This post originally appeared on the Consumer Financial Services Blog and is re-published here with permission.
The U.S. Court of Appeals for the First Circuit recently affirmed a bankruptcy court’s ruling that a mortgagee did not violate the discharge injunction in 11 U.S.C. § 524(a) by sending IRS 1099-A forms to borrowers after their discharge, agreeing that the IRS forms were not objectively coercive attempts to collect a debt.
A copy of the opinion in Bates v. CitiMortgage, Inc. is available at: Link to Opinion.
The borrowers obtained a mortgage loan secured by their home. They filed bankruptcy under Chapter 7 in 2008 and received a discharge of their personal liability for the loan in 2009.
The borrowers entered into a loan modification agreement post-discharge, which did not reaffirm their personal liability but allowed them to remain in the home as long as they made payments. The borrowers defaulted under the modification agreement, the mortgagee foreclosed and the borrowers moved out in October 2011.
In January 2012, each borrower received an IRS Form 1099-A by mail. One of the boxes on the forms was checked, stating that “the borrower was personally liable for the repayment of the debt.” The borrowers’ attorney sent a letter to the mortgagee demanding the revocation of the 1099-A forms due to the bankruptcy discharge, which the mortgagee refused to do.
In May 2013, the borrowers filed a motion to reopen their bankruptcy case, then sued the mortgagee for trying to collect on the discharged mortgage debt in violation of the discharge injunction provisions under 11 U.S.C. § 524(a).
In June 2013, the borrowers received a pre-recorded phone call from the mortgagee requesting proof of insurance on their former home.
Both sides moved for summary judgment, and the bankruptcy court granted the borrowers’ motion, finding that the phone call violated the discharge injunction, but also finding the borrower failed to prove any damages.
The bankruptcy court granted summary judgment in the mortgagee’s favor on the remaining claims, including the borrowers’ claim that the 1099-A forms violated the discharge injunction, reasoning that they provided “no objective basis” for borrowers to believe that the mortgagee was trying to collect the mortgage debt.
The borrowers appealed the bankruptcy court’s rulings on damages and the 1099-A forms, but the district court affirmed both. The borrowers then appealed to the First Circuit.
On appeal, the Appellate Court began by explaining that under the federal Tax Code, discharged debt can count as taxable income. 26 U.S.C. § 61(a)(12). However, debt discharged in bankruptcy on a qualified principal residence is not considered taxable income. 26 U.S.C. § 108(a)(1)(A).
Section 524(a) of the Bankruptcy Code prohibits “acts to collect, recover, or offset debts discharged in bankruptcy proceedings. … To prove a discharge injunction violation, a debtor must establish that the creditor ‘(1) has notice of the debtor’s discharge …; (2) intends the actions which constituted the violation; and (3) acts in a way that improperly coerces or harasses the debtor.’”
The First Circuit noted that the parties only disputed the third element, i.e., whether the IRS forms “were an improperly coercive or harassing attempt to collect on the discharged debt.”
The Court explained that whether conduct is coercive or harassing is determined using an objective standard. “[T]he debtor’s subjective feeling of coercion or harassment is not enough.” Under the objective standard a court considers “the facts and circumstances of each case, including factors such as the ‘immediateness of any threatened action and the context in which a statement is made.’” However, “bad acts that do not have a coercive effect on the debtor do not violate the discharge.”
The First Circuit agreed with the bankruptcy court that the IRS 1099-A forms were not an improper coercive attempt to collect the discharged debt, reasoning that (a) the forms provided “tax information” but did not demand payment or threaten any legal action; (b) the forms provided the outstanding principal balance as of the foreclosure, but did not state that the borrowers owed any money to anyone; and (c) incorrectly checking the box stating that “the borrower was personally liable for repayment of the debt” did not matter because it did not change the informational nature of the form or demand payment.
The Court rejected as inapposite the borrowers’ argument, citing In re Lumb, 401 B.R. 1 (B.A.P. 1st Cir. 2009), that the IRS forms put them “between a rock and a hard place” because they either “had to pay the discharged debt or seek tax advice.”
In Lumb, unlike the case at bar, the “creditor threatened to sue the debtor’s wife to collect if the debtor did not pay up.” Post-discharge, the creditor sued, causing the debtors to incur legal fees defending “the meritless lawsuit.” Thus, the debtor in Lumb “was in a jam: pay the discharged debt, or pay the legal fees and risk losing the lawsuit.” The First Circuit here noted “[s]o unlike in In re Lumb, where the consequence of paying to defend a bogus lawsuit was brought on by the creditor’s misdeeds, here the consequence of potentially needing tax advice was triggered by the foreclosure itself. That some consequence may have followed from the [borrowers’] receipt of the 1099-A Forms does not make that consequence coercion.”
Finally, the First Circuit rejected the borrowers’ argument that the bankruptcy court should have considered the mortgagee’s failure to correct the 1099-A forms and the May 2013 pre-recorded phone message in determining whether coercion existed, reasoning that even if the 1099-A form contained an error, “filing the 1099-A Forms did not create tax liability for the [borrowers] or any other consequences beyond those that come with foreclosure.”
However, the Court held that because “there were no consequences and no attempt to collect a debt, [the mortgagee’s] failure to retract the 1099-A Forms does not give rise to an inference of coercion.”
As to the pre-recorded call, the First Circuit reasoned that it saw no reason to find that the call made the IRS forms objectively coercive because the call was made “around a year and a half after [the borrowers] received their 1099-A Forms.” As there was no other evidence in the record of communications between the mortgagee and borrowers after the foreclosure, and the borrowers did not explain why the one phone call rendered the 1099-A forms objectively coercive, the Court refused to do so.
The First Circuit concluded by affirming the bankruptcy court’s ruling that the mortgagee did not violate the discharge injunction, explaining that while it had “no doubt that the 1099-A Forms caused the [borrowers] stress and concern,” their “subjective feeling of coercion is not enough to prove a violation of the discharge injunction, and the [borrowers] have not presented evidence that the Forms were objectively coercive.”