In Re Sumy

The main issue presented by this appeal is whether entireties property may be exempted under Sec. 522(b)(2)(B) of the Bankruptcy Code1 when an individual debtor schedules debts owed jointly with his or her spouse. We hold that in Maryland such property is not exempt to the extent of joint claims.

The debtor, Michael Eugene Sumy, filed a voluntary individual petition under Chapter 7 of the Bankruptcy Code on March 14, 1984. His amended schedules listed $19,570.50 in unsecured claims, which included $1,474.78 in debts incurred jointly with his nonfiling wife. He listed the value of his residence, which he owned jointly with his wife, at $73,500. He claimed the approximate $20,000 equity over the amount owing to the holder of a first deed of trust as exempt entireties property under 11 U.S.C. Sec. 522(b)(2)(B).

The trustee objected to the claimed exemption, and after hearing and argument the bankruptcy court sustained the trustee's objection, relying on another Maryland bankruptcy opinion. See In re Seidel, 38 B.R. 264 (Bankr.D.Md.1984). On appeal, the district court reversed the decision of the bankruptcy court and remanded the matter for further proceedings consistent with its opinion. Sumy v. Schlossberg, 46 B.R. 217 (D.Md.1985). After his motion for reconsideration was denied, the trustee appeals, arguing that the debtor's entireties property is not exemptible, and that the bankruptcy court should administer the property for the benefit of the joint creditors.

The parties have not raised any question about our jurisdiction to hear this appeal, but we believe the issue merits brief sua sponte treatment. Subsection (a) of 28 U.S.C. Sec. 158 (as amended by the Bankruptcy Amendments and Federal Judgeship Act of 1984, Pub.L. No. 98-353, 98 Stat. 333), grants the district courts "jurisdiction to hear appeals from final judgments, orders and decrees, and, with leave of the court, from interlocutory orders and decrees, of bankruptcy judges." Subsection (d) grants the courts of appeals "jurisdiction of appeals from all final decisions, judgments, orders, and decrees entered under subsection (a)" of Sec. 158.

It is commonly acknowledged that "finality" under Sec. 158 or its predecessors must be interpreted in light of the special circumstances of bankruptcy cases, and that the decisions interpreting the similar language in 28 U.S.C. Sec. 1291 are often helpful but cannot be imported wholesale to bankruptcy jurisprudence. E.g., Four Seas Center, Ltd. v. Davres, Inc., 754 F.2d 1416, 1418 (9 Cir.1985); Sambo's Restaurants, Inc. v. Wheeler, 754 F.2d 811, 813 (9 Cir.1985). Most adversary proceedings and contested matters in bankruptcy will satisfy the different test of being "discrete disputes within the larger case," In re Saco Local Development Corp., 711 F.2d 441, 444 (1 Cir.1983), or a "proceeding arising in or related to a case under title 11." Levin, Bankruptcy Appeals, 58 N.C.L.Rev. 967, 987 (1980).

The instant controversy began with the debtor's claimed exemption of his entireties property, and the trustee's objection to that exemption led to adversary proceedings. The bankruptcy court's order in this case denied a claimed exemption, and the district court's orders effectively granted that exemption. We have previously reviewed a grant of an entireties exemption and denial of that exemption without commenting on the appealability of the order,2 so we now state explicitly what has been implicit: Grant or denial of a claimed exemption is a final appealable order from a bankruptcy proceeding. See White v. White, 727 F.2d 884, 885-86 (9 Cir.1984).

Several Code sections figure prominently in resolving the issues at bar. First, Sec. 541 defines what property of the debtor becomes property of the bankruptcy estate. It states in part that "[s]uch estate is comprised of all of the following property, wherever located: ... all legal or equitable interests of the debtor in property as of the commencement of the case." Section 522(b) then provides that "[n]otwithstanding section 541 of this title, an individual debtor may exempt from property of the estate" certain items specified under state or federal law. If a debtor's state has opted out of the federal bankruptcy exemptions,3 or if the debtor chooses to exercise his state exemptions, then the debtor may exclude from property of the estate those items exempted by state or local law and by federal nonbankruptcy law. Sec. 522(b)(2)(A). In addition, a debtor pursuing the state option, as Mr. Sumy did, may exempt from property of the estate:

any interest in property in which the debtor had, immediately before the commencement of the case, an interest as a tenant by the entirety or joint tenant to the extent that such interest as a tenant by the entirety or joint tenant is exempt from process under applicable nonbankruptcy law.

11 U.S.C. Sec. 522(b)(2)(B).

For property that becomes part of the estate under Sec. 541 and that is not exempted under Sec. 522(b), the trustee has the general power, "after notice and a hearing, [to] use, sell, or lease, other than in the ordinary course of business, property of the estate." Sec. 363(b)(1). Section 363(f) grants the trustee the power to sell most types of estate property "free and clear of any interest in such property of an entity other than the estate" if the entity consents or under certain other conditions.4 Section 363(h) then excepts tenancies in common, joint tenancies, and tenancies by the entirety from subsection (f)'s general provisions, providing that the trustee may sell the co-owner's interest along with the estate's interest only in more limited circumstances.5 If property is to be sold under Sec. 363(h), the nonbankrupt spouse has a right of first refusal, Sec. 363(i), and if the spouse does not exercise that option, the trustee must of course distribute the proceeds of sale in proportion to the respective interests of the estate and the spouse. Sec. 363(j).

The debtor in this case admits that his entireties property became part of the estate under Sec. 541, but he seeks to exempt it under Sec. 522(b)(2)(B). The trustee objects to the claimed exemption and seeks to administer the property under Sec. 363(h) for the benefit of the joint creditors. Because Sec. 522(b)(2)(B) only excludes entireties property that is exempt from process under "applicable nonbankruptcy law," we must examine Maryland law to determine the extent of any available exemption. We then interpret the Code in light of that law.

In Maryland, as in the typical entireties state,6 creditors of only one spouse may not reach the entireties property for satisfaction of their claims. State v. Friedman, 283 Md. 701, 705-06, 393 A.2d 1356, 1359 (1978); Ades v. Caplan, 132 Md. 66, 69, 103 A. 94, 95 (1918); Jordan v. Reynolds, 105 Md. 288, 294, 66 A. 37, 38 (1907). The opposite is true for creditors to whom both spouses are obligated: "[A] judgment obtained against both husband and wife arising out of a joint obligation may be satisfied by execution upon property held by the entireties." Friedman, 283 Md. at 706, 393 A.2d at 1359; Frey v. McGaw, 127 Md. 23, 95 A. 960 (1915).7

One consequence of such entireties law under the Bankruptcy Act of 1898 was that if both spouses filed for bankruptcy, "courts would consolidate the cases and consider the tenants by entirety property as an asset of their joint estates and permit liquidation of that property for the benefit of their joint creditors." In re Martin, 20 B.R. 374, 376 (Bankr.E.D.Va.1982). See Reid v. Richardson, 304 F.2d 351 (4 Cir.1962) (Virginia law); Roberts v. Henry V. Dick & Co., 275 F.2d 943 (4 Cir.1960) (North Carolina law); In re Utz, 7 F.Supp. 612 (D.Md.1934) (Maryland law); Craig, An Analysis of Estates by the Entirety in Bankruptcy, 48 Am.Bankr.L.J. 255, 283 (1974) ("if the spouses' proceedings are consolidated, the rule is uniform that the trustee will take the entirety property"). This practice is authorized and continues under the Code. E.g., Ragsdale v. Genesco, Inc., 674 F.2d 277 (4 Cir.1982); In re Penland, 34 B.R. 536 (Bankr.E.D.Tenn.1983); In re Tyler, 27 B.R. 289, 293 (Bankr.E.D.Va.1983); In re McQueen, 21 B.R. 736 (Bankr.D.Vt.1982).

In contrast to a joint filing, if only one spouse filed for bankruptcy under the 1898 Act, entireties property was treated as exempt and thus never became part of the individual bankrupt's estate. E.g., Lockwood v. Exchange Bank, 190 U.S. 294, 23 S.Ct. 751, 47 L.Ed. 1061 (1903); Phillips v. Krakower, 46 F.2d 764 (4 Cir.1931). Lockwood 's holding on this point was specifically overruled by the new Code, see H.R.Rep. No. 595, 95th Cong., 1st Sess. 368 (1977), reprinted in 1978 U.S.Code Cong. & Ad.News 5963, 6324; S.Rep. No. 989, 95th Cong., 2d Sess. 82, reprinted in 1978 U.S.Code Cong. & Ad.News 5787, 5868, and Sec. 541 now includes the debtor's interest in entireties property as part of the estate. Chippenham Hospital Inc. v. Bondurant, 716 F.2d 1057, 1058 (4 Cir.1983) (dicta); Greenblatt v. Ford, 638 F.2d 14 (4 Cir.1981).

In order to protect its rights under the 1898 Act, it was necessary for a joint creditor to obtain a lifting of the automatic stay and a withholding of the discharge. The creditor could then proceed to judgment and execution against the entireties property in state court. See, e.g., Phillips, supra; Maryland Hotel Supply Co. v. Seats, 537 F.2d 1176 (4 Cir.1976); Davison v. Virginia National Bank, 493 F.2d 1220 (4 Cir.1974). If a joint creditor did not act promptly, the debtor's discharge would eliminate his personal liability, and the creditor would no longer be able to proceed against the property for satisfaction of its claim. See generally Ackerly, supra note 5, at 704-12. We have repeatedly condemned such a result as "legal fraud,"8 but the gaps in the Act were such that it was not unknown. See, e.g., Harris v. Manufacturers National Bank of Detroit, 457 F.2d 631 (6 Cir.), cert. denied, 409 U.S. 885, 93 S.Ct. 118, 34 L.Ed.2d 142 (1972); Fetter v. United States, 269 F.2d 467 (6 Cir.1959); In re Shaw, 5 B.R. 107, 111 (Bankr.M.D.Tenn.1980); Ades v. Caplan, 132 Md. 66, 103 A. 94 (1918). One might have questioned whether the Phillips remedy of lifting the stay in bankruptcy for joint creditors to pursue their remedies in state court survived the Code's elimination of the necessity for that remedy,9 but we have explicitly held that the option is still available. Chippenham Hospital, Inc. v. Bondurant, 716 F.2d 1057 (4 Cir.1983).

The result in Bondurant was foreshadowed in dicta in In re Ford, 3 B.R. 559, 576 (Bankr.D.Md.1980) (in banc), aff'd on the opinion of the bankruptcy court sub nom. Greenblatt v. Ford, 638 F.2d 14 (4 Cir.1981) (per curiam), but the district court in this case felt constrained to reverse the bankruptcy court because of other language from Ford. We do not agree that Ford controls the result in this case, and we think that the teachings of our other precedents call for reversal of the district court.

Ford did contain language that is applicable to this case, but the facts there reveal that the language was dicta.10 The statement from Ford that guided the district court's decision was that "[s]ince the debtor's interest in entireties property is exempt from process by both his individual and joint creditors under Maryland law, the debtor's interest in property which he holds as a tenant by the entirety may be exempted from the estate by Mr. Ford under Sec. 522(b)(2)(B)." 3 B.R. at 576 (emphasis added). But the stipulated facts as recited in the opinion do not reveal the actual presence of any joint creditors in that case. See id. at 562-64. Moreover, the opinion's obvious dicta about the continuing viability of Phillips, id. at 576, and its concluding orders, id. at 578, strongly suggest that there were no joint creditors, because the court did not grant a lifting of the stay under Phillips and it did not explicitly consider the relief the trustee now seeks. Now squarely facing the issue, we decline to adopt this dicta from Ford.

We begin our analysis of this issue with Ragsdale v. Genesco, Inc., 674 F.2d 277 (4 Cir.1982). The joint debtors in Ragsdale claimed the equity in their residence owned by the entireties as exempt under Sec. 522(b)(2)(B). We, the bankruptcy court, and the district court all rejected their claim:

The phrase "to the extent that such interest ... is exempt from process under applicable nonbankruptcy law" is of decisive importance. If the Ragsdales' residential real property could be reached to satisfy a state court judgment in Virginia, it could not be successfully claimed as exempt under Section 522(b)(2)(B).

The residential real property is held by the Ragsdales as tenants by the entirety. The judgment of Genesco was obtained jointly and severally against both. It is fundamental that a creditor holding a judgment against two or more persons jointly and severally may execute against real property owned by those same persons jointly, or held by them as tenants by the entirety.

674 F.2d at 279.

Our next decision, Bondurant, held that an unsecured joint creditor could have the automatic stay lifted in order to reduce its claim to judgment in state court and to enforce that judgment against property owned as tenants by the entireties by the debtor and his nonfiling wife. The creditor in that case specifically requested lifting of the stay, and our affirmance of that relief says nothing about what other avenues of relief may be available for joint creditors to satisfy their claims.

In this case, the trustee seeks to administer the entireties property within the context of the bankruptcy proceedings, and neither Bondurant nor any other decision of this court has specifically rejected that relief. In fact, the debtor's only argument against the relief requested in Bondurant was "that the property, which he and his wife own as tenants by the entireties, is exempt under the provisions of ... Sec. 522, and is, therefore, not reachable by joint creditors." 716 F.2d at 1058. We explicitly rejected this argument, id., thereby reaffirming the guiding principle of all of our relevant cases that joint creditors are entitled, and should in some manner be allowed, to reach entireties property to satisfy their claims. In Bondurant we also quoted the key language above from Ragsdale and cited with approval the Third Circuit's decision in Napotnik v. Equibank & Parkvale Savings Association, 679 F.2d 316 (3 Cir.1982), to the effect that entireties property is not exempt under Sec. 522(b)(2)(B) where a joint creditor holds a judgment against both spouses. 716 F.2d at 1059 n. 2.

Our fourth recent decision in this area, Sovran Bank v. Anderson, 743 F.2d 223 (4 Cir.1984), held that the automatic stay could be lifted for a secured creditor to pursue its remedies against entireties property in state court. We found both Ford and Phillips persuasive there, but, like Bondurant, there is no inconsistency between Anderson and the result we reach here. In addition to the fact that we did not consider in Anderson the relief the trustee now requests, that case involved only secured creditors, and it is a commonplace occurrence for a bankruptcy court to lift the stay to allow secured creditors to realize on their collateral in state court.11

Applying the above precedents from this circuit and from Maryland, we cannot accept the debtor's argument that entireties property is exempt even from joint creditors' claims. The debtor's argument fails to comprehend fully the extent of the changes made by the several relevant sections of the new Code,12 and he thus urges us to adopt an internally inconsistent position: The entireties property would only be exempt in bankruptcy if it is immune from process under state law, but we have already held that joint creditors may have the stay lifted and proceed against the property in state court. The fact that joint creditors can reach the property in state court flatly contradicts the immediately preceding premise that the property is immune from process under state law.13 The proper interpretation of Sec. 522(b)(2)(B) as it applies in Maryland is that "to the extent that such interest as a tenant by the entirety or joint tenant is exempt from process under applicable nonbankruptcy law" means "to the extent that there are only individual claims," because entireties property is not exempt from process to satisfy joint claims in Maryland. A debtor does not lose all benefit of Sec. 522(b)(2)(B) when joint creditors are present, but he does not benefit from it to the extent of joint claims.14

We implicitly rejected arguments similar to the debtor's here in Ragsdale, 674 F.2d at 278-79,15 and, as noted above, in Bondurant we explicitly rejected a debtor's argument that his interest in entireties property was exempt from the claims of joint creditors. Ragsdale and Bondurant arose under Virginia law, while Ford and the instant case arise under Maryland law, but the entireties law in those two states is identical in all relevant respects. Moreover, the debtor's argument has been explicitly rejected by the only other circuits to consider the issue to date, see Liberty State Bank & Trust v. Grosslight, 757 F.2d 773 (6 Cir.1985) (applying Michigan law); Napotnik v. Equibank & Parkvale Savings Assn., 679 F.2d 316 (3 Cir.1982) (Pennsylvania law), and by the majority of bankruptcy courts in other states with similar entireties law.16 The reported decisions allowing exemptions under Sec. 522(b)(2)(B) either involve only individual creditors,17 in which case Maryland law too would exempt entireties property, or they arise in the context of motions to lift the stay and/or withhold a discharge by joint creditors,18 and thus are distinguishable.

We reject the argument that Maryland entireties property is exempt in bankruptcy even from joint creditors by interpreting Sec. 522(b)(2)(B) in light of state law. But we note that we could not accept the thesis that such property is exempt in bankruptcy from joint creditors without creating additional difficult theoretical and practical problems under the Code. The most important difficulties concern the consequences of exempting the property for a joint creditor's attempts to obtain satisfaction of his claim. If we were to adopt Sumy's interpretation of the entireties exemption, and if Sumy were to make full use of the Code's broad powers and protections for debtors, he might be able to commit the very "legal fraud" that we have repeatedly condemned.

The basic debtor protections on discharge include elimination of personal liability and an injunction against attempts to collect past debts from the debtor.19 The effect of these protections or weapons may be blunted by withholding or conditioning the discharge until the joint creditor obtains satisfaction in state court,20 but similar protections relating to exempt property are not so obviously avoidable. If the debtor's interest in entireties property is exempt under Sec. 522(b)(2)(B), then most pre-petition judicial liens on that property would impair that exemption and be avoidable at the debtor's option under Sec. 522(f)(1).21 Moreover, merely withholding the discharge while a joint creditor pursues his remedies in state court may not suffice, because the debtor may be able to use Sec. 522(f)(1) to avoid post-petition liens as well.22

Section Sec. 522(c) complements subsections (b) and (f) by protecting the property itself. It provides that "property exempted under this section is not liable during or after the case for any debt of the debtor that arose ... before the commencement of the case." Even assuming that the joint creditors act quickly enough to stay the discharge and preserve personal liability, they cannot collect on their claims without proceeding against the property, but that is what Sec. 522(c) proscribes.23 Thus, the Code's exemption and avoidance powers, coupled with the debtor's erroneous interpretation of the entireties exemption, seem to give the debtor the power to reach what is clearly an improper result.24 On the other hand, if the debtor's interest in the property is not exempt under Sec. 522(b)(2)(B), the debtor cannot lay claim to such powers, and the property itself may be administered by the trustee under Sec. 363.25

Joint creditors often may choose among different methods to obtain satisfaction, but we note several practical concerns that support our result and the availability of Sec. 363(h).26 For example, bankruptcy law's longstanding principle of equal treatment of similarly situated creditors may be violated, and joint creditors who race to have the stay lifted and to state court may obtain an undeserved advantage. Each joint creditor may have to move separately for an order lifting the stay, and each may incur additional and largely duplicative expenses proceeding against the debtors and the property in state court. Some joint creditors, such as the four in this case whose claims total less than $1500, may not have a sufficient individual incentive to pursue their claims at all outside of the bankruptcy arena. Once the parties are freed of the stay, priorities will be determined in state court largely according to state law, and the bankruptcy court will relinquish control over collection of the claims.27 If joint creditors do not act quickly enough to preserve their rights in state court, the debtor may secure a discharge and thus accomplish the "legal fraud" condemned in Phillips.

Another practical problem is that the discharge of the debtor must be withheld during the pendency of the underlying lawsuit and execution and foreclosure action in state court, which hinders the debtor in obtaining a prompt fresh start from bankruptcy. This same lengthy delay may also postpone distribution of the assets to creditors of the estate, because a joint creditor, even if secured, may emerge from the state proceedings with its claim less than wholly satisfied and thus be due some share from the estate. Thus, we agree with the Sixth Circuit, that "[i]n appropriate cases, the court may lift the automatic stay to allow the creditor to proceed against the entireties property in state court," but that, especially where the trustee does not request that relief, "[w]e see no reason for such a procedure here, when judicial economy would be better served by a single proceeding in bankruptcy court." Grosslight, 757 F.2d at 777.

To summarize, we hold that, to the extent the debtor and the nonfiling spouse are indebted jointly, property owned as a tenant by the entireties may not be exempted from an individual debtor's bankruptcy estate under Sec. 522(b)(2)(B) and the trustee may administer such property for the benefit of the joint creditors under Sec. 363(h). Accordingly, the judgment of the district court is reversed, and the case is remanded for further proceedings consistent with this opinion.

REVERSED AND REMANDED.