Bankruptcy:  New U.S. Supreme Court Case on Automatic Stay – Holding Property To Maintain Status Quo Does Not (Necessarily) Violate Automatic Stay

Bankruptcy:  New U.S. Supreme Court Case on Automatic Stay

Holding Property To Maintain Status Quo Does Not (Necessarily) Violate Automatic Stay:  Bankruptcy courts in most jurisdictions have held over the years that merely keeping property of a debtor after the debtor filed a bankruptcy petition violated the automatic stay provisions of the bankruptcy code and subjected those not turning over the property of the estate to the debtor or bankruptcy trustee to monetary sanctions and in some cases, loss of security or collateral.  A few jurisdictions, however, said that retention of property without doing an affirmative act was not a stay violation.  Because there was a split among the bankruptcy court circuits on this issue, the U.S. Supreme Court was asked to resolve the split.  Today it did in the case of City of Chicago, Illinois v Fulton et. al.[1]

The decision was that some sort of affirmative action is required before withholding property of the debtor amounts to “controlling estate property,” which would be an automatic stay violation.

So now for all you landlords holding deposits, secured creditors holding collateral, Receivers managing under a state court order and others who have possession of debtor’s assets at the inception of a bankruptcy filing can argue that the “mere retention of property does not violate the (automatic stay) § 362(a)(3).”  Justice Samuel A. Alito, Jr. wrote that Section 362(a)(3) “prohibits affirmative acts that would disturb the status quo of estate property.”

But, the U.S. Supreme Court ruling acknowledged that those holding property and not turning over as demanded under bankruptcy code Section 542, may have some liability.  What it boils down to is that holding the property and going to the bankruptcy court to have the court address whether turnover is required is the way to proceed.  And, if doing so promptly, while merely holding the property as status quo, it is not a stay violation.  Here’s what happened:

Chicago Parking Ticket Car Impounds

A bunch of chapter 13 debtors owed thousands of dollars of parking fines and the city had impounded their cars before they filed bankruptcy.  The city would not normally release the car without payment of the fines.  But, once they filed bankruptcy, the debtors demanded return of their cars, without payment of the fines in full.  The city said – no. The debtors sought bankruptcy court sanctions and contempt damages against the city for violation of the bankruptcy automatic stay.

While the city was held in contempt and returned the cars without payment in full of the fines, the city appealed the ruling.  The Court of Appeal agreed with the debtors and stated: “retaining possession . . . after (the debtors) declared bankruptcy” was a violation of the automatic stay, and the city “was not passively abiding by the bankruptcy rules but actively resisting Section 542(a) to exercise control over the debtors’ vehicles.”  As other jurisdictions had held that retaining possession was not a violation, the city took the matter to the U.S. Supreme Court to resolve the split.

The U.S. Supreme Court noted that Bankruptcy Code Section 362(a)(3) stays “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, ”  and it noted that Section 542(a) provides that “an entity . . . in possession . . . of property that the trustee may use, sell, or lease under section 363 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.”  The exact wording that the U.S. Supreme Court relied upon was: “prohibition against exercising control over estate property,” which “suggests that merely retaining possession of estate property does not violate the automatic stay.”

The court reviewed “the most natural reading” of the words “stay,” “act” and “exercise control” to hold that Section 362(a)(3) “prohibits affirmative acts that would disturb the status quo of estate property as of the time when the bankruptcy petition was filed,” but “that §362(a)(3) halts any affirmative act that would alter the status quo as of the time of the filing of a bankruptcy petition.”  Deciding that Section 362(a)(3) prohibits “mere retention of property” would create two problems: (1) it would have the effect of rendering Section 542 “superfluous,” and (2) it would make the two sections contradictory.

So, the Court interpreted bankruptcy code changes to these sections in 1984 to mean that a violation was not extended “to acts that would change the status quo with respect to intangible property and acts that would change the status quo with respect to tangible property without ‘obtain[ing]’ such property.”  But, the Court left open vital issues about when and how turnover must be made under subsections of §362(a)” and §542.  The ruling is that “mere retention of estate property after the filing of a bankruptcy petition does not violate §362(a)(3) of the Bankruptcy Code.”  But in a concurring opinion, Justice Sotomayor noted that “that the Court has not decided whether and when §362(a)’s other provisions may require a creditor to return a debtor’s property” and that “the City’s conduct may very well violate one or both of these other provisions,” referring to subsections 362(a)(4) and (6).  She suggested that the Committee on Rules or Congress should consider in the future how to “ensure prompt resolution of debtors’ requests for turnover under §542(a), especially where debtors’ vehicles are concerned.”

[1] City of Chicago v. Fulton, 19-357 (Sup. Ct.),

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