By: Robert L. Pryor
Prior to the decision of the Second Circuit Court of Appeals in Community National Bank & Trust Company of New York v. Persky (In re Persky), 893 F.2d.15 (2d.Cir.1989) the convention followed in bankruptcy cases pending in the Eastern District of New York was that where an individual tenant by the entirety owner of a homestead filed a Chapter 7 petition in bankruptcy, said interest would not be administered by the trustee in bankruptcy or if so, would be administered at a nominal value. The net effect of this ingrained doctrine was that individual debtors were not substantially impacted in seeking to discharge their debt simply because some non-exempt equity existed in their homestead. This judicial predisposition was quite unremarkable as it was wholly consistent with the fact that historically the sale of tenancy by the entirety interests through the vehicle of a judicial execution sale under New York law would generate a bid of only a small fraction of the overall equity in a homestead.
Under New York law, a creditor possessing a claim against one of two tenants by the entirety cannot bring a partition proceeding to sell the real property. Instead, the creditor is relegated to selling the debtor’s rights in the real estate, leaving the non-debtor tenant’s rights undisturbed. At such execution sale, the purchaser would become a tenant in common in the real property, subject to the non-debtor spouse’s right of survivor-ship. See First Federal Savings & Loan Association of New York v. Lewis, 218 N.Y.S.2d 857 (2d.Dept.1961); Finnegan v. Humes, 298 N.Y.S.50 (S.Ct.Lewis Co.1937). Moreover, the deed acquired by the purchaser created no present right of possession, but merely a tenancy in common as to profits, if any, generated from rental of the real property. In other words, a purchaser at an execution sale had no present possessory rights to the property during the life of the cotenant by the entirety, and if the cotenant spouse, usually the wife, survived the debtor, the purchaser’s property rights were completely extinguished. Id. at 66.
As stated by Judge Leonard Austin in the case of Kantor v. Mesibov, 836 N.Y.S.2d 493, (S.Ct.NassauCo.2007):
..a determination of the value of…(the debtor’s) interest in the property at a judicially directed sale must take into account several factors not related to a simple calculation of . . . [the total] equity; to wit: [the cotenant’s] right of occupancy and survivorship… the inability of the purchaser to obtain a partition of the property… and the purchaser’s obligation to pay costs and expenses relating to the property without having any rights of occupancy… additionally, the purchaser of […the debtor’s] interest would be taking his/her interest subject to all existing liens.
One of the most fundamental of principles of bankruptcy law is that state law defines the property rights of a debtor filing bankruptcy. Butner v. United States,99 §.Ct.914 (1979), Thus, absent a bankruptcy statute modifying such state law rights, there should be no difference between a state law valuation of a tenancy by the entirety interest and one undertaken in the context of a bankruptcy case.
Section 363(h) of the Bankruptcy Code has been argued by some (generally trustees and creditors) to alter state law created property rights. Section 363(h) creates an authorization to a trustee in bankruptcy to sell not only the debtor’s tenancy by the entirety interest, but the cotenant’s interest, as well, if the trustee can meet a four part test. The two prongs which are relevant to the instant analysis are that: (a) “the sale of the estate’s undivided interest in such property would realize significantly less for the estate than sale of such property free of the interest of such co-owners”, and (b) “the benefit to the estate of a sale of such property free of the interest of co-owners outweighs the detriment, if any to such co-owners.”
In the case of In re Levenhar, 30 B.R.976 (Bankr.E.D.N.Y.1983), prior to Persky the guiding decision in the Eastern District, Judge Goetz, in reliance upon the Supreme Court case of U.S. v. Rodgers,103 S.Ct.2132 (1983), addressed the first element, i.e., how to determine whether the sale of the estate’s interest in the property would yield significantly less for the estate than if the entire fee were to be sold. In Levenhar, Judge Goetz held that the value of the debtor’s interest in real property should be computed on an actuarial basis and that it would be a fallacy to determine that each of two tenants by the entirety owns a 50 percent interest in the net proceeds of sale. If one breaks down into its component parts, the interest acquired by a purchaser of an entireties interest, it amounts to a defeasible future interest, i.e., the right to become fee simple owner if the debtor survives the non-debtor spouse, with the concomitant forfeiture of all rights if said non-debtor spouse survives the debtor.
Moreover,these rights will not vest until the conclusion of the non-debtor spouse’s life estate.Thus, the purchaser’s defeasible future interest should be discounted through a present value analysis, i.e., how much would a purchaser pay today, to await the death of a co-owner, to receive either fee simple ownership if the debtor survives his spouse, or nothing, if she survives the debtor.
The second element, that the benefits of the estate exceeds the detriment to the co-owner, would deal with non-economic factors such as the need to be situated close to a house of worship, and the need to continue children in the school system to which they had become accustomed.
Because a trustee must prove each of these 11 U.S.C. § 363(h) elements to be able to sell the non-debtor’s interest in the real property, if the trustee fails in one, he cannot sell the non-debtor’s interest.Where this leaves us is that if the actuarial value of the debtor’s interest is quite small,would then be further reduced by the 50,000 dollar homestead exemption to which the debtor is entitled under Article 10A of the New York Debtor and Creditor law, then to the extent a debtor offers the trustee the present value of the defeasible future interest minus $50,000, the trustee is precluded from the sale of the property.In other words, if the debtor offers to the trustee the present value of the defeasible future interest, the trustee cannot sustain his burden that the bankruptcy estate would realize more by the sale of the co-owner’s interest. By way of example, if the trustee only has a right to 10 percent of the equity, to pick an actuarial percentage at random, minus $50,000, then if the debtor makes an offer of that amount, then that sum would be all the trustee would retain for the estate if he were to sell the entire fee simple, and he cannot meet his burden that the estate will realize more on sale of the entire fee.
In 1989, the Second Circuit held in In re Persky, 893 F.2d at 15, that the court should consider non-economic factors in analyzing whether “the benefit to the estate out-weighs” the detriment to the co-owner. Significantly absent from the Persky analysis is any discussion whatsoever of the actuarial analysis that the trustee would be required to undertake to prove that the sale of the co-owner’s interest together with the estate’s interest would yield a greater amount to the bankruptcy estate. A careful reading of the Persky decision indicates why. There, the non-debtor spouse stipulated that the sale of the debtor’s survivorship interest alone would realize significantly less for the estate than if there were a sale of the entire property. Stated differently, the non-debtor spouse waived the trustee’s obligation to prove the most difficult portion of his case. As stated by the court:
In this case, the stipulated facts indicate the values of Stewart and Bernard Persky’s survivors-hip interest are $4,500.00 and $2,500.00 respectively. Stewart Persky’s equity in his home is $33,250.00 and Bernard Persky’s is $38,725.00. Such equity values can only be realized from a sale of the entire interest in a tenancy by the entirety. Because the parties stipulated that there would be greater return to the bankrupt estate under a §363(h) sale then under the Trustee’s proposed debtor’s survivor-ship interest sale, the economic benefit to the estate is established.
One year later, litigants were offered a second opportunity to place the actuarial valuation of the debtor’s interest before the Second Circuit. However, once again, the case of Sartorius v. Sapir (In re Sartorius), 205 F.3d 1324 (2d Cir.2000) the issue was not put before the lower court and thus was not addressed on appeal. In fact, District Judge McMahon concurred with bankruptcy Judge Hardin that the case was “probably the most inadequately litigated and inadequately layered case he had ever seen.” The issue of the very limited value of the debtor’s tenancy by the entirety interest was never raised. In fact, the only showing made by the trustee, which the bankruptcy court noted nevertheless met the trustee’s burden of establishing a prima facie case, consisted of a) evidence of the value of the real property, b) the bankruptcy schedules, and c) the proofs of claim filed against the debtor, See Sapir v. Sartorius, 230 B.R. 650, 656 (S.D.N.Y.1999). In affirming the bankruptcy court, District Court Judge McMahon expressly noted the importance of valuation issues; he also noted that the defendant “offered no evidence to controvert the trustee’s evidence of value.” Id. The Second Circuit affirmed the lowers court’s decision, holding that the trial court did not abuse its discretion based upon the sparsity of the record below, 205 F.2d at 1324.
In the 20 plus years since the Second Circuit decision in Persky, it has become common practice in the Eastern District of New York for trustees to contest that an actuarial valuation is appropriate in determining the value of a non-debtor spouse’s interest in the marital homestead. Instead, Chapter 7 trustees contend that a fair reading of Persky would dictate a 50/50 split of the equity otherwise existing in said real property. In response, it has been typical of the consumer debtor’s bar to make an offer to purchase the trustee’s rights in the homestead at a number somewhere between an actuarial value consistent with Levenhar and New York State precedent, and the 50 percent number urged by the trustee. Significantly, there has been no decision since Persky decided in the Eastern District specifically and directly addressing this issue which has been percolating for a surprisingly long time.
However, a careful reading of Persky and Sartorius makes crystal clear that in light of the flimsiness of the record that provided the basis for existing Second Circuit precedent, one should be cautious in over reading these cases for the proposition that a) an actuarial analysis has been rejected by the Second Circuit, and b) the trustee’s right to sell a non-debtor co-owner’s interest in tenancy by the entirety property comes down to a simple analysis of non-economic factors to determine whether the “benefit to the estate” exceeds the detriment to the non-debtor spouse.2
While there has been no authoritative decision since Persky explicitly dealing with the interplay between 11 U.S.C. § 363(h) and the New York law of tenancies by the entirety, and providing an analytical framework for the precise valuation of a tenancy by the entirety interest, revisiting the factual underpinnings of Persky reminds us that the proper
representation of a non-debtor tenant by the entirety requires returning to these fundamental principles and a skepticism as to alternative readings of the Persky decision.
Note: Robert L. Pryor has specialized in representing debtors, creditors, and trustees in consumer and business bankruptcies under Chapter 7, 11, and 13 and related adversary proceedings, and workouts since 1984. He is the author of various scholarly articles appearing in the New York Law Journal and Nassau Lawyer, and is a frequent contributor to the Newsday “Ask the Expert” column. Mr. Pryor is the former law clerk of C. Albert Parente, Chief Judge United States Bankruptcy Court, Eastern District of New York.
1. This proposition assumes that the property is occupied by the debtor and his non-debtor spouse and is not generating any net rental income.
2. Cases recognizing the continued viability of an actuarial analysis but not specifically addressing the factors to consider and addressing the mechanism for such an analysis, include In re Morris, 115 B.R. 752 (Bankr.E.D.N-Y.1990) (“the court must analyze all factors including actuarial calculations”) and In re Waxman, 128 B.R.49
(Bankr.E.D.N.Y.1991) (“a party’s interest in a tenancy by the entirety has a dubious and uncertain value”).
