IV. Rejection Or Assumption of Executory Contracts

• Jurisdiction: North Carolina

IV. REJECTION OR ASSUMPTION OF EXECUTORY CONTRACTS

A. Section 365 Generally

The basic power of a trustee or debtor in possession to assume or reject an executory contract or unexpired lease is set forth in Section 365(a). Once a contract is determined to be executory, the trustee or debtor in possession may assume or reject the contract. The decision to assume or reject must be made with the approval of the court, although in some cases the mere passage of time without action will constitute a rejection. The Bankruptcy Code makes no attempt to fix the standards to be applied in determining the propriety of the trustee's action in assuming or rejecting a contract. The decision, particularly if it is one to assume, may have serious consequences for the estate since assumption of the contract or lease must be complete (the debtor must assume an executory contract or lease in its entirety and may not cherry pick between beneficial and burdensome provisions of a lease or contract), and the expenses and liabilities incurred thereafter will be expenses of administration.

1. Time Limits for Assumption or Rejection

In a Chapter 7 case, contracts and leases of residential real property or personal property not assumed within 60 days after the order for relief, or within such additional time as the court, for cause, fixes within such 60-day period, are deemed rejected. 11 U.S.C. § 365(d)(1). Pursuant to Section 348(a), the entry of an order converting a Chapter 11 case to Chapter 7 is an order for relief that starts the 60-day period. The 60-day period may be extended by the court, but the court has no authority to extend the period after the initial statutory period or any previously extended period has expired. See In re Baker, 627 B.R. 887 (Bankr. E.D. Mich. 2021).

In a Chapter 11, 12 or 13 case, contracts and residential real property or personal property leases may be assumed or rejected by the trustee or debtor in possession at any time prior to the confirmation of a plan. 11 U.S.C. § 365(d)(2). The court, on request of the non-debtor party to the contract or lease, may order the contract or lease to be assumed or rejected within a specified period of time prior to plan confirmation. Id. Even if such request is made, the debtor in possession or the trustee is entitled to a reasonable period of time within which to decide whether to assume or reject executory contracts or unexpired leases. The reasonableness of the period for assumption or rejection is in the discretion of the court in light of the circumstances of each case. Once a deadline for acceptance or rejection has been set, the court has no discretion to grant a request for an extension that comes after the deadline.

In a Chapter 7, 11, 12 or 13 case, unexpired leases of non-residential real property under which the debtor is the lessee must be assumed or rejected by the trustee or debtor in possession by the earlier of (a) 120 days after the order for relief or (b) the date of the entry of an order confirming a plan. If the lease of non-residential real property is not assumed within such time period, then the lease is deemed rejected. Upon motion by the trustee or debtor in possession, the court may extend the 120-day assumption period for an additional 90 days for cause shown. However, the court may not extend the assumption period for a larger period of time absent the written consent of the lessor. Following the rejection of a non-residential real property lease pursuant to Section 365(d)(4), the debtor in possession or trustee must immediately surrender possession of the real property to the lessor. 11 U.S.C. § 365(d)(4).

If the 120-day period expires without extension by the court, then the court will be without power to extend the period thereafter. The failure to assume or reject within the period constitutes a rejection of the contract or lease by operation of law. The courts have held that if a debtor seeks to extend the initial 120-day period, then the Court must enter an order granting an extension within that 120-day period. It is not sufficient that a motion for an extension of time simply be filed within the 120-day period. See, e.g., In re Tubular Techs., LLC, 348 B.R. 699, 707 (Bankr. D.S.C. 2006); but cf. In re Amerlink, Ltd., 2009 WL 2497776, No. 09-01055-8-RDD, 2009 Bankr. LEXIS 2349, at *7-8 (Bankr. E.D.N.C. Aug. 12, 2009) (lease is not rejected if motion to assume is filed prior to expiration of 120-day period as opposed to motion for extension of time); In re Treasure Isles HC, Inc., 462 B.R. 645 (B.A.P. 6th Cir. 2011).

2. Personal Service Contracts

Pursuant to Section 365(c)(1), the trustee or debtor in possession may not assume or assign an executory contract or unexpired lease if applicable non-bankruptcy law excuses the non-debtor from accepting performance from or rendering performance to an entity other than the debtor or the debtor in possession, regardless of whether the contract or lease prohibits or restricts assignment of rights or delegation of duties. This section generally relates to "personal services contracts." Of course, if the non-debtor party consents, then the debtor may assume or assign such a contract or lease. 11 U.S.C. § 365(c)(1)(B). Clauses in the contract or lease prohibiting assumption or assignment are not dispositive.

Sections 365(c)(1) and 365(e)(2)(A) should be considered together. The former precludes assumption or assignment of personal service contracts and leases while the latter permits their termination. The language of Section 365(e)(2)(A) is similar to that of Section 365(c)(1) and provides that the broad coverage of Section 365(e)(1), concerning bankruptcy termination clauses, does not apply to personal service contracts. While the wording of Section 365(e)(2)(A) suggests that a bankruptcy termination clause might be asserted against a debtor in possession when the contract is one for personal services, it seems clear that the intent was to permit termination only where substituted performance would occur.

In order to determine whether a contract is for "personal services," the inquiry should examine the nature of the contract itself to determine if it calls for the exercise of some personal skill or judgment on the part of the debtor, or rests upon the trust and confidence of the non-debtor party in the reputation for skill and integrity of the debtor.

Based on a strict interpretation of Section 365(c), a number of courts (including the Fourth Circuit) have held that if a trustee or debtor in possession is prohibited from assigning an executory contract or lease because the contract is a personal services contract...