Sixth Circuit Bars Chapter 13 Debtors from Making Postpetition Voluntary Retirement Contributions
On February 15, 2012, the U.S. Court of Appeals for the Sixth Circuit affirmed a judgment of the bankruptcy appellate panel (BAP) holding that postpetition income that would become available to chapter 13 debtors upon full repayment of their 401(k) loans was estate property and “projected disposable income” to be committed under a plan for payment to unsecured creditors.
Debtors’ Bankruptcy Filings and Chapter 13 Plans
In 2008, Deborah Seafort and Frederick Schuler (collectively, debtors) each filed a chapter 13 bankruptcy petition. At the time of the bankruptcy filings, debtors were not making any contributions to their employers’ 401(k) plans but were in the process of repaying 401(k) loans to those plans. Their respective chapter 13 plans called for a five-year repayment period but proposed full repayment of the 401(k) loans prior to the end of the commitment period. Neither plan provided for an increase in plan payments to creditors once debtors repaid their 401(k) loans. Instead, the plans proposed that after the 401(k) loans were paid in full debtors would begin making contributions to their 401(k) retirement plans. The chapter 13 trustee objected to the plans, challenging debtors’ intention to exclude their proposed postpetition 401(k) contributions from their estate property and projected disposable income calculations in light of the fact that they were not contributing anything to their retirement plans at the time they filed for bankruptcy.
After consolidating the two cases, the bankruptcy court held that “because § 541(b)(7) excludes contributions to a 401(k) plan from property of the estate and disposable income, Debtors were allowed to exclude their proposed 401(k) contributions from disposable income.” The BAP reversed the ruling and held that: (1) the section 541(b)(7) exclusions only apply if a debtor is contributing to the plan as of the petition date; and (2) postpetition income that becomes available once a debtor repays a 401(k) loan is not excluded from estate property or disposable income and must be committed to a chapter 13 plan. Debtors’ appeal followed.
The Statutory Framework
The Sixth Circuit explained that under 11 U.S.C. § 1325(b)(1)(B) once a trustee or unsecured creditor objects to confirmation of a chapter 13 plan, a court may not approve the plan unless it provides that all of a debtor’s projected disposable income will be applied to make payments to unsecured creditors. In calculating projected disposable income—defined generally as a debtor’s current monthly income less amounts reasonably necessary for the debtor’s maintenance or support—the court may consider “changes in the debtor’s income or expenses that are known or virtually certain at the time of confirmation.” Thus, because the respective trustees objected to debtors’ plans, the bankruptcy courts’ decisions to account for the postpetition income available to debtors upon repayment of their 401(k) loans was proper. The only remaining question was whether such income must be committed to debtors’ plans as “projected disposable income” or whether it is excluded from estate property and disposable income.
The Court observed that while both 401(k) loans and 401(k) contributions used to be considered “disposable income,” the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA), Pub.L. 109-8, “added two exclusionary sections of importance here.” First, 11 U.S.C. § 1322(f) now clearly excludes from the calculation of disposable income any amounts required to repay 401(k) loans. Second, section 541(b)(7) excludes from the definition of “Property of the estate”—defined generally by section 541(a)(1) to include “all legal or equitable interests of the debtor in property as of the commencement of the case—any amounts withheld by the debtor’s employer as voluntary contributions to a qualified employee benefit plan. The statute also excepts such withholdings from the definition of “disposable income” under section 1325(b). Notwithstanding this exclusion, the Court explained that 11 U.S.C. § 1306separately defines “Property of the estate” for chapter 13 purposes, and while it expressly incorporates section 541 into its definition, it also includes “(1) all property of the kind specified in such section that the debtor acquires after the commencement of the case but before the case is closed . . .; and (2) earnings from services performed by the debtor after the commencement of the case but before the case is closed.” In other words, while section 541 fixes “property of the estate” as of the date of filing, section 1306(a) adds property interests which arise postpetition to the definition.
Competing Interpretations of §541(b)(7)
The Court observed that the apparent contradiction among these statutes has resulted in a trifurcation of opinion among courts that have analyzed the issue. The majority of courts have read section 541(b)(7) to limit voluntary retirement contributions to those amounts being made as of the petition date. Under this reading, a debtor may continue making voluntary contributions in the same amount that he or she was contributing at the time of filing and section 541(b)(7) excludes from property of the estate only 401(k) contributions that are being made at the commencement of the case.
A second line of cases hold that all voluntary pre- and postpetition retirement contributions are permitted under section 541(b)(7), regardless of whether the debtor was making such contributions at the time of filing. See In re Johnson, 346 B.R. 256 (Bankr. S.D. Ga. 2006). Johnson and its progeny reason that not all sources of income must be committed to a chapter 13 plan; rather, section 541(b)(7)(A) and (B) exclude “‘any amount’ that is either ‘withheld by’ or ‘received by’ a debtor’s employer for qualifying [employee benefit plans], deferred compensation, tax-deferred annuities, or state-law regulated health insurance plans” from the definition of disposable income. The Johnson decisions also note the protections afforded by section 1322(f) to repayments of loans from employee 401(k) plans. In the view of these courts, the exclusionary language of the respective statutes evidence a clear intent by Congress to “place retirement contributions outside purview of a chapter 13 plan.”
The third line of cases hold the view, first espoused by In re Prigge, 441 B.R. 667 (Bankr. D. Mont. 2010), that section 541(b)(7) does not permit postpetition voluntary retirement contributions in any amount, regardless of whether the debtor was making pre-petition retirement contributions. The Prigge court observed that Congress created an exclusion from disposable income for amounts needed to repay a loan from the debtor’s retirement plan in section 1322(f), but did not create a similar provision to exclude voluntary 401(k) contributions from disposable income. Thus, section 541(b)(7) merely serves “to clarify that retirement contributions withheld pre-petition and still in the employer’s possession on the petition date do not constitute estate property or postpetition disposable income.”
Court Finds Prigge Most Persuasive
The Court acknowledged that section 541(b)(7) was “inelegantly drafted” but ultimately determined that the holding in Prigge was most consistent with the statutory language, legislative history, and the overriding purpose of BAPCPA. The Court observed that the “easy inference” to be drawn from the fact that Congress placed 401(k) loan repayments within chapter 13 itself but placed the exclusion for voluntary retirement contributions elsewhere was that “Congress did not intend to treat voluntary 401(k) contributions like 401(k) loan repayments.” In the Court’s opinion, “the most natural reading of section 541(b)(7) is that it excludes from property of the estate only those contributions made before the petition date” as “indicated by its specifying the contributions excluded from property of the estate and then stating that `such amount’ shall not constitute disposable income.” It also agreed with Prigge that section 541(b)(7)’s function was merely to clarify that pre-petition retirement contributions fall outside the definitions of property of the estate and post-petition disposable income.
Accordingly, the Court held that the future income that would become available once debtors’ 401(k) loan repayments were complete was properly committed to the plans for distribution to unsecured creditors and could not be used to make voluntary retirement contributions to debtors’ 401(k) plans.
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