There Can Be Grace for Debtors in Default

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By Deborah Swann

Bankruptcy courts aren’t compelled to dismiss a Chapter 13 case if debtors fall short of meeting the deadline for paying creditors under a court-approved plan, a federal appeals court ruled ( In re Klaas , 2017 BL 183952, 3d Cir., No. 16-3482, 6/1/17 ).

Bankruptcy courts have the discretion to allow debtors to cure, or remedy, any default in their repayment plan, which usually gives them between three and five years to wipe out their debts, the U.S. Appeals Court for the Third Circuit held June 1.

It ruled on a question previously not considered at the appellate level—whether the maximum five-year plan period imposes a drop dead date for making payments.

In this case, the bankruptcy court was well within its authority to grant a brief grace period after the payment plan expiration in order to get things wrapped up if debtors were willing and able to do so and the extension didn’t harm creditors, the appeals court said.

In Chapter 13, a debtor’s plan to resolve outstanding debts uses future earnings to cover claims against the estate.

Here, the debtors failed to remit sufficient funds over five years because of an increase in fees paid to the bankruptcy trustee. They were informed of the shortfall after the plan term expired, but were granted a grace period to cure the shortfall, which they did.

When all payments were completed, the debtors were discharged of their debts.

But a creditor argued that the debtors had no right to extend their payments. Their case should have been dismissed because the maximum five-year term under the plan imposed a firm date to complete payments.

The Third Circuit went out of its way to say that a debtor has no absolute right under the bankruptcy law to cure a shortfall after the time limit for paying up has passed. But, again, noted that bankruptcy courts do have discretion.

The appeals court drew a distinction between the Bankruptcy Code’s prohibitive and permissive language. The court “may not” confirm a plan or changes in a plan that propose a payment term greater than five years. But once a plan is in place, the court “may” but is not required to dismiss a case for cause under Section 1307 of the Bankruptcy Code.

The criteria for plan confirmation differs from the criteria for dismissal.

Paul E. and Beth Ann Klaas were represented by Phillip S. Simon, Pittsburgh. Aurelius P. Robleto, Pittsburgh, represented creditor Elizabeth Shovlin.

To contact the reporter on this story: Deborah Swann in Washington at dswann@bna.com

To contact the editor responsible for this story: Jay Horowitz at JHorowitz@bna.com

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