Mere Retention of Property of the Estate Does Not Violate the Automatic Stay

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The Supreme Court of the United States has resolved a split in the circuits as to whether an entity that is passively retaining possession of property in which a bankruptcy estate has an interest has an affirmative obligation under the Bankruptcy Code’s automatic stay, 11 U.S.C § 362, to return that property to the debtor or trustee immediately upon the filing of the bankruptcy petition. The case, City of Chicago v. Fulton, No. 19-357,  resolves this split in favor of the creditor.

Background

The case arose from four separate chapter 13 bankruptcy cases in which the debtors sought to regain possession of their vehicles from the City of Chicago, which had seized and impounded the vehicles prepetition due to unpaid parking tickets and similar traffic fines. The bankruptcy court in each instance found that by refusing to return possession of the vehicles to the chapter 13 debtors after they had filed their respective bankruptcy cases, the City had “exercised control” over property of the estate in violation of 11 U.S.C. § 362(a)(3). The bankruptcy court ordered the City to return the vehicles and imposed sanctions for the City’s violation of the automatic stay. The cases were consolidated and certified for direct appeal to the U.S. Court of Appeals for the Seventh Circuit, which affirmed the bankruptcy court relying on its prior holding in Thompson v. General Motors Acceptance Corp., 566 F.3d 699 (7th Cir. 2009), that a creditor must return a debtor’s vehicle upon the debtor’s filing a petition for bankruptcy in order to comply with the automatic stay.

Resolution of the case involved interpretation and construction of three related statutory provisions in the Bankruptcy Code, specifically 11 U.S.C. §§ 541, 362, and 542, which govern property of the estate, the automatic stay, and turnover, respectively. Under the Bankruptcy Code, property of the estate includes all property, wherever located and by whomever held, in which the debtor holds any legal or equitable interest as of the petition date. The Bankruptcy Code’s automatic stay generally protects property of the estate from the collection efforts of prepetition creditors, and prohibits, among other things, “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.” 11 U.S.C. § 362(a)(3).  Section 542(a) of the Bankruptcy Code requires that an entity in possession, custody, or control of certain property of the estate must account for and turnover such property to the trustee, or debtor, unless such property is of inconsequential value to the estate. 11 U.S.C. § 542(a).

 

The Court’s Decision

In an 8-0 opinion (Justice Barrett took no part in the consideration or decision of the case), the Court vacated the judgment of the Court of Appeals and remanded the case for further proceedings. In its opinion, the Court largely adopted the minority position espoused by the Third, Tenth, and D.C. Circuits and held that “mere retention of property does not violate §362(a)(3).” Slip Op. at 1. To reach this outcome, the Court first construed the operative words in § 362(a)(3), and then considered the interaction between § 362(a)(3) and the turnover provision, § 542(a). First, the Court held that the most natural reading of the terms “stay,” “any act,” and “exercise control,” appearing in § 362(a)(3) was that this subsection prohibited “affirmative acts that would disturb the status quo of estate property as of the time when the bankruptcy petition was filed.” Id. at 3. Next, the Court found that its interpretation of § 362(a)(3) was bolstered by the separate turnover provisions contained in § 542(a) of the Bankruptcy Code. Construing § 362(a)(3) to create an affirmative turnover obligation on creditors, the construction urged by the debtors, “would create at least two serious problems.” Id. at 5. First, construing § 362(a)(3) as a “blanket turnover provision” would render the turnover provision in § 542(a) mere surplusage, since a creditor would be forced to turnover estate property immediately to avoid “exercising control” over it, notwithstanding the provisions of § 542. Id. Second, and relatedly, construing § 362(a)(3) to mandate turnover in every case would create a contradiction between that section and § 542(a), which excuses a person from turning over property if, among other exceptions, it is of inconsequential value to the estate. Id. As the Court noted, “it would be ‘an odd construction’ of §362(a)(3) to require a creditor to do immediately what §542 specifically excuses.” Id. (quoting Citizens Bank of Md. v. Strumpf, 516 U.S. 16, 20 (1995)). Finally, the Court agreed with the City of Chicago that the insertion of the phrase “or to exercise control over property of the estate” into § 362(a)(3) by BAFJA in 1984 “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 (quoting 11 U.S.C. § 362(a)(3)).

Having concluded that mere retention of estate property following the petition date did not violate § 362(a)(3), the Court vacated the judgment of the Court of Appeals and remanded the case. It expressly declined to decide “how the turnover obligation in §542 operates.” Id. It also did not analyze subsections (a)(4) and (a)(6) of § 362, which the bankruptcy court in one of the four original bankruptcy cases had held that the City had also violated, since the Court of Appeals had also not reached that issue. Id. at 7 & n.2.

Conclusion

The Court’s opinion resolves a circuit split and added much-needed clarity to an issue that has sharply divided lower courts for decades. Creditors may now rest assured that as long as their passive retention of collateral seized prepetition is consistent with maintaining the status quo as of the petition date, they will not run afoul of the automatic stay.  However, Fulton leaves open the question of whether the same creditor has any affirmative turnover duties under § 542(a), or whether it is entitled to await service of a summons and complaint in an adversary proceeding seeking turnover.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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