Contributed by Yvanna Custodio
Bank of America, N.A. v. Caulkett and Bank of America, N.A. v. Toledo-Cardona are consolidated cases currently before the United States Supreme Court. In both Caulkett and Toledo-Cardona, the Supreme Court is being asked to reverse decisions of the United States Court of Appeals for the Eleventh Circuit, which affirmed decisions of the lower courts allowing the individual chapter 7 debtors to “strip off” the junior liens on their homes when their respective first priority mortgages were underwater.
In its brief, Bank of America invoked the Supreme Court decision in Dewsnup v. Timm, which held that section 506(d) of the Bankruptcy Code did not allow the debtor to “strip down” the creditor’s lien because the claim was fully allowed under section 502. Although Dewsnup involved a mortgage that was only partially underwater and did not involve the strip-off of a junior lien, Bank of America argued that the Dewsnup principle (which it asserts should no longer be revisited because Dewsnup was correctly decided) applied “with equal force to any lien – whether it is junior or senior or partially or wholly underwater.”
The cases have generated interest among trade associations in the financial industry, thus spurring the filing of briefs by amici curiae urging the reversal of the Eleventh Circuit decision. Affirmance of the decision, the amici argue, could ripple through the commercial loan market, impact the holders of junior liens, and dampen their appetite to lend on a junior basis. In particular, the amici point to the “destabilizing effects of an adverse decision in these cases on the $40 billion-dollar market for commercial loans secured by inferior liens.” Although the amici acknowledge that a chapter 11 debtor could limit a secured creditor’s recovery to the value of its collateral, they argue, citing RadLAX, that “Chapter 11 sanctions such a limitation only in the context of the highly structured process for plan confirmation, which provides numerous substantive and procedural protections for the lender.” (You can read more about the Supreme Court decision in RadLAX here.) The amici assert that permitting a debtor automatically to strip liens under section 506(d), however, would deprive the junior lienholder of “the market tests [the Supreme Court] has found so central to the Chapter 11 process.” Likewise, the amici invoke Dewsnup and argue, among other things, that because junior liens are property rights, stripping them off would amount to a taking without due process of law, thus implicating constitutional concerns.
Oral argument is set for March 24, 2015. Given the potential ramifications of an adverse decision on this issue, we will continue to monitor this case and update you when the Supreme Court renders a decision.