For our regular Toxins-Are-Us readers, you will note the seemingly never-ending struggle that arose some 12 years ago: Does the automatic stay provision of the Bankruptcy Code, 11 U.S.C. §362(a), prevent a state from simultaneously creating and perfecting an environmental superlien on a debtor's property after the institution of a bankruptcy proceeding?

We have seen a shifting of decisions and conclusions from time to time at lower court levels. In August 2001, the U.S. Court of Appeals for the First Circuit addressed this issue—one of first-impression at the appellate court level. The First Circuit answered the above question with a "no" in its recent decision in In re 229 Main Street Limited Partnership, 262 F.3d 1 (1st Cir. 2001).

Facts

The debtor in 229 Main Street owned a shopping plaza in Natick, Mass., that became contaminated with chemicals and other pollutants resulting from years of operation of a dry cleaning business that leased space in the plaza. The contamination threatened the drinking water in Natick, so the Commonwealth undertook emergency cleanup activities. The Commonwealth sought reimbursement for the large expenses associated with the cleanup activities as well as assurances from the debtor regarding anticipated future expenditures. Furthermore, the Commonwealth wrote a letter to the debtor stating that it intended to record a lien against the property to secure present and future cleanup costs pursuant to an environmental superlien statute that is codified at Mass. Gen. Laws ch. 21 E, §13 (the Massachusetts Oil and Hazardous Material Prevention Act).

The debtor denied responsibility for the contamination, contested the amount that the Commonwealth sought for cleanup costs and demanded an adjudicatory hearing. Before the hearing concluded, the debtor filed for chapter 11 protection. The debtor admitted that a primary reason behind its chapter 11 filing was its desire to avoid perfection of the Commonwealth's lien. The hearing officer refused to adjourn the administrative proceeding, ruling that the environmental superlien statute fell within an exception to the automatic stay.

The bankruptcy court refused the debtor's request to hold the Commonwealth in contempt for continuing the administrative proceeding. On appeal, the district court supported the bankruptcy court and ruled that the automatic stay did not preclude continuation of the proceedings necessary to perfect the Commonwealth's environmental superlien. The appeal to the First Circuit followed.

Statutory Lineup

The automatic stay prohibits or stays, among other things, "any act to create, perfect or enforce any lien against property of the estate." 11 U.S.C. §362(a)(4). However, the automatic stay does not preclude "any act to perfect, or to maintain or continue the perfection of, an interest in property to the extent that the [bankruptcy] trustee's rights and powers are subject to such perfection under §546(b) of [the Bankruptcy Code]." 11 U.S.C. §362(b)(3).

Section 546(b) provides that the debtor's powers to avoid statutory liens "are subject to any generally applicable law that permits perfection of an interest in property to be effective against an entity that acquires rights in such property before the date of perfection." 11 U.S.C. §546(b)(1)(A).

Massachusetts's environmental super-lien statute is codified at Mass. Gen. Laws ch. 21E, §13 and gives the Commonwealth the right to place a priority lien on property for which it spends money assessing or cleaning up pollution. 262 F.3d at 4. The statute provides that:

Any liability to the Commonwealth [for cleanup costs] shall constitute a debt to the commonwealth. Any such debt...shall constitute a lien on all property owned by persons liable under this chapter when a statement of claim naming such persons is recorded, registered or filed... Any lien recorded, registered or filed pursuant to this section shall have priority over any encumbrance theretofore recorded, registered or filed with respect to any site... described in such statement of claim. Mass. Gen. Laws ch. 21 E, §13.

262 F.3d at 4.

The debtor argued that the exceptions to the automatic stay described in §§362(b)(3) and 546(b) of the Bankruptcy Code do not apply to the superlien. The Commonwealth argued that its superlien fits within the exception and "thus evades the automatic stay." Id. at 4.

The Court's Analysis

In analyzing whether the 11 U.S.C. §362(b)(3) exception applies to a given lien or act, the court held that "[e]ligibility for the pertinent exception to the automatic stay depends upon the existence vel non of three elements: there must be (1) an "act to perfect" and (2) an "interest in property" under circumstances in which (3) the perfection-authorizing statute fits within the contours of §546(b)(1)(A)." Id.

Interest in Property

Initially, the appeals court considered whether the Commonwealth held a pre-petition interest in the debtor's property. The debtor acknowledged that it was indebted to the Commonwealth under chapter 21E. Further, the Commonwealth acknowledged that it had not recorded a lien against the property as of the time the debtor filed its bankruptcy petition.

The debtor argued "that §362(b)(3)'s 'interest in property' requirement only can be satisfied by the existence, pre-petition, of a lien; and that, since no such lien was of record when the bankruptcy court's jurisdiction attached, the Commonwealth has no interest in the property (and, therefore, cannot qualify for the balm of §362(b)(3))." Id. at 5. The Commonwealth argued that:

the term "interest in property," as used in §362(b)(3), is broader than the term "lien"; and that it had a pre-petition interest in the property arising out of a medley of factors, including its expenditures for cleanup, its right to record a superlien, its notice to the debtor that it intended to record such a lien, and its taking of all possible administrative steps toward recordation. Id.

The court, relying primarily on the plain language of §362(b)(3), concluded that the term "interest in property" is not synonymous with, and is broader than, the term "lien." Id. The court found it significant that §362(b)(3) uses the term "interest in property" rather than the term "lien." Id. at 6-7.

The court next addressed the question of whether, under Massachusetts law, the Commonwealth had an interest in the property and found that the combination of certain factors was sufficient to constitute an interest in property for purposes of §362(b)(3). The pertinent factors were that the "debtor was liable to the Commonwealth for past and future cleanup costs; the Commonwealth had a present right to record a lien on the property; and it had set that process in motion by notifying the debtor of its intentions and participating vigorously in the administrative hearing process." Id. at 7. This combination of "the Commonwealth's expenditures, together with its notice of intent to record a lien and its tenacious pursuit of that lien through administrative channels," was sufficient to constitute an interest in property for purposes of §362(b)(3). Id.

Act to Perfect

The second issue addressed by the First Circuit in 229 Main Street was the question of whether an act to simultaneously create and perfect a lien qualifies as an exception to the automatic stay under 11 U.S.C. §362(b)(3). Here, the Commonwealth's act of recording under the environmental superlien statute served to both create and perfect its lien. Id. at 8. The debtor argued that while the automatic stay applies to "any act to create, perfect or enforce," §362(b)(3) only exempts "any act to perfect" and that "an act which simultaneously creates and perfects cannot qualify for an exception to the automatic stay under §362(b)(3)." Id.

While noting a superficial split of authority on this issue, the First Circuit determined that courts are not split over the issue of whether to allow simultaneous post-petition creation and perfection of an interest in property pursuant to §362(b)(3). Rather, the courts are divided "over the issue of what constitutes an interest in property, and that divergence drives the seeming disagreement over the status of 'creation plus perfection.'" Id. Thus, "courts that hew to the proposition that 'interest in property' means 'lien' do not allow simultaneous post-petition creation and perfection of liens, while contrary-minded courts tend to hold the opposite." Id.

Based on the plain language of §362(b)(3), the First Circuit concluded that because §362(b)(3) provides that "the filing of a bankruptcy petition does not automatically stay an act to perfect, the simultaneous post-petition creation and perfection of a lien may come within the pertinent exception to the automatic stay so long as the creditor holds a valid pre-petition interest in the property." Id. at 9.

The court made two "practical observations" in support of its conclusion. First, the court found that an absurd result would occur if it applied the debtor's view that §362(b)(3)'s use of the:

word "perfect" means that an act of combined creation and perfection remains subject to the automatic stay...; under the debtor's theory, an act that effected the concurrent creation and perfection of a lien would, at one and the same time, be both stayed (by §362(a)(4)) and exempted from the stay (by §362(a)(3)). Id.

Second, the court noted that:

statutory liens often are created and perfected by the same act... Since Congress incorporated §546(b) into the §362(b)(3) exception, it is logical to infer that Congress intended that statutory liens would, at times, be exempt from the automatic stay. Under the debtor's interpretation, a significant class of statutory liens—those that are created and perfected by the same act—would never be exempt from the automatic stay. It seems difficult to reconcile this outcome with Congress's discernible intent. Id.

The court concluded that "the act of simultaneous creation and perfection effectuated by the Massachusetts environmental superlien statute qualifies as an 'act to perfect' under §362(b)(3)." Id.

Section 546(b)

After addressing the first two elements of §362(b)(3), the circuit turned to the question of whether the Massachusetts statute authorizing perfection complied with 11 U.S.C. §546(b).

In addressing this prong, the First Circuit held that under the Bankruptcy Code, a debtor's power to avoid certain statutory liens is "subject to any generally applicable law that permits perfection of an interest in property to be effective against an entity that acquires rights in such property before the date of perfection." 11 U.S.C. §546(b) (1)(A). In 229 Main Street, the court outlined three elements necessary for a creditor to be able to "reach the haven contemplated by §546(b)(1)(A)...(1) the creditor must act pursuant to a law of general applicability; (2) that law must allow the creditor to perfect an interest in property; and (3) such perfection must be effective against previously acquired rights in the property." 229 Main Street, 262 F.3d at 10.

The debtor in this case conceded to the first element but argued that the other two elements were not present. The court rejected the debtor's suggestion that "a state statute must explicitly provide that perfection relate back to a pre-petition date in order to fit within the safe harbor contemplated by §546(b)(1)(A)." Id. The court found no support for the debtor's argument in the plain language of the statute, the legislative history, or case law. The court held that the:

environmental superlien statute permits the perfection of an interest in property by recording, registering or filing that interest. Such perfection plainly is effective against entities which already had acquired rights in the property... These credentials satisfy §546(b) (1)(A)'s third criterion...and therefore, the environmental superlien statute meets all the eligibility requirements for inclusion within §546(b)(1)(A). Id. at 12 (citations omitted).

Conclusion

The First Circuit's holding will have a significant impact on future bankruptcy filings because debtors from states with statutes such as Massachusetts's environmental superlien statute will find that the automatic stay affords them little, if any, protection from the state's pursuit of a lien for cleanup costs. The court's view that "interest in property" is broader than just a "lien" could expand the reach of 11 U.S.C. §362(b)(3). Massachusetts's expenditure of funds, notice of its intent to record the lien, and its pursuit of the lien through administrative actions were sufficient for the court to rule that the Commonwealth had an "interest in property." A different set of facts could have resulted in a different view of "interest in property," but that is mere conjecture. It remains to be seen whether other circuits will follow the lead of 229 Main Street and adopt this broad view of "interest in property" and corresponding broad interpretation of the 11 U.S.C. §362(b)(3) automatic stay exception. Stay tuned for cases in other courts.