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United States Supreme Court Holds “Mere Retention” of Bankruptcy Estate Property Does Not Violate the Automatic Stay

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On January 14, 2021, the United States Supreme Court issued its opinion in City of Chicago v. Fulton, addressing whether the “mere retention” of bankruptcy estate property constituted an act to “exercise control over property of the estate” in violation of the automatic stay under § 362(a)(3) of the Bankruptcy Code. In an 8-0 opinion, the Court held that mere retention of property does not violate § 362(a)(3). However, the Court did not address whether such retention may violate the automatic stay under the other provisions of § 362(a) and did not decide how a creditor’s turnover obligations under § 542 of the Bankruptcy Code operate. Fulton abrogates Ninth Circuit authority State of Cal. Emp. Dev. Dep’t v. Taxel (In re Del Mission Ltd.), 98 F.3d 1147 (9th Cir. 1996).

City of Chicago v. Fulton

Fulton concerned several cases where debtors’ vehicles were impounded by the City of Chicago for failure to pay fines. The debtors each filed chapter 13 bankruptcy petitions and requested return of their vehicles. The City refused.

In each case, the bankruptcy court held that the City’s refusal to return the vehicle violated the Bankruptcy Code’s automatic stay. The Court of Appeals for the Seventh Circuit affirmed in a consolidated opinion. The United States Supreme Court granted certiorari to resolve a circuit split over whether retention of bankruptcy estate property violates the automatic stay under § 362(a)(3).

With Justice Alito delivering the opinion, the Court held that “mere retention” of estate property does not violate § 362(a)(3). The Court’s analysis focused on the language in § 362(a)(3) staying “any act . . . to exercise control over property of the estate.” Looking to the common meanings of the terms “stay,” “act,” and “exercise control,” the Court found that the combination of these terms suggested that “§ 362(a)(3) halts any affirmative act that would alter the status quo as of the time of a bankruptcy petition.” Yet the Court also noted that these terms did not “definitively rule out” the Seventh Circuit’s alternative interpretation of § 363(a)(3).

Instead, the Court considered how the existence of § 542 of the Bankruptcy Code, which governs the turnover of estate property, affects the meaning of § 363(a)(3). The Court found that reading an affirmative turnover obligation into § 362(a)(3) would create two interpretation problems. First, it would render § 542’s central turnover command “largely superfluous.” Second, it would create contradictions within the Bankruptcy Code, as § 542 contains certain exceptions to the turnover obligation that are not present in § 362(a)(3). The Court looked to legislative history to confirm its interpretation as well.

Immediate Ramifications in the Ninth Circuit

Fulton causes a significant, yet narrow, change in the Ninth Circuit. Twenty-five years prior to Fulton, the Ninth Circuit Court of Appeals reached the opposite conclusion when it held that the “knowing retention” of estate property violates § 362(a)(3). See In re Del Mission Ltd., 98 F.3d at 1151. The Court of Appeals noted that “[t]o effectuate the purpose of the automatic stay, the onus to return estate property is placed upon the possessor; it does not fall on the debtor to pursue the possessor.” Id.

This is no longer true. The burden is now on the trustee or debtor in possession, as the case may be, to seek turnover under § 542 of the Bankruptcy Code. While Fulton leaves a creditor’s obligations to comply with a turnover demand unaltered, the consequences for not turning over estate property immediately upon the filing of a bankruptcy petition are likely diminished. Section 362(k) provides a statutory basis for awarding actual damages, attorney fees, and, in some circumstances, punitive damages when the automatic stay is willfully violated. Section 542, however, does not have an analogous provision.

Potential Further Developments

The Court’s opinion in Fulton is limited in scope and immediate impact. The Court expressly did not decide whether the City had violated the automatic stay under § 362(a)’s other provisions, nor did the Court decide how § 542 turnover obligations operate. Nonetheless, Fulton will likely give way to further opinions clarifying the scope of the automatic stay’s protections and may lead to amendments to the Bankruptcy Code, Federal Rules of Bankruptcy Procedure, or local rules and practices to expedite procedures for § 542 turnover actions.

One of the first places we may see further clarification is the bankruptcy court cases underlying Fulton itself. In one such case, the bankruptcy court determined that the City’s conduct also violated §§ 362(a)(4) (staying “any act to create, perfect, or enforce any lien against property of the estate”) and 362(a)(6) (staying “any act to collect, assess, or recover a claim against the debtor that arose before the commencement of the [bankruptcy case]”).

Neither the Seventh Circuit nor the Supreme Court reached these legal theories. Now that the cases have been remanded, it is very possible the bankruptcy court may rule that the City’s conduct was still a violation of the automatic stay under one of its alternative provisions. In her concurrence, Justice Sotomayor emphasized that the Court had not ruled on whether and when § 362(a) otherwise requires the return of estate property.

There is also an open question of how courts will interpret the reach of Fulton and its impact on precedents interpreting § 362(a)’s other provisions. For example, the Ninth Circuit held in 2002 that § 362(a)(1) “imposes an affirmative duty to discontinue post-petition collection actions.” Eskanos & Adler, P.C. v. Leetien, 309 F.3d 1210, 1215 (9th Cir. 2002). Because the Fulton opinion was limited to an interpretation of § 363(a)(3), it has no direct impact on Eskanos.

Further, key portions of the Fulton reasoning are inapplicable to an analysis of § 362(a)(1). Section 362(a)(1), which stays the commencement or continuation of certain actions and proceedings, does not contain the terms “act” or “exercise control,” which were relied on in the Fulton analysis of § 362(a)(3). Nor does interpreting § 362(a)(1) as imposing an affirmative obligation cause the structural statutory interpretation problems that it did for §§ 362(a)(3) and 542.

Instead, the focus likely will turn to a more generalized view of the meaning of Fulton—should the automatic stay be read as only halting affirmative acts or as halting any acts, affirmative or passive, that alter the status quo at the time of the bankruptcy filing? If courts read Fulton as standing for the former, it could diminish precedents like Eskanos that require creditors to take affirmative acts to avoid stay violations. If, however, Fulton is interpreted as standing for preservation of the status quo, Eskanos may be largely unaffected, as the Ninth Circuit views the maintenance of an active collection action as “neither postpon[ing] collection nor maintain[ing] the status quo.” Eskanos & Adler, P.C., 309 F.3d at 1215.

Fulton leaves the door open for preservation of precedents like Eskanos by acknowledging that “omissions can qualify as ‘acts’ in certain contexts.” Unless the Ninth Circuit is inclined to reconsider its Eskanos decision, Fulton alone seems unlikely to force such a change.

Finally, Fulton may also result in changes to the procedural requirements for § 542 turnover actions to expedite the process. In her concurrence, Justice Sotomayor expressed concern over the procedural delays debtors face when seeking turnover of their vehicles. She noted that at least one court, the Bankruptcy Court for the District of Idaho, has held that § 542 turnover obligations are automatic, even without a court order. Other courts have taken the approach of permitting debtors to seek turnover by filing a motion, instead of a full adversary proceeding, when the creditor has received adequate notice.

Justice Sotomayor ended her concurrence by urging the Advisory Committee on Rules of Bankruptcy Procedure and Congress to amend the Federal Rules of Bankruptcy Procedure or Bankruptcy Code to provide for prompter resolution of § 542(a) turnover demands. Post-Fulton, we may see changes to the Bankruptcy Code, Federal Rules of Bankruptcy Procedure, or individual courts’ local rules and practices to expedite the resolution of turnover demands, particularly for collateral like consumer vehicles.

Though Fulton’s immediate direct impacts are limited in scope, its reasoning may lead to larger ramifications for automatic stay jurisprudence and turnover procedures. This will be an area of development to watch going forward.