co., N.A. v. Nelson, 517 U.S. 25 (1996)
(citations omitted). No such federal right is at stake in this instance.

The next inquiry under Prudential of Florida Leasing involves looking at the core

federal policies of the statute and deciding whether the use of state law impermissibly

abridges the policies. In the Sixth Circuit, in the context of conflict preemption, this is
described as “where it is impossible to comply with both federal and state law, or where
state law stands as an obstacle to the accomplishment and execution of the full purposes
and objectives of Congress.” Pertuso v. Ford Motor Credit Co., 233 F.3d 417, 425 (6"
Cir. 2000) (citing Bibbo v. Dean Witter Reynolds, Inc., 151 F.3d 559, 562-63 (6" Cir.
1998)).

Fully answering this question as to the purposes and objectives of Congress would
require an analysis of what Congress meant to say as opposed to what Congress said. As
several courts have recognized, the Congressional intent behind the hanging paragraph is
unclear:

To the extent that it is possible to glean any Congressional
intent behind the hanging paragraph, see In re Quick, - - -
B.R. - - -, 2007 WL 1941749, at * 2 (10" Cir. BAP 2007)
(noting “the sparse legislative history of the amendment of
§ 1325"); Horr v. Jake Sweeney Smartmart, Inc., No. 1:07-
CV-00010, 2007 WL 1989611, at *4 (S.D. Ohio July 6,
2007) (‘there is very little evidence to reflect what Congress
intended by the language it chose to enact in the hanging

paragraph”)....

See General Motors Acceptance Corp. v. Peaslee, 2007 WL 2318071 at *7. Although
the District Court for the Western District of New York determined that the intent of the
hanging paragraph “seems to be to protect creditors from the abuse of ‘cramdown,””
because of the limited legislative history, the intent is less than clear. Id. (citations
omitted). While most courts conclude that the intent of the hanging paragraph was to
protect creditors from cramdown, see id. (citations omitted), there is no way to delineate
the extent of the protection. Without legislative intent, it is impossible to do anything but
fabricate interpretations. The court cannot head down that path as it is limited to the
words of the statute. See Sparks v. HSBC Auto Fin., 2007 WL 2080289 (S.D. Ohio
2007).

The final consideration to determine whether a federal definition is appropriate
requires the court to look at “the extent to which application of a federal rule would
disrupt commercial relationships predicated upon state law.” Kimbell Foods, 440 U.S. at
729 (footnote and citations omitted). This does not appear to be a problem as the Code
previously bifurcated claims. The cramdown of claims permitted under the bankruptcy
code certainly disrupted transactions traditionally governed by state law, so a federal
definition would require no greater disruption than previously existed.

Thus, the established standard for adopting state law, either as a rule of decision
or otherwise, is a muddle on the current facts. One could argue whether or not the
muddle constitutes a failure to pass the test, much like a failure to carry a burden of proof.
We need not attempt to decide who has the burden and therefore succeeds on such
marginal grounds. Rather, the ill-fitting drape of the rule of decision cloth serves as proof
of the necessity of an exception on these unique facts. The state law standard should not
be used for reasons that may be titled as the excluded purpose exception.

Excluded purpose means that a state statute should not serve as a federal rule of
decision if the federal purpose was excluded from the state law. That is the case in the
state law definition of purchase money. The intent of the framers of the Uniform
Commercial Code is quite clear: the state law definition of purchase money security
interest was not meant to apply to bankruptcy law. Official Comment 8, titled
“Consumer-Goods Transactions; Characterizations Under Other Law,” discusses section
9-103(h) and provides, in pertinent part:

This section addresses only whether a security interest
is a “purchase-money security interest” under this Article,
primarily for purposes of perfection and priority. See,
e.g., Sections 9-317, 9-324 .... Whether a security
interest is a “‘purchase-money security interest” under
other law is determined by that law. For example,
decisions under Bankruptcy Code Section 522(f) have
applied both the dual-status and the transformation
rules. The Bankruptcy Code does not expressly adopt
the state law definition of “purchase-money security
interest.” Where federal law does not defer to this
Article, this Article does not, and could not, determine
a question of federal law.

U.C.C. § 9-103 (2001), Official Comment 8.’

It is important to note that this quotation is from the Official Comments
(“Comments”) to the UCC. The drafters recognized that the Bankruptcy Code did not
expressly defer to the state law definitions of purchase money security interest. These
comments carry a ponderous significance. Using the state law definition of purchase
money security interest may well abridge the federal policies, especially since the state
statute was not intended for the issue before the court, but was intended to be used only
for matters involving perfection and priority. Consequently, there is strong reason to use
a federal, and not a state, application in this context.

A bit of history is important to fully appreciate the Comment. The UCC was a
joint project of the National Conference of Commissioners on Uniform State Laws and
the American Law Institute. It rewrote a vast swath of American commercial law and
“given its scope and the economic importance of the transactions it covers ...is a
remarkable achievement in private law making in the United States.” Fred H. Miller,
Modernizing the UCC for the New Millennium: Introduction to a Collection on the New
UCC, 25 Okla. City. U.L. Rev. 189, 190 (2000).

The UCC was not a product of just one interest group or any particular component
of the legal profession or of the commercial community. It was refined by all elements of
the commercial legal community including practicing attorneys, judges, law professors
and others. Id. The care and depth of review cannot be overstated. “No piece of

3 The Official Comments to the UCC will hereafter be referred to as “Comment” or
“Comments.”

legislation was ever considered as carefully by as many of the topflight lawyers of the
country as the Uniform Commercial Code.” William A. Schnader, A Short History of the
Preparation and Enactment of the Uniform Commercial Code, 22 U. Miami L. Rev. 1, 10
(1967).

Although it was decided that the comments would not be given binding effect,
Sean Michael Hannaway, The Jurisprudence and Judicial Treatment of the Comments to
the Uniform Commercial Code, 75 Cornell L. Rev. 962, 967-70 (1990), commentators
have noted that courts defer to them. Id. at 962. Even those who oppose the influence of
the Comments appear to view them as the most influential interpretive source. Nigel
Stark, Unofficial Official Comments, 11 Tex. Rev. L. & Politics 480 (2007).

It is critical to note that not using the state law meaning in bankruptcy cases as
advanced by Comment 8 does not involve the most common objection to use of the
Comments. This use does not violate the plain meaning doctrine. This criticism
underlies the argument of those that wish to minimize use of the Comments. Id. The
reason this does not violate plain meaning is that the Comments are not being used to
interpret the statute. Rather, the Comments are used solely to illuminate that the obvious
state law purpose was the only purpose for the statute and that the statute’s use elsewhere
would be beyond its literal scope as the law of the state and beyond its intended scope of

purpose.

Historical and logical imperatives compel consideration of the Comments in the
current situation. “Nearly forty years of experience has shown that courts defer, and, this
discussion will argue, ought to defer to the guidance the Comments offer as to the proper
application of [Uniform Commercial] Code provisions. The Comments occupy an
unusual position as aids to statutory interpretation.” Hannaway at 962.

There are many reasons why the Comments enjoy such a status. The Comments
are not legislative history, which may be nothing more than the stray thoughts, or
statements, of one of hundreds of legislators. Rather, they are the considered, and
actively negotiated, explanations of the entire spectrum of the brightest minds in the field.

The Comments also draw heft from their primary role in the theoretical structure
of the UCC. Karl Llewellyn, the UCC’s original driving force, viewed the UCC as
outlining the law in a manner in which the law would exist in the facts of the particular
case and the facts of the case would also inform the law. Hannaway at 965 (citing
William L. Twining, Karl Llewellyn and the Realist Movement, 223-26 (1973); Richard
Danzig, A Comment on the Jurisprudence of the Uniform Commercial Code, 27 Stan. L.
Rev. 621, 624-26 (1975); John L. Gedid, U.C.C. Methodology: Taking a Realistic Look
at the Code, 29 Wm. & Mary L. Rev. 341, 363 (1988)).

The UCC is an intentionally flexible document so that the law remains consistent
with contemporary commercial practice instead of insisting on stagnant commercial
practices that must stand still to conform with yesterday’s rules. What is in good faith or
reasonable changes as time goes by and thus the UCC empowers commerce instead of
serving as a barrier to commercial evolution.

The Comments, under this view, do not merely serve
as simple aids to understanding the [Uniform Com-
mercial] Code, but are an indispensable part of the
UCC framework. First, given the intentional flexibi-
lity built into the [Uniform Commercial] Code, they
provide a necessary element of consistency. The
drafters designed them to provide a bridge between
often confusing or sparse [Uniform Commercial]
Code language and the facts of specific cases.

Second, based on the principle of patent reason, the
Comments provide a ready reference to the policy and
purpose of particular provisions and their relationship
to other provisions so as to tie the purposes and policies
of disparate sections together.

Hannaway at 967.

This decision does not depend upon accepting any particular view of the role of
the UCC or the Comments. There is nothing that requires or implies the use of the state
law UCC definition of the term purchase money in federal bankruptcy law. Use of the
Comments just points out that the courts should not use this state law meaning when it is
not required and the brightest minds in the land have told us of its limited purpose. We
should not select state law merely because it is convenient and familiar any more than a
workman should use a fine micrometer as a small hammer because it is convenient and
familiar. The intended function of the tool must inform us as to its use.

This conclusion is buttressed by the fact that this case presents the confounding
problem of applying a state law definition when that definition was specifically left
undetermined due to what appears to be the UCC drafters’ intentional non-decision.
Ohio, through its adoption of the U.C.C. § 9-103, adopted a “Pontius Pilate” provision by
intentionally leaving the effect of clearly known recurring fact patterns unresolved:

(H) The limitation in divisions (E), (F), and (G) of this section to
transactions other than consumer-goods transactions is intended to
leave to a court the determination of the proper rules in
consumer-goods transactions. The court shall not infer from that
limitation the nature of the proper rule in consumer-goods
transactions and may continue to apply established approaches.

O.R.C. §1309.103(H). The state law cases are less than enlightening and far from
comprehensive. Attempting to divine state law is an exercise in fiction. This court
previously attempted to divine state law on the subject, but this effort was similar to
divining water with a forked stick. There was little precedent to interpret an intentionally
vague statute that had not been drafted with future bankruptcy law revisions in mind. The
result of a good faith effort, enforcement of the transformation rule, appears unnecessarily
harsh. There is little precedent supporting some rule of reason to logically say what is or
is not a purchase money component on an item by item basis leaving an unnecessarily
zero sum game. Simply, state law does not support uniformity or advance the intent of
the drafters of either the UCC or the Bankruptcy Code. Adoption of the Pontius Pilate

provision indicates that there is no strong state interest either way.

Although the court continues to hold that negative equity is not part of a purchase
money security interest, after thorough consideration, and with particular appreciation of
the Comments accompanying the Revised Uniform Commercial Code, the court adopts
use of the dual status rule for the purposes of the hanging paragraph. Simply, application
of the transformation rule is too severe. There is no question that the transactions at issue
include partial purchase money security interests. In light of the ability to frame a federal
understanding of the term purchase money security interest, the court finds adoption of
the dual status rule is more equitable. In applying the rule, the court finds that the subject
transactions will have purchase money components, which will be secured and not
subject to bifurcation, and nonpurchase money components (arising from the payment of
negative equity), which will be subjected to bifurcation as general unsecured claims. To
determine the amounts of each, the court will employ a simple percentage formula based
on the original transaction. The same percentage will be applied to the claim balance to
determine the amount of the secured claim and the amount of the secured claim. For
example, in the WFS transaction, debtors borrowed $26,189.49 and $6,757.62 of the loan
was used to pay the negative equity on their trade-in, representing 25.8% of the loan.

This percent represents the portion of the loan subject to bifurcation. WFS filed a proof
of claim for $25,631.03. After applying the percentage, the court finds that WFS would
have an unsecured claim for $6,612.81 and a secured claim for $19,018.22.*

Additional reflection also leads the court to conclude that application of the dual
status rule will have positive implications for both parties involved in similar
transactions. First, recognition of the partial purchase money security interest will
prevent car buyers from purchasing a car and shortly thereafter filing a chapter 13
proceeding in order to be rid of a substantial portion of the debt through section 506
bifurcation. Instead, the purchase money security interest will be protected by the
hanging paragraph. Second, use of the dual status rule may discourage lenders from
promoting excessive spending by allowing the financing of larger and larger amounts of
negative equity. The court has witnessed amounts of negative equity that most reasonable
persons would find unimaginable. This is not surprising given that 80% of car loans are
for terms exceeding four years, contributing to the slow buildup of equity in vehicles, and
that one source estimates that over one in four cars that are financed include negative
equity. Liz Pulliam West, MSN Money, The Real Reason You’re Broke (2007),
http://articles. moneycentral.msn.com/savinganddebt/saveonacar/therealreasonyourebroke.
aspx (citing Edmunds.com research). The products sold by car dealerships only increase
the burden and these sale add-ons are likely to increase as it is reported that finance and
insurance sales have regularly accounted for over 40% of car dealerships’ profits.
Featured Statistic, F & I Contributions to Dealership Profits, F & 1 Management and
Technology Magazine, http://www.fi-magazine.com/t_inside.cfm?action=statistics (citing
Source:CNW Marketing/Research). Third, in the modern system of national lending, this
makes uniformity possible rather than multiple state rules.

* Nuvell loaned debtors $18,723.65; $3,588.47 was used to pay the negative equity on a
trade-in vehicle. Thus, 19.2% of the original loan was nonpurchase money. Nuvell filed
a claim for $18,289.82. Applying the applicable percentages, Nuvell is entitled to a
secured claim in the amount of $14,778.17 and an unsecured claim of $3,511.65.

The court does not attempt to resolve every potential case that may arise, such as
the impact of various goods or services that may be sold by a car dealer or the rare
instance in which a car may be worth more than the dual status balance. These are
matters for the typical case law process.

CONCLUSION

After examining all three elements, the court finds that it can utilize a federal
understanding of purchase money security interest for purposes of applying the hanging
paragraph. Although a federal right is not at stake, thereby discouraging use of a federal
definition, the other two prongs fall in favor of a federal interpretation. While legislative
intent is not clear, the intent of the Revised Uniform Commercial Code is clear and it
supports a federal, and specifically bankruptcy, definition of purchase money security
interest for section 9-103. Neither will a federal definition engender upheaval of
commercial transactions.

Consequently, the court hereby adopts its previous decision to the extent that it
found that negative equity was not part of the value given to enable debtor to acquire
rights in the vehicle. However, the court concludes that adoption of the transformation
rule is not apropos. While such a conclusion may have been compelled by an
understanding of Ohio law, the court is not constrained to apply Ohio law when the Ohio
law expressly cabins itself to non-bankruptcy issues. The court finds that use of the dual
status rule results in a more equitable outcome.

An order in accordance with this opinion shall be entered immediately.

SEP 24 2007 j/s/ Russ Kendig

RUSS KENDIG
U.S. BANKRUPTCY JUDGE

Service List:

Theodore A. Konstantinopoulos
Lindsey Hall

Javitch, Block & Rathbone
1300 East Ninth St., 14" Floor
Cleveland, OH 44114-1503

Charles C. Butler

Bish, Butler & Thompson, Ltd.
1210 West High St.

Bryan, OH 43506

James F. Ciccolini
209 S. Broadway St. |
Medina, OH 44256

Jamie Allen Westfall
Angela Ann Westfall
605 Township Road 150
Sullivan, OH 44880

Toby L. Rosen

Charter One Bank Building, 4" Floor
400 W. Tuscarawas St.

Canton, OH 44702