Second Circuit Court of Appeals case: In re Jackson, No. 08-4927 (Decision Jan. 22, 2010); affirming In re Jackson 376 BR 75 (Bankr. D. Conn. 2007), affirmed by District Court 384 BR 8 (D. Conn. 2008). The significance of the case may go well beyond the issue directly decided (calculation of future income in a wrongful termination case) and may apply to settlements of personal injury cases (more on that below).
The case specifically dealt with the interpretation of a federal exemption, Sect. 522(d)(11)(E). New York debtors are not entitled to claim federal exemptions, but an identically-worded exemption is available under New York law: Debtor & Creditor Sect. 282(3)(iii)(3)(iv).
Under both federal and New York law, the exemption's text is: "a payment in compensation of loss of future earnings of the debtor or an individual of whom the debtor is or was a dependent, to the extent reasonably necessary for the support of the debtor and any dependent of the debtor."
On March 13, 2003, Dr. Jackson was terminated pre-petition from his job reviewing medical insurance claims, although he was re-hired part-time as a contractor. He sued his former employer for wrongful termination, claiming that he was fired because he was a whistle-blower, questioning how the company processed certain claims. The lawsuit was pending when Dr. Jackson and his wife filed bankruptcy, October 31, 2003. The trustee engaged Jackson's attorney to continue the lawsuit, which was settled post-petition for $130,000. The settlement was calculated as the earnings Dr. Jackson would have received in the year following his termination (March 13, 2003 thru March 12, 2004), minus the amount he actually received as a contractor.
In interpreting the exemption statute, two issues were at play: what are "future" earnings and what is "reasonably necessary" support.
The first issue, the meaning of "future" earnings, was most thoroughly reviewed and litigated. Debtor Jackson argued that since the actual payment for lost wages was made post-petition, all $130,000 of the settlement is future earnings. The bankruptcy court rejected this position. As the settlement was based on earnings the debtor would have received during the year after termination (366 days), and as only 135 days of that year were post-petition, only 135/366 was post petition, and, therefore, the debtor could at most only exempt $30,690 of the $130,000 settlement.
As for calculating that portion of the future earnings that are "reasonably necessary" for the support of the debtors, the bankruptcy court took the difference between the debtors' income and expenses (a monthly shortfall of $3,739), calculated what the per diem would be on that amount, and then projected it over the 135 post-petition days. The bankruptcy court determined that the debtors could exempt $16,550 of the $30,690 post-petition portion of the settlement, and the District Court and Circuit Court upheld that determination.
In significant ways the facts in this case are unusual. The wrongful termination settlement explicitly specified the time-period for which the lost wages were calculated, i.e. one year from termination. The debtors were high income, high expense debtors, and it is quite likely that the courts factored that into their determinations.
But this decision may have great influence on other situations, and specifically settlements of personal injury cases. In a personal injury lawsuit, the plaintiff usually asks for damages based on a number of factors, such as actual bodily harm, pain and suffering, actual expenses, and loss of future income. When cases are settled, rarely does either party care how the settlement was calculated -- so much for pain and suffering, so much for loss of income etc. But in a bankruptcy situation, allocation of the settlement among these different categories of damages can become very significant.
New York gives debtors with personal injury claims a rather modest $7,500 exemption, under Sect. 282(3)(iii)(3)(iii). But the loss of future income exemption is a separate exemption, 282(3)(iii)(3)(iv). To the extent that personal injury damages can be attributed to the loss of future income, and to the extent that future income can be calculated over a long post-petition time period, the debtor may be able to exempt a significant portion of a personal injury claim under the loss of future income exemption 282(3)(iii)(3)(iv).
This could also present a conflict-of-interest for personal injury attorney. It is customary for the bankruptcy trustee to retain the same attorney to pursue the claim as was retained by the debtor before filing the petition. The attorney is motivated to get the highest possible award, no matter who the client is, as they are paid on a contingency basis. But once a settlement is reached, the trustee and the debtor have conflicting goals. As attorney for the trustee, the personal injury attorney should seek to allocate as little of the settlement as possible to loss of post-petition future income; but the attorney's other client, the debtor, would have the opposite motivation. The debtor in Jackson cited three tort cases in support of their position: In re Lowery, Bk 05 13536, 2007 Bankr. LEXIS 3729 (Bankr. N.D. Ga. Sept. 24, 5 2007); In re Claude, 206 B.R. 374, 381 (Bankr. W.D. Pa. 1997), and In re Bova, 205 B.R. 467, 477 (Bankr. E.D. Pa. 1997).
It is likely that a debtor who claims an exemption for loss of future earnings in a personal injury settlement should expect that the bankruptcy court may end up holding a hearing to determine how much of the award can be allocated to loss of earnings.