In re: James Harry Salamon Jeanne Fixler Salamon

• Court: United States Bankruptcy Appellate Panel for the Ninth Circuit
• Decided: April 6, 2015
• Docket: CC-14-1334-PaKiTa
• Status: Published

Opinion

FILED APR 06 2015 1 SUSAN M. SPRAUL, CLERK U.S. BKCY. APP. PANEL 2 OF THE NINTH CIRCUIT

3 UNITED STATES BANKRUPTCY APPELLATE PANEL 4 OF THE NINTH CIRCUIT 5 In re: ) BAP No. CC-14-1334-PaKiTa ) 6 JAMES HARRY SALAMON; JEANNE FIXLER ) Bk. No. SA 12-17145-ES SALAMON, ) 7 ) Debtors. ) 8 ___________________________________) ) 9 ) PETER J. MASTAN, chapter 7 trustee ) 10 for the estate of David J. Behrend,) ) 11 Appellant, ) ) 12 v. ) O P I N I O N ) 13 ) JAMES HARRY SALAMON; JEANNE FIXLER ) 14 SALAMON, ) ) 15 Appellees. ) ___________________________________) 16 17 Argued and Submitted on March 19, 2015 at Pasadena 18 Filed - April 6, 2015 19 ____________ 20 Appeal from the United States Bankruptcy Court for the Central District of California 21 Hon. Erithe A. Smith, U.S. Bankruptcy Judge, Presiding 22 23 24 Appearances: John N. Tedford, IV, of Danning, Gill, Diamond, and Kollitz, LLP, argued for appellant Peter J. Maston. 25 Michael R. Totaro of Totaro & Shanahan argued for appellees James Harry Salamon and Jeanne Fixler 26 Salamon. 27 28 Before: PAPPAS, KIRSCHER, and TAYLOR, Bankruptcy Judges. 1 PAPPAS, Bankruptcy Judge: 2 3 Creditor Peter J. Mastan (“Mastan”), the chapter 71 trustee 4 in the bankruptcy case of David J. Behrend (“Behrend”), appeals 5 the order of the bankruptcy court disallowing his claim in the 6 chapter 11 bankruptcy case of debtors James Harry Salamon 7 (“James”)2 and Jeanne Fixler Salamon (“Jeanne” and, together with 8 James, “the Salamons”). We AFFIRM. 9 I. FACTS 10 The material facts in this case are undisputed. 11 The Property and the Liens 12 In 2009, Jeanne purchased a 28-unit apartment building in Los 13 Angeles (the “Property”) from 716 S. Westlake Avenue Trust, a 14 self-settled trust created and controlled by Behrend.3 At the 15 time, there were liens securing two preexisting loans secured by 16 the Property, both dating back to 2005: (1) a loan of $829,575.00 17 secured by a first priority deed of trust in favor of United 18 Commercial Bank (“First Loan”); and (2) a loan of $135,000 secured 19 by a second priority deed of trust in favor of Frank McHugh 20 1 21 Unless otherwise indicated, all chapter and section references are to the Bankruptcy Code, 11 U.S.C. §§ 101–1532, all 22 Rule references are to the Federal Rules of Bankruptcy Procedure, Rules 1001–9037, all Civil Rule references are to the Federal 23 Rules of Civil Procedure 1–86, and all Appellate Rule references are to the Federal Rules of Appellate Procedure 1-48. 24 2 We refer to some parties by their first names for clarity. 25 No disrespect is intended. 26 3 Behrend conducted his business and financial affairs through various trusts and other entities. As relevant here, the 27 parties do not dispute that Behrend’s bankruptcy estate, represented by bankruptcy trustee Mastan, holds the beneficial 28 interest in the Property.

-2- 1 (“Second Loan”). 2 In connection with the purchase, Jeanne executed a “wrap- 3 around” note and mortgage, which included the First and Second 4 loans and deeds of trust, known as the All Inclusive Note and All 5 Inclusive Deed of Trust (“AITD”), for $1,030,000,4 in favor of 6 Earthwise LLC, as trustee for the seller (a trust controlled by 7 Behrend). The AITD was recorded as a third priority deed of trust 8 on the Property. 9 Finally, Jeanne also executed a note for a fourth loan in the 10 amount of $325,000 in favor of Earthwise (Behrend), secured by a 11 recorded fourth priority deed of trust (the “Fourth Loan”). The 12 AITD loan and the Fourth Loan proceeds were used entirely for the 13 purchase price of the Property.5 The AITD and the Fourth Loan 14 documents were signed by Jeanne on April 6, 2009. 15 Behrend filed a chapter 11 bankruptcy petition on March 25, 16 2010. Mastan was appointed chapter 11 trustee in that case on 17 March 1, 2011. On May 9, 2011, the bankruptcy court converted 18 Behrend’s case to a chapter 7 case, and Mastan was appointed 19 20 4 Although it is not clear in the record, the $1,030,000 apparently represented the balance due for principal and interest 21 on the First and Second Loans. Jeanne did not assume liability for these loans, but instead “wrapped around” the loans with the 22 AITD. Jeanne was responsible for making payments on the AITD and Fourth Loan, and Behrend was responsible for making the payments 23 on the First and Second Loans. 24 5 Thus, under California law, the AITD and Fourth Loan were purchase money mortgages. A purchase money transaction occurs 25 when “[t]he sum represented by the note and trust deed was a necessary part of the purchase price.” Heritage Pac. Fin. LLC v. 26 Edgar (In re Montano), 501 B.R. 96, 109 n.11 (9th Cir. BAP 2013) (quoting Stockton Sav. & Loan Bank v. Massanet, 114 P.2d 592, 597 27 (Cal. 1941). Significant here, purchase money mortgages come within the purview of California’s anti-deficiency statutes. See 28 Cal. Code Civ. Proc. § 580b(a)(2) (quoted, infra, n.6).

-3- 1 chapter 7 trustee. 2 The Salamons’ Bankruptcy Case and Mastan’s Claim 3 The Salamons filed their own chapter 11 petition on June 8, 4 2012, and, throughout that case, have exercised powers of a debtor 5 in possession of their bankruptcy estate. See § 1107(a). 6 Mastan, as trustee in Behrend’s chapter 7 case, filed a 7 secured proof of claim in the Salamons’ chapter 11 case for 8 $1,355,000, the principal due under the AITD and Fourth Loan, on 9 October 3, 2012. 10 American West Bank (“AWB”), the successor to United 11 Commercial Bank, and the Salamons stipulated that the automatic 12 stay could be terminated so that AWB could foreclose on the 13 Property under the first priority deed of trust. The bankruptcy 14 court approved the stipulation and granted stay relief to AWB in 15 an order entered on October 19, 2012. AWB served a notice of 16 default under the first priority deed of trust on November 1, 17 2012, recorded a notice of trustee’s sale on February 6, 2013, and 18 the Property was sold at a foreclosure sale on March 13, 2013, for 19 $1,275,500. 20 In November, 2013, Mastan learned that the sale had generated 21 sufficient funds to pay the full amount due on the First and 22 Second Loans and that there were surplus funds available to pay to 23 Behrend’s estate. After making demand on the foreclosing trustee, 24 Mastan received a check for $150,560.14. This sum was sufficient 25 to pay the remaining balance on the AITD, and a portion of the 26 amount due on the Fourth Loan. Mastan filed an amended unsecured 27 proof of claim (the “APOC”) in the Salamons’ chapter 11 case for 28 the remaining balance in the amount of $303,345.75.

-4- 1 On April 28, 2014, the Salamons filed a motion in the 2 bankruptcy court for an order disallowing Mastan’s APOC. The 3 Salamons argued that under Cal. Civ. Code § 580b(a)(2),6 Mastan 4 could not assert an unsecured claim for any deficiency remaining 5 due on the AITD and Fourth Loan after the foreclosure. 6 Mastan filed a response to the motion on May 27, 2014. 7 Mastan argued that, although the claim would be barred under 8 California law, § 1111(b)(1) overrides the state law prohibiting a 9 deficiency claim. Mastan pointed out that the only exceptions to 10 the application of § 1111(b) — a class election under 11 § 1111(b)(2), a sale of the Property under § 363, or a sale under 12 a chapter 11 plan — were not present. 13 In a reply filed June 3, 2014, the Salamons contended that 14 because the Property was removed from the bankruptcy estate via 15 the foreclosure sale, the state anti-deficiency law applied to 16 preclude Mastan’s claim. In other words, because Maston’s claim 17 was no longer secured by a lien on property of the estate, 18 19 6 “(a) [N]o deficiency judgment shall lie in any event for the following: . . . (2) Under a deed of trust or mortgage given 20 to the vendor to secure payment of the balance of the purchase price of that real property or estate for years therein.” Cal. 21 Code Civ. Proc. § 580b(a)(2). 22 There was some discussion at oral argument about whether Cal. Code. Civ. Proc. §§ 580b(a)(2), 580b(a)(3) or 580d applies in this 23 situation. However, by its terms, Cal. Code Civ. Proc. § 580b(a)(3) only applies to foreclosures of residential 24 properties of four units or less, and the Property had twenty- eight units. And while Cal. Code. Civ. Proc. § 580d is a more 25 general statute that extends the anti-deficiency rule to all mortgages, not just purchase money mortgages, Coker v. JP Morgan 26 Chase Bank, N.A., 281 Cal. App. 4th 1, 9 (2013), it does not apply to a non-foreclosing junior lien, such as the AITD or Fourth Loan. 27 Cadlerock Joint Venture, LP v. Lobel, 206 Cal. App. 4th 1531, 1549 (2012). Therefore, Cal. Code Civ. Proc. § 580b(a)(2) controls in 28 this case.

-5- 1 § 1111(b) did not apply to it. 2 Before the hearing on the Salamons’ motion to disallow 3 Mastan’s claim, the bankruptcy court entered a tentative decision 4 which stated in full: 5 Except as noted below, the court incorporates by reference herein the legal analysis and case citations 6 set forth in Debtor’s Motion and Reply Pleadings. The Court notes, however, that Debtors are incorrect that 7 the subject property was no longer property of the estate at the time the order granting relief from stay 8 was entered. The granting of relief from stay allows a secured creditor to proceed with foreclosure proceedings 9 but, until a sale actually occurs, the property remains property of the bankruptcy estate. Accordingly, in this 10 case, the property was no longer property of the estate as of the date of the foreclosure sale, i.e., on March 11 13, 2013. At that point, Creditor no longer held a “claim secured by a lien on property of the estate” for 12 purposes of § 1111(b). Further, the Court agrees that the anti-deficiency provisions under California law, CCP 13 580(b) [apply]. 14 Tentative Decision, June 10, 2014. 15 After hearing the arguments of counsel, the bankruptcy court 16 announced its decision, granting the Salamons’ motion to disallow 17 Mastan’s unsecured claim. Its Order memorializing its decision, 18 entered on June 20, 2014, explained: 19 The Court finds the property in question remained property of the estate up and till a foreclosure sale 20 actually occurs. At that point, the Creditor no longer had a claim “secured by a lien on property of the 21 estate” for purposes of Section 1111(b). The court further finds that the anti-deficiency provision under 22 California Law, CCP 580(b), applies. 23 Mastan filed a timely appeal on June 27, 2014. 24 II. JURISDICTION 25 The bankruptcy court had jurisdiction under 28 U.S.C. §§ 1334 26 and 157(b)(2)(B). We have jurisdiction under 28 U.S.C. § 158. 27 III. ISSUE 28 Whether the bankruptcy court erred in disallowing Mastan’s

-6- 1 amended claim. 2 IV. STANDARDS OF REVIEW 3 The bankruptcy court’s interpretation of the Bankruptcy Code 4 is reviewed de novo. Durkin v. Benedor Corp. (In re G.I. Indus., 5 Inc.), 204 F.3d 1276, 1279 (9th Cir. 2000). Disallowance of a 6 claim is reviewed de novo. Margaret B. McGimsey Trust v. USA 7 Capital Diversified Trust Deed Fund, LLC (In re USA Commercial 8 Mortgage Co.), 377 B.R. 608, 617 (9th Cir. BAP 2007) 9 (“Disallowance of a claim is a legal determination that the claim 10 under consideration is not allowable by law.”). 11 IV. DISCUSSION 12 The parties agree that resolution of this appeal centers on 13 the bankruptcy court’s interpretation of § 1111(b)(1)(A), which 14 provides that: 15 A claim secured by a lien on property of the estate shall be allowed or disallowed under section 502 of this 16 title the same as if the holder of such claim had recourse against the debtor on account of such claim, 17 whether or not such holder has such recourse, unless 18 (I) the class of which such claim is a part elects, by at least two-thirds in amount and more 19 than half in number of allowed claims of such class, application of paragraph (2) of this 20 subsection; or 21 (ii) such holder does not have such recourse and such property is sold under section 363 of this 22 title or is to be sold under the plan. 23 § 1111(b)(1)(A). 24 Collier explains the role of § 1111(b) in reorganization 25 cases: 26 Section 1111(b) represents an attempt by Congress to create a balance between the debtor’s need for protection, and a 27 creditor’s right to receive equitable treatment. 28 . . .

-7- 1 The text of section 1111(b)(1)(A) tells courts to ignore state law and nonrecourse agreements. Unless otherwise 2 excepted, [the court] must treat “a claim secured by a lien on property of the estate . . . the same as if the holder of 3 such claim had recourse against the debtor on account of such claim, whether or not such holder has such recourse.” As a 4 consequence, a partially secured nonrecourse creditor may do better in a chapter 11 case than in a chapter 7 case if its 5 deficiency claim has any value. Because a chapter 11 plan does not provide for the sale or other liquidation of the 6 collateral, any valuation which determines a deficiency will be a judicial valuation. In promulgating section 1111(b), 7 Congress essentially stated that such a judicial valuation was not part of the nonrecourse creditor’s bargain, and 8 provided an avenue for the creditor to elect to have the deficiency recognized. 9 10 7 Collier on Bankruptcy ¶ 1111.03{1][a] (Alan N. Resnick & Henry 11 J. Sommer, eds., 16th ed. 2014). 12 Although § 1111(b)(1)(A) bestows a potential benefit on a 13 creditor holding a nonrecourse, partially secured claim in a 14 chapter 11 case, a condition precedent to the creditor’s enjoyment 15 of that special status is that it must hold “a claim secured by a 16 lien on property of the estate.” Here, the question is whether 17 that condition was satisfied because Mastan held such a lien on 18 the date the Salamons’ petition was filed, even though the lien no 19 longer existed when the allowance of Mastan’s claim was 20 challenged. 21 In interpreting the Code, “‘when the statute’s language in 22 plain, the sole function of courts — at least where the 23 disposition required is not absurd — is to enforce it according to 24 its terms.’” Lamie v. U.S. Tr., 540 U.S. 526, 534 (2004); Parks 25 v. Drummond (In re Parks), 475 B.R. 703, 707 (9th Cir. BAP 2012) 26 (“If the statute is clear, the inquiry is at its end, and we 27 enforce the statute on its terms.”). “Furthermore, ‘the words of 28 [the Code] must be read in their context and with a view to their

-8- 1 place in the overall statutory scheme.’” Danielson v. Flores (In 2 re Flores), 735 F.3d 855, 859 (9th Cir. 2013) (en banc) (quoting 3 Gale v. First Franklin Loan Servs., 701 F.3d 1240, 1244 (9th Cir. 4 2012)). “When the statute’s language is plain, the sole function 5 of the courts . . . is to enforce it according to its terms.” 6 Hartford Underwriters Ins. Co. v. Union Planters Bank, 530 U.S. 1, 7 6 (2000). 8 According to § 1111(b)(1), a nonrecourse claim is treated as 9 a recourse claim in a chapter 11 case if it is “secured by a lien 10 on property of the estate.” The bankruptcy court noted that, from 11 and after March 13, 2014, the date of the foreclosure sale at 12 which it was sold, the Property was no longer property of the 13 Salamons’ bankruptcy estate. “At that point, [Mastan] no longer 14 had a claim ‘secured by a lien on property of the estate’ for 15 purposes of Section 1111(b).” Thus, the bankruptcy court 16 concluded, in treating Mastan’s claim in the same fashion as a 17 recourse claim, § 1111(b)(1)(A) no longer applied and, instead, 18 the California anti-deficiency statutes, including Cal. Civ. Code 19 § 580b, prohibited enforcement of the unsecured claim. As a 20 result, under § 502(b)(1),7 Mastan’s amended claim was disallowed. 21 7 22 This Code provision states: 23 (b) Except as provided in subsections (e)(2), (f), (g), (h) and (i) of this section, if such objection to a 24 claim is made, the court, after notice and a hearing, shall determine the amount of such claim in lawful 25 currency of the United States as of the date of the filing of the petition, and shall allow such claim in 26 such amount, except to the extent that — 27 (1) such claim is unenforceable against the debtor and property of the debtor, under any agreement or 28 (continued...)

-9- 1 Mastan argues that the bankruptcy court erred by not 2 considering the language in § 1111(b)(1)(A) instructing that “[a] 3 claim secured by a lien on property of the estate shall be allowed 4 or disallowed under section 502 of this title” in light of the 5 requirement in § 502(b)(1) that the court “shall determine the 6 amount of such claim in lawful currency of the United States as of 7 the date of the filing of the petition[.]” Mastan reasons that 8 because, as of the petition date, his claim against the Salamons 9 was secured by liens against property of their bankruptcy estate 10 (i.e., the deeds of trust securing the AITD and Fourth Loan), 11 § 1111(b)(1)(A) overrides state law and requires that Mastan’s 12 amended claim be allowed as if he had recourse against the 13 Salamons on account of his claim. In short, Mastan asks us to 14 interpret “property of the estate” in § 1111(b)(1)(A) as a 15 reference to the property that existed at the time of filing the 16 petition, not at the time of considering the objection to the 17 amended claim. 18 While case law interpreting this phrase in § 1111(b)(1)(A) is 19 sparse, it is contrary to Mastan’s position. The most oft-cited 20 decision on this issue is Tampa Bay Assocs., Ltd. v. DRW 21 Worthington, Ltd. (In re Tampa Bay Assocs., Ltd.), 864 F.2d 47 22 (5th Cir. 1989).8 In that case, prior to plan confirmation, 23 7 24 (...continued) applicable law for a reason other than because such 25 claim is contingent or unmatured[.] 26 § 502(b)(1). 8 27 The citation to this case apparently contains an error. Tampa Bay Associates was a creditor, not the debtor; the debtor 28 (continued...)

-10- 1 creditor Tampa Bay obtained stay relief from the bankruptcy court 2 to foreclose its lien on an apartment building owned by debtor DRW 3 Worthington. After the property was sold at a foreclosure sale, 4 Tampa Bay filed an amended proof of claim for the deficiency 5 remaining due after the sale. When DRW objected to the amended 6 claim, the bankruptcy court disallowed it, and the district court 7 affirmed. Id. at 49. The Fifth Circuit agreed with the lower 8 courts and concluded: 9 Section 1111(b)(1)(A) specifically states that “a claim secured by a lien on property of the estate shall be 10 allowed or disallowed under section 502 . . . the same as if the holder of such claim had recourse against the 11 debtor. . . .” Once Tampa Bay foreclosed on the property it extinguished the “claim secured by a lien” 12 necessary to invoke a section 1111(b) election. 13 Id. at 50-51; see also Nat’l Real Estate Ltd. P’ship–II v. Consol. 14 Cap. Partners (In re Nat’l Real Estate Ltd. P’ship-II), 104 B.R. 15 968, 975 (Bankr. E.D. Wisc. 1989) (“1111(b) only applies to ‘a 16 claim secured by a lien on property of the estate.’ When [the 17 creditor] completed its foreclosure of the property, its claim no 18 longer was secured by a lien on property of the estate, and 19 § 1111(b) no longer applied.”). 20 Mastan offers no case law supporting his interpretation of 21 § 1111(b)(1)(A) requiring that, if a claim is secured by a lien on 22 property of a debtor’s bankruptcy estate as of the date of the 23 case filing, an otherwise nonrecourse debt will thereafter be 24 afforded treatment as a recourse debt even though the property is 25 26 8 (...continued) 27 was DRW Worthington, Ltd. As reported in the Federal 2d Series, and in LEXIS and Westlaw, all have an incorrect caption, and thus 28 as cited by others, the error has been perpetuated.

-11- 1 sold at a foreclosure sale. Two other courts of appeals interpret 2 § 1111(b) in a manner consistent with the analysis of In re Tampa 3 Bay Assocs. See In re Brookfield Commons No. 1 LLC, 735 F.3d 4 596, 598 (7th Cir. 2013) (“The plain meaning of § 1111(b)(1)(A)is 5 unambiguous . . . . There is one prerequisite: the claim is 6 secured by a lien on the property of the estate.”); 680 Fifth Ave. 7 Assocs. v. Mutual Benefit Life Ins. Co. (In re 680 Fifth Ave. 8 Assocs.), 29 F.3d 95, 97 (2nd Cir. 1994) (“The plain meaning of 9 § 1111(b)(1)(A) does not limit itself to consensual or 10 nonconsensual liens. . . . The only precondition to the statute’s 11 application is a claim secured by a lien on property of the 12 estate.”). 13 In this case, under California law, the liens securing 14 Mastan’s claim were extinguished as a necessary consequence of the 15 nonjudicial foreclosure sale. Thoryk v. San Diego Gas & Elec. Co., 16 225 Cal. App. 4th 386, 399 (2014); Bank of Am. v. Graves (1996) 51 17 Cal. App. 4th 607, 611–16 (1996). Although Mastan’s original 18 proof of claim may have asserted a claim secured by liens on 19 property of the estate, as recognized in the APOC Mastan filed, 20 those liens were eliminated as a matter of law as a result of the 21 foreclosure. As a result, when Salamons’ objection to the claim 22 was considered by the bankruptcy court, Mastan no longer held a 23 lien on any property of the estate.9 Absent a lien on estate 24 property, the bankruptcy court did not err in deciding that 25 9 26 Indeed, Mastan conceded that the Property was no longer property of the estate after foreclosure: “The debtor’s position 27 is that somehow the foreclosure sale then divested this property of the estate, which I believe the foreclosure sale would it take 28 [sic] away from property of the estate, but that’s not the determination.” Hr’g Tr. 3:9–12, June 10, 2014. Unfortunately for Mastan’s position, as shown above, that is the proper determination.

-12- 1 § 1111(b)(1)(A) did not apply to the APOC, and under the anti- 2 deficiency laws of California, the claim was unenforceable. As 3 provided in § 502(b)(1), the bankruptcy court did not err in 4 disallowing the amended claim because it was unenforceable under 5 applicable law.10 6 CONCLUSION 7 We AFFIRM the order of the bankruptcy court disallowing 8 Mastan’s amended claim. 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 10 25 Like the bankruptcy court, because we base our decision on the plain language of § 1111(b)(1)(A) requiring that, to 26 convert a nonrecourse claim to recourse, the claim must be “secured by a lien on property of the estate,” we need not 27 consider the Fifth Circuit’s and other courts’ alternative reasoning for disallowing such a claim: that a foreclosure is 28 tantamount to a § 363 sale, and that therefore, Congress would intend that the exception in § 1111(b)(1)(A)(ii) apply. In re Tampa Bay Assoc., 864 F.2d at 50; In re Woodbridge N. Apts, Ltd., 71 B.R. 189, 192 (Bankr. N.D. Cal. 1987).

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