Waiving (some Of) Your Bankruptcy Rights Before You File- Should You Be Worried?
| Publication year | 2021 |
| Pages | 115 |
74 CBJ 115. Waiving (Some of) Your Bankruptcy Rights Before You File- Should You Be Worried?
Some creditors have attempted to minimize the delays and uncertainty caused by bankruptcy proceedings by insisting upon provisions in settlement and workout agreements that waive the automatic stay imposed by Bankruptcy Code section 362, or waive the borrower's defenses to a motion for relief from the automatic stay. These waivers have met with mixed results in court due in large part to the debtor's apparent ability (or inability) to propose a confirmable plan, and the waiver's perceived impact on other creditors who are not parties to the agreement. Sometimes settlement agreements state that certain debts will not be dischargeable in a potential future bankruptcy proceeding, especially in divorce cases and in litigation asserting fraud or fiduciary defalcations. This article focuses on prebankruptcy waivers by agreement, but implications from a 1936 Connecticut Supreme Court decision concerning waiver by conduct suggest caution in evaluating whether a debtor may have waived the right to claim the Connecticut homestead exemption. One of the Bankruptcy Review Commission's recommendations to Congress will alter this topic considerably, if it is ever enacted.
The federal policy favoring a debtor's ability to obtain the benefits of bankruptcy is longstanding, and the courts have been uniformly intolerant of contractual prohibitions of or impediments to obtaining bankruptcy relief. In 1933, the District Court for the Southern District of New York ruled that a clause in a loan agreement stipulating that the borrower would not plead a discharge in bankruptcy would frustrate the object of the Bankruptcy Act, which would be nullified in the natural course of business if such contractual agreements were permitted. (fn1) In contrast, a contract selecting arbitration as the forum under which a right under the Bank
ruptcy Act could be asserted was enforced because it was not the equivalent of an agreement to waive the benefits of the Bankruptcy Act. (fn2) An Alabama bankruptcy judge recently stated in dicta with ominous implications that an arbitration clause in an automobile purchase contract did not undermine the strong public policy favoring a fresh start by allowing arbitration of one claim (arising from the purchase of a car). (fn3)
A debtor who stipulated to a district court order appointing the S.B.A. as its receiver and limiting the power of its board of directors did not have an absolute right to file a Chapter 11 proceeding. (fn4) The court held that the consensual receivership and the S.B.A.'s subsequent provision of fresh funds limited the debtor's right to file a Chapter 11 petition without the consent of the district court. This was an exception to the general rule that a debtor cannot agree to waive the right to file a bankruptcy petition, because the court felt no interest would be served in permitting the debtor to repudiate its prepetition agreement with the S.B.A. In another case, the president and fifty percent shareholder of a corporate debtor was enjoined from filing a bankruptcy petition for the corporation in light of an agreement he signed that appointed a trustee for the corporation until the federal government was repaid $22 million. The court continued a restraining order prohibiting interference with company assets. (fn5)
Elaborate corporate bylaws designed to prevent a defaulting borrower from obtaining authorization to file a bankruptcy petition from its board of directors were ineffective in a recent case because the debtor colluded with creditors to help them file an involuntary petition against it. (fn6) None of the documents in question prevented a party connected with the debtor from acting on its own to file an involuntary petition. After hearing a motion to dismiss based solely on whether there was collusion mandating dismissal of the case for bad faith, the bankruptcy court held that the debtor's orchestra
tion of the involuntary petition to prevent the loss of perceived equity did not circumvent any court-ordered or statutory restrictions on a bankruptcy filing. The debtor believed that reorganization might be possible, thus possibly preserving value for creditors and the debtor's estate. (The court did not address the debtor's challenge to the "bankruptcy remote provisions" in its bylaws as allegedly being void for violation of public policy, because the court felt that issue was not properly before it.) There was no record at that time regarding valuation or the possibility of reorganization, and a plan I was subsequently confirmed that provided both a significant dividend to unsecured creditors and a potential return for equity. (fn7)
A. Cases Finding Waivers to be Unenforceable Per Se
Some courts faced with waivers of the automatic stay responded with decisions based more on policy than an evaluation of the document in question, and categorically refused to enforce the waiver. Citing the importance of the automatic stay to protect all of the creditors of an estate and to encourage equal treatment, one bankruptcy court refused to enforce a debtor's agreement with its secured creditor that conceded that the bank would be entitled to relief from stay without the debtor's opposition in the event of the bankruptcy filing. An involuntary petition was filed and the bank moved for relief from stay pursuant to the agreement. The court held that a debtor's waiver of the automatic stay was neither enforceable nor self-executing, and only the court had the power to determine if and when the debtor's assets could be liquidated outside of the court's supervision. (fn8) In a similar vein, judge Norton ruled that a prepetition agreement negotiated by sophisticated parties containing an agreement not to file bankruptcy without prior notice to the Government National Mortgage Association was void, citing the 1966
Second Circuit case of Fallick v. Kehr, which ruled that an advance agreement to waive the benefits of the Bankruptcy Act was void. (fn9) The fact that the agreement merely required notice to the secured creditor, and not its consent, was not addressed by the court and was apparently viewed as an immaterial difference. (fn10)
Patricia Madison filed a series of unsuccessful Chapter 13 cases, inspiring one of her creditors to obtain an agreement entered on the record that she would be precluded from filing a prospective sixth case for at least 180 days after any dismissal of her expected fifth filing. Citing Fallick v. Kehr for the public policy argument that an agreement not to file bankruptcy is unenforceable, the bankruptcy court refused to dismiss her newest Chapter 13 filing. The court ruled that enforcement of an agreement that only temporarily waives the right to file bankruptcy would undermine the congressionally expressed public policy underpinning the Bankruptcy Code, and a stipulation by which a potential debtor would agree not to file a bankruptcy case for even a finite period of time was not binding. (fn11) The court added that a creditor could potentially attempt to protect itself through an agreement stipulating to facts that would entitle it to relief, but that stipulations regarding questions of law, or questions of fact and law, were matters for the court to determine.
In a case that foreshadowed much of the policy debate regarding prepetition waivers, Judge Schwartzberg ruled in 1982 that a mortgage clause consenting to the use of rent proceeds from an apartment complex for maintenance and repairs did not provide consent for the use of cash collateral. The concept of cash collateral is a feature of and is defined in the Bankruptcy Code, and is operative only after a case is commenced. Regardless of the prepetition conduct of the parties, the Bankruptcy Code imposes immediately ascertaina
ble rights and restrictions as to cash collateral, and a consent that was given before a bankruptcy case began is of no effect postpetition. (fn12)
In a recent decision finding prepetition automatic stay waivers to be unenforceable per se, the debtors signed a prepetition workout agreement that prohibited them from resisting a motion for relief from stay. (fn13) The court declined to follow an emerging trend of cases enforcing contractual waivers of the automatic stay, and held that such waivers are unenforceable per se. The court cited three reasons:
(1) A prebankruptcy debtor does not have the capacity to act on behalf of a debtor-in-possession that has not yet come into existence;
(2) The Bankruptcy Code invalidates contractual provisions that deprive a bankruptcy debtor of the use and benefit of property upon the filing of a bankruptcy case; and
(3) The Bankruptcy Code extinguishes freedom of contract to avoid its essential provisions.
As a policy matter, enforcing a contractual waiver of the automatic stay would permit a creditor to opt out of the collective process mandated by the Bankruptcy Code to the potential detriment of the debtor and other creditors. Further, the court found that while workout agreements are useful, they do not provide an effective way to deal with creditors who will not sign them.
A recent analogous decision refused to approve one of three reaffirmation agreements with a particular creditor that stated: "Rescission of one reaffirmation (of 3) rescinds all." The court found the offending clause to be an unenforceable attempted...
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