Supreme Court Holds Creditor Retention of Debtor’s Property Does Not Violate "Automatic Stay"

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[co-author: William Wolfe]

The Supreme Court of the United States recently issued a decision regarding the scope of the “automatic stay” codified at section 362 of the Bankruptcy Code. By way of background, the filing of a bankruptcy petition immediately and automatically triggers a stay of all actions and proceedings which seek to collect a debt against the debtor and the debtor’s property. One of the primary purposes of the automatic stay is to maintain the status quo while the debtor’s bankruptcy case proceeds. The automatic stay statute is written broadly, and has been interpreted by courts as such.

For years bankruptcy courts were split on the issue of whether a creditor, who repossessed a debtor’s property before a bankruptcy filing but had not yet sold it, had an affirmative obligation to return the property once the bankruptcy petition was filed. A majority of courts, including the Second Circuit (which encompasses the four federal judicial districts in New York), have held that the automatic stay requires immediate turnover of debtor’s property to the debtor. Other Circuits, however, have adopted a narrow approach and held that retention of a debtor’s property maintains the status quo, is not an affirmative act, and does not violate the automatic stay. In those circuits, debtors seeking return of their property must file a turnover motion with the court, and creditors may then seek to have turnover conditioned on debtor agreeing to “adequate protection” payments.

On January 14, 2021, in City of Chicago v. Fulton, No. 19-357, 2021 U.S. LEXIS 496, 2021 WL 125106, the Supreme Court adopted the narrower reading of section 362 and held that the automatic stay provision does not require any affirmative act on the part of creditors to turn over property to the debtor. Creditors are cautioned that they must still obtain stay relief before proceeding with any sale of the debtor’s property. Stay relief may be obtained by motion or stipulation. Creditors who receive turnover motions should consider seeking legal advice to evaluate options including seeking adequate protection payments.

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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