The Apex Court Sides with Creditors for Holding Property in Bankruptcy case

The USA has completed one year in the first quarter of 2021 since the national business shutdown due to the Covid-19 pandemic. Besides lot of talks and predictions made by banking experts regarding the growing numbers of bankruptcy cases, the U.S. Supreme Court ruled in favor of creditors regarding debtor property. [City of Chicago, Illinois v. Fulton, No. 19-357, 2021 WL 125106 (U.S. Jan. 14, 2021)]. The Court ruled that mere retention of property does not violate the automatic stay during bankruptcy. (Id)

On January 14, 2021, the U.S. Supreme Court issued an opinion addressing a split among circuit courts on whether an entity violates Section 362(a)(3) of the Bankruptcy Code’s automatic stay provision by passively retaining possession of a debtor’s property after a bankruptcy petition is filed.  Section 362(a)(3) prohibits “any act to exercise control over property” of the bankruptcy estate. 11 U.S.C. § 362(a)(3). The issue was that the U.S. bankruptcy law, for a short time, prevents creditors, collection agencies, and others from pursuing debts as soon as the debtor files for bankruptcy, resulting in an automatic stay. The provision applies to all individuals and businesses in all chapters of the Bankruptcy Code. This “automatic stay” provision is automatically triggered once a bankruptcy case is commenced, and is intended to give the debtor a breathing spell from its creditors, including from any collection efforts, foreclosures, and other actions creditors may take against a debtor’s property.  The question here was whether the automatic stay provision in Section 362(a)(3) is also applicable to property already in the creditor’s possession at the time of the bankruptcy filing. Legal precedents have it that creditors who did not immediately turn over property of a bankruptcy debtor, faced potential damages or sanctions for violating the automatic stay.

In the City of Chicago v. Fulton, the issue was that the City of Chicago confiscated motor vehicles when their owners did not pay fines. Some of these debtors filed petition under the Chapter 13 of bankruptcy and claimed that the city should give away their vehicles under the automatic stay provisions of the Bankruptcy Code. The Court ruled against the debtor and held that the mere retention of estate property – without affirmative acts to disturb the status quo – does not result in a stay violation.

As a general rule, a creditor who retains the property of a debtor who files a bankruptcy petition may have some leverage over the debtor and other creditors. Despite this leverage to the creditors, they may still face liability for violating the automatic stay if it takes actions beyond mere retention. However, the decision did leave open the possibility that retention of debtor property could violate other provisions of the automatic stay under some circumstances, such as where retention is used as leverage to “collect . . . or recover a claim against the debtor.” See 11 U.S.C. § 362(a)(6).

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