Johnson et al v. Department of Housing & Urban Developement et al

UNITED STATES BANKRUPTCY COURT
EASTERN DISTRICT OF NORTH CAROLINA
RALEIGH DIVISION
IN RE:
LEROY JOHNSON AND
BEVERLY MAE JOHNSON
Debtors
CASE NO.
05-01168-5-ATS
LEROY JOHNSON AND
BEVERLY MAE J0HNSON
Plaintiffs
v.
DEPARTMENT OF HOUSING AND URBAN
DEVELOPMENT
Defendant.
ADVERSARY PROCEEDING NO.
S-06-00051-5-AP
MEMORANDUM OPINION
The trial of this adversary proceeding to recover a prepetition
setoff made against a debt owed by the chapter 7 debtors, Leroy Johnson
and Beverly Mae Johnson, to the Department of Housing and Urban
Development ("HUD"), was held in Raleigh, North Carolina on December 6,
2006. The court entered an interim order on December 22, 2006,
SO ORDERED.
SIGNED this 08 day of March, 2007.
________________________________________
A. Thomas Small
United States Bankruptcy Judge
____________________________________________________________
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requesting additional argument on specific issues related to the
interpretation of 11 U.S.C. § 553(b). A telephonic status conference
was conducted, and an additional hearing took place on February 7,
2007.
This bankruptcy court has jurisdiction over the parties and
the subject matter of this proceeding pursuant to 28 U.S.C. §§
151, 157, and 1334, and the General Order of Reference entered
by the United States District Court for the Eastern District of
North Carolina on August 3, 1984. This is a "core proceeding"
within the meaning of 28 U.S.C. §§ 157(b)(2)(F) and (O), which
this court may hear and determine.
The debtors filed a petition for relief under chapter 7 of the
Bankruptcy Code on March 29, 2005. Prior to the debtors' filing of the
petition, the Internal Revenue Service, pursuant to 26 U.S.C. § 6402(d)
and 31 U.S.C. § 3720A (collectively, the "intercept statute") offset
the amount of $2,079 from the debtors' 2004 tax refund. The offset
occurred on or about February 11, 2005. The IRS applied this offset to
the debtors' indebtedness to HUD, which derived from a home loan made
to the debtors and guaranteed by HUD in June 1990 and on which the
debtors defaulted in October 2001. The issue at trial was whether the
debtors may recover the tax refund on grounds that it was an improper
preferential transfer or setoff, which should instead be returned to
the debtors as property they seek to claim as exempt.
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The debtors filed a tax return with the IRS in early 2005,
claiming a tax refund of $2,079, and the IRS thereafter intercepted the
debtors' refund on or about February 11, 2005. It transmitted the
refund of $2,079 to HUD, which applied the funds to the debtors' home
loan debt. Whether the debtors received the notice required by §
3720A is not entirely clear from the evidence, but none of the parties
addressed the subject so the court will assume that notice is not at
issue. The debtors seek to recover the setoff, primarily pursuant to
11 U.S.C. § 553(b).
The debtors filed their petition on to March 29, 2005, and the
ninetieth day prior to filing was December 29, 2004. The debtors
report that on December 29, 2004, they owed to HUD an amount in excess
of $2,079. Neither HUD nor any other department or agency of the
United States was then indebted to the debtors in any amount equal to
or greater than $2,079.
Section 553(b) provides, in relevant part, that
(1) . . . if a creditor offsets a mutual debt owing to the
debtor against a claim against the debtor on or within 90
days before the date of the filing of the petition, then the
trustee may recover from such creditor the amount so offset
to the extent that any insufficiency on the date of such
setoff is less than the insufficiency on the later of --
(A) 90 days before the date of the filing of the
petition; and
(B) the first date during the 90 days immediately
preceding the date of the filing of the petition on
which there is an insufficiency.
(2) In this subsection, "insufficiency" means amount, if
any, by which a claim against the debtor exceeds a mutual
debt owing to the debtor by the holder of such claim.
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11 U.S.C. § 553(b). The debtors assumed at the trial that there was an
insufficiency on the 90th day prior to the filing. By definition,
however, no insufficiency may occur until there is a mutual debt owed.
11 U.S.C. § 553(b)(2); see also Lopes v. United States Dep't of Housing
and Urban Development (In re Lopes), 211 B.R. 443 (D.R.I. 1997).
Because there was no mutual debt owing on the 90th day prior to the
filing of the petition, the court looks to the date on which a mutual
debt first existed to determine whether an insufficiency existed. At
some time, either as of the end of the tax year 2004 or on the date
that the debtors filed their tax return, the United States owed the
debtors $2,079. Because the debtors owed the United States more than
$2,079, an insufficiency existed as of that time. Whether the debtors
can recover the setoff depends on whether the government realized an
improvement in position between the date the insufficiency first
existed and the date it exercised the setoff, February 11, 2005.
The insufficiency on the date it first came into existence was the
difference between the amount owed by the debtors to HUD and $2,079.
The insufficiency on February 11, 2005, just prior to the setoff, was
also the difference between the amount owed by the debtors to HUD and
$2,079. HUD's position was not improved between the date the
insufficiency first arose and the date of setoff, and there is no basis
for recovery under § 553(b).
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In the alternative, the debtors seek to recover the funds pursuant
to § 547, contending the payment was a preferential transfer. Because
the transfer of funds was a setoff, it is protected by § 553.
Accordingly, there can be no recovery by the debtors under § 547.
Based on the foregoing, the court concludes that the government
properly exercised its right of setoff and did not realize an
improvement in position that would entitle the debtors to recover any
portion of the intercepted funds under § 553(b), and the debtors may
not recover the intercepted funds as a preferential transfer pursuant
to § 547.
A separate judgment will be entered in favor of the defendant.
END OF DOCUMENT
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