Supreme Court Holds Mere Retention of Bankruptcy Debtor’s Property Is Not a Violation of the Automatic Stay but More Questions Remain

Bradley Arant Boult Cummings LLP

For the past few years, the federal circuit courts have struggled with the issue of whether a creditor retaining possession of bankruptcy estate property violates the automatic stay. For example, is a creditor required to automatically turn over a vehicle as soon as the bankruptcy petition is filed, or can the creditor retain possession of the vehicle while awaiting an order of the bankruptcy court adjudicating turnover in an adversary proceeding? As we previously wrote, the majority of circuits, including the Seventh Circuit in City of Chicago v. Robbin L. Fulton, held that the automatic stay requires a creditor to immediately release an impounded vehicle when the vehicle owner files for bankruptcy.

On January 14, 2021, the Supreme Court issued its unanimous opinion in Chicago. The opinion was written by Justice Alito and joined by five other justices. Justice Sotomayor filed a concurring opinion, and Justice Barrett did not participate in the decision. The Supreme Court held that the mere retention of estate property after a bankruptcy filing does not violate § 362(a)(3) of the Bankruptcy Code. § 362(a)(3) prohibits “affirmative acts that would disturb the status quo” at the time of the bankruptcy filing.

Justice Alito focused on the language in the pertinent statutes addressing the automatic stay and turnover. He said that if the Supreme Court adopted the debtors’ interpretation that the automatic stay prevented the mere retention of already-possessed estate property, such interpretation would turn the automatic stay provision of § 362(a)(3) into a blanket turnover provision, making the turnover provisions largely superfluous. Justice Alito also observed that when Congress amended the Bankruptcy Code to add the phrase “or to exercise control over property of the estate” to the automatic stay provisions, no mention or cross-reference to the turnover provisions was made. Thus, it is unlikely that Congress intended such wordsmithing to the automatic stay provision to result in significant changes to the separate turnover provision.

The Supreme Court also determined that following the respondents’ reasoning could result in an “odd construction” of § 362(a)(3) because turnover of certain property is exempt if the property at issue is of inconsequential value. If creditors were required to immediately turn over all estate property, as the respondents suggested, Justice Alito said that this mandate would be at odds with the exceptions in the turnover provisions in the Bankruptcy Code.

Questions Remain Unanswered

While the majority opinion brings some much-needed clarity to the § 362(a)(3) retention issue, other important issues remain unresolved. In particular, questions remain both about: (1) how the other provisions of § 362(a) impact the turnover issue, and (2) how the turnover obligation in § 542 works in similar cases. Both the majority and Justice Sotomayor in her concurrence focused on the issues that still are open and that likely will continue to generate disagreements among the lower federal courts. Indeed, one of the consolidated cases (Shannon) that was appealed to the Seventh Circuit in Chicago also involved a violation of § 362(a)(4) (which prohibits any act to create, perfect, or enforce any lien against property of the estate) and § 362(a)(6) (which prohibits any act to collect, assess, or recover a prepetition claim) because the city did not have a secured claim. These claims were not the subject of the appeal before the Seventh Circuit or the Supreme Court. Another example is a case cited by the concurrence where a university’s refusal to provide a transcript to a student-debtor was deemed to constitute a violation of § 362(a)(6). This case and the Shannon case involve unsecured claims, a key distinction from the other cases on appeal before the Supreme Court. The secured status of a creditor allows it to retain collateral pursuant to its possessory rights under state law.

Although both the majority and concurrence leave open the scope of other provisions of § 362(a) (including § (a)(6)), it is likely that the Supreme Court’s holding would govern a substantially similar claim under § 362(a)(6).  “An act to collect, assess, or recover a claim against the debtor” is functionally equivalent, at least in the context of a secured creditor with a possessory interest under state law, to the language in § 362(a)(3).  If anything, the language of § (a)(3) (“any act to…exercise control over property of the estate”) is arguably less passive than the language in § (a)(6).

As the concurrence notes, bankruptcy courts still may turn to other provisions of the Bankruptcy Code to facilitate return of property to debtors. Citing one of the amicus briefs filed in the case, Justice Sotomayor emphasized that loss of a debtor’s automobile often deprives the debtor of “reliable transportation to and from work.” This can prevent them from earning any income, ultimately resulting in a cascading series of significant adverse effects, including preventing the borrower from paying other creditors. To address these issues, a debtor may seek return of their vehicle under § 542, provided the debtor can demonstrate adequate protection of the creditor’s interest (generally payments and possibly sufficient insurance).

That being said, Justice Sotomayor’s concurrence also noted practical challenges that arise when a debtor must rely upon a turnover proceeding to recover property, such as the length and cost of such proceedings. The ABI Commission on Consumer Bankruptcy’s Report and Recommendations (April 2019) previously identified this hurdle and, in response, recommended that parties seeking only turnover rather than sanctions for violating the stay could pursue these actions via motion rather than adversary proceedings.

We can certainly expect further developments in this area, and we’ll continue to report on those developments in this blog.

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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