Salyersville National Bank v. Bailey (In re Bailey)

Reaffirmation agreements, entered into upon assumption that lender held a properly perfected mortgage and vehicle lien (which was later proved to be a false assumption), was unenforceable under Kentucky law as agreement was premised on a mutual mistake. Court of Appeals held that Bank's filing of unsecured claims waived right to proceed as secured creditor and Bankruptcy Court's final, unappealed order treating Bank as unsecured creditor precluded the Bank or the Court from revisiting the issue. Further, the Court held, under Kentucky law, that existence of mutual mistake, rendered the reaffirmation agreements unenforceable, thus, it affirmed the Bankruptcy Court's ruling.
Procedural context:
The Debtor’s moved to reopen their closed chapter 7 case under Rule 60 and to declare reaffirmation agreements void. The Bankruptcy Court reopened the chapter 7 case and voided the reaffirmation agreements on the ground of mutual mistake because the parties signed the reaffirmation agreements based on the false assumption that Bank held security interests in the real property and the truck. The district court affirmed on the same grounds. The Sixth Circuit likewise affirmed.
Debtors entered into two (2) reaffirmation agreements with Bank. One addressed an alleged secured claim secured by a vehicle; the other a purported mortgage on the Debtors’ home. After the reaffirmation agreements were signed, the Debtors defaulted. Bank attempted to repossess the vehicle; however, the vehicle had been stolen. The Bank filed a “wholly unsecured claim” for the vehicle loan. With respect to the real property, the chapter 7 trustee sued Bank seeking a declaration that the lien should be avoided. The Bank and the Trustee settled the litigation over the real property by entry of an agreed judgment providing that the real property would be sold at auction with the proceeds going to the estate unless the bank purchased the property in which case, the complaint related to the avoidance of the mortgage would be dismissed and the mortgage would remain in effect. Bank purchased the real property at auction and later sold it at a profit of $33,400 and filed an unsecured claim for the full balance of the mortgage debt. The Bankruptcy Court allowed the unsecured proof of claim and Bank received approximately $37,000 from the estate as an unsecured creditors on the two loans. After the bankruptcy case was closed, Bank sued the Debtors in Kentucky state court seeking approximately $89,000 on the real property loan and $11,500 on the vehicle loan.
Keith, Sutton McKeague

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