Bankruptcy and Creditors’ Rights Alert – February 2021 | Kaufman & Canoles



The United States Supreme Court recently shed some light on one of the many issues that creditors face when a borrower, client or member goes bankrupt: what to do with collateral that has already been foreclosed. Although other provisions of the Bankruptcy Code may impose different obligations, the Supreme Court has now ruled that mere retention of property does not violate automatic suspension under Bankruptcy Code § 362 (a) (3).

In Chicago vs. Fulton, Case No. 19-357, the City of Chicago impounded Ms Fulton’s car after she failed to pay certain fines and costs related to traffic violations. Ms Fulton filed for bankruptcy and asked the City to release the car from the impound. The City refused, and the bankruptcy court ruled that the City’s refusal violated the automatic suspension of the Bankruptcy Code prohibiting “any act … of exercising control over the ownership” of the bankruptcy assets. § 362 (a) (3). Appeals courts upheld the decision, agreeing that the City’s denial violated the automatic stay, but the Supreme Court reversed, ruling that the automatic stay had not been violated.

The Supreme Court ruled that simply retaining possession does not violate the stay because “the most natural reading” of the operational terms of the law – “stay”, “act” and “exercise control” – “is that subsection 362 (a) (3) prohibits affirmative acts that would disrupt the status quo of estate ownership at the time the bankruptcy petition was filed. Slip Op. To 3. In addition, the court relied on the existence of a separate section of the Bankruptcy Code dealing with the rotation of the assets of the estate, § 542. The court considered that the central order of § 542 to hand over certain assets to the trustee in bankruptcy “would be surplus if § 362 (a) (3) already required that an entity relinquish control of the debtor’s assets at the time an application for bankruptcy is filed. Slip Op. To 5. Therefore, the court held that passive withholding of possession of the car does not violate § 362 (a) (3).

While the Supreme Court’s decision is good news for creditors, it should not be taken too broadly and creditors should always be extremely careful after a borrower, customer goes bankrupt. or a member, in particular by seeking the advice of a lawyer. The court’s decision is limited to § 362 (a) (3) (exercise of control over property). He did not address § 362 (a) (4) (prohibiting any act aimed at creating, perfecting or enforcing a lien on the property of the estate) or § 362 (a) (6) (prohibiting “any act aimed at to collect, evaluate, or recover a claim against [a] debtor ”which occurred before the bankruptcy proceedings).

Keys to remember

Always remember that anytime a borrower, client, or member files bankruptcy, whether it’s Chapter 7, 11, 12, or 13, automatic stay is imposed by law. This stay works as an injunction preventing all creditors to take all any action to collect the debt or obtain possession of any property in the possession of the debtor, as this violates one of the fundamental purposes of bankruptcy – to provide the debtor with respite from the actions of the creditors.[1] The automatic stay applies regardless of whether you have a lien on the warranty or have a lease or other contractual rental agreement with an option to purchase.

A violation of the automatic stay constitutes contempt of a court order, which may cause the bankruptcy court to order you to pay substantial damages to the debtor. These damages may include legal fees incurred by the debtor in bringing the breach to the attention of the court and punitive (or punitive) damages, in addition to any actual damages the debtor may be able to establish. Punitive damages awarded by the court may be even higher if more than one violation occurs in the same case or in a series of cases.

Any effort to collect the unpaid debt should only be done by filing a proof of bankruptcy claim and / or by contacting the debtor’s bankruptcy lawyer. If these efforts are unsuccessful, an appropriate pleading should be filed with the bankruptcy court. In situations where the debtor’s lawyer does not respond or the debtor has filed the case himself, without a lawyer, contact a lawyer to help you. No contact should be made directly with the debtor.

Also note that any provision of your contract with a bankrupt debtor that purports to apply when and / or because the borrower, client, or member filed for bankruptcy is likely unenforceable under the Bankruptcy Code. Do not rely on such provisions without contacting a lawyer.

[1] In most cases, in a Chapter 13 bankruptcy, the automatic stay can even apply to co-debtors responsible for the debt who have not filed for bankruptcy.

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