Regaining Possession of Residential Properties in Tenant Bankruptcies
Published on: Tuesday, December 15th, 2015
by David L. Bury, Jr., Esq.
In this economy, even if it’s no longer at its worst, residential landlords are finding themselves and their property tied-up in bankruptcy and subject to the Bankruptcy Code’s special, and often confusing, treatment for leases.
On December 3rd, I’ll present the bankruptcy piece of Sterling’s Landlord-Tenant Law seminar in Columbus, Georgia.
As a preview, I’ll touch on in this blog post two important exceptions to the “automatic stay” that Congress added in 2005 for residential leases under Section 362(b) of the Bankruptcy Code:
1. prepetition judgments for possession and
2. endangerment and drug use.
Overview of the Automatic Stay
Pursuant to Section 362 of the Bankruptcy Code, the filing of a bankruptcy petition imposes an “automatic stay” on any collection or other enforcement proceedings against the debtor. It provides the debtor the “breathing room” necessary for an orderly liquidation or reorganization. The detailed rules and exceptions governing the automatic stay are contained in over one hundred paragraphs and sub-paragraphs of Section 362.
Essentially, though, the automatic stay prohibits creditors, including landlords, from instituting, maintaining, or proceeding with any action against the debtor, or attempting to collect or enforce judgments or liens against the debtor, after the bankruptcy petition filing. It also stays any act to obtain possession of or control over property of the bankruptcy estate, including, generally, leasehold interests (residential or commercial) but only if that leasehold interest did not terminate before the bankruptcy.
If a landlord violates the automatic stay, then the bankruptcy court may, and often does not hesitate to, hold the landlord in contempt. If a landlord willfully violates the automatic stay, then the landlord may be liable for actual damages, including attorneys’ fees and costs, and, in appropriate circumstances, punitive damages.
However, there are exceptions when the automatic stay does not apply or is modified, including the two, relatively “recent” automatic stay exceptions under Sections 362(b)(22) and (23).
Exception 1: Prepetition Judgments for Possession
Under Section 362(b)(22), an eviction against a debtor involving residential property is not stayed if the landlord has obtained a judgment for possession prior to the bankruptcy filing.
This exception is limited to proceedings that seek to
1. obtain possession of property of the estate or of property from the estate or
2. exercise control over property of the estate.
Therefore, even if the landlord’s judgment for possession includes damages for unpaid rent, the landlord can only enforce the damages portion of the judgment by seeking stay relief under Section 362(a)(6).
Section 362(b)(22) also does not apply to actions stayed under Section 362(a)(1) to recover prepetition claims against the debtor-stay relief is still necessary. This exception will not apply if the landlord’s judgment is no longer valid under state law (e.g., due to an appeal). It will also not apply if the debtor specially marks the petition indicating a judgment of possession has been obtained on the rental property and provides the name and address of the landlord.
The Exception’s Exception
However, even if the exception applies, the newly-added Section 362(l) outlines an exception to the exception. It provides that the debtor may obtain a stay under Section 362(a)(3) for 30 days after the bankruptcy filing if the debtor files with its bankruptcy petition a certification, under penalty of perjury, that:
1. the debtor has a right to cure the monetary default under applicable non-bankruptcy law (rare under state law) and
2. the debtor has deposited with the bankruptcy clerk all rent that would become due during the 30 day period after the petition date.
Additionally, the debtor must serve the certification on the landlord. In short, if the debtor makes the required certification, then the automatic stay is effective immediately against eviction actions and the Section 362(b)(22) stay exception described above is delayed for 30 days.
If, within 30 days after the petition, the debtor files an additional certification under newly-added Section 362(l)(2) that the debtor has satisfied completely the monetary default that provides the basis for the eviction, then the debtor may continue the Section 362(a)(3) stay beyond the initial 30 day period. However, if the landlord files an objection to either of the debtor’s certifications, then the bankruptcy court will hold a hearing within 10 days of the objection to determine if the certifications are true.
If the bankruptcy grants the landlord’s objection or otherwise finds that the debtor’s certifications are not true, then the Section 362(b)(22) exception will apply immediately and the landlord may proceed to recover possession of the leased premises without obtaining relief from the stay provided in Section 362(a)(3). The bankruptcy clerk will immediately serve on the landlord and the debtor a certified copy of the court’s order upholding the landlord’s objection to the debtor’s certification.
A colorful case covering this exception is In re Baird, 2006 WL 3922527 (Bankr. E.D. Tenn. 2006) (excepting landlord’s judgment for possession from the automatic stay based on debtor’s failure to comply with Section 362(b)(22), but awarding damages to debtor because landlord willfully violated the automatic stay by denying debtor access to personal property remaining on the premises).
Additionally, it appears that the exception does not apply in the case of public housing leases, as public housing tenants are entitled to remain on the premises under Section 525(a), even if the debtor discharges, rather than cures, the prepetition rent default. See In re Kelly, 356 B.R. 899 (Bankr. S.D. Fla. 2006).
Exception 2: Endangerment and Drug Use
The 2005 Amendments also added the Section 362(b)(23) exception to the automatic stay.
Under this exception, an eviction action against a debtor involving residential property is not stayed if the landlord files and serves on the debtor a certification under penalty of perjury that:
1. an eviction based on the illegal use of controlled substances or endangerment to the property has been commenced against the debtor or
2. the debtor has, within 30 days before the certification, either endangered the property or illegally used or allowed to be used controlled substances on the property.
This exception is a Section 362(b) stay exception, but does not apply until 15 days afterthe landlord files and serves a certification. The prior exception applies immediately.
Under the newly-added Section 362(m), the debtor then has 15 days to file and serve on the landlord an objection to the truth or legal sufficiency of the landlord’s endangerment or drug use certification. If the debtor objects, then the Section 362(b)(23) stay exception does not apply unless and until the bankruptcy court rules otherwise.
The court must hold a hearing within 10 days of the debtor’s objection. The debtor may show that the situation that is the basis for the landlord’s certification of endangerment or drug issue either
1. never existed or
2. has been remedied (presumably any time before the hearing).
If the court grants the debtor’s objection, then the Section 362(b)(23) exception does not apply and the automatic stay under Section 362(a)(3) continues.
However, if the tenant does not object to the landlord’s certification or if the court rules against the debtor, then relief from the stay provided under Section 362(a)(3) is not required for the landlord to proceed with the eviction. The bankruptcy clerk must immediately serve on the landlord and the debtor a certified copy of the docket indicating the failure debtor’s failure or reflecting the court’s ruling against the debtor. The Section 362(b)(23) exception is only an exception to the stay provided in Section 362(a)(3). Therefore, the landlord still must obtain relief from the Section 362(a)(6) stay to proceed with an eviction that seeks to recover on a claim against the debtor that arose prepetition (e.g., a claim for property damages). Additionally, the Section 362(b)(23) exception only applies to evictions based on endangerment or drug use.
Unfortunately, “endangered,” “allowed to be used,” “on the property,” and “controlled substance” are not defined in Section 362(b)(23), Section 362(m), or anywhere else in the Bankruptcy Code. There also does not appear to be any guidance under state law or the uniform residential acts. There is also no guidance on what would be a sufficient cure. Therefore, when determining the truth or sufficiency of the landlord’s certification, the bankruptcy court must interpret these terms on its own.
The automatic stay should be a “red light” for creditors, especially with respect to chasing tenants for unpaid rent. However, if a landlord follows the above exceptions’ rather cookbook requirements, then they can give landlords what they are often most interested in: regaining possession and mostly sidestepping the distraction of tenant bankruptcies.