The Eastern District of Pennsylvania Bankruptcy Conference (EDPABC) is a non-profit organization that was formed in 1988 to promote the education and interests of its members and the citizens of the Commonwealth of Pennsylvania residing in the ten counties within the United States District Court for the Eastern District of Pennsylvania. Members include lawyers, other professionals, and paraprofessionals who specialize in the practice of Bankruptcy and Creditors’ Rights law in the Eastern District of Pennsylvania. Please visit EDPABC’s website, www.pabankruptcy.org, for more information or to join the organization.
Each year, the EDPABC’s Education Committee formulates challenging hypotheticals based on recent case law. At the EDPABC’s Annual Forum, professors from local law schools facilitate lively discussions among EDPABC members about the hypotheticals in small-group breakout sessions. The hypotheticals are always engaging—and sometimes deliberately ambiguous—to mirror the complexity of everyday practice and foster debate among even the most seasoned bankruptcy professionals.
The hypotheticals are accompanied by summaries of the underlying case law and other relevant authorities inspiring the fact patterns. The summaries are intended to give readers insights into how similar issues have been argued before and decided by the courts and to inform their answers to the questions presented in the hypotheticals.
This hypothetical from a previous forum, titled “Dr. Hibbert and Dr. Nick,” describes the highly contentious chapter 11 case of a joint venture formed by the two doctors. Dr. Hibbert filed for the joint venture after escalating disagreements resulted in Dr. Nick (through a family trust) seizing its medical equipment to open a competing practice next door. The hypothetical poses questions relating to the automatic stay, extensions of time under section 108 of the Bankruptcy Code and redemption rights, cause to appoint a chapter 11 trustee, and competing chapter 11 plans.
DR. HIBBERT AND DR. NICK
After completing their respective radiology residency programs, Dr. Hibbert and Dr. Nick open an outpatient imaging center together. The joint business venture is funded by a revolving loan from a traditional bank (the Bank) secured against medical receivables and a purchase money loan from Dr. Nick’s family trust (the Nick Trust) secured by the imaging equipment. The two doctors obtain a single National Provider Identifier (NPI) from the Centers for Medicare and Medicaid Services (CMS).
Several years later, the two doctors have a falling out. Dr. Hibbert accuses Dr. Nick of being a quack physician engaged in dubious patient acquisition and billing practices. Dr. Nick accuses Dr. Hibbert of stealing money from the company, defaming him in front of patients, and sleeping with his spouse.
Dr. Hibbert, who has sole check writing authority over the business’ deposit accounts, opts to fail to make the next payment due to the Nick Trust on the equipment loan. The Nick Trust opts to notice the default, accelerate the loan, and demand payment in full. Dr. Hibbert opts not to fund Dr. Nick’s next payroll check.
The Nick Trust then opts to utilize some self-help of its own. In full compliance with applicable law, the Nick Trust repossesses the imaging equipment and moves it into adjoining medical office space—newly leased by the Nick Trust. Without the imaging equipment, Dr. Hibbert is unable to provide patient services.
Four days later, Dr. Nick announces the grand opening of “Dr. Nick’s Medical Imaging Center.” Dr. Nick begins providing services to patients utilizing the imaging equipment. Dr. Nick also issues reimbursement requests for such services to CMS using the NPI.
Unable to continue to operate, Dr. Hibbert files a voluntary petition for chapter 11 bankruptcy protection on behalf of the joint business venture. Four days later, Debtor’s counsel sends a letter to the Nick Trust demanding the return of the imaging equipment and threatening sanctions for its willful violation of the automatic stay. The Nick family accountant, who solely controls the Nick Trust, ignores the letter.
Debtor’s counsel ultimately files a motion, pursuant to 11 U.S.C. § 542 and 11 U.S.C. § 362(k), seeking turnover of the medical equipment as estate property and sanctions against the Nick Trust. The Nick Trust responds that it lawfully repossessed the imaging equipment prepetition and has only passively retained it since its repossession.
Discovery confirms that the Nick family accountant, (a) repossessed the imaging equipment at the request of Dr. Nick with actual knowledge of Dr. Nick’s retaliatory goal vis-à-vis Dr. Hibbert, but (b) was unaware that Dr. Nick had been using the imaging equipment because Dr. Nick effectively concealed the same from the Nick family accountant.
- Has the Nick Trust willfully violated the automatic stay?
- Citing the Third Circuit’s decision in In re: Denby-Peterson, the bankruptcy court holds that the Nick Trust did not violate the automatic stay willfully because the Nick Trust’s possession of the imaging equipment post petition had been passive. The issue is appealed to the Supreme Court, which grants the writ of certiorari to resolve the circuit split among the Second Circuit, the Third Circuit, and the Tenth Circuit. If you were a Supreme Court Justice, how would you decide the issue?
Assume that the bankruptcy court’s order is not appealed. Instead, new evidence comes to light that the Nick family accountant was aware that Dr. Nick had been using the imaging equipment and, in fact, had worked with Dr. Nick to accomplish his scheme of opening “Dr. Nick’s Medical Imaging Center.” With this new evidence in hand, Dr. Hibbert seeks reconsideration of the bankruptcy court’s order.
In response, the Nick Trust presents a written agreement among Dr. Hibbert, Dr. Nick, and the Nick Trust entitled the “Discounted Repayment Option Contract” (the Agreement). The Agreement provides that Dr. Hibbert will deliver the imaging equipment to the Nick Trust at the adjoining medical office space leased by the Nick Trust.
It further provides Dr. Hibbert and Dr. Nick with the option, but not the obligation, to make a discounted repayment of the equipment loan owed to the Nick Trust in exchange for a return of the imaging equipment. Under the terms of the Agreement, such discounted repayment must occur within seven days of the date of the Agreement.
If such discounted repayment is not timely made, the Agreement provides the Nick Trust with the option, but not the obligation, to retain the imaging equipment in full satisfaction of the equipment loan.
If neither option is exercised, the Nick Trust may pursue its common law rights and remedies. The Agreement is silent as to what the Nick Trust may do with the equipment while in possession of it.
The Nick Trust argues that it did not violate the automatic stay willfully because the debtor did not make the discounted repayment within the seven-day time period. Further, the debtor’s counsel’s demand letter was not sent until after the seven-day time period had expired.
The debtor’s counsel replies that the Agreement provides for a cure period with respect to the payment default under the equipment loan. The debtor’s counsel further argues that the Agreement is analogous to a common law equitable right of redemption. Therefore, 11 U.S.C. § 108(b) extends the time period under which the debtor may make the discounted repayment to the sixtieth day following the petition date. The argument being that the Agreement “fixes a period within which the debtor … may … cure a default, or perform any similar act.”
The Nick Trust sur-replies with the following arguments. Any and all cure rights under the agreement documenting the equipment loan have indisputably expired. Further, a discounted repayment is not a cure, or similar to a right of redemption, because payment in full is not being made.
Moreover, the Agreement is a standalone option contract. Because the Agreement creates options, and not obligations, the debtor is not in default of the Agreement. Because the debtor is not in default of the Agreement, 11 U.S.C. § 108(b) does not apply because there is no default to be cured. Further, the exercise of an option under an option contract is not similar to curing a default under the contract.
- Does 11 U.S.C. § 108(b) extend the deadline under the Agreement by which the debtor must exercise the option to make the discounted repayment?
- Assume that the Agreement did not contain mutual options between the debtor and the Nick Trust. Instead, assume that the Agreement provided the debtor with the unilateral option to make the discounted repayment within the seven-day time period and that, if such discounted repayment was not timely made, the Agreement automatically and immediately terminated. Under these facts, the Nick Trust argues that 11 U.S.C. § 108(b) does not apply because the prerequisite of the existence of “an agreement” is no longer satisfied, i.e., 11 U.S.C. § 108(b) can only be used to extend cure or similar rights under non-terminated agreements. Can 11 U.S.C. § 108(b) be used to extend the post-petition termination of the Agreement?
- Do any of these new facts impact your view as to whether the Nick Trust willfully violated the automatic stay?
The bankruptcy court ultimately orders the Nick Trust to return the imaging equipment to the debtor. With the equipment returned, Dr. Hibbert recommences the debtor’s operations.
Unhappy with the result, Dr. Nick and the Nick Trust pursue a scorched-earth litigation strategy in the bankruptcy case, using their combined equity and secured creditor rights to oppose every motion filed by the debtor, to bring their own motions, and to commence adversary proceedings against the debtor and Dr. Hibbert. Dr. Nick and the Nick Trust make it a point to ensure that every hearing in the case becomes a multiple-day affair. They instruct their counsel to summarily reject any requests made by the debtor, when legally permitted to do so, to be completely unhelpful to the debtor’s counsel, and to approach every issue with a tone of righteous indignation and rancor.
Their strategy results in a few initial victories in the bankruptcy court. As a result, Dr. Hibbert and the debtor’s counsel feel compelled to no longer take the high road and instead fight fire with fire. Thus, Dr. Hibbert and the debtor return the favor by pursuing their own scorched-earth litigation strategy.
Exclusivity under 11 U.S.C. § 1121 expires without the debtor filing a plan. At the first opportunity, the Bank files a proposed plan of liquidation. Dr. Hibbert responds with a competing plan of reorganization. Dr. Nick and the Nick Trust respond with their own competing plan of reorganization.
During the second day of oral argument on the parties’ respective first amended disclosure statements, the bankruptcy court makes the off-hand, somewhat joking comment, “There is so much acrimony among Dr. Hibbert, Dr. Nick, and the Nick Trust that I’m considering the sua sponte appointment of a chapter 11 trustee pursuant to the Third Circuit’s decision in In re Marvel Entertainment Group.”
Dr. Nick and the Nick Trust seize on the comment and the next day file a motion for the appointment of a chapter 11 trustee for “cause” pursuant to 11 U.S.C. § 1104. The sole basis for the motion is the alleged clear and convincing evidence of the “acrimony” among Dr. Hibbert, Dr. Nick, and the Nick Trust, which has risen to a level beyond the healthy conflicts that always inherently exist in bankruptcy cases.
Dr. Hibbert and the debtor oppose the motion, arguing that the level of acrimony in the case is legally insufficient and, in any event, Dr. Nick and the Nick Trust created the acrimony and, therefore, should not obtain relief based on it.
Because the Bank may or may not have properly perfected its security interest in the medical receivables—which issue has so far gone unnoticed because of the focus on the issues among Dr. Hibbert, Dr. Nick, and the Nick Trust—the Bank also summarily opposes the motion.
- If you are representing Dr. Nick and the Nick Trust, how would you present clear and convincing evidence of legally sufficient acrimony to carry your motion?
- If you are representing Dr. Hibbert or the debtor, how do you present evidence of a lack of legally sufficient acrimony to carry your objection to the motion?
- What facts are required to be proven by clear and convincing evidence to establish that the acrimony has risen to a level beyond the healthy conflicts that always inherently exist in bankruptcy cases?
- At the hearing, the Bank concedes that the acrimony among Dr. Hibbert, Dr. Nick, and the Nick Trust has risen to a level beyond the healthy conflicts that always inherently exist in bankruptcy cases. Nevertheless, the Bank argues that the acrimony in the case is legally insufficient for the appointment of a trustee because the appointment of a trustee is not the only effective way to move the case forward. Instead, the Bank argues that because competing plans have been filed, all that is left to do in the case is hold a vote on the plans. Is the Bank’s argument persuasive?
- The bankruptcy court agrees with the Bank and does not appoint a chapter 11 trustee. As a result, the Bank’s proposed plan of liquidation is confirmed. Given that an independent, undistracted fiduciary may have uncovered the potential issues with the Bank’s security interest, has the case nevertheless reached an acceptable result?
List of Authorities for Question #1
11 U.S.C. § 542
(a) Except as provided in subsection (c) or (d) of this section, an entity, other than a custodian, in possession, custody, or control, during the case, of property that the trustee may use, sell, or lease under section 363 of this title, or that the debtor may exempt under section 522 of this title, shall deliver to the trustee, and account for, such property or the value of such property, unless such property is of inconsequential value or benefit to the estate.
(b) Except as provided in section 362(a)(7) of this title, an entity that has neither actual notice nor actual knowledge of the commencement of the case concerning the debtor may transfer property of the estate, or pay a debt owing to the debtor, in good faith and other than in the manner specified in subsection (d) of this section, to an entity other than the trustee, with the same effect as to the entity making such transfer or payment as if the case under this title concerning the debtor had not been commenced.
(e) Subject to any applicable privilege, after notice and a hearing, the court may order an attorney, accountant, or other person that holds recorded information, including books, documents, records, and papers, relating to the debtor’s property or financial affairs, to turn over or disclose such recorded information to the trustee
11 U.S.C. § 362
(a) Except as provided in subsection (b) of this section, a petition filed under section 301, 302, or 303 of this title, or an application filed under section 5(a)(3) of the Securities Investor Protection Act of 1970, operates as a stay, applicable to all entities, of—
(2) the enforcement, against the debtor or against property of the estate, of a judgment obtained before the commencement of the case under this title;
(3) any act to obtain possession of property of the estate or of property from the estate or to exercise control over property of the estate;
(4) any act to create, perfect, or enforce any lien against property of the estate;
(1) Except as provided in paragraph (2), an individual injured by any willful violation of a stay provided by this section shall recover actual damages, including costs and attorneys’ fees, and, in appropriate circumstances, may recover punitive damages.
(2) If such violation is based on an action taken by an entity in the good faith belief that subsection (h) applies to the debtor, the recovery under paragraph (1) of this subsection against such entity shall be limited to actual damages.
In re Denby-Peterson, 941 F.3d 115 (3d Cir. 2019)
Ms. Denby-Peterson purchased a Chevrolet Corvette, which was repossessed pre-petition by secured creditors following a payment default. Ms. Denby-Peterson subsequently filed for chapter 13 bankruptcy in the Bankruptcy Court for the District of New Jersey (the Bankruptcy Court). Denby-Peterson notified the secured creditors of her bankruptcy filing and demanded they return the Corvette. The creditors refused, prompting Denby-Peterson to file motions for turnover of estate property pursuant to 11 U.S.C. § 542 and for sanctions for willful violation of the automatic stay under 11 U.S.C. § 362(k).
The Bankruptcy Court held a hearing on these matters, granting the motion for turnover but denying the motion for sanctions. The sanctions motion was denied on the basis that there could be no willful violation of the stay absent violation of the turnover order, which obviously had yet to occur. Denby-Peterson appealed the denial of the sanctions motion, but the U.S. District Court for the District of New Jersey (the District Court) upheld the Bankruptcy Court’s rulings. Denby-Peterson then appealed once again, this time to the U.S. Court of Appeals for the Third Circuit (the Court).
The Court was confronted with the question of whether passive retention of collateral seized pre-petition constituted a “willful violation” of the automatic stay. The Court answered this question in the negative and therefore upheld the District Court’s ruling affirming the Bankruptcy Court. The Court looked to the obligations governing turnover of collateral in 11 U.S.C. §§ 362 and 542 and found that these obligations were not “self effectuating.” While the turnover provision of § 542 is mandatory, the Court noted that it is not automatic—certain statutory conditions must be met to trigger the turnover obligations, e.g. 11 U.S.C. § 542(a). To allow a debtor to demand turnover absent fulfillment of these statutory conditions would be to allow the stripping of a creditor’s property without due process. Rather than approve Denby-Peterson’s self-effectuating interpretation of § 542 turnover, the Court instead held that the turnover provisions do not take effect until they are empowered by judicial order.
Turning to 11 U.S.C. § 362(k), the Court found that retention of property seized pre-petition did not constitute the necessary “exercise of control” to give rise to sanctions. Looking to the statutory language, the Court concluded that “exercise of control” requires an affirmative act on the part of the party accused of violating the stay. The Court held that mere passive retention of property already in a party’s possession did not rise to the level of an affirmative act. Without such an affirmative act, there was no “exercise of control,” and without that, there could be liability under § 362(k). To button the issue up, the Court referenced the Supreme Court’s decision in Maryland v. Strumpf, 516 U.S. 16 (1995), which allowed a bank to freeze and retain a debtor’s assets without violating the stay. The Court found that this ruling would not be reconcilable with a requirement that turnover of assets be automatic and self-effectuating.
Weber v. SEFCU (In re Weber), 719 F.3d 72 (2d Cir. 2013)
This case concerned a secured creditor (Creditor) seizing a debtor’s vehicle pre-petition owing to payment default. Debtor subsequently filed for chapter 13 bankruptcy in the Bankruptcy Court for the Northern District of New York (the Bankruptcy Court), of which Creditor was aware. Creditor nonetheless failed to return possession of Debtor’s vehicle after becoming aware of its bankruptcy petition. Debtor subsequently filed an adversary proceeding requesting turnover of the vehicle under 11 U.S.C. § 542 and sanctions pursuant to 11 U.S.C. § 362(k). Creditor returned the vehicle following the adversary action, but maintained that it could not be liable for sanctions under § 362(k) as it had not been holding the vehicle in violation of any turnover order. This understanding had previously been articulated by the U.S. District Court for the Northern District of New York (the District Court) in the case of Manufacturers & Traders Trust Co. v. Alberto (In re Alberto), 271 B.R. 223 (N.D.N.Y. 2001). The Bankruptcy Court determined that Creditor was in compliance with Alberto, and therefore could not be subject to sanctions under § 362(k).
Debtor appealed that decision to the District Court, which overturned its earlier Alberto decision. Relying primarily on the Supreme Court case of United States v. Whiting Pools, Inc., 462 U.S. 198 (1983), the District Court found that Creditor had been required to return the vehicle as soon as it was aware of the bankruptcy filing. To retain control over the vehicle was “exercising control” over it in violation of § 362, meaning that Creditor was liable for sanctions under § 362(k). Creditor subsequently appealed the District Court’s decision to the U.S. Court of Appeals for the Second Circuit (the Court).
The Court first determined that the text of 11 U.S.C. §§ 541 and 542 required that all of the assets of a debtor’s estate be returned to the debtor at the filing of a bankruptcy case; doing so was necessary to build and administer the estate. Citing heavily to Whiting Pools, the Court found that retaining property of the estate that was repossessed pre-petition effectively deprives the estate of that property. To avoid this, a creditor must return any estate property to the debtor at the filing of the estate. Doing so does not surrender the creditor’s interest in the property; it is merely a surrender of physical possession.
The Court next turned to the question of whether the turnover provision was “self-effectuating,” or, as the Alberto court had held, was only implicated upon entry of an order for turnover. The Court found that, by the language of § 541 detailing what constituted “property of the estate,” any property in which the debtor had an interest held by anyone anywhere at the time of the filing becomes property of the estate. The Court reasoned that this would be incompatible with the Alberto court’s ruling that turnover is not self-effectuating. By retaining control of the vehicle, Creditor had been “exercising control” over it; no affirmative act was necessary, as the property was unquestionably estate property which was in Creditor’s control. To retain control of estate property after the filing of the petition was a violation of the automatic stay.
The Court last addressed whether Creditor could still be liable for sanctions under 11 U.S.C. § 362(k) despite its reliance on the precedent of Alberto. Considering the question of whether the stay violation was “willful,” the Court determined that nothing prevented Creditor from surrendering Debtor’s vehicle at the time Debtor requested. Creditor simply chose to retain possession of the vehicle because it felt case law entitled it to do so. The “willful” in 11 U.S.C. § 362(k), according to the Court, meant only that the stay violation was a voluntary act. The Court did not read any specific intent requirement into § 362(k). Given that Creditor chose to retain the vehicle—and unwittingly violate the stay—of its own free will, the violation was “willful” under § 362(k) and the Creditor was liable for damages.
WD Equip., LLC v. Cowen (In re Cowen), 849 F.3d 943 (10th Cir. 2017)
Jared Cowen (Debtor) owned two commercial trucks, both of which were repossessed under questionable and possibly fraudulent circumstances. Debtor filed a chapter 13 petition in the Bankruptcy Court for the District of Colorado (the Bankruptcy Court) and demanded the creditors return his two trucks. Both creditors refused; one claimed that he had transferred legal title of the truck over to his own name pre-petition, and the other claimed that the truck had been sold to an unknown Mexican national for cash in an undocumented sale, though a bill of sale was later produced. Debtor filed a motion for sanctions for willful violation of the automatic stay owing to both creditors’ failure to turn over the trucks, which he alleged were property of his bankruptcy estate. The Bankruptcy Court agreed with Debtor, finding that the documentation showing that his legal interest in both trucks had been forged, the failure to return the trucks violated 11 U.S.C. § 362(a)(3), and awarding damages pursuant to 11 U.S.C. § 362(k). That order was substantively affirmed on appeal to the U.S. District Court for the District of Colorado (the District Court). The creditors thereafter appealed to the U.S. Court of Appeals for the Tenth Circuit (the Court), arguing that their retention of the trucks, or proceeds of the trucks, did not constitute an “act” to “exercise control of” estate property, as the trucks were seized pre-petition.
The question before the Court was whether the passive retention of estate property seized pre-petition constitutes a violation of the automatic stay after notice of a bankruptcy filing. The Court noted that the Bankruptcy Court and the District Court seemingly subscribed to the “majority view” of this question, which holds that such activity is a violation of the automatic stay. In reversing the District Court, the Court held that the majority view took a policy-driven approach not supported by the text of the Bankruptcy Code. The Court put particular emphasis on the word “act” in 11 U.S.C. 362(a)(3): “any act to obtain possession of property of the estate or of property from the estate or to exercise control over property of the estate.” The Court reasoned that the requirement that there be an “act” meant that an affirmative post-petition action on the part of the creditor was necessary to incur liability for a stay violation. Mere passive retention of property seized pre-petition did not rise to that level. The Court further elaborated that the majority view’s reliance on reading § 362(a)(3) in conjunction with 11 U.S.C. § 542 also was unsupported by the text, as the two provisions had no intertextual connection. The Court expressed its belief that if Congress had intended to add an affirmative obligation of turnover to the automatic stay provisions of 11 U.S.C. § 362(a)(3), it would have done so explicitly; Congress does not “hide elephants in mouseholes.” The Court finished by noting that its holding did not absolve the creditors of liability under § 362(k), as their fraudulent acts taken to effect and conceal their repossession of the estate property constituted “acts” within the scope of 11 U.S.C. § 362(a)(3).
List of Authorities for Question #2
11 U.S.C. § 108
(a) If applicable nonbankruptcy law, an order entered in a nonbankruptcy proceeding, or an agreement fixes a period within which the debtor may commence an action, and such period has not expired before the date of the filing of the petition, the trustee may commence such action only before the later of—
(1) the end of such period, including any suspension of such period occurring on or after the commencement of the case; or
(2) two years after the order for relief.
(b) Except as provided in subsection (a) of this section, if applicable nonbankruptcy law, an order entered in a nonbankruptcy proceeding, or an agreement fixes a period within which the debtor or an individual protected under section 1201 or 1301 of this title may file any pleading, demand, notice, or proof of claim or loss, cure a default, or perform any other similar act, and such period has not expired before the date of the filing of the petition, the trustee may only file, cure, or perform, as the case may be, before the later of—
(1) the end of such period, including any suspension of such period occurring on or after the commencement of the case; or
(2) 60 days after the order for relief.
Counties Contracting & Constr. Co. v. Constitutional Life Ins. Co., 855 F.2d 1054 (3d Cir. 1988)
The issue in this case was whether a life insurance policy’s grace period for premium payments was extended, and if so, for how long. Debtor held a life insurance policy on one of its employees through Constitutional Life Insurance Co. (Insurer). The life insurance policy included a statutorily mandated 31-day grace period for late premium payments. Debtor failed to pay the premium, but then filed for chapter 11 bankruptcy within the grace period. After having filed for bankruptcy, Debtor received multiple notices of its failure to pay the premiums. Debtor never paid the overdue premiums. The insured employee died shortly thereafter, and Debtor demanded payment under the policy.
Debtor’s argument was that 11 U.S.C. § 362(a)(3)’s prohibition against obtaining property of the estate operated to stay the grace period indefinitely. Insurer argued that, at most, 11 U.S.C. § 108(b)(2) had afforded Debtor a 60-day extension of the grace period, which had already expired. The parties voluntarily withdrew the reference to the U.S. District Court for the Eastern District of Pennsylvania (the District Court), which ruled in favor of Insurer. Debtor then appealed to the U.S. Court of Appeals for the Third Circuit (the Court).
The Court ruled in favor of Insurer and affirmed the District Court’s ruling. The Court determined that 11 U.S.C. § 108(b)(2) operated to afford debtors an additional 60 days to take any action that they otherwise would have been able to take prior to filing for bankruptcy, so long as the time for doing so had not expired as of the bankruptcy filing. This was the case with the grace period for payment of the overdue premiums, so Debtor had an additional 60 days from the date of filing to pay those premiums and thereby keep the insurance policy in place. The Court explained that the purpose of 11 U.S.C. § 108(b) was to give debtors an opportunity to preserve those rights that they otherwise would have had during the administratively complicated time of a bankruptcy filing. As the grace period was a cure period, 11 U.S.C. § 108(b) plainly applied to the insurance policy, as it allowed debtors additional time to “cure a default, or any other similar act.” Allowing 11 U.S.C. § 362 to act as an indefinite stay of cure periods would be counter to public policy, as bankruptcy debtors would be able to enjoy whatever rights they otherwise may have had for the entire duration of the bankruptcy—a clearly unintended result, especially given the inclusion of § 108(b). The decision of the District Court was therefore affirmed.
In re Hric, 208 B.R. 21 (Bankr D.N.J. 1997)
Debtor filed for a petition for chapter 13 bankruptcy in the Bankruptcy Court for the District of New Jersey (the Court). Prior to the filing of the petition, Debtor had defaulted on his mortgage payment and his home was subsequently foreclosed upon. The house was sold at a foreclosure sale, but the deed was never delivered to the purchaser. After the sale, but within the ten-day period provided by New Jersey law for the exercise of the right of redemption, Debtor filed his bankruptcy case. Debtor contended that, because no deed had been delivered, the sale had not been finalized and he was entitled to cure his default and pay the mortgage through the chapter 13 plan. The purchaser argued that the sale was finalized after its bid was recognized as the highest and the bidding was closed, and that at most Debtor only had sixty days from the date of the petition to exercise the right of redemption under 11 U.S.C. § 108(b).
The Court first determined that 11 U.S.C. § 1322 permits a debtor to cure a mortgage default up until such time as the sale is finalized at auction, as the delivery of the deed is a ministerial act that may be subject to delays totally unrelated to the sale process. The Court found this to be in harmony with applicable New Jersey law. The Court then looked to 11 U.S.C. § 108(b)(2), which permits a debtor 60 days to “cure a default,” or “perform any similar act” which would be available to it under applicable nonbankruptcy law. Looking to New Jersey law, the Court found that New Jersey did not permit the curing and reinstating of a mortgage following foreclosure. However, New Jersey did afford a homeowner a ten day period within which to exercise its statutory right of redemption by paying off the mortgage in full. The Court determined that this was a “similar act” to curing a default, and that therefore Debtor had had 60 days from the date of the petition to pay the mortgage in full. Because more than 60 days had already elapsed as of the time of the decision, the Court held that the sale had been finalized.
In re Global Outreach, S.A., 2009 Bankr. LEXIS 993 (Bankr. D.N.J. 2009)
At issue in this case was whether 11 U.S.C. § 108(b)(2) extended the time period by which a debtor could perform under a contract. Global Outreach, S.A. (Debtor) entered into a contract with YA Global Investments, L.P. (YA). The agreement provided that YA would make a loan to Debtor, in exchange for Debtor placing title to certain properties into a holding company. By the terms of the agreement, if Debtor defaulted and failed to cure within fifteen days, then Debtor would have an additional thirty days to pay all outstanding monies under the loan and have the properties returned. YA gave Debtor notice of a default and reminded it of the fifteen-day cure period. After those fifteen days passed, YA sent Debtor another notice reminding it of the thirty-day redemption period. Within those thirty days, Debtor filed for bankruptcy in the Bankruptcy Court for the District of New Jersey (the Court).
The Court sua sponte raised the question of whether the provisions of 11 U.S.C. § 108(b)(2), which provide an additional sixty days for debtors to “cure a default, or take any similar act” under applicable nonbankruptcy law, applied to the case. YA argued that it did not, as the additional thirty-day provision was not a cure provision, but rather a repayment provision. Debtor argued that the repayment was a “similar act” to curing a default, and thus it had an additional sixty days to pay the loan in full.
The Court agreed with Debtor and ruled that 11 U.S.C. § 108(b)(2) extended the time period by which Debtor could repay the loan in full by sixty days. In doing so, the Court relied upon Counties Contracting and Construction Co. v. Constitution Life Insurance Co., 855 F.2d 1054 (3d Cir. 1988) and In re Hric, 208 B.R. 21 (Bankr. D.N.J. 1997). The Court found that while it was true that the provision in question was not a cure provision, it was analogous to the right of redemption at issue in Hric. Therefore, because the Debtor was not seeking to cure a default under the contract (which right had expired prepetition), but was instead seeking to pay the entirety of the loan balance, 11 U.S.C. § 108(b)(2) granted it an additional sixty days from the petition filing within which to do so.
In re 1075 Yukon LLC, 590 B.R. 527 (Bankr. D. Colo. 2018)
At issue in this case was whether 11 U.S.C. § 108(b) extended the time for which a debtor could perform under an option contract. Debtor sold certain real property to Buyer pre-petition.
The parties simultaneously entered into a second agreement (the Option Contract) that provided for Debtor’s ability to repurchase the property if certain conditions were met. The Option Contract was subsequently amended to extend the deadline by which Debtor must exercise its repurchase option, and provided that the option automatically terminated at the deadline. Debtor filed its petition for chapter 11 bankruptcy in the Bankruptcy Court for the District of Colorado (the Court) approximately one hour before the option deadline.
Forty-three days later, Debtor filed a motion to exercise the option and repurchase the property. Debtor relied upon 11 U.S.C. § 108(b)(2), which allows a debtor 60 days to “file any pleading, demand, notice, proof of claim or loss, cure a default, or perform any other similar act” that the debtor may have been entitled to perform if the timeframe for doing so had not expired prior to the bankruptcy filing. Debtor contended that, because it was entitled to exercise the option to purchase the property, and the deadline to do so had not terminated prior to the bankruptcy filing, § 108(b)(2) gave it an additional 60 days to do so. Buyer objected, stating that allowing Debtor an additional 60 days from a predetermined, agreed-upon deadline was an impermissible modification of private contract rights.
The Court agreed with Buyer and held that § 108(b)(2) did not apply to option contracts. In reaching this conclusion, the Court looked to the specific language relating to “curing a default.” In examining all other relevant case law, the Court found that any extension granted by § 108(b)(2) was in the nature of curing a default, e.g. exercising a statutory right of redemption. Therefore, the Court concluded that “similar act” in § 108(b)(2) meant an act similar to curing a default. The Court found that allowing an expansive reading of § 108(b)(2), as some other courts had done, would give it a broader effect than was intended. Indeed, doing so in the context of option contracts would give the debtor more rights than they had prior to filing a bankruptcy—a clear impossibility. Because there could be no default under an option contract, only the expiration of the option, there could also be no curing of a default under one. Without the ability to cure a default, the Court reasoned that there was nothing for § 108(b) to extend, and that the option had therefore expired on the originally agreed date.
List of Authorities for Question #3
11 U.S.C. § 1104
(a) At any time after the commencement of the case but before confirmation of a plan, on request of a party in interest or the United States trustee, and after notice and a hearing, the court shall order the appointment of a trustee—
(1) for cause, including fraud, dishonesty, incompetence, or gross mismanagement of the affairs of the debtor by current management, either before or after the commencement of the case, or similar cause, but not including the number of holders of securities of the debtor or the amount of assets or liabilities of the debtor; or
(2) if such appointment is in the interests of creditors, any equity security holders, and other interests of the estate, without regard to the number of holders of securities of the debtor or the amount of assets or liabilities of the debtor.
11 U.S.C. § 1112
(1) Except as provided in paragraph (2) and subsection (c), on request of a party in interest, and after notice and a hearing, the court shall convert a case under this chapter to a case under chapter 7 or dismiss a case under this chapter, whichever is in the best interests of creditors and the estate, for cause unless the court determines that the appointment under section 1104(a) of a trustee or an examiner is in the best interests of creditors and the estate.
11 U.S.C. § 105
(a) The court may issue any order, process, or judgment that is necessary or appropriate to carry out the provisions of this title. No provision of this title providing for the raising of an issue by a party in interest shall be construed to preclude the court from, sua sponte, taking any action or making any determination necessary or appropriate to enforce or implement court orders or rules, or to prevent an abuse of process.
In Re Marvel Entertainment Group, 140 F.3d 464 (3d Cir. 1998)
Marvel Entertainment Group, Inc. (Marvel) filed for chapter 11 bankruptcy in the Bankruptcy Court for the District of Delaware (the Bankruptcy Court). Marvel initially acted as a debtor-in-possession. From the outset, the bankruptcy was essentially dominated by two competing groups: a group of bond-holding entities controlled by Carl Icahn (the Icahn Interests), which effectively held all of Marvel’s stock, and a group of large creditors (the Lenders) and their agent, Chase Manhattan Bank (Chase). The Icahn Interests and the Lenders both used the bankruptcy to vie for control of Marvel through extensive litigation and contested financing proposals.
Eventually, the Icahn Interests gained control of Marvel by receiving authority to vote the stock that it held; this put the Icahn Interests in the position of being both a creditor and shareholder of the debtor and the debtor-in-possession. The Icahn-controlled debtor then began filing various adversary proceedings against the Lenders, which the Lenders described as retaliation for their refusal to enter settlement agreements. The acrimony between the two groups eventually led the District Court for the District of Delaware (the District Court) to withdraw the reference to the Bankruptcy Court and order the appointment of a chapter 11 trustee.
The District Court approved the appointment of a trustee (the Trustee), who subsequently moved for appointment of his law firm as counsel to the trustee (the Firm). The Firm disclosed that it was concurrently engaged in representing Chase in an unrelated matter involving the construction of an arts center; the fees for this engagement constituted 0.1 percent of the firm’s overall annual revenue, the representation was substantially concluded, and Chase had previously provided the Firm with a waiver of any and all conflicts of interests arising from the representation. The District Court denied the appointment of the Firm on the basis that it “taint[ed] the appearance of objectivity.” The Trustee appealed, which was consolidated with the Icahn Interests’ appeal of the order appointing the Trustee.
The United States Court of Appeals for the Third Circuit (the Court) began by finding that it had jurisdiction to hear an appeal of an order appointing a trustee pursuant to 28 U.S.C. § 1291. The Court reasoned that, if it could not take jurisdiction at the time of the appeal, then the only alternative would be that the order appointing the Trustee would not be appealable until the completion of the bankruptcy case. The Court found that this would be an absurdity, as it would raise the possibility of having to redo the entire bankruptcy if the order appointing the Trustee were to be overturned.
Turning to the question of whether appointment of the Trustee was appropriate, the Court noted that the standard for appointing a trustee was simply “for cause” under 11 U.S.C. § 1104(a)(1). The question the case presented was whether “acrimony” between a debtor-in-possession and creditors constituted “cause” under § 1104(a)(1). Answering the question in the affirmative, the Court held that “acrimony” could constitute “cause” to appoint a trustee on a case-by-case basis, where disagreement between a debtor-in-possession and its creditors extends “beyond the healthy conflicts that always exist between debtor and creditor.” The Court noted that there existed a “strong presumption” in favor of leaving a debtor-in-possession in control of its own case owing to its familiarity with its own business and organization. However, the Court found that such presumption was inapplicable in this case, where the Icahn Interests had only recently taken control as the debtor-in-possession. The Court refused to adopt a per se rule for when acrimony rose to the level of cause, instead directing that it was a factual determination to be made by the court. The Court further found that, even if the acrimony in this case did not rise to the level of “cause” under § 1104(a)(1), it would nonetheless have been warranted by the more flexible “best interests” standard of § 1104(a)(2) owing to the intransigence of the two groups. The Court noted that “the debtor-in-possession’s interests conflicted with those of its creditors to such an extent that the appointment of a trustee may be the only effective way to pursue reorganization.”
The Court finally addressed the disqualification of the Firm as counsel to the Trustee. Reversing the District Court, the Court held that counsel may not be disqualified under 11 U.S.C. § 327(a) for the mere appearance of conflict alone. Instead, looking at the text of the statute, the Court held that disqualification was only permissible due to the existence of an actual or potential conflict.
U.S. Mineral Prods. Co. v. Official Comm. of Asbestos Bodily Injury & Prop. Damage Claimants (In re U.S. Mineral Prods. Co.), 105 Fed. App’x 428 (3d Cir. 2004)
This case concerned contentious bankruptcy proceedings between the debtor (Debtor) and an official committee of unsecured creditors (the Committee). The Committee was appointed to represent the interests of several asbestos injury-related claimants. During the proceedings, the Bankruptcy Court for the District of Delaware (the Bankruptcy Court) admonished the parties that failure to reach a confirmable plan would result in the appointment of a chapter 11 trustee. Debtor never contested that the Bankruptcy Court had the authority to appoint a trustee of its own accord; Debtor only maintained that a trustee was not necessary. The United States Trustee filed a statement opining that appointment of a trustee was necessitated by the acrimonious relationship between Debtor and the Committee, as well as by concerns over Debtor’s management engaging in self-dealing transactions. The Bankruptcy Court eventually appointed a chapter 11 trustee sua sponte at a hearing on the progress of any plan. Debtor objected to the appointment, arguing that a court cannot appoint a trustee under 11 U.S.C. § 1104(a) absent a motion to do so by a party-in-interest. Debtor further contended that it was not given adequate notice and hearing for the issue of appointment of a trustee.
The U.S. Court of Appeals for the Third Circuit (the Court) rejected Debtor’s contention and affirmed the Bankruptcy Court’s order sua sponte appointing a trustee. The Court found that any requirement of a motion being filed by a party-in-interest had been “severely diluted” by the 1984 amendments to 11 U.S.C § 105, which permitted sua sponte action on the part of bankruptcy courts. This broad discretion, coupled with the “best interests” standards of 11 U.S.C. § 1104(a)(2) made clear that a bankruptcy court may sua sponte appoint a trustee when doing so is in the best interests of the estate. The Court also noted that § 1104(a) does not mention a “motion by a party in interest,” but merely a “request by a party in interest.” Even if such a request from a party-in-interest was a necessary prerequisite, the Court found that the United State Trustee’s statement would have satisfied such a requirement anyway.
From a factual perspective, the Court found that this standard had easily been met based upon the acrimonious relationship between the parties and the standards articulated in In re Marvel Entertainment Grp., Inc., 140 F.3d 463 (3d Cir. 1998). The Court also found that any applicable notice and hearing requirements had been satisfied, as Debtor was aware of the Bankruptcy Court’s intention to appoint a trustee, was aware of the United States Trustee’s statements in support of appointing a trustee, and itself argued that a trustee was not necessary. At no time during these proceedings did Debtor ever raise the issue of whether the Bankruptcy Court could appoint a trustee absent a motion. The Court therefore found that all of the necessary conditions for the Bankruptcy Court’s appointment of a trustee had been met.
Official Comm. of Asbestos Claimants v. G-I Holdings, Inc. (In re G-I Holdings, Inc.), 385 F.3d 313 (3d Cir. 2004)
The Debtor, G-I Holdings, Inc. (Debtor) filed for chapter 11 bankruptcy in the Bankruptcy Court for the District of New Jersey (the Bankruptcy Court). Debtor was the defendant in asbestos-related mass-tort actions prior to and during the bankruptcy. Pursuant to 11 U.S.C. § 1102(a), the United States Trustee appointed a committee of unsecured creditors to represent the interests of the asbestos-related claimants (the Committee). The Committee moved for appointment of a chapter 11 trustee, arguing that such appointment was warranted under 11 U.S.C. §§ 1104(a)(1) and 1104(a)(2). The Committee relied upon In re Marvel Entertainment Grp., Inc., 140 F.3d 463 (3d Cir. 1998), arguing that significant conflict existed between Debtor and the asbestos claimants which required the appointment of a trustee. The Bankruptcy Court denied the Committee’s request for appointment of a trustee. On appeal, the District Court of the District of New Jersey (the District Court) upheld the order of the Bankruptcy Court. The Committee appealed once again, this time to the U.S. Court of Appeals for the Third Circuit (the Court).
The Committee’s argument on appeal concerned the applicable burden of proof. The Bankruptcy Court based its decision in part on the presumption in favor of deferring to a debtor-in-possession rather than a trustee, as articulated in In re Marvel. The Bankruptcy Court found that the Committee had failed to meet this burden, as it had not shown by clear and convincing evidence that the circumstances required the appointment of a trustee. On appeal to the District Court, the Committee argued that the presumption in favor of leaving Debtor as debtor-in-possession should not apply because Debtor was a holding company, and therefore familiarity with its business operations was irrelevant. Furthermore, the Committee contended that there would be little to no cost associated with appointing a trustee, because it would only need to manage the asbestos claims. Finally, the Committee argued that Debtor had a “structural inability” to discharge its fiduciary duties to its creditors. The District Court noted that there was no support from In re Marvel or elsewhere for the Committee’s argument concerning the applicable burden of proof, and upheld the decision of the Bankruptcy Court. The Committee again appealed, arguing that (1) because of the factual circumstances, the presumption in favor of leaving Debtor as debtor-in-possession should not apply, and (2) because no such presumption existed, the Committee should only need to show that appointment of a trustee was warranted by a preponderance of the evidence, rather than by clear and convincing evidence.
The Court looked to its earlier decisions in In re Marvel and In re Sharon Steel Corp., 871 F.2d 1217 (3d Cir. 1989) and found that both plainly provided that a party moving for the appointment of a trustee bears the burden of persuasion by clear and convincing evidence. The Court noted that its earlier language in In re Marvel concerning the “presumption” in favor of keeping a debtor’s current management in place merely was another way of describing this burden. The usage of the word “presumption,” taken in context within In re Marvel, simply reflected the fact that a movant must meet the heighted evidentiary burden of clear and convincing evidence for the relief it seeks. The “presumption” was not an independent factual issue that the moving party could rebut and dispel, separate and apart from the evidentiary burden. It was, rather, the evidentiary burden itself. It therefore could not be altered, as the Committee maintained, by facts which would undermine any putative presumption.
The Court further held that even if there did exist such a factual presumption, its existence or absence would have no bearing on the burden of proof. The Court’s precedents in In re Marvel and Sharon Steel both squarely held that a party moving for appointment of a trustee bears the burden of proof by clear and convincing evidence, with no caveats. Therefore, even if the Court were to accept the Committee’s first argument concerning the factual lack of support for such a presumption, there would be no logical coupling between that finding and a lowering of the burden of proof. The Court accordingly affirmed the order of the District Court, and the Committee’s motion for appointment of a trustee remained denied.
Kevan A. McKenna, P.C. v. Official Comm. of Unsecured Creditors (In re Kevan A. McKenna, P.C.), 2011 U.S. Dist. LEXIS 57985, Case No. 10-472 ML (D.R.I. May 31, 2011)
The debtor in this case was a law firm acting as a chapter 11 debtor-in-possession (the Debtor). Debtor’s case was fraught with conflict between it and the official committee of unsecured creditors (the Committee). The Committee moved for conversion of Debtor’s case under 11 U.S.C. § 1112(b). The Bankruptcy Court for the District of Rhode Island (the Bankruptcy Court) held a hearing on the motion and took the matter under advisement. The Bankruptcy Court then sua sponte appointed a chapter 11 trustee based upon the “totality of the circumstances” in the case. The Bankruptcy Court specifically singled out obstructive conduct on the part of Debtor’s principal among the reasons why it was appointing a trustee. Debtor appealed to the U.S. District Court for the District of Rhode Island (the Court), raising three issues. Firstly, Debtor argued that the Bankruptcy Court could not sua sponte appoint a trustee; a motion by a party-in-interest was necessary. Secondly, Debtor argued that it was deprived of notice and hearing on the issue of appointment of a trustee. Finally, Debtor argued that there was not a factual record established on which appointment of a trustee could be based.
The Court began by explaining how 11 U.S.C. § 1112(b) and 11 U.S.C. § 1104 worked in conjunction to provide that, when considering whether to dismiss or convert a case, a bankruptcy court may also consider appointment of a trustee if doing so is in the best interests of the estate. The bankruptcy court must make the determination based upon which alternative is in the best interests of the estate, as drawn from the factual record. The Court found that a request of a party-in-interest was not necessary for appointment of a trustee, as 11 U.S.C. § 105(a) directs that no requirement of a motion or request prevents a bankruptcy court from otherwise sua sponte taking action necessary to implement or enforce court orders. The Court cited relevant case law for the proposition that § 105(a)’s directive includes the sua sponte authority to appoint a trustee. The Court next found that Debtor was afforded adequate notice and hearing through the motion to convert, which was fully briefed and argued. Any action under § 1112(b) to convert or dismiss must also necessarily entail the possibility of appointment of a trustee by the inclusion of § 1104, and so Debtor was effectively notified as to the possibility. Moreover, the motion to convert would have required the appointment of a chapter 7 trustee to administer the estate, which the Court found to be effectively analogous to the possibility of appointment of a chapter 11 trustee for notice purposes. As for Debtor’s final contention regarding the evidentiary record, the Court found upon review that the facts adduced in the conversion hearing did rise to the level of clear and convincing evidence. Debtor had repeatedly failed to comply with court orders, had repeatedly overdrawn its bank accounts and otherwise mismanaged its finances, and failed to file a disclosure statement within the timeframe required by the Bankruptcy Court. Taken together, these facts made clear that appointment of a chapter 11 trustee was in the best interests of Debtor’s estate.