BRAND CADET GRAY and CARMEN MILAGROS TORRES MONTANEZ

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07-07380-ESL13 Doc#:47 Filed:11/25/08 Entered:11/25/08 11:07:17 Desc: Main
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UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF PUERTO RICO

IN RE:
BRANDT CADET GRAY :
CARMEN TORRES MONTANEZ : Case No. 07-07380-ESL
: Chapter 13
Debtor(s)
OPINION AND ORDER

This case is before the court upon the request filed by Brandt Cadet Gray and Carmen
Milagros Torres Montafiez (“Debtors”) to confirm the amended chapter 13 plan dated June 7, 2008
(the “amended plan”) (Dkt. 40).' The amended plan modifies the rights of secured creditor, Doral
Bank, Inc. (“Doral”), pursuant to 11 U.S.C. § 1322(b)(2). For the reasons set forth below,
confirmation of Debtor’s amended plan dated June 7, 2008 is hereby denied.

Background

On December 17, 2007, the Debtors filed a chapter 13 petition. Doral holds an allowed claim
secured by the Debtors’ principal residence. Debtors’ initial amended chapter 13 plan dated January
24, 2008 (Dkt. 18) modified Doral’s secured claim pursuant to 11 U.S.C. § 1322(b)(2). The plan was
objected by Doral (Dkt. 20), and a hearing on confirmation was held on February 27, 2008. (Dkt.
25). The Debtors and Doral were ordered to file legal briefs on the applicability of sections
1322(b)(2) and 1322(c) to this case. The same were filed on March 24, 2008 (Doral) (Dkt. 31), and
May 12, 2008 (Debtors) (Dkt. 39). Both parties argued almost exclusively section 1322(b)(2) “lien

stripping” and did not address the effects of section 1325(a)(5) over the amended plan, as expressly

' Matters of record shall be referred to as “Dkt. _”.

AUTHENTICATED
U.S. GOVERNMENT.
INFORMATION

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required by section 1322(c)(2). Thereafter, on June 7, 2008, Debtors filed the current amended plan.
(Dkt. 40). The amended plan also modifies Doral’s claim pursuant to 11 U.S.C. § 1322(b)(2), but
with differing repayment terms and interest rates. In view of the intervening filing of the amended
plan, on July 14, 2008, the court ordered the parties to brief whether the arguments in favor and
against confirmation of the docket 18 plan applied to the amended plan, and ordered Doral to state
its position regarding the same. On August 28, 2008, the Debtors responded affirming their
arguments in support of confirmation. (Dkt. 42).
Doral’s Lien
On June 12, 1997, the Debtors executed a Mortgage Note payable to Doral Mortgage

Corporation (“Doral”) in the principal amount of $77,000, accruing interest at 10.95%. The monthly
payments in the amount of $730.38 commenced in July 1997 and end in June 2012, when Debtors
must pay a balloon payment in the amount of $64,438.85. On June 12, 1997, the Debtors also
executed a Mortgage Deed to secure Doral’s loan with a property located in Urb. Castellana Garden,
in Carolina, Puerto Rico. The deed is properly registered in the Property Registry. The property given
as collateral to secure Doral’s claim is the Debtors’ principal residence.
The Chapter 13 Plan

| 1, The amended chapter 13 plan dated June 7, 2008 (Dkt. 40) increases the base to $60,
850 through stepped up payments for a period of 60 months. Doral’s mortgage will be paid as
follows:

a. The principal amount of $73,214.96 will be paid directly by Debtors through

monthly payments in the amount of $763, with an annual interest rate of 6%.’ Payments will be

* The parties are charged with the responsibility of establishing through expert witnesses, the
applicable interest rate. It is not the role of the court to be an economist or a banker or a financial
advisor.

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applied to principal first, and interest will accumulate.

b. The plan discloses the accumulated balance of principal ($27,434.96) and interest

($15,211.94) at the end of month 60. The outstanding balance after month 60 is $42,646.90 to be
paid directly by Debtors in a lump sum payment by refinancing the property.
| c. The arrears as per the proof of claim will be paid on a pro-rata basis through the

plan payments,

2. Since the balloon payment under the terms of Doral’s Mortgage Note is due in June
2012, the same is due before the date on which the final payment under the either plan is due.
Issue

The issue in this case is if the interaction of sections 1322(b)(2), 1322(b)(5), 1322(c)(2),
1322(e) and 1325(a)(5) of the Bankruptcy Code allows the Debtors to modify the rights of Doral as
proposed in the chapter 13 plan. Section 1322(b)(2) provides that a chapter 13 plan may modify the
rights of holders of secured claims, other than a claim secured only by a security interest in real

property that is the debtor’s principal residence, subject to the exceptions in sections 1322(c) and

1322(e). Sections 1322(c)(2) and 1322(e) incorporate section 1325(a\(5). Thus, the court must
determine if debtors can modify the terms of the mortgage pursuant to section 1325(a)(5)(B), and
provide for a final balloon payment.
Discussion

Section 1322(b)(2) prohibits modification of claims secured by a debtor’s principal residence.
However, section 1322(c)(2) creates an exception to modification if such claim becomes due (fully
payable) before the date on which the final payment under the plan is due. It is undisputed that
Doral’s claim comes due before the final payment proposed in the amended plan and is therefore

covered by the section 1322(c}(2) exception to modification. This section in turn incorporates the

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provisions of section 1325(a)(5) to provide for payment of the claim “as modified.” See In re Ibarra,
235 B.R. 204, 209-11 (Bkrtcy.D.P.R. 1999) (holding that a debtor can cure defaults and modify an
allowed claim secured by a debtor’s principal under the provisions of section 1322(c)(1), (2), only
if the debtor meets the requirements of section 1325(a)(5)). The Debtors’ correctly argue that
modification is permissible under 1322(c). However, the amended plan provides for a final balloon
payment of over $42,000 in unpaid interests and principal that will accrue during the term of the
plan. Debtors propose to make the balloon payment from the proceeds of a future mortgage
“refinancing”.

Section 1322(c)(2), by incorporating section 1325(a)(5), allows debtors to modify claims
secured by a debtor’s principal residence, if the last payment on the claim is due before the last
payment is due under the plan. See, 8 Collier on Bankruptcy J 1322.16, at 1322-61 (15" ed. rev.

2007), citing In re Paschen, 296 F.3d 1203 (11" Cir. 2002). Section 1325(a)(5) “provides that in the

event that the debtor does not surrender the collateral to the creditor or the creditor accepts the plan,
the debtor may keep the property, so long as the secured creditor retains its lien and receives
payments equal to its present value.” /n re Ibarra, 235 B.R. 204, 212 (Bkrtcy.D.P.R. 1999) (citation
omitted).

Since the enactment of section 1322(c) in 1994, one of the permissible modifications to
secured claims is to vary the contractual rate of interest in favor ofa “discount rate”, which will yield
a present value of the stream of plan payments that is not less than the allowed amount of the secured
claim. See discussion in Ibarra, 235 B.R. at 209-13. The plan may also modify the claim by
extending payment of a claim up to, but not beyond, the term of the plan. Jd. at 210-11.

The amended pian dated June 7, 2008 proposes to modify Doral’s allowed claim by applying

payments made under the plan to the principal first, leaving the interest payments to accrue until the

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final month of the plan and by changing the interest on the principal from the contractual 10.95%,
to a modified 6%. The issue is whether such modifications are permissible under sections 1322(c)
and 1325(a)(5).

As we held in /barra, interest rates on allowed secured claims can be modified. We also held
that the applicable interest rate for present valuation purposes is the market rate (or the coerced loan
approach), coupled with the rebuttable presumption that the contract rate is the proper interest rate
in a Chapter 13 case. 235 B.R. at 215. We established that debtors should proffer evidence of the
market rate, which could be rebutted by the creditors or parties in interest. /d. In this case, the
Debtors. propose to modify the interest rate to 6% in the amended plan (Dkt. 40), purportedly
applying the “prime plus” formula articulated by four Justices of the Supreme Court writing for the
divided plurality in the case of Till v. SCS Credit Corp., 541 U.S. 465, 478-81 (2004). (Dkt. 39 at
7-8). The plurality in 77// adopted the national prime rate as the applicable discount factor to perform
the present value calculation of a stream of payments under a plan, as required by section
1325(a)(5)(B\a1). The “prime plus” formula approach advocated by four Justices in 77/] requires the
assessment of a “risk factor” to be added to the prime rate. /d. at 479. Till left the assessment of the
risk factor to the individual courts and placed the burden on creditors to proffer evidence of the
proper discount factor. Jd.

The Debtors claim to have added a 1% risk factor to the prime rate, but do not disclose the
effective date of the prime rate applied, nor the assessment used to conclude that a 1% risk factor is
the proper risk premium applicable to Doral’s claim. Doral opposes any modification, basically
arguing that section 1322(c) only applies in the context of bifurcating secured claims; and because
the “Debtors have not provided any legal basis for reducing the stated interest rate [on the mortgage]

and allocating payments to principal.” (Dkt. 31 at 5). Doral has not submitted any evidence of the

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applicable discount factor to its claim. Thus, we take no position regarding the applicable interest
rate as the parties have not provided proper evidence of the applicable discount factor in this case.
The court has not been placed in a position to make a final determination on the issue of the
applicable discount factor to Doral’s claim and, for this reason alone, we cannot confirm the
Debtors’ plan.

The Debtors also propose to pay principal first, leaving interest to accrue and proposing to
pay it in a lump sum at the end of the plan. The Debtors’ plan must fully compensate a non-
consenting secured creditor for the present value of his property interest, and place the creditor in
the same position as if the collateral were liquidated. Pringle, supra, Ibarra, supra at 213. To do so,
“a Chapter 13 plan must provide for periodic payments of the principal amount of the allowed claim
and adequate interest to yield present value as of the effective date of the plan.” Pringle, supra.,
citing Jn re Scott, 248 B.R. 786, 789 (Bkrtcy.N.D.IIl. 2000); General Motors Acceptance Corp. y.
Jones, 999 F.2d 63, 67 (3d Cir. 1993). “To determine whether the plan grants this present value
through the proposed interest on the deferred payment, a debtor must show that, in addition to
deferred principal payments aggregating the face amount of the allowed secured claim, a Chapter
13 plan proposes to pay interest on the face amount of the allowed secured claim at an appropriate
discount rate over the course of the payment extension period.” /barra at 213 (citation and internal
quotations omitted). The Debtors’ are bound to pay principal and interest concurrently during the
term of the plan. As such, the Debtors’ proposal to partially pay principal first while accruing, but
not paying, interest until the end of the plan fails to meet the requirement that a non-consenting
secured creditor must be paid the present value of its claim.

A debtor can cure defaults and modify an allowed claim secured by a debtor’s principal

residence under the provisions of section 1322(c), only if the debtor’s plan meets the requirements

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of section 1325(a)(5)). /barra, 235 B.R. at 211; see also In re Paschen, 2000 WL 33743100
(Bkrtcy.M.D.Ga. 2000) (unreported opinion) (section 1322(c)(2) permits modification and cram
down under section 1325(a)(5) of home mortgage claim that is due during the term of the plan)
{citation omitted). Given the facts of this case, the Debtors’ correctly argue that modification is
permissible under 1322(c). However as stated in our Order of July 14, 2008, it is the responsibility
of the parties to supply the court with expert evidence of the applicable interest to Doral’s claim.
(Dkt. 41 at 3, n. 3). They have not. Furthermore, the Debtors must pay Doral principal and interest

payments the present value of which is not less than the allowed amount of Doral’s claim, The

amended plan also fails in that regard.

Additionally, the proposed balloon payment in the Debtors’ amended plan violates the
section 1325(a}(5)(B)(ii)(1) requirement that distributions to Doral be in “equal monthly amounts”,
and cannot be confirmed. Jn re Melillo, 385 B.R. 476 (Bkrtcy.D.Mass, 2008) (denying confirmation
of plan proposing stepped up and final balloon payment as being in violation of the “equal monthly
amounts” requirement of section 1325(a)(5)(B)gii)d)). Jn re Correale-Darling, 2008 WL 4057141
(Bkrtcy. D. Mass. 2008).*The plain statutory language and the applicable case law makes clear that
distributions to Doral must be in equal monthly amounts precisely because “graduated [monthly]
payments and backloaded balloon payments in plans are exactly the proposed treatment Congress
sought to prohibit.” Jd. at p. 5 n. 27 (collecting and citing cases construing the “equal monthly

amounts” language in section 1325(a)(5)).

Bankruptcy courts faced with plans such as Debtors’ providing for final balloon payments

This court declines to adopt, at this time, that the confirmation may be denied even if the
secured creditor or a party in interest after due notice do not object a chapter 13 plan providing for
a balloon payment instead of equal monthly payments. There may be sound business and financial
reasons for a secured creditor or a party in interest not to object such a treatment.

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to satisfy secured claims have held against confirmation because such plans violate section
1325(a)(5){By\a)(D. See, e.g., Melillo, supra (rejecting plan providing for final balloon payment to
secured mortgage creditor); in re Lemieux, 347 B.R. 460 (Bkrtcy.D.Mass. 2006); In re Newberry,
2007 WL 2029312 (Bkricy.D.Vt. 2007); See also, In re Wagner, 342 BR. 766, 772
(Bkrtcy.E.D.Tenn. 2006) (rejecting plan proposing balloon payment and holding that discharge of
mortgage debt in a prior chapter 7 case creates a lien the value of which must be paid in full through
a subsequent chapter 13 plan through equal monthly payments) (citations omitted). Consequently,
the Debtor’s new plan cannot be confirmed.’ |
Conclusion:

An allowed claim secured by the Debtors’ principal residence can be modified pursuant to
sections 1322(c) and 1325(a)(5)(B). However, the Debtors must satisfy Doral’s secured claim by
proposing a plan that pays the present value of the claim. In order to satisfy the requirements of
section 1325(a)(5)(B)(ii), plan payments must simultaneously include principal and interest. Debtors’
amended chapter 13 plan fails to establish the proper discount rate to pay the present value of the
secured claim and fails to simultaneously pay principal and interest.

A plain reading of § 1325(a)(5)(B)(i1i)(J) requires the Debtors to satisfy Doral’s claim by
providing for distributions under the plan in “equal monthly amounts.” The inclusion of a final
balloon payment to Doral in the amended plan is contrary to the requirement of equal monthly
payments,

In view of the foregoing, confirmation of the amended chapter 13 plan dated June 7, 2008

(Dkt. #40) is hereby denied.

* The fact that Debtor proposes to raise the balloon payment from “refinancing” at the end
of the plan raises feasibility issues which may also preclude confirmation under 1325(a)(6). Wagner,
supra,

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1 SO ORDERED. re

San Juan, Puerto Rico, thised 4 say of November, 2008.

ENRIQUE S. LAMOUTTE
U.S. Bankruptcy Judge

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