“Many debtors…fail to complete a Chapter 13 [bankruptcy] plan successfully,” noted Justice Ruth Bader Ginsburg in a recent Supreme Court decision, Harris v. Viegelahn, 135 S.Ct. 1829 (2015). It is for this reason that the Bankruptcy Code provides the nonwaiveable right of a debtor to convert a voluntary Chapter 13 case to a Chapter 7 case at any time. 11 U.S.C. § 1307(a). However, this conversion is not without its challenges. One such challenge is determining how postpetition wages that were collected during the Chapter 13 plan should be distributed after the conversion. This was the issue in Harris.
In a Chapter 13 bankruptcy case, the bankruptcy debtors make plan payments to the Chapter 13 Trustee using their post-petition wages. Frequently this is accomplished through a payroll deduction. These payments are distributed to creditors throughout the duration of the plan. 11 U.S.C. § 1306(a). However, in a Chapter 7 bankruptcy case, there is no reorganization plan. Post-petition wages are left in the possession of the debtor so he may use them to make a “fresh start.” 11 U.S.C. § 541(a)(1).
The question presented in Harris was what happens to undisbursed postpetition wages after a conversion from a Chapter 13 to a Chapter 7. The Supreme Court concluded that a debtor who converts to a Chapter 7 bankruptcy is entitled to a return of all undisbursed postpetition wages.
The Court’s decision was based upon, first, the definition of property of the estate under § 348(f). Property of the estate is limited to property belonging to the debtor “as of the date” the original Chapter 13 petition was filed. The Court also noted the distinction of § 348(f)(2) which refers to debtors acting in “bad faith” and which explicitly states that, upon a finding of bad faith, property of the converted Chapter 7 estate consists of property as of the date of conversion. In addition, the Court stated that § 348(e) makes clear that conversion of a Chapter 13 case to a case under Chapter 7 terminates the services of the Chapter 13 trustee.
The Court was not persuaded by the Trustee’s argument that the terms of the confirmed Chapter 13 plan control disbursement of funds after conversion. The Court found, by contrast, that the provisions of the plan have no force once the case is converted. The Court also quickly disposed of the Trustee’s argument that post-petition wages become property of the estate under § 1327(b). The Court found that estate property does not become property of creditors until distributed. The Court also found that the order confirming the debtor’s plan provided that upon conversion, “[s]uch property as may revest in the debtor shall so revest,” and that, therefore, postpetition wages revested in the debtor.
*Special thanks to law clerk Sarah Gallas for her assistance with this post.