Judicial Code 959(b) and Its Relationship to the Automatic Stay Part I

Judicial Code 959(b) and Its Relationship to the Automatic Stay Part I

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Web posted and Copyright © September 1, 1997, American Bankruptcy Institute.

udicial Code §959(b)[1] is an important nonbankruptcy law that has a significant impact on the operation of bankruptcy cases. Judicial Code §959(b) states:

Except as provided in §1166 of title 11, a trustee, receiver or manager appointed in any case pending in any court of the United States, including a debtor-in-possession, shall manage and operate the property in his possession as such trustee, receiver or manager according to the requirements of the valid laws of the state in which such property is situated, in the same manner that the owner or possessor thereof would be bound to do if in possession thereof.[2]

As set forth in this article, the effect of Judicial Code §959(b) is to function as an anti-preemption statute, to restrict the jurisdiction of the bankruptcy court, to restrict the employment of a bankruptcy court's equitable powers, and to supplement Bankruptcy Code §§362(b)(4) and (b)(5) by permitting a governmental unit to enforce its police and regulatory powers in a bankruptcy case.

An important case involving the predecessor of Judicial Code §959(b), Judicial Code §65, is Gillis v. State of California.[3] There, local law required the operator of a petroleum refinery to be bonded and licensed. A receiver was appointed for the Western Oil & Refining Company ("Western Oil"), and he was unable to obtain a bond. The receiver petitioned the district court to operate Western Oil without the bond or license because otherwise his receivership would be frustrated. The district court granted the receiver the authority to operate the business without either a bond or license. The Supreme Court held that the district court lacked authority to authorize the receiver to operate the business without a bond or license. The court rejected the argument that the state regulatory statutes diminished the district court's authority to direct the operation of receiverships. The court stated:

Manifestly the diminution, if any, of powers possessed by district courts prior to its enactment, results from §65, Judicial Code. The ultimate inquiry is whether Congress can withhold from district courts the power to authorize receivers in conservation proceedings to transact local business, contrary to state statutes obligatory upon all others. Congress has such power we think is clear, and the language of §65 leaves no doubt of its exercise.[4]

Gillis is an important case. First of all, the discussion of jurisdiction is important because it emphasizes that Congress has the authority to restrict the jurisdiction of the lower federal courts in bankruptcy cases. Further, the court was adverse to inferring preemption of valid state laws, especially when Congress had enacted Judicial Code §65, which authorized the enforcement of state and local health and safety laws. Finally, a lower federal court must exercise its equitable powers within the framework of the bankruptcy provisions and should not use its equitable powers to create a new entitlement.

An important Circuit Court of Appeals decision involving Judicial Code §959(b) is Saravia v. 1736 18th Street, N.W. Ltd. Partnership.[5] There, the debtor attempted to reject leases that were subject to rent control regulations. The court held that the debtor was precluded by Judicial Code §959(b) from rejecting those provisions of the leases that were controlled by the District of Columbia housing regulations, and it stated:

Nothing in the Bankruptcy Code or in reason leads to the debtor's desired conclusion that District of Columbia housing law is preempted by the federal right of rejection in §365. Indeed, §959(b) leads precisely in the opposite direction. Congress explicitly stated that debtors-in-possession are not exempted from local law by virtue of federal bankruptcy law; rather, debtors are to 'manage and operate the property...according to the valid laws of the [jurisdiction] in which such property is situated...' 28 U.S.C. §959(b). In our view, §959(b), resolving as it does any possible conflict between the housing regulations of the District of Columbia and §365 of the Bankruptcy Code, plainly controls this case.[6]

The obligations imposed by the District of Columbia housing regulations were not preempted by Bankruptcy Code §365. The District of Columbia Circuit stated:

This is especially so where, as here, the local laws in question are designed to protect public health and safety. Where laws if this sort are challenged under the Supremacy Clause, courts are not to condemn them to the oblivion of the preemption doctrine 'unless that was the clear and manifest purpose of Congress.' Congress has evinced no such intent in enacting §365(h); indeed, §959(b) looks in exactly the opposite direction. Nor will the general bankruptcy policy of fostering the rehabilitation of debtors serve to preempt otherwise applicable state laws dealing with public safety and welfare. This, we believe, is the import of 28 U.S.C. §959(b).[7]

The debtor failed to establish that the health and safety laws unduly impeded the policies of Bankruptcy Code §365. Further, the court thought that a general policy argument was insufficient to preempt state and local law. Under Judicial Code §959(b), the rejection of the residential leases did not affect a landlord's obligations under the District of Columbia housing regulations, and only the private contractual aspects of the leases were subject to rejection.

As set forth in Saravia, §959(b) is an anti-preemption statute because it expressly makes clear that public health and safety laws are not to be preempted by the Bankruptcy Code. Absent a clear indication from Congress, public health and safety laws are not preempted.

Another important Circuit Court of Appeals decision involving §959(b) is Hillis Motors Inc. v. Hawaii Automobile Dealers' Association.[8] There, the Hawaii Department of Commerce and Consumer Affairs (DCCA) dissolved the debtor because it had failed to file certain documents and to pay certain filing fees. Two of the issues before the 9th Circuit was whether the DCCA violated the automatic stay by dissolving the corporation, and whether the DCCA's actions were exempted from the automatic stay because of§959(b).

The 9th Circuit held that the DCCA's actions violated the automatic stay.[9] Bankruptcy Code §362(a)(3) operates as a stay against all entities from exercising control over property of the estate. The DCCA exercised control over the estate by dissolving the debtor-corporation.[10] The appellees contended that Judicial Code §959(b) was an exception to Bankruptcy Code §362(a), and therefore, the DCCA was authorized to dissolve the debtor.

The court rejected that argument, and it stated:

It is beyond question that §959(b) requires a trustee to manage a business in accordance with state law, as any other person must. However, the provision does not give state agencies a license to ignore the automatic stay of the Bankruptcy Code in order to enforce state laws. Rather, the relevant case law demonstrates that §959(b) operates as a weighty policy consideration that will in many circumstances require a bankruptcy court to grant relief from the automatic stay, if it is requested, so that a state may enforce its laws.[11]

The court was persuaded that the appellees' misconstrued the relationship between Bankruptcy Code §362(a)(3) and Judicial Code §959(b). The 9th Circuit remarked:

Congress crafted several explicit exceptions to the automatic stay, two of which address the needs of governmental regulation. Were we to read §959(b), which is broadly written, as an exception to the automatic stay, we would render superfluous the narrowly drawn governmental powers exceptions. Furthermore, we note that Congress deliberately declined to create a governmental powers exception to stay imposed by 11 U.S.C. §362(a)(3) against acts that exercise control over the property of the estate. These considerations weigh heavily against appellees' statutory interpretation and, along with the plain language of the test at issue, lead us to conclude that Congress did not intend §959(b) to serve as an independent exception to the automatic stay.[12]

The court also rejected the argument that Hawaii law was not preempted by the Bankruptcy Code. The police power exception to the automatic stay was inapplicable because Bankruptcy Code §362(a)(3) applied to the DCCA's actions to dissolve the debtor. Thus, the DCCA had to seek relief from the automatic stay before it could act. The DCCA failed to obtain relief from the automatic stay; instead, the DCCA sought self-help, which is prohibited by §362(a)(3). The DCCA's actions were in contravention of the automatic stay, and therefore, the dissolution of the debtor was void.

The 9th Circuit's decision was correct. Judicial Code §959(b) is not intended to provide unlimited authority for a governmental unit to enforce all of its laws in a bankruptcy case. Rather, Judicial Code §959(b) and Bankruptcy Code §§362(b)(4) and (b)(5) are intended to permit a governmental unit to enforce its police and regulatory powers. However,when a governmental unit is seeking to enforce a statute which is unrelated to public health and safety, then the automatic stay is enforceable and Judicial Code §959(b) is inapplicable. This is similar to the pecuniary interest test which renders Bankruptcy Code §§362(b)(4) and (b)(5) inapplicable when a state is seeking to further its pecuniary interest under the guise of enforcing its public health and safety laws.[13]


[1] 28 U.S.C. §959(b).[RETURN TO TEXT]


[3]293 U.S. 62 (1934).[RETURN TO TEXT]

[4]Id. at 66.[RETURN TO TEXT]

[5] 844 F.2d 823 (D.C. Cir. 1988) (per curiam).[RETURN TO TEXT]

[6]Id. at 826.[RETURN TO TEXT]

[7]Id. at 827.[RETURN TO TEXT]

[8] 997 F.2d 581 (9th Cir. 1993).[RETURN TO TEXT]

[9]Id. at 590.[RETURN TO TEXT]

[10]Id. at 586.[RETURN TO TEXT]

[11]Id. at 592 (citations omitted).[RETURN TO TEXT]

[12]Id. at 593.[RETURN TO TEXT]

[13]State of Missouri v. U.S. Bankruptcy Court, 647 F.2d 768 (8th Cir. 1981) cert. denied , 454 U.S. 1162 (1982).[RETURN TO TEXT]

Journal Date: 
Monday, September 1, 1997