Abandonment: When property exits bankruptcy estate – Insolvency/Bankruptcy/Restructuring

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In re rich, 510 BR 366 (Bankr. D. Utah 2014)

In a case that was converted from a Chapter 11 reorganization to a Chapter 7 liquidation, the debtor sought an order directing the trustee to relinquish certain real estate, arguing there was no fairness to bankruptcy assets. A lender had already obtained relief from the automatic stay allowing it to seize the property, and the debtor wanted to make a short sale with the consent of the lender. The Chapter 7 trustee opposed the motion.

About a year and a half after an individual filed a Chapter 11 petition, it voluntarily converted to a Chapter 7 case. Six months later, the debtor received a discharge and reached a settlement with the trustee releasing all claims (including the trustee’s claims that the debtor made unauthorized post-demand transfers). Nearly a year after the release, a bank filed a petition for a waiver of the automatic stay with respect to certain real estate. Neither the debtor nor the trustee objected and the bank’s request was accepted.

The debtor then filed a motion to compel the trustee to abandon the building. He indicated that he had negotiated a short sale of the property with the consent of the bank. The real estate secured a debt of approximately $520,000 and the proposed sale was for $335,000. The debtor stated that he would receive no proceeds from the sale and argued that there was no equity in the real estate and therefore had no value for the bankruptcy estate .

The trustee objected, saying the motion to quit was tantamount to a motion to approve a sale under section 363. The trustee dismissed his failure to oppose the bank’s motion to stay and argued that the debtor’s failure to provide an appraisal should be fatal to its application for abandonment. The trustee also raised allegations of ongoing fraudulent and unauthorized post-application transfers and argued that the debtor should have negotiated harder to raise the price.

Under Section 544(b) of the Bankruptcy Code, a court may order the trustee to relinquish property which “may weigh upon the estate or which is of value and benefit inconsequential to the estate. “. Once the property is surrendered, it no longer forms part of the bankruptcy estate and reverts to the debtor as if no bankruptcy had been filed. The court no longer has jurisdiction and the debtor is free to manage the property regardless of the Bankruptcy Code.

While acknowledging that the debtor’s purpose was to effect a short sale, the court concluded that his motivation was irrelevant. The only question was whether the property was expensive or of inconsequential value. The court did not consider the petition for abandonment to be the equivalent of a request for approval of a sale under section 363 and considered that the debtor’s alleged lack of authority to negotiate the sale to discovered was irrelevant.

Although the trustee raised the specter of a pattern of fraudulent transfers, he did not initiate adversarial proceedings to remedy it, did not provide any details and gave the debtor a broad release regarding their settlement.

Anyway, the only question was (repeat after me) if the property was expensive or of inconsequential value. The court held that the trustee’s failure to object to the bank’s request for a waiver of the stay was an implied concession that there was no equity in the property.

Moreover, for two and a half years, the trustee made no attempt to market the property, or alleged that he was even attempting or intending to sell the property in the future. Nor did the trustee allege that there was fairness “or even the possibility of fairness”.

The court summarized by stating: “Failure to administer property which has value and benefit to the estate is not an acceptable option and failure to abandon property which is onerous is not an option. acceptable.” Unsurprisingly, the court granted the debtor’s motion to surrender the property.

Abandonment is a wild card that people often overlook. As noted, abandoned property reverts to the debtor (although in certain circumstances possession of the property may be relinquished to a third party). Once this happens, other parties with an interest in the property no longer benefit from the constraints that bankruptcy might impose on the debtor.

Interestingly, the debtor followed the same surrender search strategy to allow a short sale of two additional properties. (In these cases, the trustee did not object.) Presumably, the bank agreed to the short sales because (1) it avoided the trustee fees and bankruptcy court oversight involved in a sale by through bankruptcy, and (2) it was faster and produced a better result than foreclosures. Since the debtor has already obtained a discharge, it is less clear why he made the effort. Perhaps his cooperation with the bank helped to reduce or eliminate the liability of an affiliated guarantor?

The content of this article is intended to provide a general guide on the subject. Specialist advice should be sought regarding your particular situation.

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