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Trustee Must At Least Disclose Intent to Avoid Transfer and Recover Property To Invoke Section 522(g) to Disallow Exemption

On Behalf of | Jul 30, 2021 | Bankruptcy Appellate Panel

In In re Perez (Zamora v. Perez), BAP No. CC-20-1280, the Ninth Circuit Bankruptcy Appellate Panel (“BAP”) upheld the Bankruptcy Court’s overruling of the Chapter 7 Trustee’s objection to the Debtor’s homestead exemption under Section 522(g) of the Bankruptcy Code because the Trustee did not put the Debtor on notice that the transfer was avoidable and that the Trustee intended to recover the property. Section 522(g) disallows an exemption in property if that property was voluntarily transferred by the debtor or was concealed by the debtor, the transfer of the property was done so as to invoke the trustee’s avoidance powers, and the property was returned to the estate as the result of the trustee’s efforts.  The Perez case focuses on what efforts of the trustee are required.

Here, the potentially avoidable transfer was a deed of trust recorded on the Debtor’s residence pre-petition.  The Trustee inquired of the circumstances surrounding the recording of the deed of trust at the meeting of creditors and advised the Debtor she would hire a broker to market the residence, but she never advised the Debtor of the potential avoidability of the lien or that the Trustee may try to recover the transfer.  After the meeting of creditors, the Debtor amended his schedules to reference the deed of trust as an avoidable preference and claimed a homestead exemption in the residence.  The Trustee filed an adversary seeking to avoid the deed of trust.  The deed of trust was then reconveyed.  The Trustee subsequently objected to the Debtor’s homestead exemption claimed on his amended schedules on the basis of Section 522(g).  The bankruptcy court overruled the objection and the BAP affirmed.  The BAP concluded that while Section 522(g) does not require the Trustee to obtain a final judgment, or even file an adversary proceeding, the Trustee must at least disclose that he/she intends to seek recovery of the transfer before the property is returned, which results in the recovery of the property.  “In other words, the debtor must be put on notice by an affirmative act or statement of the trustee that the transfer is avoidable and/or recoverable under the Bankruptcy Code and that the trustee intends to take action to recover the property interest.”

As in all bankruptcy matters, the number one rule is to disclose, disclose, disclose.  This case reminds us of this mantra, albeit in a different context than normal.

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