Bankruptcy And The Automatic Stay: Lessors Usually Get Their Way! – September 2017

Issue 45, September 2017

Debts From Leases and Loans Are Different

Creditors usually suffer in bankruptcy. Between the automatic stay preventing all collection activity and discharge wiping out debt altogether, there’s little left for creditors to smile about. However, bankruptcy law creates a special kind of debt that gets preferential treatment. The fancy legal phrase is “executory contract,” but the generic term is a “lease.” If your debt arises from a lease, it is treated better in bankruptcy.

Why Do Lessors Get All the Benefits?

Leases require both parties to do future things. Because of that future obligation, the bankruptcy court provides preferential treatment. The best examples are apartment rental contracts or equipment leases. The lessee in both instances owes money for the use of the apartment or the equipment. The lessor in both instances has obligations as well. He must provide the apartment for as long as the contract exists and allow the debtor to use the equipment for as long as the contract provides. This is different from the classic debt situation where the lender’s only obligation is to provide the money. The lender has no further obligations so bankruptcy law provides no further benefits.

How is it Better for the Lessor?

Lessors are still held at bay by the automatic stay of 11 U.S.C. §362 which is the same for leases and loans. The ongoing performance obligation of the lessor is treated differently under 11 U.S.C. §365 which forces the debtor to make a decision. If he decides he wants the future benefit provided by the lessor, he will be held responsible for the contract under its original terms. If not, he rejects the lease and must surrender the leased property, whether it’s the apartment or the rental equipment. When that happens, any unpaid obligations become debts subject to the poorer treatment that most lenders get.

What Do I Do When I Get a Bankruptcy Notice?

A lessor has a right to file a motion at any time compelling the debtor to assume or reject the lease. In most instances when we file such motions on behalf of lessors the case is resolved within 20 days when either: (1) the automatic stay terminates and the lessor retakes possession of the property; or (2) we get the debtor to come current with the lease payments. In some circumstances, such as a chapter 7 case, the lease is deemed rejected and the automatic stay terminates sixty days after the bankruptcy filing if the lease involves residential real property or personal property and the debtor takes no action to assume the lease.

The True Lease: Not All Leases Are Leases

The added benefits available to lessors have caused some lenders to try to disguise loans and make them look like leases. Debtors attorneys are aware of the tactic and significant litigation occurs in bankruptcy courts to determine what is a true lease. When the court concludes that the lease is just a disguised loan, it can strip the lessor of any of the lease benefits and relegate the lessor to the treatment provided all creditors, which is basically nothing. If you want a lease that will get past the court’s scrutiny, we can help.

Call us if you need legal assistance with this or any other business issue.