When a creditor presents a claim against a Chapter 7 bankruptcy estate, it must be legally valid. In other words, if the creditor could not normally sue to enforce the debt outside of bankruptcy, it cannot seek to collect the debt from the bankruptcy trustee. After all, bankruptcy is about giving a second chance to the debtor, not the creditor.
Time Limits on Creditor Claims
To put this in context, consider the fact that Nevada has a four-year statute of limitations on open credit accounts with a revolving balance. Let’s say you have a bank credit card with an outstanding balance of $1,000. You made your last payment in March 2013. You have made no effort to pay the balance since then and simply ignored any collection notices sent by the bank.
In April 2017, you file for Chapter 7 bankruptcy petition. The bank files a claim for the $1,000 against your bankruptcy estate. At this point, the claim is invalid because more than four years has elapsed. Even if you never filed for bankruptcy, the bank could not legally sue to collect the judgment in Nevada state court.
What Happens When State Laws Conflict in Bankruptcy?
Statutes of limitations differ between states. This can pose an issue in bankruptcy cases, which are governed by a combination of federal and state laws. The U.S. Ninth Circuit Court of Appeals, which has jurisdiction over bankruptcy cases from Nevada and other western states, recently confronted the question of how to deal with such a conflict in practice.
In this case, the debtors are a married couple living in California. In 2007, they purchased a condominium in California. There were two outstanding loans against the property. Unfortunately, the debtors defaulted on the loans, and the lender with the priority claim foreclosed.
This left the second lender with an outstanding debt of $42,000. Apparently, no action was taken to collect on this debt. The debtors filed for Chapter 7 bankruptcy protection in California in 2013, nearly six years after taking out the original loan. The lender then filed a claim against the bankruptcy estate.
Here was the problem: California has a four-year statute of limitations on the enforcement of written promissory notes like the one securing the bank’s loan. But the lender was a bank based in Ohio, which has a six-year statute of limitations. Furthermore, the note itself said it was governed under the terms of Ohio law.
If the bankruptcy court enforced the California time limit, the bank’s note was invalid and the trustee of the debtors’ bankruptcy estate had no obligation to pay off the loan. But if Ohio law applied, the note and the creditors’ claim were still valid. The debtors obviously encouraged the bankruptcy judge to apply California law since it was to their benefit. But the judge decided Ohio law should apply and overruled the debtors’ objection.
The Ninth Circuit agreed that this was the right decision. Normally, when parties sign a written contract specifying a “choice of law,” that decision is binding in any subsequent litigation. So, in the normal course of events, Ohio’s six-year limit would apply to the note.
But this was not a normal situation. The Ninth Circuit said the note did not specifically state it applied to the statute of limitations. It was therefore deemed “silent on the issue.” (One of the Ninth Circuit judges disagreed on this point and felt the note’s choice of Ohio law was binding on the bankruptcy court.)
That said, there were “exceptional circumstances” that still justified applying Ohio’s longer time limit. Basically, the Ninth Circuit said that applying California’s shorter statute of limitations would unfairly prejudice the creditor’s rights. After all, if the debtors had not filed for bankruptcy, the lender could have moved to enforce its note under Ohio law. But once the debtors sought Chapter 7 protection, the creditors had “no forum for its claim” other than the bankruptcy court in California. Therefore, it would be “unfair” to dismiss the creditor’s claim based on California’s stricter time limit.
Get Help from a Nevada Bankruptcy Lawyer
This is just one example of the highly technical legal issues that can arise in a Chapter 7 bankruptcy case. While most bankruptcies are resolved in a few months without any notable creditor objections, when something does go wrong, it can lead to more extended litigation. It is important to work with an experienced Las Vegas bankruptcy attorney who understands the legal system and how to help you avoid potential traps. Contact the Law Office of Erik Severino today at 702-997-4149 to schedule a free consultation.