Tydings & Rosenberg LLP Summer Newsletter Articles
Summer 2009
Auto Lenders Are Now Better Protected in Consumer Bankruptcies
By Catherine K. Hopkin
A recent court decision clarifies a provision of the Bankruptcy Code that has caused uncertainty for auto lenders nationwide. This provision, which prohibits consumer debtors from breaking down claims for certain auto loans into unsecured and secured portions, was intended to provide more favorable treatment for auto lenders. The provision applies to debtors who financed motor vehicles within 910 days of their bankruptcy filings, and was supposed to prevent debtors from loading up secured debt on expensive vehicles that they could later reduce in their Chapter 13 bankruptcy proceedings. However, inconsistent application of the provision resulted in uncertainty for many auto lenders who engage in consumer auto financing until recently, when a federal appellate court issued an opinion that limits a consumer debtor’s ability to break down auto loans into secured and unsecured claims. This court’s decision is binding on bankruptcy claims in Maryland, Virginia, West Virginia, South Carolina, and North Carolina.
Before the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) was enacted, a debtor could take an auto lender’s secured claim and break it into two parts: a secured claim for the value of the vehicle, and an unsecured claim for the remainder owed to the lender. This was commonly referred to as a “cramdown” of the claim. For example, a debtor who owned a vehicle valued at $10,000 with $15,000 of debt on the vehicle could break the lender’s claim into a secured claim for $10,000 and an unsecured claim for $5,000. This was very favorable to the debtor, because he or she could then lump the unsecured claim in with all of the other unsecured claims, which were typically paid only a fraction of the claim amounts. On the other hand, the debtor had to pay the secured claim in its entirety.
BAPCPA introduced a new provision that prohibits cramdown of a lender’s claim if the claim is a purchase money security interest ("PMSI") in a motor vehicle that was purchased for the debtor’s personal use within 910 days of the bankruptcy filing. Generally stated, a PMSI arises where the money lent is used to purchase the same collateral securing the loan. This provision seemed fairly straightforward, and was intended to provide relief for auto lenders in Chapter 13 bankruptcy proceedings.
However, soon after BAPCPA was enacted, a new issue arose. Often, auto lenders will allow a customer to trade in an old vehicle with the value assigned to the trade-in being applied to the purchase price on the new vehicle. In many cases, the customer owes more on the trade-in vehicle than it is worth, and the auto lender pays off the lien on the old vehicle and rolls that amount into the sale price, and consequently the financing, for the new vehicle. The amount the lender pays off on the trade-in vehicle above the value of the vehicle is referred to as “negative equity.”
There was disagreement about whether this negative equity is part of the auto lender’s PMSI that is protected from cramdown. Some courts find that it is part of the lender’s PMSI in the vehicle, and have allowed auto lenders full protection of their claim from cramdown. Other courts find that the negative equity itself is not protected from cramdown, but that the rest of the lender’s claim is still protected. And yet other courts find that the negative equity component of the lender’s interest destroys the nature of the claim, and that the entire claim may be crammed down just as it could be under pre-BAPCPA law.
Maryland courts have not yet ruled on this issue, but the United States Court of Appeals for the Fourth Circuit did recently in April 2009, when it stated that a claim including negative equity cannot be bifurcated into secured and unsecured debt. In its ruling, this court found that state law governs the definition of a PMSI, and most states define a PMSI as an interest in collateral where the obligor gave value to enable the debtor to acquire rights in or use of the collateral. Auto financing that includes negative equity does, in fact, enable a debtor to acquire rights in a vehicle; therefore the court found that a claim including negative equity is a PMSI in its entirety. Consequently, no portion of an auto lender’s claim can be crammed down by a consumer debtor, as long as the vehicle was purchased within 910 days of the debtor’s bankruptcy filing.
Maryland auto lenders can now breathe a collective sigh of relief. Allowing customers to trade in old vehicles and roll negative equity into a new loan will not destroy the lender’s status as a fully secured creditor if the customer later files for bankruptcy within 910 days of his or her purchase.
If you have any questions regarding BAPCPA revisions or any other bankruptcy-related issues, please contact Cate Hopkin at 410.752.9768 or via email at .
New Maryland Law to Affect Manufacturers, Retailers, and Distributors
By Gregory M. Garrett
On October 1, 2009, a new law will take effect in the State of Maryland, making it illegal for manufacturers, retailers, distributors, franchisees, or dealers to agree on a minimum resale price for products or services. The new law is intended to make clear that, under the Maryland Antitrust Act, such arrangements (known as minimum resale price maintenance) will be illegal, and no mitigating factors will be considered.
Background. For more than 90 years, agreements calling for minimum resale price maintenance were illegal under federal antitrust law, without any regard to the justification for the agreement. In 2007, however, the United States Supreme Court’s decision in Leegin Creative Leather Products v. PSKS Inc. changed the legal landscape regarding resale price maintenance under federal law. In Leegin , the Supreme Court held that the legality of “vertical” minimum price restraints (i.e., those between a supplier and its customer) will be evaluated by looking at several factors, including the reasons for the minimum price restraints. Like virtually all states, Maryland has its own antitrust laws, which generally apply to business conducted within the state’s borders. The new statute marks a clear divergence between federal and state antitrust law, as some conduct that might be deemed legal under Federal law will be illegal under the new Maryland statute.
What does this mean for Maryland businesses? Assume that a manufacturer, ProductionCo, manufactures high end stereos that are sold under the ProductionCo trademark. ProductionCo sells the stereo equipment directly to two Maryland retailers, VendCo and SalesCo, and charges each of them $600 per stereo. VendCo employs highly trained salespeople, who have detailed knowledge of the differences between ProductionCo’s stereos and the competition, and who are paid a yearly salary. The salespeople spend hours with each potential customer, explaining the differences between the various stereos, and they promote ProductionCo’s stereos as the best in the business. VendCo charges the consumer $1,000 for a ProductionCo stereo. SalesCo, on the other hand, employs cashiers only, who are paid minimum wage, have little to no interest in stereos, and respond to customer queries with blank stares. Because SalesCo’s costs are much lower than those of VendCo, SalesCo is able to, and does, sell a ProductionCo stereo for $800. Market research shows that consumers are most likely to visit VendCo to learn about stereos, but they are most likely to buy a stereo from SalesCo. Because VendCo actively promotes the sale of ProductionCo products to consumers, ProductionCo wants to protect VendCo’s ability to stay in business. To do that, ProductionCo enters into separate agreements with VendCo and SalesCo, by which each retailer agrees that it will charge consumers, at a minimum, $1,000 per ProductionCo stereo. Under the new law, the agreements are unlawful, and the reasons why ProductionCo entered into the agreements are irrelevant.
Manufacturers, wholesalers, distributors, and retailers that do business in Maryland need to take note of the new statute, and ensure that the agreements that they have in place are not in violation of state law. For instance, if a manufacturer has entered into agreements with Maryland retailers that require the retailers to sell the manufacturer’s product for at least a minimum price, the manufacturer and retailers should take immediate action to terminate the agreements. Under Maryland law, as of October 1, 2009, such agreements will be illegal, and the resulting civil and criminal litigation can be very costly and time consuming.
If you have any questions regarding antitrust laws in Maryland, please contact Greg Garrett at 410.752.9767 or via email at .
