No Homestead Exemption in Property Owned by LLC
A Chapter 7 debtor could not, utilizing the doctrine of reverse-piercing of the corporate veil, claim a Minnesota homestead exemption in property owned by a limited liability corporation (LLC) which was wholly owned by a second LLC in which the debtor held a majority interest.

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» Health insurance premiums were §1114 "retiree benefits"
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A Chapter 7 debtor could not, utilizing the doctrine of reverse-piercing of the corporate veil, claim a Minnesota homestead exemption in property owned by a limited liability corporation (LLC) which was wholly owned by a second LLC in which the debtor held a majority interest, a Minnesota bankruptcy court has ruled.

The debtor, an experienced businessman who had owned and operated dozens of auto dealerships, car rental franchises, and other businesses, claimed as exempt a luxury home into which he had moved shortly before filing for Chapter 7 relief. This home was owned by an LLC which, in turn, was wholly owned by a second LLC which was owned 91% by the debtor, 5% by a company which was owned 100% by the debtor, and 4% by trusts for the debtor's children. A creditor objected to the debtor's homestead exemption claim.

Minnesota's homestead exemption, M.S.A. § 510.01, is limited to a house that is occupied and owned by the debtor, the bankruptcy court observed. "So the answer sounds easy," the court remarked. "[The debtor] does not own the property, so it would seem he could not exempt it." The debtor, however, asked the court to disregard the corporate formalities and exercise its equitable power to "reverse pierce" the corporate veil in order to deem him the owner of the property so that he could exempt it as a homestead.

Under Minnesota law, a member of an LLC is protected from personal liability for the LLC's acts, debts, liability, and obligations unless the corporate veil is pierced. Piercing the corporate veil is a doctrine that has evolved to treat creditors equitably, the court stated. Under the doctrine, courts disregard the legal concept that a corporation is a distinct legal entity in order to hold that where an individual owns all or almost all of the corporation's stock, the corporation and such individual will be regarded as one and the same if the equities of the case so require. Accordingly, a creditor who is nominally a creditor of a corporation or LLC can collect its debt from an individual personally. In traditional veil-piercing cases, Minnesota courts apply a two-prong test, first focusing on the shareholder's relationship to the corporation and, second, considering whether piercing is necessary to avoid injustice or fundamental unfairness. Factors that a court may consider under the first prong include whether there is insufficient capitalization for purposes of corporate undertaking, a failure to observe corporate formalities, nonpayment of dividends, insolvency of the debtor corporation at the time of the transaction in question, siphoning of funds by the dominant shareholder, nonfunctioning of other officers and directors, absence of corporate records, and existence of the corporation as merely a facade for individual dealings.

"'[R]everse piercing' generally refers to piercing the corporate veil in order to hold a corporate entity liable to an outsider for the debts of a corporate insider," the bankruptcy court explained. In at least two cases, Minnesota courts have allowed a debtor whose residence was owned by a corporate entity of which the debtor was the principal to pierce the corporate veil in order to claim a homestead exemption. "Insider reverse piercing has rarely been applied outside of Minnesota," the court noted, "and the application of the doctrine to allow a debtor to exempt assets held by a corporate entity appears to be unique to Minnesota." In determining whether to allow a reverse-piercing of the corporate veil, Minnesota courts consider (1) the degree of identity between the individual and his or her corporation, and the extent to which the corporation is an alter ego, and (2) whether others would be harmed by a pierce. In addition, an insider seeking reverse-piercing must show that it would be unfair and unjust not to pierce the corporate veil.

In Cargill, Inc. v. Hedge, 375 N.W.2d 477 (Minn. 1985), a married couple who had purchased a 160-acre farm by contract for deed subsequently created a family farm corporation and assigned their vendees' interest in the farm to the corporation. When a judgment creditor later purchased the property at an execution sale, the debtors sought to enjoin the proceedings and exempt 80 acres from execution as their homestead. Seeking to avoid the unfairness of denying family farmers a homestead exemption to which they would have been entitled if they had not incorporated, the Hedge court applied the reverse-pierce doctrine to disregard the corporate entity and allow the debtors to exempt the 80-acre homestead. Aware of the "'danger of a debtor being able to raise or lower his corporate shield, depending on which position best protects his property,'" the Hedge court cautioned that the reverse-pierce should be permitted in only the most carefully limited circumstances.

The second case in which a Minnesota court applied reverse-piercing to allow debtors to claim a homestead exemption, State Bank in Eden Valley v. Euerle Farms, Inc., 441 N.W.2d 121 (Minn.App. 1989), also involved a family farm which had been incorporated. In that case, the shareholders of the farm corporation had occupied their family farm homes before, during, and after the incorporation and had received homestead tax exemptions on the farm property. In addition, the corporation was found to be its shareholders' alter ego. Under these circumstances, the Minnesota Court of Appeals found that application of the reverse-piercing doctrine was not clearly erroneous.

In the case at bar, the bankruptcy court concluded that the facts simply did not support application of the equitable remedy of reverse-piercing of the corporate veil. First, the court found, the LLCs were not the debtor's alter egos. The first LLC, which owned the home in question, was created by the debtor in order to acquire properties without his wife gaining a property interest in them. Although the debtor personally made payments for the costs of improvements, taxes, and the mortgage, and contended that he did not expect to be repaid, those payments were treated as advances to the LLC on its books and records. While the debtor owned substantially all of the second LLC's stock and was its president, this LLC was an investment business which owned more than 50 properties. Moreover, there were no allegations of undercapitalization, failure to observe corporate formalities, nonpayment of dividends, and the like.

Next, the court reasoned, the debtor failed to demonstrate that reverse-piercing of the corporate veil would not adversely affect shareholders and creditors. Although the debtor owned a majority interest in the second LLC, there were five other shareholders – each separate legal entities – that would be harmed by his claim of a homestead exemption. The LLCs and the debtor each had their own creditors. Because homestead exemptions are available only to individuals, these creditors obviously would not have expected a corporate entity to claim a homestead exemption.

Furthermore, the court found that the equities of the case did not support the equitable remedy of reverse veil-piercing. Unlike the situations in Hedge and Euerle Farms, where the parties seeking the homestead exemption through reverse-piercing would have been entitled to the exemption prior to incorporating, and the question before the court was whether they lost their homestead exemptions by incorporating, the debtor's property was not his homestead prior to formation of the LLC. Instead, it was only on the eve of bankruptcy that the debtor decided to move into the home and claim it as his homestead. In contrast to the situations in Hedge and Euerle Farms, the debtor's property was not a farm and was not essential to his business. It was, rather, a luxury lakefront property. Finally, the debtor here was an experienced businessman who acquired the property through an LLC as part of an intentional strategy to keep the property out of his wife's hands. The debtor enjoyed the benefits of limited liability protection for many years and "surely would have had the means to purchase a homestead property in his own name."

"To allow [the debtor] to disregard the corporate formalities he created for the purpose of shielding his assets from his wife would be an abuse of the remedy, especially where the result would be to allow him to claim an exemption in a luxury home that he only began to occupy days before filing his petition and had not previously treated as a homestead," the bankruptcy court concluded. Consequently, the debtor's homestead exemption claim was disallowed. In re Hecker, 2009 WL 3069692 (Bkrtcy.D.Minn., Judge Kressel).

Amounts due on an equipment lease postpetition, but prior to the lease's rejection, constituted an administrative expense claim in a Chapter 11 case, even though the debtor intended to liquidate its operations from the outset. Rejecting the holdings of many court decisions as made under the Bankruptcy Act or reliant on pre-Bankruptcy Code decisions without analysis, a Michigan bankruptcy court held that current bankruptcy provisions made the leasehold a property interest of the estate upon the petition's filing and obligated the payment of the amounts due under the lease, not just the reasonable value of services the estate used. Sturgis Iron & Metal Co., Inc., 2009 WL 3317286 (Bkrtcy.W.D.Mich., Judge Hughes).

Health insurance premium payments that a corporation agreed to make for an employee in a prepetition separation agreement qualified as "retiree benefits," though salary and car allowance payments also due under the separation agreement did not. Thus, the requirement of § 1114 of the Bankruptcy Code that the payments be continued absent an agreed modification or court authorization applied to the health insurance premiums. A Delaware bankruptcy court declined to apply ERISA definitions in construing the Code's reference to "retiree benefits," even though other courts have done so because the same terms are used in ERISA's definition of an "employee welfare benefit plan." The Code does not contain specific directions that the term "retiree benefits" be based on a definition borrowed from ERISA, which was designed without bankruptcy in mind, and so the bankruptcy court based its analysis on the "essential character" of the premiums. The separation agreement, though part of a company-wide reduction in force, was offered to the employee based on his years of service, the court found. In re Arclin U.S. Holding, Inc., 2009 WL 3254934 (Bkrtcy.D.Del., Judge Carey).

A jointly administered Chapter 11 case involving an individual debtor was filed before the effective date of BAPCA, while the affiliate limited liability company's (LLC's) Chapter 11 case was filed after BAPCA's effective date. Noting that the court had found no decisional law addressing what should occur, a Maryland bankruptcy court held that, in resolving the individual debtor's motion to dismiss, each case would be governed by the statutory version in effect when the case was filed. The mere fact that the cases were jointly administered did not mandate that one particular version of the Bankruptcy Code should apply, the court stated, as joint administration is designed to promote procedural convenience and cost efficiencies which do not affect substantive rights of claimants or the respective debtor estates. In re Modanlo, 2009 WL 2923999 (Bkrtcy.D.Md., Judge Alquist).