District Court Reverses Bankruptcy Court Order Imposing Sanctions on Mortgage Servicer | Smith Debnam Narron Drake Saintsing & Myers, LLP

The United States District Court for the Eastern District of North Carolina recently overturned an order of the United States Bankruptcy Court for the Eastern District of North Carolina. Bankruptcy court order convicted mortgage manager Newrez, LLC (“Newrez”) and the mortgage note holder in civil contempt for failure to comply with the terms of the Chapter 11 plan confirmed by the debtors individual (the “Plan”). Newrez, LLC v Beckhart, n ° 7: 20-cv-00192-BO, 2021 US Dist. LEXIS 125293, at * 1 (EDNC July 6, 2021). The district court held that the nebulous terms of the plan, coupled with Newrez’s good faith reliance on counsel’s advice to interpret those terms, were sufficient to establish that Newrez had an objectively reasonable basis for his conduct, l ‘thus isolating civil penalties for contempt. under the rule established in Taggart vs. Lorenzen, 139 S. Ct. 1795 (2019). The court overturn emphasizes the benefits for a creditor of obtaining legal advice when bankruptcy court orders governing the creditor’s claim are unclear.

The controversy centered on the Plan’s treatment of Newrez’s secured debt. By the time the debtors filed their Chapter 11 voluntary case in 2009, they owned a mortgage-backed beach house with over $ 22,000 in arrears, resulting from ten months of payments. missed. The Scheme made no provision for repayment of pre-claim arrears or for post-claim payments that were due prior to confirmation. This was confirmed despite the objection of Newrez’s predecessor in late 2010, and debtors began making payments under the plan around the same time. Newrez began servicing the mortgage in 2014 and treated the loan as if it were in default from that date until 2019, based on the large unpaid arrears. Debtors have repeatedly argued that the loan is up to date based on the terms of the plan and have challenged Newrez’s determination that it was in default.

In January 2020, the debtors filed a petition in bankruptcy court to convict Newrez and the loan holder of civil contempt for breaching the terms of the plan and demanded significant penalties. Following an evidentiary hearing, the bankruptcy court issued an order finding Newrez and the holder guilty of civil contempt and assessing financial penalties in excess of $ 110,000, consisting primarily of lost wages, loss of ‘a fresh start and legal fees. Newrez appealed and the district court overturned.

In analyzing the bankruptcy court order, the district court set out the standard of civil contempt clarified by the Supreme Court in Taggart: A creditor may be found guilty of civil contempt for breach of an order of a bankruptcy court if there is not “good cause in doubt as to whether the order prohibited the conduct of the creditor ”. Taggart, 139 S. Ct. At 1799. Thus, civil contempt is only appropriate when there is “no objectively reasonable basis for concluding that the conduct of the obligee might be lawful”. Identifier.

In finding that there was just cause for doubt as to whether the Plan required Newrez to treat the mortgage as outstanding and not in default, the Court focused on the multiple issues that the Plan left unanswered regarding the mortgage:

Nothing in the confirmation order expressly stated what amount [the debtors] would be liable on the loan as of November 25, 2010 or how the $ 22,836.40 of pre-petition arrears would be repaid, if any. Although the order set a due date for the first payment, it offered no indication of the amount of that payment.

Beckhart, 2020 Dist. LEXIS 125293, to * 7. Further, the court noted that the terms of the plan created further confusion, because the plan purported to leave the rights of the mortgage holder unchanged except as expressly provided in the plan, but the plan did not expressly provide for no processing of arrears or post-request payments. Identifier. Likewise, the court concluded that, because Newrez had repeatedly sought the advice of an outside lawyer and relied on it to conduct himself under the scheme, he had an objectively reasonable basis for believing that his conduct was legal. Identifier. to * 8-9 (citing Waller vs. Sprint Mid Atl. Phone., 77 F. Supp. 2d 716, 722 (EDNC 1999)). He also found that the same recourse to an outside lawyer made it clear that Newrez had acted in good faith in adopting a reading of the plan “which appeared to conform to the contractual terms of the loan”. Identifier. to 8. Because Newrez established both that there was good cause for doubt as to whether the Plan prohibited his conduct, and because he had an objectively reasonable basis for acting as he did, the court found that the bankruptcy court order finding him in contempt fell short of the standard required for a verdict of civil contempt, ”and quashed the order and referred the case back to bankruptcy court for further processing.

Beckhart has the dual advantage of a creditor seeking competent legal advice when there is a question about the interpretation or effect of bankruptcy court orders on the creditor’s claims. First, relying on the advice of a lawyer can help establish that a creditor acted in good faith, which is important since Taggart did not exclude the possibility of insulting a creditor when he acts in bad faith. See Taggart, 139 S. Ct. At 1802 (“Our cases suggest, for example, that civil contempt penalties may be justified when a party acts in bad faith.”). Second, acting on the advice of good faith counsel may provide an objectively reasonable basis for the creditor to conclude that his conduct is authorized under the order in question. This is particularly advantageous when, as in Beckhart, the order is unclear and subject to multiple reasonable interpretations.

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