Bankruptcy: What Landlords And Tenants Need To Know

There are technically six types of bankruptcy proceedings, Chapters 7,9,11,12,13 and 15 but only three that you are likely to have contact with; Chapter 7,11, and 13.

• Chapter 7 is straight out old-fashioned liquidation bankruptcy.

• Chapter 11 is business reorganization.

• Chapter 13 is a payment plan for individuals with regular income.

The impact of filing on a lease depends in part on the kind of bankruptcy filed. However, regardless of the type of bankruptcy, an automatic stay goes into effect immediately upon the filing of the bankruptcy petition. The stay prohibits creditors, including landlords, from taking any action to collect money or to recover on a claim against the debtor that arose before the commencement of the bankruptcy case.

LANDLORDS:

As a practical matter the stay prevents a landlord from commencing or continuing an eviction action or attempting to collect past-due rent. In fact, any contact with the debtor after the bankruptcy is filed can result in the landlord being being held in contempt of the bankruptcy court. Hence, if a landlord receives a bankruptcy notice, he or she should immediately cease contact with the debtor and consult a bankruptcy lawyer.

Landlords should be aware...

Bankruptcy invalidates some lease clauses, including provisions that state that the filing of a bankruptcy is an event of default, and provisions that prohibit assignment leases to third parties.

Subject to bankruptcy court approval a debtor may reject the lease, meaning cancel the lease, or may elect to assume the lease, meaning keep the lease, and in some situations may assume or keep a lease and assign it to a third-party. There are some protections for landlords in the code in the event of these actions being taken. Those protections differ depending upon the chapter of bankruptcy that is filed.

DEADLINES:

In all chapters of the Bankruptcy Code except Chapter 7, the debtor may assume or reject an executory contract or unexpired lease of residential real property (or personal property) at any time before confirmation of the plan. The landlord, however, has the right at any time to file a motion to compel the debtor to make a decision on assuming or rejecting the lease at an earlier time.

If the debtor intends to assume the lease he or she is supposed to notify the lessor in writing in what is called the statement of intent in the bankruptcy schedules. In order to assume, the debtor must cure all defaults, except for nonmonetary defaults that cannot be cured. Example: debtor left the property unoccupied for two months-can’t change that after the fact.

In a Chapter 7, the deadline to assume or reject the lease of residential real property (or of personal property) is sixty (60) days from the filing of the petition. The lease is deemed rejected if the deadline passes before a debtor assumes or rejects the lease.

With respect to nonresidential or commercial real estate leases, a debtor must either assume or reject the lease within one hundred and twenty (120) days from the filing of the petition, and can get a ninety (90) day extension on that deadline if the bankruptcy court approves it. So a maximum on two hundred and ten (210) days from the date of filing to assume or reject. Again, the landlord can file a motion to compel assumption or rejection sooner than that.

CLAIMS FOR REJECTED LEASES:

If a debtor rejects a lease, the landlord can file a claim in the bankruptcy for the unpaid rent up to the date of the filing of the bankruptcy. As to the remainder of the lease term, the bankruptcy code allows a landlord to file a claim for rent that would have been due later, but the amount that can be claimed is capped. The exact formula for calculating the cap amount is about as clear as mud, but generally limits the claim to 15% of the remaining rent or three years or three years of rent; whichever is less. Also, as with nonbankruptcy law, the landlord cannot claim additional rent if the property is re-leased for the same rent or higher than what was provided in the lease.

If a debtor assumes a lease with bankruptcy court approval and then later defaults, the landlord gets an administrative claim for the unpaid post petition rent which means they have a much greater chance of being paid as opposed to general unsecured creditors.

TENANTS:

In cases where a landlord rejects a lease, the tenant may treat the lease as terminated and abandon the premises or the tenant may choose to remain in the property and continue paying rent although the rent may be paid to another party such as a bank, a lien holder, or a bankruptcy trustee.

ASSUME A LEASE:

In order to assume an unexpired lease a debtor must cure all defaults or provide adequate assurance that the fault will be”promptly cured.” The Bankruptcy Code does not define what "properly cured" means so that is left up to the individual bankruptcy court to decide. §365(B)(1)(A). What might "properly cured" mean? At a minimum curing the defaults means paying all the unpaid rent including obligations for taxes, insurance, common area maintenance, utilities, late charges, etc. The cure-all amount may also include the attorneys fees incurred by the landlord if the lease provides for it.

The debtor must also provide adequate protection of future performance under the lease meaning the debtor must demonstrate that he or she will be able to continue making payments as the lease moves forward. Where a lease is assumed it is assumed in its entirety. The debtor may not keep parts of a lease and reject other parts. It is an all or nothing proposition.

LEASE ASSIGNMENT:

Once assumed, a lease may be assigned to a third-party even without the consent of landlord if the new tenant is able to provide adequate assurance of future performance under the lease. One exception to this rule is in a shopping center lease; assignment will not be approved if it would disrupt the tenant mix in the shopping center.

RELIEF FROM THE STAY:

A landlord has the right to ask the bankruptcy court for relief from the bankruptcy stay for the purpose of allowing the landlord to go back to state court to evict the tenant. Common reasons bankruptcy courts will allow landlords to do this: failure to pay rent and a lack of equity in the property and/or that property is not necessary for an effective reorganization of the debtor.

Another basis for seeking relief from stay is if the landlord can prove the debtor has been using controlled substances on the property or is has permitted others to use control substances on the property within thirty (30) days of the filing date. §362(b) (23).

If the landlord is holding a security deposit, and rent is not been paid, before applying deposit to the delinquent account, the landlord must obtain relief from the bankruptcy stay. However, a landlord is free from worrying about the bankruptcy stay if, before the bankruptcy petition was filed, the landlord obtained a judgment for possession of the property. For this exception to apply, the judgment must have been final before the petition was filed. If a judgment was obtained but it had been appealed and the appeal was not final, the exception does not apply and the landlord is subject to the bankruptcy stay as in other cases.

BASIC RULES FOR LANDLORDS TO REMEMBER:

1. Once notified that a bankruptcy has been filed remember that the rules have changed. Do not take any action or contact the debtor in any way without first consulting an experienced bankruptcy attorney.

2. Monitor the case or be sure that your attorney does so as there or numerous deadlines to be complied with such as the deadline to file claims or the deadline under each chapter of the code by which the debtor must elect to either assume a lease or reject it.

Call Wessler Law Firm today and speak directly with an attorney for a free, no obligation, consultation to see if you qualify for bankruptcy and if it is the right decision for you and your family.

Wessler Law Firm is a small family owned law firm specializing in bankruptcy law since 1982.

228-863-3686

Disclaimer: This article is meant for reference only, and is not intended to be legal advice.

For legal counsel regarding your situation, please consult an attorney licensed in your state.