Upon the filing of a petition for relief under 11 U.S.C. Section 101, an estate is created pursuant to Section 541 of the Bankruptcy Code. All estate property is thereafter subject to bankruptcy court jurisdiction. Section 541(a) lists certain broadly defined categories of property: generally speaking, all of the property in which the debtor holds a legal or equitable interest on the petition date comprises the debtor's bankruptcy estate. During the bankruptcy case, property of the estate is shielded from the reach of individual creditors pursuant to the automatic stay imposed by Section 362 of the Bankruptcy Code.
When a debtor files its petition for relief under the Bankruptcy Code, the debtor must file schedules of assets and liabilities and a statement of financial affairs. Within a reasonable time after the order for relief is entered under the Bankruptcy Code, the U.S. Trustee must convene and preside at a meeting of creditors pursuant to Section 341 of the Bankruptcy Code (the 341 meeting). While the schedules must contain a comprehensive list of all of a debtor's assets, creditors often learn of additional assets by questioning a debtor at the 341 meeting. Upon the completion of that meeting, creditors should (ideally, at least) have full information regarding a debtor's assets - i.e., the property of the estate.
Search of Nondebtor Residence
However, a debtor's disclosure of its assets is sometimes not complete - either by inadvertence or by intention. In some cases, for example, debtors are alleged to have concealed assets. The case of In re Skinner presents a more unusual situation - a revelation by a debtor that he had earlier successfully concealed certain assets from a judgment creditor, but that these assets were no longer within his possession or control. In Skinner, the Bankruptcy Court for the Northern District of Ohio was called on to decide whether a Chapter 7 trustee would be permitted to search a nondebtor's residence in an attempt to locate these assets which, admittedly, were property of the debtor's estate. The court held that it did not have the authority to permit such a search.
On Sept. 27, 2005, husband and wife debtors filed a voluntary petition for relief under Chapter 7 of the Bankruptcy Code. During the 341 meeting, the husband disclosed to the trustee (and a room full of people) that he thought he had hidden cash, in excess of $100,000, in his former marital residence. Although the debtors were now divorced and the wife had sold the residence to a third party, the husband believed that the cash remained hidden in the residence, because a restraining order entered against him had prohibited him from entering the residence to remove the cash, and he believed he had hidden the cash well enough for it to have remained concealed from the new third party owners of the residence.
The trustee then filed a motion for authority for himself and a U.S. Marshal to enter the residence to recover the cash. The trustee asserted that the husband had hidden the cash inside the residence, rather than depositing it into his bank account, in order to avoid a lien attachment arising from a judgment entered against him. Thus, the trustee asserted that under Ohio law, if the cash existed, it would be property of the debtors' estate (even if the debtors no longer had a legal or equitable interest in the residence under Section 541 of the Bankruptcy Code).
The trustee implied that knowledge of the existence of the cash by those present at the meeting of creditors would interfere with the trustee's efforts to recover the cash for the benefit of the bankruptcy estate. At the same time, the trustee asserted that there would be insignificant intrusion and damage to the current owners of the residence were the trustee to be permitted to enter the residence and search for the cash. He did acknowledge that his request was extraordinary, especially because there was no certainty that the cash was still - or ever had been - hidden in the residence.
Search of Debtor's Residence
Identifying this issue - i.e., the search of a nondebtor's residence for bankruptcy estate property - as one of first impression, the court reviewed case law regarding the search of a debtor's residence for estate property. In particular, the court discussed In re Barman, in which a Michigan bankruptcy court stated that a debtor had a reasonable expectation of privacy in his residence, albeit a diminished expectation by virtue of the debtor's having filed a bankruptcy petition. The Barman court held that the Chapter 7 trustee was acting under color of federal law in inspecting the debtor's property and therefore could not search a debtor's residence for estate property without satisfying the requirements of the Fourth Amendment to the U.S. Constitution.
Specifically, the Barman court stated that in order for a trustee's inspection of a debtor's property to comply with the requirements of the Fourth Amendment, the trustee would be required to file a motion requesting an order authorizing inspection of the debtor's residence. After hearing on such a motion, any order granting it would, at a minimum, have to identify the premises to be inspected and contain factual findings supporting the court's decision. Further, the inspection would most likely have to occur during regular business hours, in the debtor's presence, and without forcible entry.
The Skinner court noted, however, that Barman was the only reported case in which it was held that a bankruptcy court could authorize inspection of a debtor's residence to locate property of a debtor's estate.
The court then proceeded to discuss opinions of two other district courts. In In re Application of Trustee in Bankruptcy, the Northern District of Ohio held that a bankruptcy trustee is not "a federal law enforcement officer or an attorney for the government" as required by F.R.C.P. 41 for the issuance of a search warrant. Specifically, F.R.C.P. 41(b) provides that "(u)pon request of a federal law enforcement officer or an attorney for the government (1) a magistrate judge with authority in the district - or if none is reasonably available, a judge of a state court of record in the district - has authority to issue a warrant to search for and seize a person or property located within the district."
Thus, the district court opined that instead of seeking relief from the courts, the trustee or the trustee's counsel must bring any suspected illegal concealment of assets to the attention of the U.S. Attorney or the FBI.
Additionally, the Eastern District of California in Spacone v. Burke (In re Truck-a-Way) stated that only a federal magistrate judge or a state judge in the district could issue a search warrant. In fact, in Truck-a-Way, the court granted a motion to disqualify trustee's counsel for violations of ethical and professional standards in relation to the ex parte procedures employed by counsel to obtain an order permitting a search of the debtor's residences.
The Truck-a-Way court noted that the only basis provided by counsel for the requested relief was Section 105 of the Bankruptcy Code, which provides that "(t)he court may issue any order, process, or judgment that is necessary or appropriate to carry out the provisions of this title." Generally, Section 105 bestows upon bankruptcy courts the broad equitable powers to take whatever action is necessary or appropriate to facilitate the effective administration of a bankruptcy case, subject to the implicit requirement that any Section 105 order be issued to carry out the provisions of another specific Bankruptcy Code section.
Moreover, the Truck-a-Way court held that Section 105 could not circumvent the clear warrant requirements of the Federal Rules of Criminal Procedure or of the Fourth Amendment.
Based on its analysis of these cases, the court in Skinner concluded that it had no authority to allow a search of a nondebtor's residence, and it denied the trustee's motion.
Conclusion
The Skinner case highlights the fact that the effectiveness of the Bankruptcy Code depends, in many ways, upon the honesty and cooperation of a debtor. If the debtor is neither honest nor cooperative, there may very well be some estate property that remains beyond the reach of a trustee, absent the commencement of a criminal investigation that leads to a search and seizure of such property. In this case, those assets were not only beyond the reach of the trustee and the creditors, but of the debtors themselves. Perhaps most unfortunate, though, is the fact that the end of this story has never been revealed, and we have no idea who walked away with the $100,000.
Rudolph J. Di Massa, Jr., a partner at Duane Morris, concentrates his practice in the areas of commercial litigation and creditors' rights. He is a member of the American Bankruptcy Institute, the American Bar Association and its business law section, the Commercial Law League of America, the Pennsylvania Bar Association and the business law section of the Philadelphia Bar Association.
Reprinted with permission from The Legal Intelligencer, © ALM Media Properties LLC. All rights reserved.