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The Truth in Lending Act in Bankruptcy

Bankruptcy Court May Require Debtor To Demonstrate Ability To Tender

In Yamamoto v. Bank of New York (In re Yamamoto), 329 F.3d 1167 (9th Cir. 2003), the Ninth Circuit held that a bankruptcy court may require the debtor to demonstrate that it can tender the rescission amount under the Truth in Lending Act ("TILA"). In Yamamoto, the bankruptcy court gave the debtor sixty days to prove that it could tender rescission and, when the debtor failed to do so, the court dismissed the debtor's TILA action. The Ninth Circuit affirmed the bankruptcy court's ruling and held that a bankruptcy judge can modify the sequence of events in a TILA action.

Debtor May Use TILA Defenses To Object To Creditor’s Claim After One-Year Bar To TILA Lawsuit Has Run

The one-year statute of limitations for initiating a TILA action does not prohibit a debtor from using TILA to object to a proof of claim filed by creditor because the TILA claim may be raised under a "recoupment" theory rather than as an affirmative defense. In re Norris, 138 B.R. 467 (Bankr. E.D. Pa. 1992); In re Jones, 122 B.R. 246 (Bankr. W.D. Pa. 1990).

Debtor Cannot Use Right to Rescind To Defeat Creditor’s Claim After Rescission Claim Has “Expired”

A debtor may not use right of rescission after the three-year period to object to a creditor’s claim has run. The debtor’s right to "recoupment" exists despite a limitation on the time for initiating an action, but it does not exist where the underlying right has been extinguished. TILA provides for a three-year “expiration” period on the right of rescission, not merely a limit on time for filing suit. Beach v. Ocwen Federal Bank, 523 U.S. 410 (1998).

TILA Claims Belong To Bankruptcy Estate After Debtor Files Bankruptcy Petition

Under 11 U.S.C. § 541(a), a debtor’s claims under TILA become property of the bankruptcy estate, including pending actions. Thereafter, the debtor lacks standing and only the bankruptcy trustee may assert the claims. Riggs v. Government Emp. Financial Corp., 623 F.2d 68, 73 (9th Cir. 1980); In re Branch, 368 B.R. 80, 84 (Bankr. D.Colo. 2006), citing In re Boganski, 322 B.R. 422 (9th Cir. BAP 2005).

However, the debtor may retain standing to prosecute TILA claims if the trustee abandons the claims. Abandonment may “ratify” debtor’s standing if debtor made an “understandable mistake” in initiating or continuing a TILA action, as opposed to a strategic manipulation. Cullen v. Bank One Corp., 145 Fed. Appx. 192, 193 (9th Cir. 2005) (unpublished opinion), citing Dunmore v. United States (In re Dunmore), 358 F.3d 1107, 1112-1113 (9th Cir. 2004).
Moreover, the debtor may retain standing if the TILA claims are covered by the debtor’s exemptions such as the “wildcard” exemption provided in 11 U.S.C. § 522(d)(5). Matter of Smith, 640 F.2d 888 (7th Cir. 1981); In re Siegle, 257 B.R. 591, 595 (Bankr. D.Mont. 2001).

The debtor is not entitled to TILA protections where the debtor illegally encumbers property owned by the bankruptcy estate. For example, in In re Crevier, 820 F.2d 1553 (9th Cir. 1987), the Ninth Circuit ruled that the debtor who mortgaged a residence after filing chapter 7 bankruptcy petition failed to state a cause of action under TILA because title to residence vested in the bankruptcy estate and debtor could not convey a security interest therein. Id. at 1556-1557.

Attorneys Prosecuting TILA Claims On Behalf Of Bankruptcy Estate Must Seek Court Approval For Employment

A trustee or debtor-in-possession may employ an attorney who represented the debtor, for a special purpose only upon court approval. 11 U.S.C. § 327(e). An attorney’s fees are not entitled to priority over other creditors unless the court approved the retention, and a nunc pro tunc order authorizing payment is justified “only in exceptional circumstances where the attorney provides a satisfactory explanation for failure to obtain approval in advance.” In re Occidental Financial Group, Inc., 40 F.3d 1059, 1062 (9th Cir.1994); but see Palmer v. Statewide Group, 134 F.3d 378 (9th Cir. 1998)(unpublished opinion)(attorney successfully prosecuting TILA claim for debtor, did not seek approval for employment, was entitled to award of attorney fees because work was done pre-petition; attorney was a general creditor of the debtor).

New Provisions Added By BAPCPA: TILA Claims Survive Sale “Free And Clear” Of Other Interests.

A trustee or debtor-in-possession may sell property of the bankruptcy estate “free and clear” of interests other than the estate’s interests, including liens, under certain circumstances. 11 U.S.C. § 363(f). The Bankruptcy Abuse and Consumer Protection Act Of 2005 ("BAPCPA") added a new provision that preserves a consumer’s TILA claims and defenses through the sale of the debt “free and clear” of other interests, as follows:

Notwithstanding subsection (f), if a person purchases any interest in a consumer credit transaction that is subject to the Truth in Lending Act or any interest in a consumer credit contract (as defined in section 433.1 of title 16 of the Code of Federal Regulations (January 1, 2004), as amended from time to time), and if such interest is purchased through a sale under this section, then such person shall remain subject to all claims and defenses that are related to such consumer credit transaction or such consumer credit contract, to the same extent as such person would be subject to such claims and defenses of the consumer had such interest been purchased at a sale not under this section.
11 U.S.C. § 363(o). This provision is applicable, for example, where the debtor is a mortgagee and the bankruptcy trustee sells a mortgage to a buyer. In this case, the entity entitled to TILA claims and defenses will be a third party, not the debtor.

TILA Does Not Apply To Debt Reaffirmation Agreements

After the debts are discharged in bankruptcy, the debtor may voluntarily reaffirm debts, but the reaffirmation agreement is binding only if the procedure in 11 U.S.C. § 524(c) and (d) are followed, including filing the agreement with the court and a hearing, if applicable. In re Kamps, 217 B.R. 836, 841 (Bankr. C.D. Cal. 1998). TILA does not apply to reaffirmation agreements. “In specifying the new disclosures required when there is a change in a credit agreement, Regulation Z states that no new disclosures are required where the change results from ‘an agreement involving a court proceeding.’” In re Bassett, 255 B.R. 747, 759 (9th Cir. BAP 2000), aff'd in part, rev'd in part on other grounds, 285 F.3d 882 (9th Cir. 2002).

Bankruptcy Discharge Does Not Offset TILA Claims

A creditor cannot apply a bankrupt’s debts to reduce the debtor’s award of damages for TILA claims. Debts discharged in bankruptcy cannot be offset against claims for statutory damages under TILA. Newton v. Beneficial Finance Co. of New Orleans, 558 F.2d 731 (5th Cir. 1977).