Initially the bankruptcy court allowed the claim of a tax sale certificate purchaser. However, on reconsideration the court held that the purchaser forfeited the entire claim and related lien.
In New Jersey, a municipality may collect unpaid taxes by selling tax sale certificates. The price is set at the amount of the outstanding, unpaid taxes. The bidders compete based on the rate of interest they will accept, with the lowest interest rate winning. If the bid interest rate goes to 0%, bidders also bid a premium that they will pay to the municipality in excess of the unpaid taxes. If a premium is paid, that amount is held in escrow and will be returned to the tax sale certificate purchaser if the certificate is redeemed within 5 years. Otherwise, at the end of 5 years the municipality keeps the premium.
In this case the tax sale certificate purchaser (Plymouth) bid 0% and paid a premium to the municipality. After the property owner filed bankruptcy, Plymouth filed a proof of claim for ~$1.8 million, which included the $600,100 premium. Plymouth sought relief from the automatic stay so that it could take steps to avoid losing the premium. The court did not grant relief from the stay, but did issue an order tolling the 5 year period. The order also required Plymouth to amend its proof of claim to remove the premium.
Under the New Jersey tax sale statute, any purchaser “who knowingly charges or exacts any fee or charge in connection with the redemption of any tax sale certificate owned by him in excess of the amounts permitted by [the statute], shall forfeit such tax sale certificate to the person who was charged such excessive or unlawful fee.” The debtor argued that the initial proof of claim filed by Plymouth that included both the premium and certain other expenses and charges was knowingly excessive so that Plymouth’s claim should be forfeited. Originally the court rejected the debtor’s argument and allowed the claim:
The record before the Court does not support the conclusion that Plymouth Park knowingly charged or exacted a fee or charge from Debtor in excess of the amounts permitted under New Jersey Law. . . . In fact, when the Court instructed it to do so, Plymouth Park filed an amended proof of claim removing the $600,100 premium. Moreover, Plymouth Park’s response to Debtor’s concerns over the calculation errors was reasonable and prompt, such that Debtor avoided any substantial prejudice or harm. As such, Plymouth Park has not forfeited its claim.
However, the court allowed the debtor an opportunity to pursue discovery and seek reconsideration. As a result of that process, the court did an about face.
In connection with the debtor’s motion for reconsideration, the court heard testimony from several senior managers, an employee, the general counsel, an associate general counsel and two outside counsel for Plymouth. Although the court found most of the witnesses to be “particularly credible,” it described the general counsel and associate general counsel as “vague and calculating.” The court was “taken aback” by the supposed lack of personal knowledge of the general counsel regarding Plymouth’s policies and procedures and commented that “his ‘I know nothing’ mantra throughout his testimony far surpassed the feigned ignorance of Sergeant Schultz” (with a footnote apologizing to the actor who played Sergeant Schultz in the TV series Hogan’s Heroes).
As a starting point, under Bankruptcy Rule 3001(f) a proof of claim that complies with the bankruptcy rules is prima facie evidence of the validity and amount of the claim. However, the validity may be rebutted by a debtor, so that the burden shifts to the claimant to prove its claim.
As a general rule, a court “shall allow” a claim unless one of a list of exceptions in Section 502(b) of the Bankruptcy Code applies. One exception is that the claim is unenforceable under applicable law. The debtor argued that the tax sale certificate claim was unenforceable under applicable law because it was subject to forfeiture due to the attempt to collect an excessive fee.
Plymouth argued that the forfeiture applied only in the context of redeeming from a municipality. However, the state statute had been amended to provide that redemptions must be made through the tax collector’s office “unless authorized by court order or pursuant to federal bankruptcy law.” Thus, filing a proof of claim was done in connection with a redemption.
With respect to the requirement that the conduct be “knowing,” the court interpreted this as meaning that Plymouth was aware or “willfully blind” to the fact that it was improper to include the premium (since under no circumstance was the property owner liable for the premium). The testimony of the witnesses established that Plymouth had a policy of including premiums in its proof of claims.
The court reviewed the testimony of each of the witnesses and found that the senior managers made no effort to change the policy and at a minimum were willfully blind that it was improper. In summarizing the general counsel’s testimony, the court highlighted an email exchange in which he acknowledged that if the debtor objected to the premium “we’ll probably have to give up on that.” This persuaded the court that Plymouth knowingly decided to include the premiums “as a business decision, notwithstanding the utter lack of factual, legal or moral support for this policy.”
One of the managers also contended that the general counsel confirmed with outside counsel that it was appropriate to include a premium in a proof of claim. However, both of the outside counsel witnesses testified that it was their position that it would not be proper to include the premium, and would have said so if Plymouth had consulted with them.
Plymouth made a final argument of “no harm, now foul” in that its policy was to refund any wrongfully collected monies. However, the court noted that the refunds were provided only upon redemption, and in the meantime it collected the inflated amounts. Innocent parties could be harmed because debtors were unable to pay the inflated claims or didn’t even attempt to pursue confirmation in light of the added charges. Also the “Court cannot help but spotlight Plymouth’s brazen practice to refund improperly collected amounts, without interest, at the same time it often collected more nearly 30% annual returns on its investment.”
Given the sense of outrage conveyed in the opinion, it should come as no surprise that the court granted the motion for reconsideration, disallowed Plymouth’s claim in its entirety (along with its lien) on the basis that it was subject to forfeiture under state law. The court then ordered Plymouth to transfer the tax sale certificate and lien to the debtor.
Note that this is not the end of this matter. Earlier in the case the parties litigated the issue of whether a tax sale certificate purchaser holds a tax lien. That decision has been on appeal pending before the 3rd Circuit since 2011, which in turn is still waiting for a response to the question it certified to the New Jersey Supreme Court. In the meantime, Plymouth is appealing this decision and the bankruptcy court stayed its judgment disallowing Plymouth’s claim pending appeal.
Regardless of the eventual outcome, this case clearly illustrates the possible risks of including questionable amounts in a proof of claim. … Stay tuned (but don’t hold your breath).
Vicki R. Harding, Esq.