December 13, 2017

December 13, 2017

Subscribe to Latest Legal News and Analysis

December 12, 2017

Subscribe to Latest Legal News and Analysis

December 11, 2017

Subscribe to Latest Legal News and Analysis

But I Didn’t DO Anything – – Passive Conduct and the Automatic Stay

One of the fundamental elements of the American bankruptcy system is the automatic stay under section 362 of the bankruptcy code. The stay protects the debtor and its assets from creditor activity, in order to facilitate equitable treatment of creditors in the collective bankruptcy process. The remedies provided for violations of the stay allow the estate to enforce the protections provided by section 362.

Two recent cases from the 10th Circuitexamine the degree to which some affirmative conduct on the part of a creditor is required in order to violate the automatic stay. In the first case, WD Equipment v. Cowen (In re Cowen), 849 F.3d 943 (10th Cir. 2017), the debtor sought to recover a truck that had been repossessed by a creditor prior to the debtor’s bankruptcy filing. The creditor refused the debtor’s request to return the truck.

The debtor then commenced an adversary proceeding asserting a violation of the automatic stay by the creditor. The bankruptcy court agreed that the creditor’s refusal violated the stay and the decision was ultimately appealed to the 10th Circuit Court of Appeals. In its reversal, the 10th Circuit described the rule applied by the majority  of courts to be that “the act of passively holding onto an asset constitutes ‘exercising control’ over it, and such action violates section 362(a)(3).” The 10th Circuit opinion characterized that majority holding as driven more by “practical” and “policy” considerations than by “faithful adherence to the text.” Accordingly, the court adopted the minority position and held that the statute’s use of the words “any act” enjoins only “doing something.” As such, the court concluded that Section 362(a) “ does not cover the ‘act of passively holding onto an asset.’”

More recently, the issue of active versus passive behavior arose in another context before Bankruptcy Judge Robert Nugent. Section 362(a)(3) is not the only subsection in the stay provisions that uses the word “any act.“ Similarly, section 362(a)(4) prohibits “any act to create, perfect or enforce any lien against property of the estate.” In Davis v. Tyson Prepared Foods Inc. (In re Garcia), 2017 BL 235622 (Bankr. D. Kan. July 7, 2017), Judge Nugent considered the effect of the Kansas worker’s compensation statute. That statute creates an automatic lien to enforce subrogation rights given to an employer to allow reimbursement from recoveries made by the employee against third parties for amounts theretofore paid by the employer as workmen’s compensation benefits.

When an employee who had received workmen’s compensation benefits for an injury then sued and recovered after their bankruptcy filing from a third-party, the Chapter 13 trustee asserted that section 362(a)(4) enjoined the attachment of the employer’s lien to the proceeds of the debtor employee’s suit. Judge Nugent had previously held in two similar cases that the automatic stay prevented the automatic attachment of an insurer’s subrogation lien. Despite these earlier decisions, Judge Nugent felt that the ruling in Cowen required him to conclude that Section 362(a)(4) was inapplicable since the attachment of the lien was automatic and the creditor had been more passive than the creditor in Cowen. The Garcia decision is now the subject of a direct appeal to the 10th Circuit, for consideration of the implications of the Cowen decision.

Judge Nugent‘s decision in Garcia points out the mischief of the minority position adopted by the 10th Circuit in Cowen. It could be argued that the creditor’s refusal of the debtor’s repossession request in Cowen would satisfy even the affirmative action required under the minority rule. However, the lien attachment in Garcia was purely automatic and required no action whatsoever by the creditor. And the words “any act” are repeated in four of the eight subsections of section 362(a).

It seems that the Cowen decision may focus too much on the words “any act” and not enough on the overall language of the provision introduced by those words. Read in context, the words “any act” do not appear designed as a limitation on the words that follow, so much as they are an effort to make sure the subsequent language is broadly applied. The focus of section 362(a)(3) is on the exercise of control over property of the estate. Likewise, section 362(a)(4) is directed toward the creation of liens on estate property. The introductory words “any act” can appropriately be read to intend that those words be applied expansively to anything that results in the proscribed result. Construing the language to require some affirmative action narrows the scope of the automatic stay’s protection in a manner inconsistent with the overall intent of the bankruptcy code.

The automatic stay serves two purposes. First, in prevents or nullifies the various outcomes set forth in the section. Second, in section 362(k), it provides for sanctions for conduct violative of the automatic stay. It may be appropriate to limit sanctions to affirmative conduct in derogation of the stay. An innocent or passive violation may not serve as a suitable basis for imposition of sanctions. However, there is no reason not to apply the nullifying elements of section 362 even in the absence of active conduct by the creditor. A lien arising automatically and without affirmative creditor action is just as detrimental to the estate as one imposed by active creditor conduct. If passive conduct is excluded from section 362, we can expect to be confronted by a variety of statutes, regulations and agreements supported by creditor interests that provide for automatic outcomes. Creditors will then argue that those provisions exempt the resulting activities from operation of the section 362 stay. One can imagine the dismantling effects on the debtor’s estate and the negative implications for general creditors.

Hopefully, given opportunity to reconsider Cowen, the 10th circuit will reverse its earlier ruling and adopt the majority view that some affirmative action is not required in order to trigger the language of the automatic stay.

© Copyright 2017 Squire Patton Boggs (US) LLP

TRENDING LEGAL ANALYSIS


About this Author

G. Christopher Meyer, Squire Patton Boggs, Bankruptcy Lawyer
Senior Partner

Christopher Meyer concentrates his practice on bankruptcy and insolvency issues. He has significant experience in workouts, restructurings and bankruptcy reorganizations including representing both debtors and creditors in commercial cases. Chris also has experience in general real estate and commercial lending and in troubled loan issues. Chris’s recent experience includes representing debtors and creditors in Chapter 11 reorganization cases, secured creditors in loan workouts and parties proposing acquisitions and other business transactions with troubled businesses...

216 479 8692