Seventh Circuit finds contingent future interests are not exempt from a bankruptcy estate under Illinois law

In In re: Scott N. Jaffe, No. 18-2726 (7th Cir. August 5, 2019) the Seventh Circuit reversed the district court, finding that because a debtor’s contingent future interest in property was not exempt under Illinois law as it was not exempt from the debtor’s bankruptcy estate.

In Jaffe, the creditor recorded a judgment on property the debtor and his wife owned as tenants by the entirety. The debtor filed a chapter 7 bankruptcy, which identified the judgment lien on his residence. Before bankruptcy proceedings were complete, however, the debtor’s wife died. Under Illinois law, when debtor’s wife died the tenancy by the entirety terminated and the debtor owned the property individually in fee simple under his contingent right of survivorship.

The debtor argued that the property was exempt under section 522 of the Bankruptcy Code. The relevant section, 522(b)(3)(B), provides that a debtor may exempt from property of the bankruptcy estate “property which the debtor had, immediately before the commencement of the case, an interest as a tenant by the entirety or joint tenant to the extent that such interest as a tenant by the entirety or joint tenant is exempt from process under applicable nonbankruptcy law.”

The question in Jaffe is to what extent section 522(b)(3)(B) exempts the debtor’s contingent future interest in the tenancy property. The creditor’s position was that the property was not exempt because the operative bankruptcy provision looks to state law to determine whether a tenancy property is exempt. Because Illinois does not exempt contingent future interests, the bankruptcy statute does not allow the debtor to exempt the property from the bankruptcy estate.

The district court interpreted section 522(b)(3)(B) to exempt the debtor’s contingent future interest in the property, despite the fact that Illinois provides no exemption for such interests. The Appellate Court said the district court did not give sufficient weight to the word “such” in the statute. If “such” refers just to “any interest,” as the debtor argued, the district court’s conclusion would be correct because the statute would exempt “any interest” the debtor had to the extent that any tenancy interest is exempt from state law. However, if “such interest” refers to something more limited, like the precise interests the debtor was seeking to exempt, the district court’s interpretation was wrong.

The Court found the opening language of the provision indicated that the interests that may qualify for exemptions are any interest the debtor has, so long as he holds that interest as a tenant by the entirety. The provision then defines which of those qualifying interests are exempt—all of the debtor’s qualifying interests to the extent that they are exempt under applicable nonbankruptcy law. Thus, interests a debtor holds as a tenant by the entirety are exempt to the extent that those interests the debtor holds as a tenant by the entirety are exempt under state law.

The Appellate Court rejected debtor’s argument that “such interest as a tenant by the entirety” refers more broadly to “any interest in property”. It is much more sensible to read “such interest” as referring to the complete introductory phrase, which identifies the debtor’s specific interests that potentially qualify for an exemption. Additionally, the signifier (“such interest”) and referent (“interest as a tenant by the entirety”) use mirroring language indicating that the latter is referring to the former: “property in which the debtor had … an interest as a tenant by the entirety … to the extent that such interest as a tenant by the entirety” is exempt. This buttresses the conclusion that “such interest” was meant to refer to the specific interests that the debtor held as a tenant by the entirety, rather than only referring to “any interest.”

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