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City of Chicago v. Fulton: §362’s Automatic Stay Provisions do not Apply to Property in a Creditor’s Possession at the Time of Filing of a Bankruptcy Petition

In City of Chicago v. Fulton, decided January 14, 2021, the US Supreme Court held that the automatic stay provisions of 11 USC §362 do not require creditors to turn over debtor property that is in their possession at the time of filing of the bankruptcy petition.

This case resolves important questions like:

  • Does a city have to immediately return a vehicle that was impounded for unpaid traffic tickets?
  • Does a creditor have to immediately return a vehicle that has been repossessed but was not yet sold when the bankruptcy petition was filed?
  • Must a landlord allow reentry to a commercial tenant who was locked out for nonpayment before the filing of the bankruptcy petition?

Although the bankruptcy court may order the return of property under 11 USC §542, as we explain below, Fulton made it clear that there is no requirement under §362 for creditors to immediately return property upon the filing of a bankruptcy petition.

Automatic Stay Under 11 USC §362

The automatic stay provisions in 11 USC §362 prohibit debt collection efforts outside of the bankruptcy proceedings, and also prohibit “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.”

The specific question the Court answered in City of Chicago v. Fulton is whether a creditor’s retention of property that was previously seized is a violation of §362, and whether §362 requires a creditor to automatically return the property to the debtor.

For example, in Fulton, the property in question was a vehicle that was seized by the City of Chicago for failure to pay fines – the City refused to return the vehicle when the bankruptcy petition was filed. Did the City’s retention of the vehicle qualify as “exercising control over property of the estate,” thereby violating the automatic stay?

The bankruptcy court held that the City violated the automatic stay under §362, and the Seventh Circuit Court of Appeals affirmed, but the US Supreme Court reversed, finding that §362’s automatic stay provisions do not require a creditor to immediately return property that it is in their possession.

Why Doesn’t §362 Require Turnover of Property?

Despite a split in the circuit courts of appeal on the issue, there is nothing in the language of §362 that would require the turnover of property. Section 362 prohibits debt collection, and that includes “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” after the bankruptcy is filed. This would prohibit, for example, the City from taking possession of the petitioner’s vehicle after the bankruptcy petition is filed, or the repossession of a vehicle by a creditor after the petition is filed, but §362 does not require a creditor to automatically return the property to the debtor when the property is already in the creditor’s possession at the time the petition is filed.

The language of §362 prohibits only “acts that would change the status quo with respect to in­tangible property and acts that would change the status quo with respect to tangible property without “obtain[ing]” such property.”

Under §362, a creditor is prohibited from taking any debt-collection actions, including acts like the repossession of a vehicle, but a creditor is not required to immediately turn over the property.

Creditors May Still Be Required to Turn Over Property Under 11 USC §542

11 USC §542, unlike §362, expressly governs the turnover of estate property. Section 542 requires any person or entity other than a custodian who is in “possession, custody, or control, during the case, of property that the trustee may use, sell, or lease” or that is exempt under §522 to deliver the property to the trustee.

There are a few exceptions to §542’s turnover requirements:

  • Property that is “of inconsequential value or benefit to the estate,”
  • Transfers of estate property made in good faith without notice or knowledge of the bankruptcy petition, and
  • Good-faith transfers to satisfy certain life insurance obligations.

Unlike §362, §542 may require the return of property that is in the possession of a creditor, and it may cover the vehicles that were in the possession of the City of Chicago.

The Court expressly did not decide whether the City’s refusal to turn over the vehicles violated §542 (“we need not decide how the turnover obligation in §542 oper­ates. Nor do we settle the meaning of other subsections of §362(a)”).

The Court’s holding is limited to the question of whether the automatic stay provisions of §362 require a creditor to turn over property that was in their possession at the time the bankruptcy petition is filed, and the answer is “no:”

“We hold only that mere retention of estate prop­erty after the filing of a bankruptcy petition does not violate §362(a)(3) of the Bankruptcy Code.”

In summary, although the bankruptcy court may order the turnover of property pursuant to a motion or proceedings to recover property, the automatic stay provisions of §362 do not require creditors to immediately turn over property that is in their possession.

Please feel free to contact one of our Murray Lobb attorneys to obtain our legal advice regarding creditors’ rights in bankruptcy proceedings. We also remain available to help you with all your general corporate, construction law, business, and estate planning needs.