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Supreme Court Clarifies That Mere Retention of Estate Property After a Bankruptcy Filing Does Not Violate 11 U.S.C. § 362(a)(3)

Feb 22, 2021

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On January 14, 2021, the U.S. Supreme Court clarified, in the case of City of Chicago, Illinois v. Fulton, 19-357 (January 14, 2021), that “mere retention of estate property after the filing of a bankruptcy petition does not violate §362(a)(3) of the Bankruptcy Code.”  This decision is helpful to banks, lenders and other secured creditors who are often faced with demands to turnover collateral immediately after a bankruptcy filing.

Under the Bankruptcy Code, the filing of a bankruptcy petition has certain immediate consequences, including an “automatic stay” imposed by section 362(a).  The automatic stay prohibits creditors from taking “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.” §362(a)(3) (emphasis added).  This “exercise control” language of section 362(a)(3) is what was at issue in Fulton.

BACKGROUND FACTS

Fulton came about after the City of Chicago had impounded the Debtors’ vehicles for failure to pay fines for motor vehicle infractions.  Id. at 2.  After the debtors filed Chapter 13 bankruptcy petitions and requested that the City return their vehicles, and the City refused, a bankruptcy court in each case held that the City’s refusal violated the automatic stay.  Id. at 2.

The Court of Appeals for the Seventh Circuit affirmed all of the judgments of the Bankruptcy Courts in a consolidated opinion.  In re Fulton, 926 F. 3d 916 (CA7 2019).  Id.

The Supreme Court granted certiorari to resolve a split among the Third, Seventh, Ninth and Tenth Circuits over whether an entity that retains possession of the property of a bankruptcy estate violates §362(a)(3).  Id. at 3.

THE SUPREME COURT’S DECISION

The Supreme Court explained that the plain language used in Section 362(a)(3) of the Bankruptcy Code suggests that merely retaining possession of estate property does not violate the automatic stay.  Id. at 3.  “Under that provision,” the Court explained, “the filing of a bankruptcy petition operates as a “stay” of “any act” to “exercise control” over the property of the estate.”  Id.

The Court explained that the most natural reading of these terms—“stay,” “act,” and “exercise control”— taken together, is that § 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.  Id. at 3.

Aside from the plain language reading of the statute, the Court also looked at the legislative history of the Bankruptcy Code and found that it also confirms what its text and structure convey.  Id. at 6.[1]

The Court explained that both §362(a)(3) and the turnover provision of §542(a) were included in the original Bankruptcy Code in 1978.  Id.  See Bankruptcy Reform Act of 1978, 92 Stat. 2570, 2595.  At the time, §362(a)(3) applied the stay only to “any act to obtain possession of property of the estate or of property from the estate.” Id.

The phrase “or to exercise control over property of the estate” was added in 1984.  Id. See Bankruptcy Amendments and Federal Judgeship Act of 1984, 98 Stat. 371.  The Court explained:

Had Congress wanted to make §362(a)(3) an enforcement arm of sorts for §542(a), the least one would expect would be a cross-reference to the latter provision, but Congress did not include such a cross- reference or provide any other indication that it was transforming §362(a)(3).

Id. at 6-7.The Supreme Court reasoned that, “the better account of the statutory history is that the 1984 amendment, by adding the phrase regarding the exercise of control, simply extended the stay 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.’”  Id. at 7.

Importantly, the Court clarified that it was not deciding how the turnover obligation in §542 operates, rather it was only holding that “that mere retention of estate property after the filing of a bankruptcy petition does not violate §362(a)(3) of the Bankruptcy Code.”  Id.

CONCLUSION

The Supreme Court’s recent decision in Fulton is helpful to banks, lenders and other secured creditors who are often faced with demands of a debtor or trustee to turnover collateral immediately after a bankruptcy filing or face a lawsuit.  Now it is clear that such threats are not actionable.

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This Client Alert was prepared by Johnathan C. Bolton (jbolton@goodsill.com or (808) 547-5854) of Goodsill’s Creditors’ Rights and Bankruptcy Practice Group.

Creditors’ Rights and Bankruptcy.  Goodsill’s attorneys practicing in the area of creditors’ rights and bankruptcy concentrate on the representation of lenders, creditors, trustees, committees and other interestholders in complex bankruptcy, foreclosure, receivership, commercial landlord-tenant, collection and commercial litigation matters.  Goodsill attorneys are adept at helping creditors avoid protracted litigation through creative workouts and settlements.  Goodsill attorneys in this practice area frequently contribute to publications and lecture at bankruptcy and collection law seminars.

Notice:  We are providing this Goodsill Client Alert as a commentary on current legal issues, and it should not be considered legal advice, which depends on the facts of each specific situation.  Receipt of the Goodsill Client Alert does not establish an attorney-client relationship.

 

[1] The debtors argued that §362(a)(3) should be read in reference to §542, which expressly governs the turnover of estate property, and provides as follows:  “[A]n entity, other than a custodian, in possession, custody, or control, during the case, of property that the trustee may use, sell, or lease under section 363 of this title, or that the debtor may exempt under section 522 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.”  Id. at 4.