Tuesday, October 28, 2014

Full stop at the intersection of marijuana and bankruptcy law

Here at Shenwick & Associates, we counsel our clients to avoid violating any laws and regulations. While our colleagues of the criminal defense bar may lose work from such advice, it keeps our disciplinary record clean, our malpractice insurance premiums low and our clients out of trouble.

However, that's not always possible when dealing with marijuana, which remains a Schedule I substance under the federal Controlled Substances Act (which means that the federal government considers to have a high potential for abuse, no currently accepted medical use in treatment in the United States and there is a lack of accepted safety for use under medical supervision. In contrast, 23 states and the District of Columbia have enacted medical marijuana laws, and two states ( Colorado and Washington State) have taxed and regulated marijuana for adult non–medical use. This November, Oregon, Alaska and the District of Columbia will be voting on the adult non–medical use of marijuana.

This fundamental conflict between federal law and state law has had unusual consequences for marijuana entrepreneurs. Due to an obscure provision of the Internal Revenue Code, marijuana businesses aren't able to deduct ordinary and necessary business expenses from their federal taxable income. And despite the issuance of new, highly restrictive guidelines by the Financial Crimes Enforcement Network in February on how banks can provide services to marijuana businesses without violating their obligations under the Bank Secrecy Act, marijuana businesses remain largely dependent on cash.

The latest example of the problems that the conflict between state and federal law can cause impacts one of main practices–bankruptcy and creditors' rights (we also have a residential and commercial real estate practice). In August, a United States Bankruptcy Judge in Denver dismissed the Chapter 7 case of Frank and Sarah Arenas. Mr. Arenas is in the business of wholesale marijuana production and distribution. The UST's motion to dismiss the case was based on Bankruptcy Judge Tallman's holding in a prior Chapter 11 Colorado bankruptcy case, In re Rent-Rite Super Kegs West Ltd.

In reviewing the United States Trustee's motion to dismiss and the Debtors' motion to convert the case to a case under Chapter 13 of the Bankruptcy Code, Bankruptcy Judge Tallman held that the Chapter 7 Trustee assigned to the case couldn't take control of Mr. Arenas' assets or liquidate his inventory without "directly involving [the Chapter 7 Trustee] in the commission of federal crimes." Similarly, the Debtors couldn't convert their case to one under Chapter 13 of the Bankruptcy Code (which would allow them to pay off debts over time) because the plan would be funded "from profits of an ongoing criminal activity under federal law" and involve the trustee in distribution of funds derived from violation of the law. Section 1325(a)(3) of the Bankruptcy Code requires that a bankruptcy court find that a plan is "proposed in good faith and not by any means forbidden by law" to be confirmable. Bankruptcy courts in California and Oregon have issued similar holdings.

In practice, this means that creditors of marijuana businesses should avoid involuntary bankruptcy filings against marijuana businesses, but may look to state law alternatives to bankruptcy, such as foreclosure under the Uniform Commercial Code, assignment for the benefit of creditors, composition and receivership.

Monday, October 27, 2014

NY Times: Years After the Market Collapse, Sidelined Borrowers Return

By Tara Siegel Bernard

Tracy S., 59, a technical writer for a large bank, divorced her husband just as the
housing market spiraled downward. They were forced to sell their home, just
outside Phoenix, for less than they owed, and the bank agreed to absorb the
difference, about $25,000.

“Our ability to pay and our credit was perfectly fine, but neither of us could
keep the house individually,” she said. Ultimately the house sold for about
$175,000, or 21 percent less than they originally paid.

Three years after the short sale, Tracy is a homeowner once again. She bought
a three-bedroom house for $190,000 in another Phoenix suburb this year, and
qualified for a traditional mortgage with a 20 percent down payment.

“I believed and was told that I was not going to get a mortgage for the first two
years after the short sale,” she said, asking that her last name not be used to
protect her privacy. “But after that, I hadn’t really planned and didn’t think I
would be able to get a mortgage.”

So far, she has been in the minority. Through the end of last year, only a tiny
sliver of borrowers tarnished by foreclosures and short sales during the economic
downturn had bought homes again, according to a study by Experian, one of the
Big Three credit reporting bureaus. These borrowers are generally locked out of
the mortgage market for two to seven years, depending on their circumstances.

But now, four years since foreclosures and short sales peaked in the Great
Recession, millions of former borrowers have spent the required amount of time
on the sidelines, which means they have cleared at least one of the major hurdles
required to qualify for another government-backed mortgage. Whether the rest of
their financial lives have sufficiently recovered — or whether they even want the
burden of a new mortgage — are still open questions. But there is early evidence
that some former borrowers are slowly returning.

“We certainly have heard from a number of lenders that boomerang buyers
are coming back,” said Michael Fratantoni, chief economist at the Mortgage
Bankers Association. He added that the situation varied across the country
because the foreclosure process takes longer in certain states.

Bank of America, one of the nation’s largest lenders, said that of all its
approved loans and loan applications from January through September, only
about 1 percent came from consumers with short sales or foreclosures. But some
mortgage brokers report that more people are calling: Deb Klein, senior mortgage
loan officer at Cobalt Mortgage in Chandler, Ariz., said 10 to 15 percent of the
loans she closes are for people with distressed home sales in their recent past. For
Rick Cason, of Integrity Mortgage near Orlando, Fla., it is two to three loans out of
every 10. Erik Johansson, a mortgage lender in Chicago, calls it a “steady drip that
has been increasing over time.”

There is a range of different requirements for obtaining new loans. In August,
for instance, Fannie Mae tweaked its rules for borrowers who went through short
sales and those who voluntarily signed a home over to a lender (through what is
known as a deed in lieu). Fannie said it would continue to permit loans as soon as
two years after those events hit borrowers’ credit reports, as long as they could
document that something like a job loss or a divorce pushed them over the
financial edge. (They also need a down payment of at least 5 percent.)

But if they cannot prove they had a financial hardship, consumers must now
wait four years after the event. (Previously, borrowers without hardships could get
a loan after two years with at least a 20 percent down payment, or after four years
with at least 10 percent.) Someone who went through a foreclosure must wait
seven years after it was completed, or as little as three years with “extenuating
circumstances” (and make a 10 percent down payment). Freddie Mac has similar
guidelines, but it requires a 10 percent down payment for seven years across the
board.

Many lenders have tighter rules, regardless of what Fannie and Freddie
permit. And Bank of America, Wells Fargo and JPMorgan Chase all said they had
decided not to participate in the Federal Housing Administration’s Back to Work
program, where borrowers who experienced some form of financial upheaval, such
as a job loss, may be able to get a loan backed by the agency just a year after the
loss of a home. (Normally, the F.H.A. requires borrowers to wait three years.)

Since the program’s inception in August 2013, a mere 337 borrowers had received
loans through September.

Still, the pool of potential so-called boomerang buyers has increased: 3.5
million borrowers lost homes to foreclosure between 2006 and 2010 and an
additional 757,500 went through short sales, according to RealtyTrac, which
means they are all at least four years from the event. At least 5.3 million are
estimated to have met the period required for loans backed by the F.H.A., which
has less onerous rules but generally more costly fees and insurance.

“The behavior of these potential boomerang buyers will be a big part of
shaping the U.S. housing market going forward,” said Daren Blomquist, vice
president at RealtyTrac. “The bigger question now becomes how many have the
stomach for homeownership again and how many will stay as long-term renters.”

Only a small fraction of people had actually qualified for new mortgages
through last year: Of the nearly 5.43 million owner-occupied homes that were
foreclosed on after 2007, only 2.1 percent of the borrowers, or 114,100, had
repurchased a primary home through the end of 2013, according to Experian,
which reviewed 10 percent of its 220 million credit files.

And of the nearly 809,000 short sales on owner-occupied homes that
occurred after 2007, 44,300 or almost 5.5 percent of the owners bought another
through the end of 2013.

Tammy and Mike Trenholm completed a bankruptcy in 2009 and a
foreclosure in 2010. But in March, they bought a five-bedroom home in the
Atlanta suburbs for $300,000. They qualified for a loan through a program backed
by the Department of Veterans Affairs, which is more forgiving than other
programs: It will generally evaluate borrowers two years after a bankruptcy or
foreclosure.

Their housing troubles started in Charleston, S.C. They bought a
five-bedroom for $570,000 in 2005, when the housing market was still skybound.
The next year, they bought an empty lot on their block to build a new house. They
planned to sell the old one, making some money in the process. “But it didn’t turn
out that way,” Ms. Trenholm said.

Their contractor made several expensive errors. And by the time the new
house was ready, the market had collapsed and they could not sell their older
home for enough money. They ultimately had to file for bankruptcy, and the new
house was foreclosed on. That took a toll on their credit scores, which are
recovering. “It was a matter of enough time passing,” Ms. Trenholm said.

Even with the passage of time, for many former borrowers, the experience is
still fresh. “I see a lot of people coming back into it with eyes wide open,” said
Angel Johnson, a real estate agent with Redfin in Phoenix. “They can get a loan,
but they are still spooked.”

Copyright 2014 The New York Times Company.  All rights reserved.

Wednesday, October 01, 2014

Asset Protection strategies

Here at Shenwick & Associates, many of our clients are understandably concerned about how to protect their assets from creditors––especially their home. While there are limits on how much asset protection we can provide clients when presented with an immediate crisis (i.e. a foreclosure sale), with advance planning, there are several strategies debtors can use to protect their most valuable asset. Let's look at a few of these asset protection techniques and devices:

1. The homestead exemption. Most, but not all states provide a homestead exemption (for example, New Jersey has no state law homestead exemption, forcing debtors to use federal bankruptcy exemptions, which are currently $22,975 per debtor, to retain any equity in their home). On the other end of the protections spectrum are states like Texas and Florida, which place no limit on home equity that can be protected from creditors. In New York State, the homestead exemption varies by region of the state, but for downstate counties, the homestead exemption is $150,000 per debtor. While that's a significant amount, given the value of real estate in the New York metropolitan area, many homeowners have much more equity in their homes than can be protected under the homestead exemption.

2. Ownership of your house as tenants by the entirety. There are several ways that two or more persons can own property–as joint tenants, as tenants in common or as tenants by the entirety. While any people can own any property in a tenancy in common or a joint tenancy, ownership as tenants by the entirety is limited to:

a. The state you live in must recognize this form of property ownership (New York and New Jersey do, but Connecticut does not).

b. You must be married to your co–tenant; this type of ownership is strictly limited to married couples.

c. The property must be must be your personal residence.

d. The tenants by the entirety must take title to the property at the same time and with the same deed.

In a tenancy by the entirety, neither spouse may voluntarily, or involuntarily, convey their interest in the home without the consent of the other. This rule places the home out of the reach of the creditors of one of the spouses. However, there are some circumstances in which the protections of tenancy by the entirety won't protect debtors:

a. Joint and several debts of the spouses;

b. Divorce; and

c. Death

3. Limited liability companies (LLCs) and family limited partnerships (FLPs). These two types of entities can be useful to hold real estate in. However, there are some potential drawbacks of owning a primary residence via a LLC or a FLP. For example, loss of tax benefits–when a property is owned by natural persons, mortgage interest is deductible, and when the home is sold, $250,000 of capital gains per person (or $500,000 for a couple) is exempt from capital gains taxes. Unless only one of the spouses owns all of the interests in a LLC or FLP, those tax benefits will be lost–and in a recent case, a court set aside the protections of a LLC even when only one spouse owned all of the membership interests in the LLC. Therefore, this may not be optimal for protecting a primary residence.

4. A qualified personal residence trust (QPRT). This is a special type of irrevocable trust that is designed to hold and own your primary or secondary residence. However, while having your residence owned by a QPRT has both asset protection and estate planning benefits, there are also some drawbacks. For example, you don't own your home anymore, and after the term of thrust ends, you will have to pay fair market rent to the beneficiaries of the QPRT.

5. More complex asset protection strategies. These may include getting a loan and/or a mortgage (or additional mortgages) to reduce the value of the equity in your home as much as possible (a so called "debt shield") and using a domestic asset protection trust or asset protected investments (such as annuities and whole or universal life insurance policies) to repay the lender.

As you see, asset protection strategies can get quite complex, and using entities such as LLCs, FLPs and trusts takes time to implement, which is why you should start planning right away to protect your assets, and not wait for a crisis like a judgment or foreclosure to strike. To protect your most precious assets for yourself and the ones you love, please contact Jim Shenwick.