The U.S. Supreme Court issued its decision today in the consolidated cases of Bank of America, N.A., Petitioner v. David B. Caulkett, and Bank of America, N.A., Petitioner v. Edelmiro Toledo-Cardona, declining 9-0 to void the junior mortgage liens on the respondents’ homes when the senior lienholder’s debt exceeds the property’s value. This decision reverses the judgments of the Eleventh Circuit.
The facts in each of these cases are essentially the same. The debtors, respondents David Caulkett and Edelmiro Toledo-Cardona, each had 2 mortgages on their respective homes. The petitioner, Bank of America, holds the junior mortgage lien on each of the homes. The junior mortgage liens are completely underwater as the amount outstanding on the senior mortgage liens exceeds the current value of the homes. The debtors moved to have the junior mortgage liens voided, i.e., ‘stripped off”, under §506(d) of the Bankruptcy Code.
Section 506(d) states that “[t]o the extent that a lien secures a claim against the debtor that is not an allowed secured claim, such lien is void.” Therefore, the secured claim can be stripped off only if its right to repayment from the debtors is not an allowed secured claim. With minor exceptions that do not apply in these cases, a claim filed by a creditor is deemed “allowed” under Section 502 of the Bankruptcy Code if no interested party objects or, if an interested party objects, the bankruptcy court makes the determination that secured claim should be allowed. The parties in these cases had agreed that Bank of America’s claims were “allowed” claims. Their disagreement was over whether Bank of America’s claims were “secured” claims as defined under §506(d) of the Bankruptcy Code.
A straight reading of §506(d) of the Bankruptcy Code would tend to support the debtors’ construction of a secured claim. However, back in 1992, in Dewsnup v. Timm (502 U.S. 410), the Court came to a different interpretation that defined the term “secured claim” under §506(d) to mean a claim supported by a security interest in property, regardless of whether the value of that property would be sufficient to cover the claim. This interpretation essentially limited §506(d)’s application to voiding only those liens where the claim it secures has not been allowed.
To remain consistent with its prior decision, the Court reversed the lower court decisions and refused to void Bank of America’s junior mortgage liens. The Court noted that it was not being asked to overrule its decision in Dewsnup and noted to decide as requested by the debtors, it would in the same term having more than one definition and would leave an “odd statutory framework in its place.” One has to wonder what the Court’s decision would have been if it was in fact asked to overrule Dewsnup.
The end result is Bank of America’s junior liens remain in place on the homes. Bank of America won the battle in protecting its future interest as a junior lien holder. However, if the bankruptcy courts were to grant a motion for the senior lenders to proceed with foreclosure actions, Bank of America’s junior liens could still be stripped if the winning bids at sheriff’s auction are not high enough to cover both the senior and junior liens.