Court Opinion

ID: 2967651
Source: CourtListenerOpinion
Date Created: 2015-09-22 03:02:26.289326+00
Date Added: 2024-06-11T15:28:10.020796
License: Public Domain

PUBLISHED

UNITED STATES COURT OF APPEALS
                FOR THE FOURTH CIRCUIT

In Re: CHRISTOPHER BANKS; In Re:       
DIANE M. BANKS,
                          Debtors.

CHRISTOPHER BANKS,
                Plaintiff-Appellant,
                 v.                             No. 02-1005
SALLIE MAE SERVICING CORPORATION;
EDUCATIONAL CREDIT MANAGEMENT
CORPORATION,
             Defendants-Appellees.
UNITED STATES OF AMERICA,
                   Amicus Curiae.
                                       
           Appeal from the United States District Court
      for the Western District of Virginia, at Charlottesville.
                Norman K. Moon, District Judge.
         (CA-01-66-3, BK-94-1070-WA3-13, AP-114-A)

                       Argued: June 5, 2002

                      Decided: August 5, 2002

  Before WILKINSON, Chief Judge, MOTZ, Circuit Judge, and
       Bobby R. BALDOCK, Senior Circuit Judge of the
      United States Court of Appeals for the Tenth Circuit,
                     sitting by designation.

Affirmed by published opinion. Senior Judge Baldock wrote the opin-
ion, in which Chief Judge Wilkinson and Judge Motz joined.
2                            IN RE: BANKS
                             COUNSEL

ARGUED: Mark Bennett Peterson, OGLE & PETERSON, P.C.,
Charlottesville, Virginia, for Appellant. Steven Leftridge Thomas,
KAY, CASTO & CHANEY, P.L.L.C., Charleston, West Virginia, for
Appellees. Frank A. Rosenfeld, Appellate Staff, Civil Division,
UNITED STATES DEPARTMENT OF JUSTICE, Washington,
D.C., for Amicus Curiae. ON BRIEF: Jeffrey A. Streiffer, EDUCA-
TIONAL CREDIT MANAGEMENT CORPORATION, St. Paul,
Minnesota, for Appellees. Robert D. McCallum, Jr., Assistant Attor-
ney General, John L. Brownlee, United States Attorney, William
Kanter, Appellate Staff, Civil Division, UNITED STATES DEPART-
MENT OF JUSTICE, Washington, D.C., for Amicus Curiae.

                              OPINION

BALDOCK, Circuit Judge:

   Plaintiff-Appellant Christopher Banks brought an adversary pro-
ceeding before the United States Bankruptcy Court for the Western
District of Virginia, seeking a declaratory judgment that, pursuant to
the provisions of his confirmed Chapter 13 plan, he was not liable for
post-petition interest on his student loan debt. Banks and Defendant-
Appellee Educational Credit Management Corporation (ECMC) filed
cross motions for summary judgment. The bankruptcy court ruled in
Banks’ favor. ECMC appealed and the district court reversed. Banks
appeals the district court order. We have jurisdiction pursuant to 28
U.S.C. § 158(d) and 28 U.S.C. § 1291. We affirm.

                                   I.

   In 1994, Banks filed a Chapter 13 petition seeking bankruptcy pro-
tection from a variety of debts including approximately $23,000 in
federally guaranteed student loans. His initial and amended Chapter
13 plans treated Sallie Mae, the holder of his student loan notes, as
the sole member of a separate class of unsecured creditors.1 The plans
each provided:
    1
   Sallie Mae filed a proof of claim in the amount of $31,573.03 which
included outstanding principal and interest accrued as of the date Banks
                              IN RE: BANKS                                3
     During the pendency of this case, no interest, penalties, late
     charges, or costs of collection, including attorneys fees,
     shall accrue. . . . Upon his discharge, Debtor . . . shall be lia-
     ble for only the unpaid balance of his prepetition debt.

Copies of the plans, along with a notice of the confirmation hearing,
were mailed to Sallie Mae at a general address Banks provided. Sallie
Mae and its assignees filed no objections to the plan and did not
appear at the hearing.

   On November 21, 1994, the bankruptcy court issued and mailed to
creditors a confirmation order adopting the plan. The confirmation
order provided the Trustee would pay Sallie Mae $4,103.23, which
"SHALL BE APPLIED TO PRINCIPAL. NO INTEREST, PENAL-
TIES, LATE CHARGES, OR COSTS OF COLLECTION (INCLUD-
ING ATTORNEY’S FEES) SHALL ACCRUE." ECMC, Sallie
Mae’s assignee, does not dispute that it received the proposed plans,
the hearing notice, and the confirmation order.

   In 1999, the bankruptcy court issued a discharge order, closing the
Chapter 13 case. Shortly thereafter, ECMC informed Banks by letter
that it had applied the $4,103 in payments to interest rather than prin-
cipal, had capitalized the remaining interest, and that he still owed
$43,341.95.2 Banks moved to reopen his Chapter 13 case, and filed

filed his petition. Sallie Mae capitalized the outstanding interest and
assigned its claim to Great Lakes Higher Education Corporation, a non-
profit loan guarantor, as required under the Federal Family Education
Loan Program (FFEFL), 20 U.S.C. §§ 1071-1087, and the regulations
promulgated thereunder, 34 C.F.R. part 682. In 1998, Great Lakes
assigned the claim to ECMC. In 2000, shortly after Banks completed his
Chapter 13 plan, ECMC assigned its claim back to Sallie Mae. Later that
year, when Banks objected to Sallie Mae’s payment demand, Sallie Mae
assigned the claim back to ECMC. The transfers between Sallie Mae, a
loan servicing corporation, and Great Lakes/ECMC, non-profit loan
guarantors, were required under federal regulations governing federally
guaranteed student loans. See 34 C.F.R. 682.402(f), (j) and 34 C.F.R.
682.406(a)(5).
   2
     Under federal regulations governing federally guaranteed student
loans, this was the proper allocation of payments a creditor receives on
a defaulted student loan. The regulations direct creditors to apply pay-
ments received first toward accrued interest and then to the principal bal-
ance. 34 C.F.R. § 682.404(f). Unpaid interest may be capitalized. Id.
4                            IN RE: BANKS
an adversary proceeding seeking a declaration that the confirmation
and discharge orders had discharged all post-petition interest that
accrued during the pendency of the Chapter 13 proceeding.

   The bankruptcy court ruled in Banks’ favor, holding the confirma-
tion order is res judicata, barring ECMC from challenging its
enforcement. The court agreed with ECMC that post-petition interest
should not have been ordered discharged absent an adversary hearing
in which Banks proved undue hardship. Nevertheless, the court con-
cluded "the finality of confirmation makes the post-petition interest
tolling provision res judicata." The court relied on the Tenth Circuit
decision in Andersen v. UNIPAC-NEBHELP (In re Andersen), 179
F.3d 1253, 1258 (10th Cir. 1999), and the Ninth Circuit Bankruptcy
Panel’s decision in Great Lakes Higher Educ. Corp. v. Pardee (In re
Pardee), 218 B.R. 916 (9th Cir. BAP 1998), aff’d, 193 F.3d 1083 (9th
Cir. 1999), in which each court held the judicial policy favoring final-
ity of confirmation must prevail even if the plan contained provisions
contrary to the Bankruptcy Code.

   ECMC appealed and the district court reversed, holding ECMC’s
claim for post-petition interest survived the discharge order. Although
recognizing the conflict with Ninth and Tenth Circuit precedent, the
district court held the confirmed plan did not operate as res judicata
to bar collection of the interest. The court reasoned that while ECMC
received copies of Banks’ Chapter 13 plans, due process required a
heightened degree of notice. The court also noted Banks’ failure to
initiate an adversary proceeding which would have provided such
notice, and which is required under the Bankruptcy Code and Rules.
The court concluded: "While the Court recognizes that sophisticated
lenders such as ECMC, Great Lakes, and Sallie Mae should not turn
a blind eye to the confirmation process, . . . neither should they fall
victim to a Chapter 13 plan that flouts both bankruptcy law and the
constitution."

   On appeal, Banks asserts: (1) the district court erred in concluding
the plan provision mandating the non-accrual of post-petition interest
required an adversary hearing; and (2) the district court erred in con-
cluding the confirmation process violated ECMC’s due process rights.
                             IN RE: BANKS                              5
                                   II.

   Where a district court acts in its capacity as a bankruptcy appellate
court, we review the bankruptcy court’s decision independently. See
Kielisch v. Educ. Credit Mgmt. Corp. (In re Kielisch), 258 F.3d 315,
319 (4th Cir. 2001). We review the bankruptcy court’s factual find-
ings for clear error. Id. We review de novo the bankruptcy court’s
legal conclusions. Id. Whether a Chapter 13 plan provision required
an adversary proceeding and whether the confirmation process vio-
lated a creditor’s due process rights are both legal questions we
review de novo.

                                   A.

   Student loans are nondischargeable in bankruptcy unless the
Debtor can prove excepting the debt from discharge would impose an
undue hardship. See 11 U.S.C. §§ 523(a)(8), 1328(a)(2). Post-petition
interest on a nondischargeable debt also is nondischargeable. Bruning
v. United States, 376 U.S. 358, 363 (1964); In re Kielisch, 258 F.3d
at 324. Under Bruning, the Debtor remains personally liable follow-
ing a bankruptcy discharge for post-petition interest on nondischarge-
able debts. 376 U.S. at 363; In re Kielisch, 258 F.3d at 324 (citing
Bruning and finding post-petition interest on student loans nondis-
chargeable in a Chapter 13 proceeding).

   The Bankruptcy Code and Rules require Debtors to bring an adver-
sary proceeding to determine the dischargeability of their student
loans. Fed. R.Bankr. P. 7001(6). See also In re Kielisch, 258 F.3d at
324; In re Andersen, 179 F.3d at 1258. Debtors also must bring an
adversary proceeding to discharge post-petition interest on student
loan debt. See In re Kielisch, 258 F.3d at 324. Banks asserts an adver-
sary proceeding was not required in this case because the plan provi-
sion sought to prohibit the accrual of post-petition interest and not to
discharge interest accrued. This is a distinction without a difference.
Federal Regulations direct creditors on a defaulted student loan debt
to apply payments received first toward accrued interest and then to
the principal balance. 34 C.F.R. § 682.404(f). Unpaid interest may be
capitalized. Id. A Chapter 13 plan provision mandating that interest
does not accrue clearly acts as a discharge of the post-petition interest
6                            IN RE: BANKS
the creditor is entitled to receive. Under Kielisch, such a provision
must be the subject of an adversary hearing:

    Allowing the Debtor to pay off loan principal without first
    permitting the application of the payment to satisfy postpeti-
    tion interest would reduce the overall amount that the Debt-
    ors would have to pay . . . thus allowing the Debtors to
    accomplish indirectly what they could not accomplish
    directly under the plain language of § 523(a)(8), i.e., a par-
    tial discharge of the interest on their student loan debts with-
    out a showing of undue hardship.

Id. at 324. The district court correctly concluded the plan provision
mandating the non-accrual of post-petition interest required an adver-
sary hearing.

                                   B.

   The Bankruptcy Code and Rules place the burden on the Debtor to
file adversary proceedings to determine the dischargeability of student
loan debts. See 11 U.S.C. § 523(a)(8), Fed. R. Bankr. P. 7001(6); see
also In re Kielisch, 258 F.3d at 324. A Debtor commences an adver-
sary proceeding by filing a complaint. Fed. R. Bankr. P. 7003. Where
the creditor is a corporation, service of the complaint requires a sum-
mons delivered upon "an officer, a managing or general agent, or to
any agent authorized by appointment or by law to receive service of
process." Fed. R. Bankr. P. 7004(b)(3). The creditor-defendant has
thirty days from the issuance of summons to file its answer. Fed. R.
Bankr. P. 7012. The adversary proceeding is treated as a separate dis-
pute between the Debtor and Creditor, subject to the procedural
guidelines and safeguards contained in the Federal Rules of Civil Pro-
cedure. Fed. R. Bankr. P. 7001. As in a civil trial, the bankruptcy
court rules on the dispute only after a trial or upon receipt of a dispo-
sitive motion. Id. In an adversary proceeding, the Debtor bears the
burden of establishing undue hardship. See 11 U.S.C. § 523(a)(8),
Fed. R. Bankr. P. 7001.

   In this case, Banks did not initiate an adversary proceeding.
Instead, he included language in his Chapter 13 plan which purported
to discharge post-petition interest. The creditor received "notice" of
                              IN RE: BANKS                              7
the plan provision pursuant to Bankruptcy Rule 2002 rather than ser-
vice of process under Bankruptcy Rule 7004. Under Rule 2002, the
bankruptcy court must insure "parties in interest" receive not less than
25 days notice by mail of the time fixed for filing objections and the
hearing to consider confirmation of the plan. See Fed. R. Bankr. P.
2002(b). Bankruptcy Rule 2002(b) does not require specific notice of
plan provisions affecting a particular creditor, nor does it require the
notice to be served in any particular manner or upon any particular
person. "[T]here are many aspects to and actions that may be taken
in bankruptcy cases which affect the general administration of the
case and all creditors generally, but none specifically." In re Boykin,
246 B.R. 825, 828-29 (Bankr. E.D. Va. 2000). Generally, such mat-
ters require "notice," but not service of process. Id. When the rights
of specific parties become an issue, however, service of the initiating
motion or objection on the affected party is required. Id.; Fed. R.
Bankr. P. 7003, 7004. Mailing the proposed plans, the hearing notice,
and the confirmation order satisfies the "notice" requirement under
Rule 2002, but not the service and summons requirements of Rule
7004.

   The process of seeking a discharge without an adversary proceed-
ing to establish undue hardship is called "discharge by declaration."
See In re Evans, 242 B.R. 407, 413 (Bankr. S.D. Ohio 1999). The
number of Debtors seeking to improperly discharge nondischargeable
debt increased significantly following the decisions of our sister Cir-
cuits in In re Andersen and In re Pardee. See id. (citing cases and not-
ing frustration with the trend). In In re Andersen, 179 F.3d 1253, the
Tenth Circuit rejected a student loan creditor’s post-confirmation
attempt to challenge a discharge provision contained in a confirmed
Chapter 13 plan. The Debtor’s confirmed plan included a provision
which purported to discharge the balance of an unpaid student loan.
Id. at 1254. The creditor failed to object to or appeal the bankruptcy
court’s confirmation order. Id. The Tenth Circuit concluded the debt
was discharged by the creditor’s failure to challenge the plan during
the bankruptcy court proceedings, along with the res judicata effect
of the confirmed plan and the strong policy favoring the finality of
confirmation orders. Id. at 1260.

  The Ninth Circuit adopted the Tenth Circuit’s reasoning in In re
Pardee, 193 F.3d 1083, holding: "If a creditor fails to protect its inter-
8                                 IN RE: BANKS
ests by timely objecting to a plan or appealing the confirmation order,
it cannot later complain about a certain provision contained in a con-
firmed plan, even if such a provision is inconsistent with the Code."
Id. at 1086 (citations omitted). Neither court expressly addressed the
due process requirement at issue in this case. Both courts concluded,
without discussion, that the notice received by the creditors pursuant
to Rule 2002 was sufficient. See, e.g., Andersen, 179 F.3d at 1256 n.
6 ("[G]iven the fact that [the creditor] does not complain that it lacked
adequate notice of Andersen’s plan prior to confirmation, it appears
that due process has been accorded.") (citations omitted).

   We agree a bankruptcy court confirmation order generally is
afforded a preclusive effect.3 But we cannot defer to such an order if
it would result in a denial of due process in violation of the Fifth
Amendment to the United States Constitution. Piedmont Trust Bank
v. Linkous (In re Linkous), 990 F.2d 160, 162 (4th Cir. 1993). Where
the Bankruptcy Code and Bankruptcy Rules specify the notice
required prior to entry of an order, due process generally entitles a
party to receive the notice specified before an order binding the party
will be afforded preclusive effect. See id. (quoting Mullane v. Central
Hanover Bank and Trust, 339 U.S. 306, 314 (1950)); Cen-Pen Corp.
v. Hanson (In re Hanson), 58 F.3d 89, 93 (4th Cir. 1995).

   In In re Linkous, the creditor received "notice" pursuant to Rule
2002, but was not served with a summons and motion as required
under Rule 7004. Id. at 163. We held the notice was insufficient and
refused to accord finality to the bankruptcy court’s confirmation
order. Specifically, we ruled due process entitled the creditor to
receive notice of a hearing as provided by the Bankruptcy Rules. Id.
In In re Hanson, we held where an adversary proceeding "is required
    3
     The Bankruptcy Code provides:
        The provisions of a confirmed plan bind the debtor and each
        creditor, whether or not the claim of such creditor is provided for
        by the plan, and whether or not such creditor has objected to, has
        accepted, or has rejected the plan.
11 U.S.C. § 1327(a). See also Piedmont Trust Bank v. Linkous (In re Lin-
kous), 990 F.2d 160, 162 (4th Cir. 1993) ("a bankruptcy confirmation
order generally is treated as res judicata").
                             IN RE: BANKS                             9
to resolve the disputed rights of the parties, the potential defendant
has the right to expect that the proper procedures will be followed."
58 F.3d at 93. In In re Deutchman, we confirmed that a Debtor’s fail-
ure to give specific notice of his intent to discharge nondischargeable
debts violates the creditor’s due process rights and, as a result, the
confirmation order discharging the debt will not be given preclusive
effect. 192 F.3d at 461.
   The district court properly concluded due process entitles a student
loan creditor to specific notice of the Debtor’s intent to discharge any
portion of the debt. Section 523(a)(8) "explicitly precludes the dis-
charge of the Debtor[‘s] student loan debts absent a showing of undue
hardship." In re Kielisch, 258 F.3d at 324. The Bankruptcy Code and
Rules require Debtors to bring an adversary proceeding to establish
undue hardship. Fed. R.Bankr. P. 7001(6). See also In re Kielisch,
258 F.3d at 324; In re Andersen, 179 F.3d at 1258. Initiation of an
adversary proceeding requires a summons and service of process
under Rule 7004(b). Fed. R. Bankr. P. 7003, 7004. Banks failed to
initiate an adversary proceeding to establish undue hardship. As a
result, ECMC did not receive the requisite notice of Banks’ intent to
discharge post-petition interest on his student loan debts. For lack of
adequate notice, the confirmation and discharge orders discharging
the interest are not entitled to preclusive effect.4
                                  III.
   Banks failed to initiate an adversary proceeding to establish undue
hardship as required to discharge student loan debt under the Bank-
ruptcy Code. As a result, the student loan creditor did not receive ade-
quate notice of Banks’ intent to discharge post-petition interest on his
student loan debts. The provision in Banks’ confirmed Chapter 13
plan purporting to discharge the interest violated ECMC’s due pro-
cess rights and is not entitled to preclusive effect. Accordingly, the
judgment of the district court is affirmed.
                                                           AFFIRMED
  4
   We do not today hold that the Constitution in itself requires a sum-
mons and service of process to discharge student loan debt. We merely
confirm that where the Bankruptcy Code and Rules require a heightened
degree of notice, due process entitles a party to receive such notice
before an order binding the party will be afforded preclusive effect.