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Creditors Beware-Automatic Stay Violations Can Lead to Massive Punitive Damages

August 5, 2016

Ohio Bankruptcy Judge Assesses $250,000 in Damages Against Mortgage Lender for Violating the Automatic Stay in Bankruptcy Proceeding

A clerical error by a mortgage lender led to punitive damages and expensive litigation. Secured creditors should take note of this case and make sure they have internal checks and balances to avoid such problems in the future.

The Bankruptcy Code imposes an "automatic stay" of all collection activities by creditors against debtors for amounts owed pre-bankruptcy. Typically, creditors expect that an internal system and periodic consultation with outside counsel will ensure compliance with the provisions of the automatic stay and avoid potential punitive damages permissible in section 362(k) of the Bankruptcy Code. In a recent Ohio case, Bankruptcy Judge Kay Woods imposed a $250,000 punitive damage award against a mortgage lender, Nationstar Mortgage ("Nationstar") for, among other failings, filing an erroneous transfer of claim in a debtors' bankruptcy proceeding. See In re Mocella, 2016 Bankr. LEXIS 2472 (Bankr. N.D. Ohio June 15, 2016). This case highlights that creditors in bankruptcy proceedings must not only cease certain activities (i.e. sending "demand letters"), but must also have controls in place to verify the information and documents submitted to the Bankruptcy Courts in connection with bankruptcy proceedings. Below is a brief summary of the Nationstar case, with some suggestions to assist in safeguarding against "stay litigation" and sizeable damage awards.

A. Background of the Nationstar Case

In 2010, husband and wife (the "Debtors") filed a voluntary petition pursuant to chapter 13 of the Bankruptcy Code. They owed about $11,000 to GMAC on a vehicle loan that was to be paid in full during the life of their bankruptcy plan ("GMAC Claim"). They were also indebted to Nationstar on a $77,000 home mortgage and a separate $3,000 unsecured loan. In 2014, Nationstar took over servicing for several thousand mortgages from a lender with a name similar to GMAC. Nationstar mistakenly believed it had taken over servicing of the auto loan, and filed a transfer of claim ("Claim Transfer") for the Debtors' auto loan. At the bottom of each claim transfer form is the legend, "Penalty for making a false statement: Fine of up to $500,000 or imprisonment for up to 5 years, or both. 18 U.S.C. §§ 152 & 3571." Upon filing of the Claim Transfer, the trustee erroneously made three (3) payments to Nationstar, totaling $279.72 for the Debtors' monthly auto payment obligations. In May, 2015 – more than five months after filing the Claim Transfer – Nationstar filed a notice of withdrawal of the Claim Transfer. After the withdrawal was filed, the chapter 13 Trustee sent Nationstar two letters, in May and September 2015, each requesting the return of the claim payments that Nationstar had received. However, Nationstar took no action to return the funds. Importantly, no distributions were made to GMAC for the three payments improperly diverted to Nationstar due to the erroneous Claim Transfer.

The Debtors made all payments concerning the GMAC Claim in accordance with their chapter 13 plan. But for Nationstar filing the Claim Transfer, the GMAC Claim would have been paid in full in accordance with the Debtors' chapter 13 plan. On May 7, 2015, the Debtor-Husband attempted to purchase a new vehicle, which was to include the trade-in of the vehicle secured by the GMAC Claim (the "Vehicle"). However, GMAC refused to release title to the Vehicle due to the amounts outstanding on the GMAC Claim.  

B. Stay Litigation

The Debtors filed a motion for contempt against Nationstar in the Bankruptcy Court, alleging gross and willful violations of the automatic stay, a variety of consumer protection and state law causes of action, as well as seeking punitive damages. 

On June 15, 2016, the Bankruptcy Court issued its 55-page opinion, finding (i) that Nationstar willfully violated the automatic stay and (ii) that its retention of the Debtors' claim payments was an intentional act that constituted a willful violation of the automatic stay because it was an act to exercise control over property of the estate. Despite Nationstar's allegation that it did not act with "nefarious and malevolent" intent, the Bankruptcy Court found that intent was immaterial to a finding of a willful violation of the automatic stay. The Court determined that the Debtors incurred actual damages in the amount of $17,750.00, as well as punitive damages in the amount of $250,000. As part of its reasoning, the Court noted that Nationstar took no steps to change its policies or procedures to ensure that this kind of "mistake" does not happen in the future. 

Nationstar has appealed the Bankruptcy Court's decision and the appeal is currently pending in the United States District Court for the Northern District of Ohio.

C. Conclusion

Among the lessons to be learned here are that once a creditor becomes aware of a debtor's bankruptcy filing, it is imperative that all collection efforts and communications of any kind with the debtor cease immediately in order to prevent any violation of the automatic stay. Once a creditor is aware of the stay and acts in violation, it is possible the creditor could be assessed actual damages and, in certain cases, punitive damages. In this case, it is clear that the bankruptcy judge lost all patience for Nationstar's lack of internal checks and balances (Nationstar had also erroneously filed three (3) motions for relief from the automatic stay in the Debtors' chapter 13 proceeding based upon (i) computation of arrears that were wholly inaccurate and (ii) failure to properly process the Debtors' loan modification.)

In conclusion, all filings with the Bankruptcy Court must be verified for accuracy and legitimacy. Furthermore, corrective measures to safeguard against future systemic issues will be taken into account for purposes of calculation of damages. In this instance, a clerical misunderstanding led to expensive litigation and astronomical punitive damages. These matters can and should be avoided in the future with a few policies, systems and collaboration with outside advisors.

For questions or more information, please contact Beth Slaby at (412) 394-2486 | or another member of Clark Hill's Corporate Restructuring & Bankruptcy team.

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