MY TENANT JUST FILED BANKRUPTCY, NOW WHAT?

Landlords have limited forms of recourse against their residential tenants in bankruptcy. bankruptcy sign

Personal bankruptcy filings are up everywhere, and they are impacting residential property owners more than ever.  While the United States Bankruptcy Code (“Code”) is complicated and has its faults, and may be interpreted and imposed inconsistently across the US, the Code offers residential landlords some limited protections.

Under the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 “BAPCPA”, if a residential landlord already has a judgment for possession by the time the tenant files for bankruptcy, the automatic stay does not prevent the landlord from continuing to evict the tenant after 30 days after the petition was filed [unless the debtor cures any deficiency in rent and deposits with the clerk of the Bankruptcy Court the rent coming due during that 30 day period]. Specifically, the Code provides, in Section 362(b)(22), that the automatic stay shall automatically cease 30 days following the bankruptcy filing date to permit landlords to continue any eviction, forcible entry and detainer “FED”, or similar proceeding against a debtor-tenant where the landlord has obtained a judgment for possession against the debtor-tenant prior to the bankruptcy filing.

If the landlord has not already filed an FED and obtained a judgment prior to the bankruptcy filing, and if the tenant rejects the lease, the tenant is liable for breaking the lease early. If the tenant-debtor rejects the lease, the landlord can give the tenant notice to quit. After that, the landlord can begin eviction proceedings if the tenant doesn’t leave.  The tenant is liable for a portion of the rent that would have been due, but this debt is like any other unsecured debt in the bankruptcy, and is dischargeable.

Upon filing the petition (the original bankruptcy filing), the Code requires the tenant or the trustee in Chapter 7 cases to timely perform all obligations of the lease from that date until the lease is assumed or rejected. If the debtor or trustee fails in that duty, the landlord may seek relief from the automatic stay and proceed with an eviction or FED. It is important for landlords to not overlook this rule.

In a Chapter 7 case, the Code provides that a lease of residential real property is automatically rejected if the trustee does not assume or reject the lease within 60 days after the bankruptcy is filed. If the lease is rejected, the lease automatically is deemed to have been breached as of the day before the bankruptcy filing and the landlord is entitled to repossess the premises in accordance with state law. As a result, any damages that the landlord might suffer are treated as pre-petition general unsecured claims. The code limits “rejection damages” to either 15 percent of the balance of the rent reserved in the lease or the rent reserved for one year from the filing date or the date the premises were surrendered, whichever is earlier. In addition, the claim can include any pre-petition rent due at the time of the filing.

In a Chapter 13 bankruptcy the landlord must be more vigilant because the debtor may assume or reject an unexpired lease of residential property at any time before the confirmation of a Chapter 13 plan. The court, however, at the request of a party to the lease, may order another specified period of time to assume or reject. Debtors often put off assuming or rejecting a lease until the Chapter 13 plan confirmation. The date for confirmation of a debtor’s plan varies from court to court. In jurisdictions where the scheduled confirmation date is far off, it is prudent for the landlord to request an earlier deadline, especially where the debtor is unable to timely make post-petition payments.

A landlord should closely scrutinize the Chapter 13 plan because it will likely affect the landlord’s rights. Assumption of the lease is something that would usually be included in the Plan. An assumed lease becomes a debtor’s post-petition obligation, making any claim from a subsequent default an expense of administration in the Chapter 13 proceeding. That claim then becomes a high priority in the distribution of funds in the event the Chapter 13 case is converted to Chapter 7.

Assuming a lease requires the debtor to prove various elements. In order to assume a lease a debtor must provide adequate assurances that it (or another tenant, if it intends to sublease) will promptly cure any defaults, compensate the landlord for any financial loss resulting from a default and provide adequate assurance of future performance.

The requirement of adequate assurance protects the landlord if the debtor wants to either assume the lease, or assume and assign it. The requirements provide defenses for the landlord against the attempted assumption. If the debtor cannot provide evidence that it can meet these requirements, then the lease cannot be assumed.

An obvious indicator of the debtor’s ability to provide adequate assurance is whether the debtor can cure the defaults by immediate payment of all past due rent and expenses incurred by the landlord. Debtors who cannot immediately cure, may propose to cure defaults by paying pre-bankruptcy rent as a general unsecured claim. Their inability to pay in full may be used as a defense by an objecting landlord.

Section 362(b)(23) of the Code provides that the automatic stay does not apply to eviction actions based on endangerment of the property or the illegal use of controlled substances on the property. In this case, the landlord must file a certification with the Court stating that the eviction action has been filed or that, within 30 days prior to the petition date, the debtor has endangered the property or used illegal drugs on the property. Relief from stay will be granted to the landlord within 15 days of the filing of the certification unless the debtor timely files a response to the certification and then proves a subsequent hearing that the situation that gave rise to the eviction complaint has been remedied. See, 11 U.S.C. Section 362(m).

The strategy a landlord employs when a residential tenant files bankruptcy varies depending upon which Chapter the case is filed under and the facts of each case. Chapter 13 cases tend to present a landlord with more issues because the debtor may want to assume the lease.

When the landlord learns of the bankruptcy of its tenant, he must act promptly to protect his rights. Sitting on those rights may prejudice the landlord forever.

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