SOUTHEASTERN BANKRUPTCY LAW INSTITUTE April 1-3, 2004 AUTOMATIC STAY: VIOLATIONS, REMEDIES AND SANCTIONS by Lawrence R. Ahern, III David W. Houston, IV Raja J. Patil Andrew D. Stosberg Greenebaum Doll & McDonald PLLC TABLE OF CONTENTS Page I. Introduction to the Automatic Stay 2 II. What Acts Constitute Violations? 3 III. Gray Areas and the Need to Inquire Before Acting 4 IV. Are Prohibited Acts Void or Voidable? 8 V. What is the Standard for a "Willful" Violation of Section 362(h)? 11 VI. Remedy for Violations of Sections 362(h) and 1301. 13 VII. The Ability of a Secured Creditor or Non-party to Sue for a Violation of the Stay. 17 VIII. What Does "Individual" Mean in Section 362(h)? 19 IX. The Procedure for Enforcement: How Can Debtors Challenge What They Consider to be Violations of the Stay? 20 X. Contempt Procedure Under Rule 9020 24 XI. Use of Section 105(a) as an Alternative to Section 362 24 XII. Is There Jurisdiction in State Court to Enforce the Automatic Stay? 27 AUTOMATIC STAY: VIOLATIONS, REMEDIES AND SANCTIONS by Lawrence R. Ahern, III David W. Houston, IV Raja J. Patil Andrew D. Stosberg Greenebaum Doll & McDonald PLLC I. Introduction to the Automatic Stay Upon the filing of a bankruptcy, an automatic stay goes into effect. The automatic stay provides a debtor immediate and automatic protection from the collection efforts of creditors. Thus, one purpose of the automatic stay is to provide a time cushion for the bankruptcy estate to organize. In a Chapter 7 case, the automatic stay provides time for the trustee to identify and collect the property of the estate that will be used for distribution to the creditors, whereas, in a voluntary Chapter 11 or 13 case, the stay gives the debtor time to prepare a plan of reorganization. In an involuntary case, the stay gives the debtor time to controvert the petition. In addition, the automatic stay is important because it prevents a "race to the courthouse" between rival creditors competing for the same limited pot of money. In the words of one group of bankruptcy commentators, "[c]reditors' collection efforts must be stopped quickly in order to accomplish the orderly and even administration of the debtor's property and financial affairs that is a chief goal of bankruptcy."1 1 1 David G. Epstein, Steve H. Nickles & James J. White, BANKRUPTCY § 3-1 at 77 (West Practitioner Series 1992) (hereinafter cited as "Epstein et al."). 2 II. What Acts Constitute Violations? Section 362 requires all collection efforts to cease immediately cease upon the filing of a voluntary or involuntary bankruptcy petition. Section 362(a) of the Bankruptcy Code provides that the filing of a bankruptcy petition operates as a stay against the following activities: (1) the commencement or continuation, including the issuance or employment of process, of a judicial, administrative, or other action or proceeding against the debtor that was or could have been commenced before the commencement of the case under this title, or to recover a claim against the debtor that arose before the commencement of the case under this title; (2) the enforcement, against the debtor or against property of the estate, of a judgment obtained before the commencement of the case under this title; (3) any act to obtain possession of property of the estate or of property from the estate or to exercise control over property of the estate; (4) any act to create, perfect, or enforce any lien against property of the estate; (5) any act to create, perfect, or enforce against property of the debtor any lien to the extent that such lien secures a claim that arose before the commencement of the case under this title; (6) any act to collect, assess, or recover a claim against the debtor that arose before the commencement of the case under this title; (7) the setoff of any debt owing to the debtor that arose before the commencement of the case under this title against any claim against the debtor; and (8) the commencement or continuation of a proceeding before the United States Tax Court concerning the debtor.2 It is worth noting that the automatic stay is truly "automatic," in that it takes effect instantly upon the filing of a bankruptcy petition and is effective against most entities, including the debtor,3 and regardless of whether the entity is aware of the filing.4 A limited exception to this general rule is that in certain rare and usual cases, such as those involving an abuse of the bankruptcy court's jurisdiction, the automatic stay might not apply.5 2 11 U.S.C. § 362(a). 3 In re Shapiro, 124 B.R. 974, 981 (Bankr. E.D. Pa. 1991). 4 Epstein et al. at 78. 5 FDIC v. Cortez, 96 F.3d 50 (2d Cir. 1996) (debtor colluded in filing of involuntary petition after court had prohibited the filing of a voluntary petition for 12 months); see also Matter of Cortez, 16 B.R. 481 (W.D. Mo. 1981), aff'd 691 F.2d 390 (8th Cir. 1982) (a creditor acting in reliance on such an exception does so at its own peril). 3 Next, subsection 362(b) lists 18 activities that are exempt from the automatic stay.6 In general, the exemptions are specific and include activities such as the continuation of a criminal action against the debtor,7 the exercise by government of its police or regulatory powers,8 and the collection of alimony and child support.9 When an exemption applies, the exempted conduct is automatically allowed without the need for a court-ordered relief from the stay.10 However, as discussed below, seasoned bankruptcy practitioners often exercise caution and request court permission before proceeding with the excepted conduct. The automatic stay concludes upon the happening of certain occurrences listed in section 362(c)-(e), such as the closing or dismissal of the case, or the discharge of the debtor. When the automatic stay ends, each creditor is allowed to enforce only those rights that have survived bankruptcy, but only in the form and amount that bankruptcy law has left them.11 III. Gray Areas and the Need to Inquire Before Acting The stay prescribed by section 362(a) provides a very broad range of protection to the debtor and other constituencies of a bankruptcy estate. However, again, subsection 362(b) also carves out a set of express exceptions to the stay and there are many instances in which the distinction between what is covered by the stay and what is excluded may not be clear. These areas of potential ambiguity are too numerous to catalogue here and, indeed, such a list would intrude on the other areas of this material. Nevertheless, several areas, particularly in which there have been recent developments, are worthy of mention. 6 11 U.S.C. § 362(b). 7 11 U.S.C. § 362(b)(1). 8 11 U.S.C. § 362(b)(4). 9 11 U.S.C. § 362(b)(2). 10 See Matter of Daugherty, 117 B.R. 515, 518 (Bankr. D. Neb. 1990). 11 Epstein et al. at 81. 4 Simple bookkeeping entries by creditors, reflecting charges to an account owed by a debtor have been held recently not to violate the stay.12 This is consistent with the Supreme Court's ruling in favor of a bank's "freeze" on an account.13 It seems prudent, however, where the action actually deprives the debtor of the use of property, to proceed promptly to file a motion for relief from the stay, because subsection 362 (a)(7) specifically precludes "the setoff of any debt owed to the debtor ... " and subsection 362 (a) (3) precludes "any act ... to exercise control over property of the estate ... ."14 Section 362(a)(6) stops collection efforts against the debtor, but it does not stay actions against sureties to recover property in which the debtor has no interest.15 A recent decision in the Adelphia Communications case illustrates, however, that confusion may also arise in this area.16 There, the courts struggled with a lawsuit brought by former directors and officers of the debtor to collect under the debtor's errors & omissions insurance policies. The bankruptcy court stayed the litigation. The district court, however, concluded that the bankruptcy court had incorrectly regarded the proceeds to the policies as assets of the debtor's estates and therefore automatically subject to the stay under Section 362(a)(3). Many actions that may relate to or establish a claim in a bankruptcy also have the characteristics of the government's exercise of its police or regulatory powers, exempted from the stay by subsection 362(b)(4). Thus, the District Court for the District of Delaware has recently concluded that a state agency's action for restitution against a debtor-homebuilder for alleged violations of Maryland's consumer protection and new-home construction laws constituted an 12 Mann v. Chase Manhattan Mortg. Corp., 316 F.3d 1 (1st Cir. 2003); In re Sims, 278 B.R. 457 (Bankr. E.D. Tenn. 2002). 13 Citizens Bank of Md. v. Strumpf, 514 U.S. 1035, 115 U.S. 1398, 131 L. Ed. 2d 286 (1992). 14 11 U.S.C. § 362(a)(3). 15 See, e.g,, In re Advanced Ribbons & Office Prods., Inc., 125 B.R. 259, 264 (9th Cir. 1991); In re Smith, 14 B.R. 956, 957-58 (Bankr. D. Conn. 1981). 5 exempt exercise of police and regulatory power.17 The court observed that "legislative history clearly favors the government's position" that its "enforcement action was not intended to protect the government's interest in the debtor's property, but related to matters of public safety and welfare and was intended to effectuate public policy."18 Similarly, arbitrations of labor issues encounter ambiguity in the application of the automatic stay. Although actions of the NLRB may be seen as the enforcement of police powers, the issue as to whether the automatic stay prevents the arbitration of labor disputes has arisen in the interplay between sections 362 and the special Chapter 11 restrictions on rejection of bargaining agreements.19 Some courts have taken the view that debtors cannot use the automatic stay to unilaterally terminate or modify collective bargaining agreements in contravention of the requirements found in section 1113(f).20 These Courts have held that a case-by-case determination must be made as to whether 1113(f) trumps the enforcement of the automatic stay. The focus of the analysis is whether the union has a procedural mechanism to bring the dispute before the bankruptcy court and whether the bankruptcy court has jurisdiction to resolve such dispute. If such a procedural mechanism exists and the bankruptcy court has jurisdiction, then the automatic stay can be enforced without the debtor’s first going through the formal requirements of 1113(f). The First Circuit has recently held that "while the automatic stay is in effect, a creditor may engage in post-petition negotiations pertaining to a bankruptcy-related reaffirmation 16 In re Adelphia Communications Corp., 298 B.R. 49 (S.D.N.Y. 2003). 17 Consumer Protection Div. v. Nanticoke Homes, Inc., 2003 WL 22287387 (D. Del. Sept. 30, 2003). 18 2003 WL 22287387 at *2. 19 11 U.S.C. § 1113(f). 20 See In re Bunting Bearings, 302 B.R. 210 (Bankr. N.D. Ohio 2003); Shugrue v. Airline Pilots Association, International (In re Ionosphere Clubs, Inc.), 922 F.2d 984 (2nd Cir. 1990). 6 agreement so long as the creditor does not engage in coercive or harassing tactics."21 In In re Diamond,22 the First Circuit applied the dark side of that rule to reverse action by the bankruptcy and district courts dismissing a debtor's complaint for stay violation. Premier Capital, an unsecured creditor of the debtor (Diamond), had filed an adversary proceeding to deny the debtor a discharge pursuant to section 727. The attorney for Premier "allegedly told Diamond's attorney that if the dischargeability issue was not resolved in Premier's favor, he would take action at the New Hampshire Real Estate Commission to revoke Diamond's real estate broker's license. Diamond agreed to Premier's proposed settlement, but the bankruptcy court rejected the settlement and denied Premier's complaint on all grounds."23 The lower courts had held that the debtor's complaint failed to state a claim. The First Circuit ruled that Premier may have violated the automatic stay in its negotiating tactics. Occasionally, to prevent "serial" bankruptcy filings, a bankruptcy court will dismiss a case and accompany it with an injunction against the refiling of a new petition.24 In In re Umali,25 a debtor's second filing in California was dismissed by an order that prohibited refiling for 180 days. The debtor nevertheless moved to Arizona and filed a third petition, pro se. The Ninth Circuit held that the subsequent bankruptcy petition was ineffective to "trigger" the automatic stay and excused a creditor who had foreclosed in the interim.26 21 Jamo v. Katahdin Federal Credit Union (In re Jamo), 283 F.3d 392, 399 (1st Cir. 2002). 22 In re Diamond, 346 F.3d. 222 (1st Cir. 2003). 23 Id. at 226. 24 Refiling is prohibited by the Code under certain circumstances, including voluntary dismissal of the case after a creditor requests relief from the stay. See 11 U.S.C. § 109(g)(2). 25 Umali v. Dhanani (In re Umali), 345 F.3d. 818 (9th Cir. 2003). 26 345 F.3d. at 824. 7 IV. Are Prohibited Acts Void or Voidable? One consequence of violating the automatic stay is that the courts must reverse the effects of the violation on the stay's beneficiaries. The majority rule seems to be that any act or occurrence that violates the stay is "void ab initio."27 Thus, to the extent that any act or occurrence violates the stay, that act or occurrence will lack any legal effect against the debtor and others whom the rule protects. This essentially means that the act or occurrence will be treated as if it never occurred and anyone who claims through the act or occurrence takes nothing because it "is null and void ab initio and has no validity for any purpose."28 On the other hand, a few courts have adopted the view that acts violating the stay are not automatically void, but rather "voidable."29 There are, however, two meanings of "voidable" that courts have applied. Sometimes, a court simply means that the act is not irretrievably void because the court can annul the stay.30 "These cases draw support for this proposition from the 27 Soares v. Brockton Credit Union, 107 F.3d 969, 975, 976 (1st Cir. 1997); In re Schwartz, 954 F.2d 569, 571 (9th Cir. 1992); In re Williams, 124 B.R. 311, 316-18 (Bankr. C.D. Cal. 1991); Smith v. First American Bank, N.A., 876 F.2d 524 (6th Cir. 1989); In re 48th Street Steakhouse, Inc., 835 F.2d 427, 431 (2d Cir. 1987); Morgan Guaranty Trust Co. of New York v. American Sav. & Loan Ass'n, 804 F.2d 1487 (9th Cir. 1986); In re Advent Corp., 24 B.R. 612, 614 (1st Cir. 1982); Matthews v. Rosene, 739 F.2d 249, 251 (7th Cir. 1989); In re Smith Corset Shops, Inc., 696 F.2d 971, 976 (1st Cir. 1982); Borg-Warner Acceptance Corp. v. Hall, 685 F.2d 1306, 1308 (11th Cir. 1982); Ellis v. Consolidated Diesel Elec. Corp., 894 F.2d 371, 372 (10th Cir. 1990); In re Shamblin, 890 F.2d 123, 125 (9th Cir. 1989); In re Knightsbridge Development Co., Inc., 884 F.2d 145, 148 (4th Cir. 1989); Smith, 876 at 526; In re Ward, 837 F.2d 124, 126 (3d Cir. 1988); Anglemyer v. United States, 115 B.R. 510, 514 (D. Md. 1990); Matter of Guterl Special Steel Corp., 111 B.R. 107, 110 (W.D. Pa. 1990) judgment aff'd, 916 F.2d 890 (3d Cir. 1990); In re Garcia. 109 B.R. 335, 338 (N.D. Ill. 1989); Scrima v. John Devries Agency, Inc., 103 B.R. 128, 132 (W.D. Mich. 1989); Richards v. City of Chicago, 80 B.R. 451, 453 (N.D. Ill. 1987), In re Williams, 124 B.R. 311, 316-18 (Bankr. C.D. Cal. 1991), In re Draughon Training Institute, Inc., 119 B.R. 921, 924-26 (Bankr. W.D. La. 1990); In re Lampkin, 116 B.R. 450, 451 (Bankr. D. Md. 1990); In re Massenzio, 121 B.R. 688, 693 (Bankr. N.D.N.Y. 1990). 28 Anglemyer, 115 B.R. at 514. 29 Epstein et al. at 357. 30 Picco v. Global Marine Drilling Co., 900 F.2d 846, 850 (5th Cir. 1990); Sikes v. Global Marine, Inc., 881 F.2d 176, 178-79 (5th Cir. 1989); In re Bresler, 119 B.R. 400, 403-04 (Bankr. E.D.N.Y. 1990); In re Still, 117 B.R. 251, 255 (Bankr. E.D. Tex. 1990); In re Jones, 63 F.3d 411 (5th Cir. 1995); Bronson v. U.S., 46 F.3d 1573 (Fed. Cir. 1995); Easley v. Pettibone Michigan Corp., 990 F.2d 905, 911 (6th Cir. 1993); In re Calder, 907 F.2d 953, 956 (10th Cir. 1990). 8 fact that one of the alternatives under section 362(d), when a request for relief from the stay is made, is to annual the stay and thus apparently validate actions otherwise taken in violation of it."31 In these instances, the courts' use of "voidable" does not contradict the general rule that acts violating the stay are void ab initio.32 In other cases, however, the court fully intends to reject the "void ab initio" rule.33 For example, the Ninth Circuit Bankruptcy Appellate Panel stated, "Actions in violation of the stay can be declared invalid in an appropriate proceeding but are capable of being cured by confirmation or ratification or if no proceeding is brought to avoid the voidable act."34 This "appropriate proceeding" is "an action by the debtor or trustee during the bankruptcy case in which the stay violation occurred."35 The primary argument for adopting this minority "voidable" rule is that section 549 of the Bankruptcy Code, which empowers trustees to avoid post-petition transfers of estate's property, would be unnecessary if acts violating the automatic stay were always declared void ab initio.36 31 COLLIER ON BANKRUPTCY, § 362.11[1] (Lawrence P. King ed., 15th Ed. 2003) citing In re Siciliano, 13 F.3d 748 (3d Cir. 1994). 32 See also COLLIER, § 362.11[1] ("[A]lthough a court may use the annulment power to give retroactive relief from the stay, relief should be granted sparingly. The breathing room provided by the stay would be limited if debtors feared regular retroactive validation. Debtors would be forced to defend all actions, even those stayed, because the stay might be retroactively annulled and a default by the debtor might become binding. Thus, retroactive relief should be granted only in extraordinary circumstances, such as when a creditor acted without knowledge of the stay, under circumstances in which relief from the stay would have been available, and where the creditor changed its position in reliance on the validity of its action."); see also In re Fjeldsted, 293 B.R. 12, 24 (9th Cir. 2003) (annulment of the automatic stay is not extraordinary relief). 33 In re Schwartz, 119 B.R. 207, 209 (Bankr. 9th Cir. BAP 1990), rev'd 954 F.2d 569 (9th Cir. 1992); see also In re Janis, 125 B.R. 274, 278 (Bankr. D. Ariz. 1991) (holding "[a]ctions taken in violation of the automatic stay are not void ab initio only voidable," adhering to the rule of Schwartz); In re Big Squaw Mountain Corp., 122 B.R. 831, 833 n.6 (Bankr. D. Me. 1990)(acts in violation of the stay, were not void ab initio); Sikes, 881 F.2d at 178-79(concluding that violations of the automatic stay are voidable); In re Oliver, 38 B.R. 245, 248 (Bankr. D. Minn. 1984). 34 Schwartz, 119 B.R. at 209. 35 Id. at 211. 36 Epstein et al. at 359; 11 U.S.C. § 549; Sikes, 881 F.2d at 178-79; Oliver, 38 B.R. at 248. 9 Several bankruptcy commentators suggest that this rationale is weak at best. In the words of one such authority: This argument hangs everything on an inference of congressional intent for which there is no further proof, and it ignores that the overlap between sections 549 and 362 is not complete so that any superfluity that supposedly proves the voidable rule is incomplete. Moreover, the two sections can be reconciled so that section 549 compliments the dominant rule that acts violating section 362 are void.37 Most importantly, the voidable rule lacks any substantial reason or policy to support it very long or far, much less enough force to overcome the threat it poses to the deterrence of the stay and the stability of the bankruptcy process.38 Only a few bankruptcy courts have adopted the "voidable" rule. Even among state courts, where acceptance of the "voidable" rule is more prevalent and perhaps more foreseeable due to the rule's softer stance on local law, acceptance is by no means complete.39 37 See also Garcia, 109, B.R. at 340 ("[T]here is a distinction between actions in violation of the automatic stay and specifically prohibited and actions which are not otherwise expressly authorized by the Bankruptcy Code. All actions which are not authorized by the Bankruptcy Code are not in violation of the automatic stay defined in Section 362(a)." Section 549 targets "post-petition transfers in which the debtor is a willing participant, but which, though not prohibited by the automatic stay, are not otherwise authorized by the Bankruptcy Code."). 38 Epstein et al. at 359. 39 Not infrequently the state courts appear to follow the voidable rule or something akin to it. See e.g. Philippe v. Anderson, 546 A.2d 582 (N.J. Super. L. 1988); City of Middletown v. Holiday Syrups, Inc., 523 N.Y.S 2d 717 (N.Y. Sup. Ct. 1987); Audio Data Corp. v. Monus, 789 S.W.2d 281 (Tex. Ct. App. 1990) (in dicta); Cissne v. Robertson, 782 S.W.2d 912 (Tex. Ct. App. 1989); but see, e.g., opining that acts violating the stay are void, First Bank of Whiting v. Sisters of Mercy Health Corp., 545 N.E.2d 1134 (Ind. Ct. App. 1989); Overbey v. Murray, 569 So.2d 303 (Miss. 1990); Continental Casing Corp. v. Samedan Oil Corp, 751 S.W.2d 499, 501 (Tex. 1988). Alternatively and incorrectly, state courts sometimes act as though they are annulling the stay. See Tarakjian v. Krone, 196 Cal. App. 3d 1243 (Cal. App. 1987); Phillippe, 227 N.J. at 251. 10