Bankruptcy Trustee Must “Recover” Property to Deny Debtor Exemption Under Section 522(g)

Bankruptcy trustees sometimes seek to create value for their bankruptcy estates at the expense of debtors by seeking to deny a bankruptcy exemption by claiming that the trustee “recovered” property of the estate. However, whether the Trustee can make such a claim depends on the facts of the case.

The Bankruptcy Code, 11 U.S.C. § 522(g), provides that “the debtor may exempt under subsection (b) of this section property that the trustee recovers under section 510(c)(2), 542, 543, 550, 551, or 553 of this title, to the extent that the debtor could have exempted such property under subsection (b) of this section if such property had not been transferred, if—(1) (A) such transfer was not a voluntary transfer of such property by the debtor; and(B)the debtor did not conceal such property; or (2) the debtor could have avoided such transfer under subsection (f)(1)(B) of this section.”

In many cases, the debtor indeed transferred the property voluntarily pre-petition, meaning before the bankruptcy was filed. However, that is not the end of the analysis to deny the debtor a wildcard or homestead exemption.

As the Ninth Circuit explained, “[t]he language of § 522(g) requires that the trustee, or a creditor acting in a similar capacity, have taken some action which has resulted in the recovery of the property.” In re Glass, 60 F.3d 565, 569 (9th Cir. 1995). That case explained that there is nothing to “suggest Congress intended to comprehend property which the trustee might, but does not, recover.’” “In the bankruptcy context, a trustee may ‘recover’ fraudulently transferred property in several ways: by initiating a formal adversary proceeding, by obtaining a judgment in his or her favor in that adversary action, or merely by using the threat of the avoidance powers to convince a debtor or third party transferee to return the property to the estate.”  In re Glass, 60 F.3d 565, 569 (9th Cir. 1995).

For example, a 2018 bankruptcy case involved Chapter 7 debtors who made a voluntary, prepetition transfer of a motor vehicle to their adult daughter by permitting the daughter to use and to retain vehicle in her possession for period of several years even while they retained title in their names. The court found that the vehicle was not “ recovered” due to any action by trustee. Rather, “the Vehicle was voluntarily returned to the Debtors shortly after July 8, 2018, not due to any action by Trustee, but because their daughter purchased a new car and no longer needed it, as demonstrated by the text messages in evidence.” In re Leach, 595 B.R. 841, 845 (Bankr. D. Idaho 2018). The court explained that it “interprets ‘recovers’ within the meaning of § 522(g) to not include this instance, where Trustee’s actions did not result in the transferred interest being returned to the estate, and in fact occurred subsequent thereto.” 

In another example, a 2017 bankruptcy case involved the Trustee claiming to have recovered property that was already in the debtor’s name on the petition date. In re Mickens, 575 B.R. 797, 808 (Bankr. W.D. Mich. 2017).  The court explained that the statute defines recover “consistent with the ordinary meaning of the word which is to ‘win or get back.’” In re Mickens, 575 B.R. 797, 808 (Bankr. W.D. Mich. 2017). The court continued that: “The most straightforward example of a trustee ‘getting property back’ for the estate occurs when the trustee recovers property or its value from a third party transferee under § 550 after exercising her avoiding powers under §§ 544, 547, 548, or 549.” Mickens further explained that “the extent of the actions taken by the trustee are not the most important focus of the § 522(g) analysis; the more significant question is what those actions accomplished.”

In Mickens, “although the Trustee successfully avoided the prepetition transfer of the Property as a fraudulent conveyance, the court cannot conclude that the Trustee recovered the Property for purposes of § 522(g). The Trustee did not ‘win back’ property that had been transferred away and did not add property that was not in the estate when the case was filed” because “the Property was already property of the estate. The sole practical import of the avoidance of the transfer of the Property from the Debtors as joint tenants to themselves as tenants by the entireties was that it formed the basis for denial of the Debtors’ claimed entireties exemption in the Property. The Debtors retained ownership and possession of the Property both before and after the transfer, and there was nothing to ‘get back’ for the estate through a § 550 recovery.” In re Mickens, 575 B.R. 797, 810 (Bankr. W.D. Mich. 2017).

Explaining that “the avoidance of the prepetition transfer did not result in new property coming into the estate,… the court conclude[d] that Trustee has not met her burden of establishing that she recovered the Property for purposes of § 522(g). Accordingly, the Trustee’s objection to the Debtors’ amended homestead exemption on this basis is overruled.” In re Mickens, 575 B.R. 797, 810 (Bankr. W.D. Mich. 2017).

In 2021, the Ninth Circuit BAP in Zamora v. Perez (In re Perez), 628 B.R. 327 (9th Cir. BAP June 17, 2021) found that existing “cases stand for the proposition that a trustee’s threat or indication that she intends to invoke her avoidance powers to recover property for the estate, which results in the recovery of the property, is sufficient to constitute recovery by the trustee under § 522(g). On the other hand, where a trustee’s action is not the cause of the recovery, § 522(g) does not bar an exemption in the recovered property. See In re Leach , 595 B.R. 841 (Bankr. D. Idaho 2018).” Zamora v. Perez (In re Perez), 628 B.R. 327, 333 (B.A.P. 9th Cir. 2021). Zamora found that the facts in that case supported the bankruptcy court’s denial of the trustee’s motion objecting to the homestead exemption. 

If you or someone you know is facing an issue with a Chapter 7 bankruptcy trustee trying to create value for creditors at the expense of the debtor’s exemptions, it is important to contact a qualified bankruptcy attorney skilled in bankruptcy litigation.

Post Updated January 26, 2022