Timing: as of commencement GENERAL RULE: date of filing of petition establishes property of estate Same rule applies for “claims” against DR Take all property, and all claims, as of instant of bk filing, and settle Dr’s financial affairs
Point of demarcation Property at instant filePost-Bk ESTATENOT estate
Timing problems In some cases is hard to fix the timing “as of commencement” because the property has roots in BOTH the pre-bk AND post-bk periods pre- bankruptcypost-bankruptcy Taxes paid prior years* Tax year ends DR suffers NOL* Tax carryback refund vests Segal v Rochelle
What did DR have at instant of BK? In Segal, ask – what, exactly, did DR have at the instant the bankruptcy petition was filed? Had a potential tax refund – had paid taxes in prior years, had suffered net operating losses in this year – Taxes paid – NOL POTENTIAL REFUND
Was this interest guaranteed? NO – Dr could have generated net income POST-filing, before the taxable year closed, that would have wiped out the NOL POSSIBLE income Would wipe out pending NOL & eliminate carryback loss refund POTENTIAL REFUND
Does contingency matter? Supreme Court held NO – fact that the tax refund was contingent at the time of bankruptcy (on DR NOT earning income to offset pre-bk losses), does NOT mean that it was not “property” at time of bankruptcy Estate got exactly what Dr had a potential tax refund
Estate gets “property” when contingency works out So, when DR’s potential tax refund (as of time of filing) DID come to fruition post-bk, estate got to claim it as “property” of bk estate
“everything of value” Supreme Court in Segal – bankruptcy estate consists of “everything of value” the bankrupt had on the date of bankruptcy
“roots” Supreme Court made key point that the tax refund had roots in pre-bk period When those roots matured and bore fruit post-bk, belonged to estate pre- bankruptcy post-bankruptcy roots of tax refund refund realized
Exception for “fresh start” Segal Court emphasized one important exception where the post-petition flowering of the “property” is attributable to the post-petition labor of an individual DR i.e, the “fresh start” “leave the bankrupt free after the date of his petition to accumulate new wealth in the future”
Schmitz pre- bankruptcy post-bankruptcy DR fished* Fed regs enacted Regs considered* QS issued to DR * DR sold QS for > $46K
Nature of QS How were QS calculated? – Based entirely on DR’s pre-bk fishing history Applied to future fishing rights – Is how 9 th Cir. distinguishes contingency cases in part IV.B.
Court held? NOT property DR had nothing when filed Bk Fed regs creating QS had NOT been promulgated at date of petition Court: “as of the date of the petition, Schmitz’s 1988-1990 catch history had no value.”
Valuation fallacy Shell game What is value of chance? In Schmitz, what was value as of petition date of “chance” fed govt would enact quota program?
Might be nothing? If pick wrong shell, get nothing Court in Schmitz took view that fed govt might NOT enact quota program
But might pay off! But there is a contingency, as of petition date, that WILL pay off In Schmitz, it DID pay off – Dr got $46 grand!
Would someone have paid $? pre- bankruptcy DR fished Regs considered Pay $?
What would buyer get? If Dr (or Trustee?) sold Dr’s “hope” of getting QS to a buyer at the date the bk petition was filed, what would the buyer get? Whatever the DR had! -Chance of winning the fed “shell game”, being issued valuable QS based on DR’s pre-bk fishing history -Which QS could then be applied to future fishing -Or, if no regs enacted, ultimate value = $0
Payoff, or not So, buyer might get nothing But also might get something, if “hope” is realized
Everything of value? Segal tells us that Dr’s Creditors should get “everything of value” Dr had Result in Schmitz is otherwise – Under court’s approach, creditors are guaranteed ZERO – And any potential value goes to DR!
Segal “roots”? Supreme Court: = “property” if has roots in pre-bk period pre- bankruptcy post-bankruptcy Dr fished QS issued
Proceeds? Could argue that the Dr’s “fishing history” became property of the estate under § 541(a)(1) And that QS issued post-petition were “proceeds” of that pre-bk history, and thus included in estate under 541(a)(6)
“fresh start” exception? Remember that Segal noted one important exception – the fresh start for an individual DR exclude from estate, even if pre-petition roots, IF the flowering of the contingency is dependent on individual DR’s post-petition labor
9 th circuit said yes fresh start Said the QS “governed what Schmitz would be allowed to catch in the post-filing future.” “If we were to hold that Schmitz’s right to fish in the post-filing future is property of the bankruptcy estate simply because it is affected by his pre-filing past, we would defeat the salutary purpose of bankruptcy, which is to provide a fresh start from the date of filing.”
Sounds great! This rhetoric of 9 th circuit sounds great If denying Schmitz the QS would harm his post-bankruptcy pursuit of his fishing livelihood, should not come into estate
Post-petition earnings exclusion And under 2 nd clause of 541(a)(6), if the value of QS were dependent on Schmitz himself fishing post-bk, then ≠ “property of estate” pre- bankruptcy post-bankruptcy Dr fished QS issued Dr fishes
NOT Only problem is that the value of QS is NOT dependent on Schmitz himself fishing post-bk Has $46K value to ANY qualifying fisherman pre- bankruptcy post-bankruptcy Dr fished QS issued Dr fishes ANYONE
Exclusions from estate: exemptions Exempt property is removed from estate Facilitates fresh start of an individual DR Exempt Debtor Estate Creditors
Retirement assets? One of the biggest issues has been whether the pension plan assets an individual Dr had at time of Bk come Competing policies – Give Crs “everything of value” – Provide for DR’s future financial security Also ~ deferred future wages
Patterson v Shumate DR (Joseph Shumate) Pres. & CEO of company $ ¼ million in pension plan when filed bk Pension plan “ERISA-qualified” issue: is the $250K in ERISA plan property of the bk estate?
No timing problem Patterson does not involve a timing problem – no doubt that DR (Shumate) was the beneficial owner of the quarter-million $ interest at the date of bankruptcy
Transfer restriction Problem is the transfer restriction on the alienability of a DR’s pension plan interest Under ERISA, a beneficiary’s interest “may not be assigned or alienated” Issue is whether that ERISA transfer restriction is enforceable in bankruptcy
General rule nixes transfer restrictions General rule in bankruptcy is that non- bankruptcy transfer restrictions (whether in an agreement or in applicable law) are invalidated in bankruptcy, § 541(c)(1) – In sum, whatever DR has comes into the estate the “transfer” from the Dr to the estate is permitted But then restriction might keep estate itself from transferring
Example – tort claim In many states a tort victim cannot transfer a tort claim What happens if such a tort victim files bk? DR cause of action EstatePurchaser Sue tortfeasor
exception One exception to the general rule that nixes non-bk transfer restrictions § 541(c)(2): “a restriction on the transfer of a beneficial interest of the DR in a trust that is enforceable under applicable nonbankruptcy law is enforceable in a [bankruptcy] case”
Classic case: spendthrift trust The paradigmatic case Congress had in mind is a spendtrhift trust where DR is the beneficiary of the trust Under state law, the beneficiary’s Crs can’t reach beneficiary’s interest in spendthrift trustCreditor Creditor TRUST Beneficiary’s interest TRUST Beneficiary’s interest
State law upholds spendthrift trust State trust law upholds the settlor’s anti- alienation provision Crs can’t reach by process, nor can beneficiary assign A limit on the property interest held by the beneficiary – Doesn’t have the “stick” of prospective alienation
Same result in bankruptcy In bankruptcy, the DR-beneficiary’s interest in spendthrift trust does not become property of the estate, § 541(c)(2) Estate TRUST Beneficiary’s interest TRUST Beneficiary’s interest
Butner? Exclusion of spendthrift trust interest is consistent with basic principles of Butner: Property interest defined by state law Not a transferable interest Avoid bankruptcy “windfall” and avoid forum shopping ● no reason why DR’s Crs should do better IN bankruptcy than OUT -> and out of bankruptcy can’t reach trust interest
Self-settled? Under state law, general rule is that while spendthrift trusts are immune from Crs, a Dr can’t put his OWN assets into an immune spendtrhift trust (called “self-settled”) ME Trust for me TRUST -- NOT available to Crs? TRUST -- NOT available to Crs? My assets --available to Crs My assets --available to Crs
Pension plan ~ self-settled trust In substance, a pension plan (to extent of beneficiary’s contributions) is ≈ self-settled trust Dr/beneficiary (Joseph Shumate) puts in money – which otherwise Crs COULD have reached -- and now CRs can NOT reach it
Dueling policies -- which controls? In a sense, as a matter of policy, have Butner principle at war with itself: – Not include in estate: Follow non-bk law (pension plan not alienable) anti-forum shopping/windfall (Crs not do better in bk) – Include in estate: Non-bk policy –DR can’t immunize his own assets
Resolution Supreme Court held for Dr – NOT in estate Relied on “plain language” of § 541(c)(2) 1.“restriction on transfer of beneficial interest of Dr in a trust” -> ERISA requires anti-alienation provisions 2.“enforceable under applicable non-bankruptcy law” -> yes under federal ERISA law
No conflict after all No policy conflict after all 1 st, Butner’s “no windfall” principle applies – Crs can’t reach ERISA assets outside of bankruptcy – EVEN IF “self-settled” (i.e. Dr contributions) 2 nd, creating law (federal ERISA law) favors protection of pension benefits
Current statute (2005) § 541(b)(7): exclude from estate amounts in Dr’s ERISA plan to extent is withheld from DR’s wages or DR directly pays in – Thus partially moots Shumate decision Does NOT apply to employer contributions to pension plan – So Shumate remains relevant there
IRA? What about an IRA? (Individual Retirement Account) Shumate reasoning and § 541(c)(2) not apply – Because IRA need not have anti-alienation transfer restriction, like an ERISA plan
Rousey Supreme Court held in Rousey v. Jacoway that IRA could be exempted under § 522(d)(10)(E) Dr’s right to receive payment under pension plan Limited to extent reasonably necessary for support
IRA – 2005 In 2005, Congress added express exemptions for IRA Whether elect federal exemptions (522(d)(12)) or state (522(b)(3)(c)) Overall cap of just over $1 million (or in joint case, $2 million), 522(n)
Fresh start exclusion Recall in Segal, the Supreme Court announced an important exclusion from property of the estate property to the extent attributable to the post-bk labor of an individual Dr
Only for INDIVIDUAL Dr Fresh start only applies to an individual dr Problem 3.1(a) – post-petition earnings of a corporate DR? EVERYTHING comes into estate * already had it (541(a)(1)), or * proceeds of what had (541(a)(6)), or * acquired by estate (541(a)(7))
Earnings exclusion 2 nd clause of § 541(a)(6): exclude “earnings from services performed by an individual DR after the commencement of the case” Problem 3.1(b) – individual employee, postpetition wages, chapter 7 case employed worker keeps working paid wages
Post-bankruptcy wages excluded 3.1(b) is classic illustration of post-petition earnings exclusion Rationale?
Incentive to keep working What if rule were otherwise, and an individual DR’s post-bk wages were taken away from Dr and paid to Crs – What incentive for Dr to keep working? – Could lose Dr as productive member of society
Individual DR can defer fresh start An individual DR has the option of proceeding under a repayment plan instead of getting an immediate discharge under chapter 7 Problem 3.1(c) – individual worker, chapter 13, post-petition wages during chapter 13
Chapter 13 inclusive rule In chapter 13, the DR’s earnings during the plan payment period = “property of estate,” see § 1306(a) Rationale?
13’s inclusive rule The rule including in the estate the DR’s post- petition earnings in a chapter 13 case makes sense The whole point is that Dr will pay Crs during the plan period out of those post-petition earnings By including in “estate,” those earnings enjoy benefit of automatic stay – Dr’s payment plan can’t be disrupted
Individual chapter 11? What about if the individual Dr proceeds under chapter 11, rather than chapter 13? This is Problem 3.1(d) As amended in 2005, the Chapter 11 rule for individual Drs is identical to the chapter 13 rule – i.e., post-petition earnings brought into estate – See § 1115
Attribution issues If sort of case where DO apply the post- petition individual earnings exclusion (i.e, ch. 7, some post-pet. services), what do you do if DR does some of work that leads to property interest both before AND after petition?
Straddle work? “ it was the best of times, “It is a far, far better thing it was the worst of times.” that I do, than I have ever done; it is a far, far better rest that I go to, than I have ever known.”
Allocate: to estate (pre) -- to Dr (post) Where Dr does some, but not all, of necessary work before bankruptcy, but completes work after, have no choice but to try to allocate value to the services performed before (belongs to estate) and after (belongs to DR)
What is work? Andrews case raises question of what we mean by “earnings from services performed” postpetition by individual DR * Dr sold company * non-compete ($1M) * $250K still due -- if DR not compete
issue Issue in Andrews – is the remaining $250K payment under the non-compete property of the estate, or is it excluded under the earnings exception of 541(a)(6)?
Held: include in estate Holding: part of estate, not excluded as post- petition earnings “Roots”$250K final payment ->non-compete
Services? What are post-petition “services performed”? Do NOTHING ≠ “services performed”
How will Dr make a living? If Dr’s best way of making a living is in ready- mix concrete business, where does Ct decision leave him?
Can he compete in concrete? Ct says that Dr’s estate – not DR – gets the final $250K under the non-compete. so can DR compete? NO – under state law, if non-compete is reasonable, can usually enforce by injunction * so Tarmac likely could get order enjoining Andrews from competing in concrete
Wage substitute Since Dr can’t actually compete and earn money in concrete business, the substance and effect of the non-compete payment of $250K is to serve as a substitute for his salary Note that the $250K/year figure was arrived at to ~ that salary!
If did compete, then what? What would happen if Dr did compete? Tarmac would NOT have to pay the final $250K payment to estate – Material breach analysis
Some “services”? Could DR have kept his right to $ if he did have to do something affirmative? – E.g., meet annually with Tarmac, and consult – talk some ready-mix talk Now at least SOME of $250K would have to be excluded * May have attribution issue – how much for services vs how much for doing nothing
Compare Schmitz and Andrews Fish? No – any fisherman would do – need not be DR not do concrete? YES – DR alone must not compete