Opinion
Case No. 98-18330-SSM, Adversary Proceeding No. 99-1039
December 2, 1999
Patricia L. Woodward, Esquire, Warrenton, VA, of Counsel for the plaintiff
Henry Counts, Jr., Esquire, Alexandria, VA, of Counsel for the defendant
MEMORANDUM OPINION
This is an action to determine the dischargeability of an obligation arising under a divorce property settlement agreement and to decree the setoff, against that obligation, of child support payments the plaintiff owes to the debtor. The plaintiff, William Manson, Sr. ("Mr. Manson"), is the former husband of the defendant, Catherine L. Manson ("the debtor" or "Ms. Manson"). A trial was held in open court without a jury on November 19, 1999. Both parties were present in person and were represented by counsel. This opinion constitutes the court's findings of fact and conclusions of law as required by F.R.Bankr.P. 7052.
Facts
Catherine Lynn Manson filed a voluntary chapter 7 petition in this court on November 18, 1998, and was granted a discharge of her dischargeable debts on March 3, 1999. Mr. Manson has also filed a chapter 7 petition and has likewise been granted a discharge.
The parties were married on April 4, 1987. They separated in early January 1995, and on January 13, 1995, executed a written property settlement agreement. The agreement recited that there were no children born of the marriage, and both parties waived spousal support. Relevant to the present action, the agreement additionally provided as follows:
7. DEBTS AND OBLIGATIONS . The parties acknowledge that during the period of the marriage they accumulated certain marital debt, including, but not limited to, a joint tax liability to the Internal Revenue Agency [sic] and credit card debts totalling approximately $14,000.00. In consideration of the contents of this Agreement and the parties' joint and several liability on the debts, the parties agree that they shall jointly contribute to the payment of these debts. Specifically, the Wife shall pay to the Husband the sum of $10,000.00 which shall be payable at the rate of $350.00 per month, plus interest at 14.9%, and evidenced by a note which is attached hereto and incorporated herein. The Husband shall take responsibility for making timely and prompt payments on these debts until such time as they are paid in full, and the Husband shall indemnify and hold the Wife harmless from any liability or obligation with respect to the payment of these debts. The parties specifically agree that the Husband shall be solely and individually responsible for any debt related to his business . . . and for any debts and expenses related to his continued ownership of the real estate. . . .
Pl.'s Ex. 3a and 8. Attached to the property settlement agreement is a promissory note made by Ms. Manson dated January 12, 1995, in the amount of $10,000.00, with interest at the rate of 14.9% per annum, payable to Mr. Manson in monthly installments of $350.00.
On July 13, 1995, a child, Heather, was born to Ms. Manson. She believed Mr. Manson to be the father, but he expressed some doubts on that point. Nevertheless, when she told Mr. Manson she needed some support for the child, he told her she could keep the $350.00 per month she would otherwise have to pay him on the note to meet her child-care expenses.
While the exact sequence of events is not clear from the testimony and exhibits, at some point — apparently around October 1996 — the debtor went to court to establish paternity and to obtain a formal order for payment of child support. The court determined that Mr. Manson was Heather's father and initially ordered him to pay the debtor $400.00 per month as child support. That amount was subsequently increased to $803.00 per month. Mr. Manson apparently paid that amount through January 1997, but then fell behind. He testified that the reason he did so is because the debtor had made an unfounded complaint to the Division of Child Support Enforcement that resulted in an adverse notation of his credit report, which in turn impaired his ability to get the bonds needed in his business as a road construction contractor to the Virginia Department of Transportation. Whatever the reason for loss of contracts, in early 1997 he closed down his business, Land Pride Services, Inc., which had been providing him with an income of about $38,500 per year, stopped making the mortgage payments on the house, and moved out. In August 1997, Mr. Manson sued the debtor for the unpaid sums due under the promissory note, and on November 5, 1997, judgment was entered in his favor against the debtor in the amount of $4,571.65, with interest at 9% from the date of judgment, costs of $30.00, and $400.00 in attorneys's fees. She has paid some of that judgment, and the balance due as of November 18, 1998, the date she filed her bankruptcy petition, was $1,023.15.
Mr. Manson testified that the support was later reduced to $750 per month and then to $630 per month, with $125.00 of that amount going to reduce the arrearage, which he testified was approximately $1300.00 at the time the debtor filed her bankruptcy petition. The only court order placed in evidence reflects that on January 7, 1999, the Fauquier County Juvenile and Domestic Relations Court fixed the amount of the arrearage at $2,695. In the same order, that the court, imputing monthly income to Mr. Manson of $1,850 per month based on a finding of "underemployment," fixed child support at $492.05 per month, payable bi-weekly at $227.10. The court also ordered Mr. Manson to pay $62 per month toward the arrears. Since the debtor confirmed that she is now receiving $300.00 every two weeks from Mr. Manson, it would appear that he is actually paying $62 every two weeks, or approximately $125 per month, toward the arrearage rather than the $62 per month specified in the order.
While not entirely clear from the evidence, it appears that the court gave the debtor credit for the payments Mr. Manson had allowed her to keep in lieu of child support.
The debtor is employed with an insurance agency and makes $36,000 per year. As noted, she is also receiving $300.00 every two weeks for child support. Her monthly income is therefore approximately $3,600.00. Her monthly expenses (which include $400 per month for child care) total $2,520.00. She also testified that $444 of her 1998 Federal income tax refund was recently offset by the IRS against the remaining unpaid joint income tax liability which the debtor had agreed to pay in the property settlement agreement. Since only a portion of her refund was taken, it would appear that the joint tax liability has now been satisfied in full.
The debtor's testimony was unclear whether this amount is her gross or her take-home. The schedules of monthly income and monthly expense filed with her bankruptcy petition reflect income at that time of $2,578 per month but no payroll deductions for income tax or social security and no allowance for payment of estimated taxes. Thus, the court is left to speculate.
Mr. Manson is currently employed as a dispatcher for a towing company and makes $296 per week, or $1,283 per month. As noted above, the state court, in fixing support, found that he was underemployed and imputed income to him of $1,850 per month. His monthly expenses (including the child support) total $1,785 per month.
Conclusions of Law and Discussion I.
The issues before the court are (1) whether the debtor's liability to Mr. Manson for the sums due on the November 5, 1997, judgment has been discharged, and (b) whether it may be offset against the child support arrearage Mr. Manson owed the debtor on the date she filed her bankruptcy petition. Subject matter jurisdiction lies with this court under 28 U.S.C. § 1334 and 157(a) and the general order of reference from the United States District Court for the Eastern District of Virginia dated August 15, 1984. Under 28 U.S.C. § 157(b)(2)(I) and (O), this is a core proceeding in which a final judgment may be entered by a bankruptcy judge. Venue is proper in this district under 28 U.S.C. § 1409(a). The debtor has been properly served and has appeared generally.
II. A.
Two types of divorce-related debts survive a chapter 7 bankruptcy discharge. The first category consists of debts "to a spouse, former spouse, or child of the debtor, for alimony to, maintenance for, or support of such spouse or child, in connection with a separation agreement, divorce decree or other order of a court of record[.]" 11 U.S.C. § 523(a)(5). The second category consists of debts, other than support debts, "incurred by the debtor in the course of a divorce or separation or in connection with a separation agreement, divorce decree or other order of a court of record[.]" 11 U.S.C. § 523(a)(15). The latter, however, is subject to the exception that such debts will be discharged if
(A) the debtor does not have the ability to pay such debt from income or property of the debtor not reasonably necessary to be expended for the maintenance or support of the debtor or a dependent of the debtor and, if the debtor is engaged in a business, for the payment of expenditures necessary for the continuation, preservation, and operation of such business; or
(B) discharging such debt would result in a benefit to the debtor that outweighs the detrimental consequences to a spouse, former spouse, or child of the debtor.
Id. Thus, debts for spousal or child support are never dischargeable, but other types of divorce-related debts, including property settlements or equitable distribution judgments, although presumptively nondischargeable, will be discharged if the debtor cannot afford to pay them or if the benefit to the debtor from discharging them outweighs the detriment to the other party.
The debtor bears the burden of proof, by a preponderance of the evidence, both as to inability to pay and as to the benefit of discharge outweighing the detriment to the nondebtor party. Craig v. Craig (In re Craig), 196 B.R. 305, 308-09 (Bankr. E.D. Va. 1996); King v. Speaks (In re Speaks), 193 B.R. 436, 441 (Bankr. E.D. Va. 1995); but see Collins v. Hesson (In re Hesson), 190 B.R. 229 (Bankr. D. Md. 1995) (debtor has burden on inability to pay but nondebtor has burden to prove that detriment outweighs benefit of discharge). Because § 523(a)(15) is phrased in the disjunctive, a debtor need prove only one of the two possible grounds for discharging the debt. Craig, 196 B.R. at 309. With regard to ability to pay, the test is not whether the debtor has the ability to pay the debt as of a particular time — such as the date of trial — but whether the debtor can pay the debt over time. Id. at 310. In determining whether the benefit of discharge would outweigh the resulting detriment to the nondebtor party, neither the statute nor the legislative history provides any hint of what factors should be considered. However, courts grappling with that issue — most commonly in the context of an agreement to indemnify the nondebtor spouse against joint debts — have taken into account such factors as the income and expenses of both parties, whether the nondebtor spouse is jointly liable on the debts, the number of dependents, the nature of the debts, the reaffirmation of any debts, the nondebtor spouse's ability to pay, and whether the debt can actually be collected from the nondebtor spouse. Id. at 309. One other test that has been articulated is as follows:
If . . . the debtor's standard of living will be greater than or approximately equal to the creditor's if the debt is not discharged, then the debt should be nondischargeable under the 523(a)(15)(B) test. However, if the debtor's standard of living will fall materially below the creditor's standard of living if the debt is not discharged, then the debt should be discharged under 11 U.S.C. § 523(a)(15)(B).
In re Smither, 194 B.R. 102, 111 (Bankr. W.D. Ky. 1996).
B.
With respect to ability to pay, the court finds that the debtor has not carried her burden of proving that she is unable to pay the debt out of income or property not reasonably necessary for her and her daughter's support. As noted above, the test is not whether the debt could be paid today, but whether it could be paid over time. Craig, 196 B.R. at 309. The debtor has a steady job and a small monthly surplus for discretionary spending. The debt itself is quite modest in amount. Accordingly, the court concludes that it could be paid over time in reasonable installments without adversely affecting the standard of living for the debtor or her child.
C.
With respect to the balancing test, the court must likewise conclude that the debtor has failed to sustain her burden of proving that the benefit to her from discharging the debt outweighs the detriment to Mr. Manson of having the debt survive bankruptcy. The debtor's standard of living, while modest, is by no means marginal and would not be greatly reduced by having to pay, over time, the remaining amount due on the judgment. Mr. Manson's standard of living — even if the court imputes to him the same level of income as did the state court — is significantly less than the debtor's. Thus, the court concludes that the benefit to the debtor of discharging the judgment does not outweigh the detriment to Mr. Manson.
III.
As noted above, Mr. Manson has also asked the court to determine whether the debtor's liability on the judgment may be offset against the child support arrearages he owed on the date the debtor's bankruptcy petition was filed.
Mr. Manson conceded at trial that his claim against the debtor cannot be offset against arrearages, if any, that arose after the date of the bankruptcy petition, nor against on-going or future child support.
As a general proposition, the Bankruptcy Code preserves rights of setoff that existed on the filing date of the bankruptcy petition:
Except as otherwise provided in this section and in sections 362 and 363 of this title, this title does not affect any right of a creditor to offset a mutual debt owing by such creditor to the debtor that arose before the commencement of the case under this title against a claim of such creditor against the debtor that arose before the commencement of the case[.]
§ 553(a), Bankruptcy Code. The right of setoff, although temporarily stayed during the pendency of the bankruptcy case, § 362(a)(7), Bankruptcy Code, is not eliminated even if the claim against the debtor is discharged: although there may be no affirmative recovery on account of that claim, it may nevertheless be set off post-discharge against the debtor's own prepetition claim against the creditor. In re Conti, 50 B.R. 142 (Bankr. E.D. Va. 1985); Davidovich v. Welton (In re Davidovich), 901 F.2d 1533, 1539 (10th Cir. 1990).
In this connection, it is important to recognize that Section 553 does not itself create a right of setoff: it simply preserves the right of setoff that would otherwise exist under applicable nonbankruptcy law. 5 Lawrence P. King, COLLIER ON BANKRUPTCY, ¶ 553.04, p. 553-59 (15th ed. Rev. 1994). The question, then, is whether Virginia law would recognize a right to offset a debt arising under a property settlement agreement against past due child support.
The general rule in Virginia is that court-ordered child support must be paid in the manner and amounts specified in the decree awarding such support. Such support payments become vested as they accrue, and a delinquent party cannot thereafter be relieved of the obligation to make that payment. Newton v. Newton, 202 Va. 515, 519, 118 S.E.2d 656, 659 (1961) (husband who overpaid some installments of child support not entitled to setoff or credit against support arrearage). This is subject to the qualification that where the parties have mutually agreed upon an arrangement that fulfills the purpose of the child support obligation, and that agreement has been folly performed to the benefit of the child, the obligated party is entitled to credit for the nonconforming payments. Acree v. Acree, 2 Va. App. 151, 342 S.E.2d 68 (1986).
The only Virginia case the court has found addressing — albeit only in passing — setoff of a debt against support is Parrish v. Jessee, 250 Va. 514, 464 S.E.2d 141 (1995). In that case, a wife had been appointed as guardian for her incapacitated husband and had improperly used certain joint funds paid under a structured settlement agreement for her personal benefit. Subsequently, the husband's sister was substituted as guardian and brought suit against the wife to vacate portions of the order which had been entered by a different court approving the structured settlement agreement. Although the major focus of the opinion was on the second court's lack of power to modify the first court's decree, the Supreme Court of Virginia did expressly affirm the lower court's action in awarding the wife child support payments but finding an offset to that support "for her diversion of monies from the joint funds." 250 Va. at 524, 464 S.E.2d at 147. Thus, it seems clear that Virginia law does not absolutely prohibit a setoff of child support against an independent debt owed by the party entitled to that support.
The evidence before the court is insufficient to determine exactly what amount Mr. Manson owed in child support on November 18, 1998, the date the debtor filed her bankruptcy petition. Mr. Manson's testimony, however — which was unrebutted and unchallenged by the debtor — is that the amount he owed exceeded the $1,023.15 the debtor owed him. Thus, unless Mr. Manson has already paid the prepetition arrearage, he is entitled to a setoff of $1,023.15 against that liability.
A complicating factor here is that the original consideration for the $10,000 promissory note was Mr. Manson's undertaking to indemnify the debtor against, among other claims, the joint tax liability. That agreement was breached by Mr. Manson when he did not fully pay the joint tax liability, and the IRS deducted $444 from the debtor's refund. Setoff works both ways. Thus, I conclude that the debtor is entitled to a credit of $444 against the judgment, and setoff will be permitted only to the extent of the remaining balance — $579.15 — owed as of the filing date.
There were other debts Mr. Manson also did not pay, but since the debtor's liability on those claims has now been discharged and she will not have to pay them, she no longer has a claim of indemnity against Mr. Manson for those amounts.
IV.
A separate judgment will be entered determining that the debtor's liability to Mr. Manson has not been discharged; that the debtor is entitled to a credit of $444 against that judgment; and that the remaining balance of the judgment is an offset against child support arrearages that existed on November 18, 1998.