The Split Widens: Third Circuit Joins Minority View Regarding Whether Secured Creditor Has Affirmative Obligation to Return Collateral to Debtor Upon Bankruptcy Filing

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The circuit courts continue to wrestle over the duties imposed by the Bankruptcy Code’s automatic stay on creditors concerning turnover of a debtor’s impounded vehicle. Is a creditor required to automatically turn over the vehicle as soon as the bankruptcy petition is filed, or can it retain possession while awaiting an order of the bankruptcy court adjudicating turnover in an adversary proceeding? As we previously wrote, five circuits, including the Seventh Circuit in City of Chicago v. Robbin L. Fulton, have held that the automatic stay requires a creditor to immediately release an impounded vehicle when the owner files for bankruptcy.

On the other side of the split, the Tenth and D.C. Circuits have rejected this argument, and they have now been joined by the Third Circuit. On October 28, 2019, the Third Circuit in In re Denby-Petersen, held that a creditor in possession of collateral that was repossessed before a bankruptcy filing does not violate the automatic stay by retaining the collateral post-bankruptcy petition. Following her bankruptcy, the debtor demanded that the creditor release her Chevrolet Corvette, which had been repossessed pre-petition. The creditor refused to turn over the vehicle, and the debtor subsequently filed a motion demanding turnover. The bankruptcy court ordered turnover of the vehicle but denied awarding sanctions to the debtor. The Third Circuit agreed with the bankruptcy court’s decision. The court found that a post-petition affirmative act to exercise control over property of the estate is required to find a violation of the automatic stay. Under the facts, mere passive retention of the car post-bankruptcy filing did not constitute such a violation. Additionally, the court rejected the debtor’s argument that the Bankruptcy Code’s turnover provision was “self-effectuating” (i.e., automatic). The court articulated the following framework: (1) debtor files adversary proceeding in bankruptcy case requesting turnover, (2) bankruptcy court determines whether property is subject to turnover under applicable law, and (3) assuming it is subject to turnover, the court will issue an order compelling creditor to turn over property to the debtor.

What’s Next?

Earlier this year, the Supreme Court denied a petition for certiorari filed in Davis v. Tyson, which dealt with the same issue arising out of the Tenth Circuit. However, the Supreme Court now has another opportunity to resolve this entrenched circuit split. The City of Chicago filed a petition of certiorari in City of Chicago v. Fulton on September 17, 2019. We’ll continue to report on developments in this area.

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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