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Fifth Circuit Reverses Ruling Allowing Lien to Be Enforced on Chapter 7 Debtor's Home - Smith v. H.D. Smith Wholesale Drug Co.

October 19, 2011

Our Moreno Valley consumer bankruptcy attorneys were interested to read a bankruptcy case that considered whether a debtor must be compelled to sell his house and turn over part of the proceeds to a creditor with a legal judgment against him. Smith v. H.S. Smith Wholesale Drug Co. is not exactly a foreclosure case because Michael Ray McCombs of Texas sold his home voluntarily. Rather, the dispute was over whether H.S. Smith, which obtained a lawsuit judgment against McCombs, was entitled to enforce a lien on the home and thus collect a portion of the proceeds. The case was further complicated by an agreement between McCombs and his non-debtor wife, Alicia Atkinson McCombs, providing that Atkinson was entitled to the proceeds of the home sale. Ultimately, the Fifth U.S. Circuit Court of Appeals concluded that H.D. Smith's lien was unenforceable.

McCombs and Atkinson purchased their home and the adjoining vacant lot in 2004. In 2006, H.D. Smith won a lawsuit against McCombs for a judgment of about $538,000, and a few months later filed an abstract of judgment against his property. During that year, McCombs and Atkinson signed an agreement that Atkinson would be entitled to proceeds from sale of their house, and then found a buyer. While that sale was pending, in November of that year, McCombs filed for Chapter 7 bankruptcy. The trustee filed a petition to sell the house free of any encumbrances, and all parties agreed to put the proceeds in escrow until the bankruptcy court determined how they should be divided. A later sale of the adjacent lot was subject to the same agreement; together, the sales netted $514,095. H.D. Smith then filed an adversary proceeding seeking to recover its debt. The bankruptcy court ultimately found for H.D. Smith, holding that its lien was perfected prior to the bankruptcy and rejecting Atkinson's various claims. The trustee and Atkinson both appealed and were granted a direct appeal to the Fifth Circuit.

The Fifth Circuit ultimately found against H.D. Smith, though not because of Atkinson's homestead right. Rather, it found that the lien was per se unenforceable under Texas law. When property is a debtor's homestead, the Texas constitution creates only limited circumstances under which a lien is enforceable, and the appeals court found that this is not such a circumstance. It rejected H.D. Smith's argument that the bankruptcy code's homestead cap converts the lien to an enforceable one, noting that state law controls this analysis. However, the court stressed that while it rejected the lien, it did not rule on whether H.D. Smith had another interest in the estate; it said the company should have the same priority as a creditor that it would have if there was no bankruptcy. The Fifth next ruled that Atkinson's claims on appeal were waived by her failure to bring them up properly in a statement of issues on appeal. Because the case was certified for direct appeal to the Fifth Circuit rather than heading first to district court, the appeals court took the trouble to rule that a statement of issues to a lower court can be applied in direct appeal cases.

As Anaheim personal bankruptcy lawyers, we're pleased that this case got a quick resolution. It appears that the lien ruling in favor of McCombs was not difficult to reach under Texas law, which suggests that the bankruptcy court simply erred. Regardless of how much money ultimately gets distributed to Atkinson, the ruling means McCombs will have more money to meet his obligations to all creditors, including but not limited to H.D. Smith. The company is still likely to receive some of its judgment, but it has to get in line with other creditors. The ruling is also good news for other Texans with liens on their homes, who may be able to address the issue with bankruptcy if that's appropriate in other areas of their financial lives. As Leucadia individual bankruptcy attorneys, we are generally in favor of any rulings that help debtors get back on their feet faster.

If you're considering bankruptcy as a way to address debts you don't believe you can handle on your own, Howard Law, P.C., can help. To tell us your situation and learn more about your options, call us toll-free at 1-800-872-5925 or send us a message through our website.

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