Title 28s Exception to the Automatic Stay When Do You Need Relief

Title 28s Exception to the Automatic Stay When Do You Need Relief

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The Bankruptcy Code contemplates that a post-petition chapter 11 debtor will continue to operate its business and manage its affairs as a debtor-in-possession (DIP). See 11 U.S.C. §§1107 and 1108. DIPs operate post-petition in "the ordinary course of business" in that generally, court authority is not required to use, sell or lease assets in the ordinary course of business. 11 U.S.C. §363. In the ordinary course of business, however, post-petition liabilities arise.

To encourage vendors to continue to do business with DIPs, post-petition liabilities generally receive a higher priority of payment—i.e., an administrative expense claim. While administrative expense claims are limited to those allowed by the bankruptcy court and, pursuant to 11 U.S.C. §503, those necessary costs and expenses of preserving the estate, Supreme Court precedence supports the notion that even post-petition liabilities that are not "necessary costs and expenses of preserving the estate" may constitute valid administrative expense claims. See Reading Co. v. Brown, 391 U.S. 471, 88 S.Ct. 1759, 20 L.Ed.2d 751 (1968). Nonetheless, due to §503(b)'s express language, many post-petition vendors fear subsequent challenges to the necessity of the goods and services provided. As such, many prefer a comfort order stating that post-petition trade payables are entitled to administrative priority.

There is, however, an often overlooked provision that gives post-petition creditors additional leverage. Though not found in Title 11, 28 U.S.C. §959 addresses post-petition liabilities of a DIP and other bankruptcy entities, as well as their post-petition duties. Reconciling §959 with, inter alia, §§362, 365 and 503 is the subject of varying case law. Nonetheless, understanding §959 and its provisions and limitations can sometimes provide an otherwise overlooked argument.

28 U.S.C. §959

28 U.S.C. §959(a) provides that:

[t]rustees, receivers or managers of property, including DIPs, may be sued, without leave of the court appointing them, with respect to any of their acts or transactions in carrying on business connected with such property. Such actions shall be subject to the general equity power of such court so far as the same may be necessary to the ends of justice, but this shall not deprive a litigant of his right to trial by jury.

Section 959(a) does not create an independent cause of action, but instead provides relief to third parties with post-petition claims from having to bring legal proceedings in the appointing forum, as well as to assure all parties that the estate is obliged to comply with applicable state and federal laws associated with business operations. See In re J.F.D. Enterprises Inc., 223 B.R. 610 (Bankr. D. Mass. 1998), aff'd., 236 B.R. 112, aff'd., 215 F.3d 1312. This created an exception to the Barton doctrine established in Barton v. Barbour, 104 U.S. 126, 26 L.Ed. 672 (1884), which provides that a trustee may not be sued outside of the court that appointed the trustee for acts done in the trustee's official capacity and within the trustee's authority as an officer of the court. In re Atlas, 183 B.R. 978 (Bankr. S.D. Fla. 1995), aff'd., 222 B.R. 656, appeal dism'd., 210 F.3d 1305.

Section 959(a) also provides remedial support for §959(b), which mandates that a DIP must operate its business according to the requirements of the valid laws of the state in which such property is situated. See, e.g., In re Kish, 41 B.R. 620, 625 (Bankr. E.D. Mich. 1984); In re Grace Coal Co. Inc., 155 B.R. 5, 6 (Bankr. E.D. Ky. 1993). Section 959(b) eliminates the otherwise apparent conflict between the policy considerations behind bankruptcy reorganizations and state law governing business activities. See Will Rogers Jockey & Polo Club Inc. v. Oklahoma Horse Racing Commission, 111 B.R. 948, 955 (Bankr. N.D. Okla. 1990); see, also, Cournoyer v. Town of Lincoln, 53 B.R. 478, 484-85 (D. R.I. 1985).

Section 959(a)'s application, however, is not limited to enforcement actions related to governmental regulations. The appropriate application of §959(a), and when leave of court is and is not necessary, has been the subject of judicial scrutiny, often by bankruptcy courts seeking to protect the sanctity of the automatic stay.

The Automatic Stay

At first glance, §959 is inconsistent with §362's automatic stay. Resolution of such inconsistency can be had from §362's implied exclusion of actions based on post-petition acts. In re Continental Airlines Inc., 61 B.R. 758, 776 (S.D. Tex. 1986) (citing Avellino & Bienes v. M. Frenville Co. Inc. (In re Frenville Co. Inc.), 744 F.2d 332 (3d Cir. 1984); Holland America Insurance Co., 777 F.2d 992, 996 (5th Cir. 1985)).

Where courts and commentators have the most trouble is that most claims, whether based on pre- or post-petition actions, can affect property of the bankruptcy estate. Continental Airlines, 61 B.R. at 778. Property of the bankruptcy estate includes virtually any and all property of the debtor. 11 U.S.C. §541. Particularly when the debtor is in chapter 11, this extends to property that the debtor did not own prior to the petition date. 11 U.S.C. §541(a)(7).

Thus, even when a claim is based on post-petition acts, property of the bankruptcy estate may be affected, requiring reconciliation of §§959 and 362. In reconciling these two seemingly apposite provisions, many courts have found that §959 is an exception to the automatic stay, which eliminates the need to seek relief from the bankruptcy court. See, e.g., Kish, 41 B.R. at 622-24; Voice Systems and Services Inc. v. VMX Inc., No. 910C-88-B, 1992 WL 510121, *10-11 (N.D. Okla. Nov. 5, 1992) (holding that, under §959(a), the automatic stay did not apply to post-petition acts); Bambu Sales Inc. v. Sultana Crackers Inc., 683 F.Supp. 899, 916-17 (E.D.N.Y. 1988) (holding that the automatic stay does not apply to post-petition claims); In re Telegroup Inc., 237 B.R. 87 (Bankr. D. N.J. 1999) (distinguishing cases where injunctive relief was sought from cases where the plaintiff merely sought to liquidate a pre-petition claim).

Other courts have harmonized §§959 and 362, finding a resolution of an otherwise apparent conflict of a third party's ability to enforce post-petition obligations against a DIP. See Continental Airlines, 61 B.R. at 781 (holding that §959(a) and (b) evidence Congress's intention that debtors are not to have carte blanche authority to
ignore nonbankruptcy law). These courts harmonize and reconcile §959's authorization to bring an action without leave of court against §362's prohibition against any action affecting property of the bankruptcy estate by consideration of the in personam nature of the lawsuit versus the in rem nature of property of the bankruptcy estate. See Kish, 41 B.R. at 622 (internal citations omitted).

Specifically, the commencement of litigation against an entity that seeks to establish liability or to obtain injunctive relief related to acts of that entity affect the entity, but not necessarily the entity's property. Enforcement of a judgment, through attachment, sequestration, etc., on the other hand, directly affects the property. Though courts have scarcely addressed it, it appears that §959(a) will allow a claimant to commence legal action and even obtain a judgment, but not execute thereon.

Irrespective, a trustee may seek injunctive relief from its appointing court in response to such an action. Such relief is granted upon a showing that such proceeding is an impediment to reorganization. See, e.g., In re Lehal Realty Associates, 101 F.3d 272, 276-77 (2d Cir. 1996); In re Chicago Pacific Corp., 773 F.2d 909, 918-19 (7th Cir. 1985). In making such a determination, courts should consider first whether the lawsuit relates to the "routine" business operations of the debtor. If not, then the lawsuit may be enjoined. If the lawsuit does relate to "routine" business operations, then the court must next consider whether the lawsuit will embarrass, burden, delay or otherwise impede the reorganization process. In re Investors Funding Corp., 547 F.2d 13, 16 (2d Cir. 1976). Additionally, bankruptcy courts may not properly, by blanket injunction, foreclose the bringing of suits with the terms of §959. Continental Airlines, 61 B.R. at 781 (citing Kish, 41 B.R. at 622).

In addition to the availability of injunctive relief, §959 has certain limitations. These limitations are found in §959's express language, the application of which is confirmed by existing precedence.

Section 959's Limitations

Section 959 limits its application to claims that arise from operations. Thus, when claims arise from actions taken to liquidate assets, courts have found §959 inapplicable. See, e.g., Muratore v. Darr, 375 F.3d 140, 144-45 (1st Cir. 2004); Matter of Krikava, 217 B.R. 275, 279 (Bankr. D. Neb. 1998); In re Lehal Realty Associates, 101 F.3d 272 (2d Cir. 1996). Similarly, when claims are based on alleged breaches of fiduciary duty from a trustee's administration and liquidation of a bankruptcy estate, as opposed to an act of a fiduciary in operating the debtor's business, relief from the automatic stay is necessary. Carter v. Rodgers, 220 F.3d 1249, 1254 (11th Cir. 2000); see, also, In re DeLorean Motor Co., 991 F.2d 1236 (6th Cir. 1993) (holding that claims of malicious prosecution related to a trustee's avoidance actions were not based on acts arising from business operations); Taraska v. Carmel, 223 B.R. 200 (D. Ariz. 1998) (holding that §959 did not apply to a defamation action against trustee where the defamatory statement in no way related to "carrying on" business).

Although a lawsuit could be filed against a trustee for post-petition operations without violating the automatic stay, the acquisition and enforcement of an accompanying temporary restraining order might constitute an act to obtain possession of property of the estate, thereby violating the automatic stay. See In re Cinematronics Inc., 111 B.R. 892, 896-97 (Bankr. S.D. Cal. 1990). Because the relief sought exceeded a mere in personam action and trespassed to an in rem property interest, the Cinematronics court held that such actions were a violation of the automatic stay. Id. Thus, it is important to analyze the basis for one's claim and the relief that will be sought when proceeding, without relief from the automatic stay, with an action against a DIP or similar post-petition entity.


Though scarcely cited in pleadings, §959 and its case law progeny provide important considerations for practitioners dealing with post-petition claims. Though not the cure-all for a bankrupt entity that seeks to avoid its state and federal law obligations, it can provide relief for those that have post-petition claims against an operating entity, particularly when such claims arise from said operations, i.e., post-petition vendor claims.

However, it is equally important to realize §959's limitations and local precedence thereon. Irrespective of §959's language, bankruptcy courts are easily offended by perceived violations of the automatic stay. Thus, knowing the local precedence gives guidance as to just how far a post-petition claimant can act prior to seeking bankruptcy court relief, and more importantly, how to avoid being on the wrong side of a bankruptcy court's show cause order.

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Thursday, September 1, 2005