On October 4, 2016, the Eleventh Circuit Court of Appeals ruled that chapter 7 debtors who file a statement of intention to surrender real property in bankruptcy cannot later contest a foreclosure action, and bankruptcy courts have broad power and authority to sanction violations. Failla v. CitiBank, N.A., case no. 15-15626 (11th Cir. October 4, 2016). The bankruptcy court in Failla reopened a chapter 7 bankruptcy case several years after entry of discharge and ordered the debtors to cease their defense of the bank’s foreclosure action, threatening to vacate the discharge order for failure to do so. The debtors appealed, and the district court affirmed. The debtors appealed to the Eleventh Circuit, the Court applied its twenty-three-year-old precedent in In re Taylor, 3 F.3d 1512 (11th Cir. 1993) and upheld the bankruptcy court’s decision.

The Court began with the plain language of the statute, 11 U.S.C. § 521(a)(2), and citing to Taylor, again stated that a chapter 7 debtor must (1) “file a statement of intention about what he plans to do with the collateral for his debts,” and (2) “perform the option he declared.” Failla, at *5. The Court then moved to the primary issue on appeal: if a debtor elects to surrender collateral, to whom must he surrender the property. Id. at *6. The Court reasoned that “a debtor who decides to surrender his collateral must surrender it to both the trustee and the creditor.” Id. at *7. The debtor first surrenders all property to the trustee under § 521(a)(4), and the trustee decides whether to administer or abandon it. Id. If the trustee abandons secured property under § 554, the debtor then surrenders it to the secured creditor. Id.

The Court also agreed with both the bankruptcy and district courts that the statutory duty to surrender real property “requires debtors to drop their opposition to a foreclosure action.” Id. at *13. The Court looked at the “contextually appropriate ordinary meaning” of the term surrender, and referencing dictionary definitions of the word, concluded that the word’s meaning “describes a legal relationship” in which “debtors who surrender their property can no longer contest a foreclosure action.” Id. at *9-10. Quoting from the Fourth Circuit’s decision in In re White, 487 F.3d 199 (4th Cir. 2007), the Court makes two important points. First, a debtor who acts to preserve his rights to property “by way of adversarial litigation,” has not relinquished it, and the “retention of property that is legally insulated from collection is inconsistent with surrender. Id. at *11. Second, although a secured creditor may still need to initiate foreclosure proceedings to obtain real property that has been surrendered in bankruptcy, the proceedings are to determine issues of priority between multiple lienholders and determine rights to any surplus sale proceeds, not to allow a debtor to contest the proceeding. Id. at *11. “Debtors who surrender property must get out of the creditor’s way.” Id.

The holding in Failla is simple but cannot be overstated: a debtor who elects to surrender his home in bankruptcy “cannot contest the foreclosure action.” Id. at *13. “In bankruptcy, as in life, a person does not get to have his cake and eat it too.” Id.

After concluding that the Faillas violated § 521(a)(2) by contesting the bank’s foreclosure action, the Court then addressed the appropriateness of the bankruptcy court’s remedy. The Court rejected the Faillas’ argument that relief from the automatic stay is the only remedy available to the bankruptcy court for the Faillas’ violation of the statute. Id. at *15. The Court stated that “[a] debtor who promises to surrender property in bankruptcy court and then, once his debts are discharged, breaks that promise by opposing a foreclosure action in state court has abused the bankruptcy process.” Id. While the Court acknowledged that a creditor may raise judicial estoppel in state court for a debtor’s prior inconsistent statement to surrender in bankruptcy court, the Court indicated that judicial estoppel “does not affect the statutory authority of bankruptcy judges to remedy abuses that occur in their courts.” Id. “[T]here is nothing strange about bankruptcy judges entering orders that command a party to do something in a nonbankruptcy proceeding,” including ordering debtors to withdraw foreclosure defenses and dismiss counterclaims. Id. at *16.

The Eleventh Circuit’s opinion today affirms a rapidly developing line of cases in bankruptcy and state courts in Florida holding that a debtor who surrenders real property in bankruptcy cannot defend foreclosure in state court. Debtors who wish to discharge the personal liability for mortgage debt will also lose the right to contest a foreclosure action, and bankruptcy courts are authorized to sanction debtors who fail to comply.

Click here to review the Failla decision from the Eleventh Circuit’s website.