A chapter 7 trustee proposed to sell real and personal property that was owned by the chapter 7 debtors as joint tenants with parents of one of the debtors as of the beginning of the bankruptcy case. After the joint tenant parents passed away during the case, the trustee contended that the debtors owned all of the interests in the properties pursuant to their survivorship rights. The debtors countered that the bankruptcy filing constituted a transfer that severed the joint tenant interests.
Under Section 541 of the Bankruptcy Code, commencing a case creates a bankruptcy estate that includes all legal and equitable interests of a debtor in property as of the petition date. Bankruptcy courts look to state law to determine the nature and extent of the debtor’s interests, but apply federal law to determine whether the interest is property of the bankruptcy estate.
Under state law applicable in this case: A joint tenant “hold[s] by the moiety (or half) and by the whole.” Joint tenants share an undivided estate, but with a right of survivorship, so that upon the death of one of the joint tenants the entire estate goes to the survivor. If a joint tenant conveys its interest, that “destroys the unity of title and converts the joint tenancy into a tenancy in common insofar as the interest of the particular joint tenant is concerned.” A tenant in common still has an undivided interest in the property, but holds separate and distinct title that does not pass to the other tenant in common upon death.
Since both of the parents who held joint tenant interests in the properties passed away after the bankruptcy case was filed, if the joint tenancy was still in effect at that time their interests would pass to the debtors under the debtors’ rights of survivorship. So, the debtors argued that when they filed their bankruptcy petition, that constituted a transfer to the bankruptcy estate that severed the joint tenancy, creating interests as tenants in common. Consequently, the trustee would only be entitled to receive proceeds from their 50% interest in the properties.
(As an aside, note that if the joint tenancy had been severed, the trustee could receive proceeds only from the interest of the debtors. However, that would not mean that it was necessary for the joint tenants to agree to a sale. Under Section 363(h) a trustee can cause the sale of both the estate’s interest and the interests of a co-owner if certain criteria are met.)
The court did not buy the debtors’ argument. Quoting from another bankruptcy case (emphasis added):
[T]he continuing concept [that the filing of a petition for relief severs a joint tenancy] is evidently from the fantasy world of make believe or born as the result of wishful thinking. It is just not true. The debtor does not transfer his title to 541 property of the estate but holds his title subject to the exercise by the trustee of [the trustee’s] rights to sell, use or lease such property by appropriation under the “avoidance” or “strong arm” sections as typified by Sections 542, 543, 544, 545, 546 and 547 of the 1978 Act, as amended…. The trustee has no title to property of the estate until he elects to take affirmative action and proceedings are had or orders made.
The court acknowledged that the result would have been different under the predecessor to the Bankruptcy Code. The Bankruptcy Act, which contained language that “remained virtually unchanged for 80 years,” provided:
The trustee of the estate of a bankrupt, upon his appointment and qualification,… shall… be vested by operation of law with the title of the bankrupt, as of the date he was adjudicated a bankrupt, except insofar as it is to property which is held to be exempt[.]
However, the concept of the trustee holding title to the property of the bankruptcy estate was not carried forward from the Bankruptcy Act to the Bankruptcy Code.
Notwithstanding the negative implication from this statutory development, another bankruptcy court turned to legislative history and concluded that a bankruptcy filing still severs the joint tenancy. And yet another court relied on a colloquy in the legislative history to conclude that there is a comprehensive conveyance by the debtor to the trustee at the commencement of the case. In particular, the end of the colloquy included the statement “Bankruptcy affects and converts anything that is joint tenancy into a tenancy in common.”
However, the Peet court noted that this discussion took place in 1976, which was two years before Congress eliminated the language from the Bankruptcy Act and passed Section 541(a) instead. Consequently, the court agreed that the interests of the co-tenant parents passed to the debtors upon the death of the parents.
It is easy to forget that the Bankruptcy Code included a number of changes from the prior Bankruptcy Act – particularly since it has now been almost 30 years since the Bankruptcy Code was enacted. It is also sometimes surprising how harsh courts can be. One can wonder why a court felt compelled to describe what seems like at least plausible arguments as “from the fantasy world of make believe or born as the result of wishful thinking.”
Vicki R. Harding, Esq.