In re Diaz, 547 B.R. 329 (9th Cir. BAP 3/11/2016)
In In re Diaz, 547 B.R. 329 (9th Cir. BAP 3/11/2016), the U.S. Bankruptcy Appellate Panel for the Ninth Circuit (the “BAP”) vacated the Bankruptcy Court’s order sustaining the chapter 7 trustee’s objection to the debtor’s homestead exemption under Cal. Civ. Pro. Code §740.730(a) and remanded the case for further proceedings. Under California law, the relevant factors for determining if a debtor resides in a property are the physical fact of occupancy and the debtor’s intent to live there. In ruling on the debtor’s claimed homestead exemption, the bankruptcy court considered that the debtor had not resided in the property on the petition date and considered the debtor’s inability to live in the property but failed to consider the debtor’s intent to reside in the property. In that regard, the BAP held that the bankruptcy court had incorrectly interpreted California law.
Following is an analysis of the Diaz case that ran in the 8/22/16 California State Bar Insolvency Committee e-newsletter, written by a San Francisco attorney on that Committee, Stephen Finestone:
Facts:
Prior to 2011, the debtor married Rebecca Wilson Diaz (“Rebecca”). The couple had one child. Before filing bankruptcy in 2013, debtor suffered through several personal setbacks. In 2011, he suffered two major brain aneurysms. The aneurysms required multiple surgeries and after the surgeries, he was in a coma for several weeks. As a result of his aneurysms, debtor suffered from stroke like symptoms rendering him unable to walk or talk. After months in a medical facility, debtor was released to the care of his mother, who lived on the same block where debtor owned a home, while relatives resided in debtor’s home (the “Property”). Debtor and Rebecca divorced in 2011, though it is not clear from the opinion whether the divorce was before or after his health challenges.
Debtor continued with his recovery under the care of his mother but was unable to work and was receiving Social Security Disability benefits when he filed a chapter 7 bankruptcy in November 2013 (the “Petition Date”). At the time of filing, debtor was still under his mother’s care at her home and his relatives lived in the Property.
Debtor initially claimed the wildcard exemptions, but after the chapter 7 trustee sought turnover of the Property, debtor amended his Schedule C to assert a homestead exemption of $175,000 under California Code of Civil Procedure section 704.730(a)(3). The trustee objected to the homestead exemption on the basis that debtor did not reside in the Property on the Petition Date and his absence was not temporary as debtor’s health made it unlikely that he would resume living in the Property.
The trustee’s objection was supported by a declaration from Rebecca (the largest creditor in the case), which stated, among other things, that 3 ½ years after his aneurysms, debtor still could not take care of himself; he requires constant care from his mother or brother; the Property was occupied by debtor’s brother and sister-in-law; debtor has only spent a few nights at the Property since his release from medical care, and only then with the care of his mother or brother; the bulk of debtor’s personal effects were at his mother’s house; when debtor’s son visits him, he does so at debtor’s mother’s house; and, all correspondence between Rebecca and debtor was sent to the mother’s house and all interactions between them took place there.
Debtor responded to the trustee’s objection by noting: he had made great strides in his recovery (attaching letters from his doctors to that effect); he used the Property address for voting registration, his driver’s license and his mail; the mortgage and utilities for the Property were in his name; he still had his personal belongings at the Property and a separate bedroom there; and he was taking independent living classes.
The trustee filed a reply brief and the matter went to hearing before the bankruptcy court. The judge sustained the trustee’s objection, noting that although the situation was a sad one, there was a large amount at stake with the exemption, the debtor had not lived at the Property for 3 ½ years as of the Petition Date, and it appeared the relatives were the ones who benefited from debtor’s conduct in asserting the exemption.
In response to matters raised by debtor’s counsel, the judge further clarified her remarks by noting that she was suspicious as to the facts and circumstances of the filing, whether debtor was capable of making the decision to file, and again focused on the benefit to the relatives occupying the Property and the size of the exemption. Debtor then timely appealed.
Reasoning:
The BAP determined that physical occupancy of the property on the Petition Date was not central to the residency requirement for a homestead exemption under California law. The bankruptcy court did not consider debtor’s intent respecting residency. Thus, the bankruptcy court had applied an incorrect legal standard. The BAP also held that the burden of proof was to be determined with reference to state law, which was relevant given that the BAP remanded the case for further hearing.
The BAP began by noting that the 1983 amendment to California’s homestead provision changed the language of the statute from “actually resided” to “resided” in the homesteaded dwelling, making clear that a temporary absence from the home did not preclude assertion of the homestead. The BAP then cited California law for the proposition that the relevant factors for determining whether a debtor “resides” in a property are the “physical fact of the occupancy of the property and the debtor’s intention to live there.”
California law further provides that the lack of physical occupancy does not preclude establishing residency if the debtor intends to return to live there. The BAP referenced various California cases on that issue, including one holding that a three year absence from the homestead did not preclude claiming an exemption. On the other hand, the BAP also noted that simple occupancy without intent was insufficient to support a homestead exemption.
Turning back to the bankruptcy court’s decision, the BAP noted that the bankruptcy court interpreted California law as requiring physical occupancy on the Petition Date. The BAP also commented on the bankruptcy court’s focus on the amount of the exemption and the fact that debtor’s relatives would benefit from allowance of the exemption. The BAP indicated that the bankruptcy court’s considerations were misplaced, as its focus should be on debtor’s intent, and there was no evidence that the court had considered the intent. Since evidence of debtor’s intent was not “sufficiently developed”, the BAP held that the record below should be reopened to permit additional evidence and guided the lower court by directing that the debtor’s inability to live unassisted, the amount of the exemption at issue or the fact that family members may benefit from having the exemption allowed were not relevant factors.
The BAP next turned to the question of the burden of proof under Bankruptcy Rule 4003(c), which provides in pertinent part “the objecting party has the burden of proving that the exemptions are not properly claimed.” The burden of proof in exemption disputes has received much discussion since the Supreme Court ruling in Raleigh v. Illinois Dep’t of Revenue, 530 U.S. 15 (2000) (“Raleigh”). Raleigh, which involved the burden of proof on an objection to claim, held that the burden of proof regarding claims is an essential element of the underlying substantive claim and is, therefore, a substantive rather procedural matter. As a substantive matter, the burden of proof would be determined by reference to state law rather than federal bankruptcy law as the Bankruptcy Rules Enabling Act (28 U.S.C. section 2075) prohibits rules that alter substantive rights.
With respect to California law, CCP section 703.850(b) places the burden of proof on the party claiming the exemption. (See also CCP section 704.780 – specific to homestead exemptions). The BAP cited to various bankruptcy court level decisions on the issue, all of which determined that Raleigh requires the use of the California burden of proof in exemption litigation. See e.g. In re Tallerico, 532 B.R. 774, 788 (Bankr. E.D. Cal 2015) (decided by Judge Klein); In re Pashenee, 531 B.R. 834, 837 (Bankr. E.D. Cal 2015) (decided by Judge Jaime).
The BAP joined with the lower court decisions, in particular noting the Tallerico decision, and concluded that when a state court exemption statute allocates the burden of proof to a debtor, Bankruptcy Rule 4003(c) does not change the allocation (finding that the Ninth Circuit’s decision in Carter v. Anderson (In re Carter), 182 F.3d 1027, 1029 (9thCir. 1999), had been effectively overruled or rendered inapplicable by Raleigh).
Commentary:
The two important rulings in the case involve the California homestead exemption and the burden of proof relating to exemption disputes. An objecting creditor or trustee must demonstrate that a debtor did not intend to occupy the property in question in order to prevail on exemption litigation. Where the debtor happened to be living at the filing date is of limited importance depending on the facts of a given case.
With respect to the burden of proof issue, one ought to review the extensive discussion by Judge Klein in In re Tallerico, which reviews the history of Bankruptcy Rule 4003 and concludes that Rule 4003(c) is invalid to the extent it shifts the burden contrary to state law (in cases where a state has opted out of the federal exemptions). Some courts have suggested that Raleigh may be distinguishable on the basis that it involved a claim objection rather than an objection to an exemption. See e.g. In re Greenfield, 289 B.R. 146 (Bankr. S.D. Cal. 2003) (Judge Bowie), but Judge Klein’s discussion in Tallerico argues that there is no “principled difference” between objections to section 502 claims and objections to section 522 claims of exemption. This author could not find any circuit court level decisions on the issue of the burden of proof in exemption litigation. Obviously, which party bears the burden of proof is an important consideration in a close case.