The Automatic Stay is one of the principle benefits Debtors receive when filing for bankruptcy- it prevents an array of creditor actions, especially pending lawsuits, at any stage. For this reason, a secured creditor that commences or is contemplating a foreclosure or other action against the Debtor, or the Debtor’s property, will often find themselves frustrated at being forced to cease their activity despite the Debtor’s default.
Bankruptcy Courts have broad discretion to modify or end the Automatic Stay against a creditor, and creditors can seek that relief under subsection (d) of the automatic stay statute1. A Motion for Relief need only cite “cause” but is free to define that cause within its motion2. The statute suggests lack of adequate protection as one example of such cause. Aside from this suggestion, though, the “cause” for a motion is left exceptionally broad. For this reason, jurisdictions may vary widely in what is considered adequate cause for stay relief- local case law should always be consulted if there is any question. Commonly, though, the “cause” under (d)(1) is failure to make post-petition payments or comply with the security agreement in some other way (such as failure to maintain insurance) on a secured obligation where the Debtor has proposed to retain the collateral. While (d)(1) provides a broad avenue to seek relief, the vagueness of the “cause” invoked means that motions under (d)(1) can be unpredictable. Fortunately, the Code provides three additional avenues for relief that spell out more specific grounds for relief- 1) when the Debtor has no equity and the property is not necessary for the Debtor, 2) when certain property generates substantially all of the Debtor’s income and the Debtor does not file a valid Plan or pay at least the interest due to a creditor with secured interest in that real estate, and 3) when the Debtor either transfers property or files multiple cases, and the Court finds that taken as a whole the petition is a scheme to hinder, delay, or defraud the creditor (or all creditors). It should be noted that all three additional avenues provide relief only to proceed against the property- but not the Debtor personally.
Debtor Has No Equity and Property Not Necessary
Under Subsection 362(d)(2), if the property is not necessary to the Debtor and there is no equity, a creditor can seek relief. It is important to note that the Debtor’s principal residence is usually considered necessary to their case (and in any case, whether the property is necessary is decided by the Court with inconsistent results, making relief unreliable and often disputed), and so relief under this section can be difficult to obtain. If the Debtor’s property value is fully encumbered, though, and the Debtor does not reside at the property, (d)(2) provides a no-nonsense approach to stay relief against the property when keeping the property does not make financial sense for the Debtor (maybe provide an example). Under 362(d)(2), the creditor must only prove that there is no equity in the property and assert that the property is not necessary. If the Debtor opposes the (d)(2) relief, the burden of proof is on the Debtor to demonstrate the necessity of the property (11 USC 362(g)(2)) (maybe an example of how a Debtor successfully demonstrated necessity and not successfully demonstrated necessity).
Debtor Owns Single Asset Real Estate and Fails to Comply with Requirements
Subsection (d)(3) is for property with more than four units that is generating rental income that consists of most of the income of the Debtor3. Creditors with claims secured by the single asset real estate can seek relief unless the Debtor files a plan with a “reasonable possibility” of being confirmed within a “reasonable time”4 or commences payments from collected rents at least sufficient to offset interest being generated on the claim5.
The problem with section (d)(3)(A) is that “reasonable possibility” is clearly vague and open to the Court’s interpretation, and as to subsection B, that the Debtor can impose the condition on the creditor over the creditor’s objection by paying “interest only”- meaning (d)(3) is also typically not the most effective or reliable avenue to stay relief (and the actions the Debtor would have to take, or not take to have relief granted under this section might simply support the finding of a scheme necessary to a (d)(4) motion, which would grant stronger relief).
Debtor Transfers Property or Has Multiple Filings, And Finding of a Scheme
Finally, subsection (d)(4) provides strong and broad relief to a creditor that is able to demonstrate that the Debtor has either filed multiple cases affecting the property or transferred all or part of their interest without consent of the creditor or the Court. Note that the transfer can be to the Debtor from another to invoke this section and is not limited only to transfers the Debtor has made as grantor only. Not only can relief be granted to proceed against the property, but the order, if granted, can be recorded at the state level and prevents the stay from going into effect against the property on subsequent filings by any party for the next two years! To re-impose the stay in a future case, the Debtor must move for relief from the order and give notice and an opportunity for hearing in the subsequent case (need cite). Subsection (d)(4) therefore provides the strongest relief, but conditions that relief on both factual circumstances and a Court finding. Those facts are typically matters of public record, fortunately, and so are easy to determine as a precondition to the motion (is judicial notice required prior to accepting facts of public record?).
The critical question on a motion under section 362(d)(4) is whether the Court finds that the filing of the petition was part of a “scheme to delay, hinder, or defraud creditors.” Bankruptcy courts have broad discretion to find that such a scheme exists and can factor in the timing and frequency of filings in determining that a scheme exists, especially where the filings are on the eve of significant events in the foreclosure action (such as the date before a scheduled hearing, or a sale in a foreclosure). For example, in a 2006 case out of the Eastern District of Wisconsin, In re Bernstein, case number 06-20644, the Court noted that the Debtor was filing her fourth case in the past four years, and factored this into the determination that the filing was part of a scheme6, and in In re Montalvo in the Eastern District of New York, the Court noted that bankruptcies had been filed 1) 5 days before a foreclosure sale of the property, 2) 1 day before a foreclosure sale of the property, and 3) the same day as a foreclosure of the property- and that between two married debtors they had filed five bankruptcies between 2007 and 2009 (four that had already been dismissed, with the fifth being dismissed as part of the granting of the creditors 362(d)(4) motion)7.
The Court can determine the existence of a scheme without an evidentiary hearing in the absence of any objection8. Some Courts may consider whether a sale has already occurred, in states that require a separate confirmation of sale process (but note that the state level process varies from state to state). Within the Seventh Circuit, for example, Illinois and Wisconsin require a court order approving the sale before the Debtor’s right to file bankruptcy on the property is cut off, whereas in Indiana, the sale itself cuts off the property rights and the Debtor cannot invoke bankruptcy protection for the property. Therefore, a creditor should always check whether state law has terminated the Debtor’s property rights when seeking relief (Debtors might assert property rights that they do not have). Further, if the Debtor’s petition and plan do not provide a realistic ability to cure the default, this may be considered in determining whether or not a scheme exists. Other factors may include whether the Debtor appears to be using the bankruptcy proceeding to relitigate issues that have been previously decided or whether the Debtor has been making post-petition payments directly and/or to the Trustee, with failure to pay providing circumstantial evidence of possible bad faith.
On the other hand, if the Debtor can show differences between the current case and previous cases, and that the current plan proposes to repay the pre-petition default, the Court may find that the petition is not a scheme to hinder or delay, even where the Debtor has filed multiple bankruptcy petitions concerning the property.
It is useful to note that the “hinder, delay, or defraud” language appears elsewhere in the Bankruptcy Code, for example in sections 727 and 548, as grounds for denial of the Debtor’s discharge or reversal of fraudulent transfers. Courts believe the three words constitute a single test. The logic of the “single test” theory harkens back to a Supreme Court decision from over 100 years ago where the three words together were noted to be a “form of expression” used when invalidating conveyances9. The “single test” theory is adopted by at least some bankruptcy jurisdictions10. However, other circuits draw a finer line for 362(d)(4)- specifically, the Seventh Circuit has drawn a distinction between “defrauding” and “delaying” in In Re Smiley11. In that case, The Court determined that Smiley had not necessarily defrauded his creditors, but that he had intended to delay and hinder them, and this satisfied the requirement of the “hinder, delay, or defraud” provision in 11 USC 727(a)(2). The Court in Smiley thus toes the line that a case need not be filed in bad faith (that is, with fraudulent intent) to nevertheless include an intend to hinder or delay (after all, if the Court found the Debtor proposed their plan in bad faith in order to grant relief under 11 USC 362(d)(4), it would then have to wrestle with the question of how it could confirm the Plan as “filed in good faith” under 11 USC 1325(a)(3), since the two findings would appear mutually exclusive). But the Smiley case was also an involuntary petition following a series of transactions that were not disclosed to creditors in a meeting before filing, and which included a series of business transactions that used existing home equity (which would have been an asset had new debt not been incurred) to purchase a home in another state. What is clear, in any event, is that the Debtor must engage in some kind of conduct that is not proper (whether that be as severe as actual fraud or merely filing multiple unsuccessful cases in a short amount of time), and that the intention must, at least in part, be to prevent creditors from collecting on their claims in order to constitute actions that “hinder, delay or defraud.”
When seeking relief from stay, a creditor should evaluate all options under 11 U.S.C. 362(d) carefully, and always check on rules specific to relevant jurisdictions. Awareness of what the statute provides will help creditors prevent a Debtor from abusing the Automatic Stay to stall legal proceedings indefinitely.
- 11 U.S.C. 362(d)
- see 11 U.S.C. 362(d)(1))
- This is called “single asset real estate” and defined in 101(51B).
- 11 U.S.C. 362(d)(3)(A)
- 11 U.S.C. 362(d)(3)(B)
- In re Berntsen 06-20644 (Bankr. EDWI 2006) Available online at: https://www.wieb.uscourts.gov/opinions/?file&id=78
- In re Montalvo, 416 B.R. 381, Bankr. EDNY 2009
- See In re Procel, 467 B.R. 297, SDNY 2012
- Coder v. Arts, 213 U.S. 223 (1909)
- In re Addison, 540 F.3d 805 (8th Cir. 2008)
- In Re Smiley 864 F.2d 562 (7th Cir. 1989)
© 2018 Michael E. Holsen
BP Peterman Law Group, LLC, a Creditors’ Rights Law Firm