Cite as: Keith M. Lundin, Lundin On Chapter 13, § 102.6, at ¶ ____, LundinOnChapter13.com (last visited __________).
In 1994, Congress amended § 363(e) to give lessors of personal property the right to demand adequate protection as an alternative to relief from the stay.1 As amended, § 363(e) provides:
Notwithstanding any other provision of this section, at any time, on request of an entity that has an interest in property used, sold, or leased, or proposed to be used, sold, or leased, by the trustee, the court, with or without a hearing, shall prohibit or condition such use, sale, or lease as is necessary to provide adequate protection of such interest. This subsection also applies to property that is subject to any unexpired lease of personal property (to the exclusion of such property being subject to an order to grant relief from the stay under section 362).2
As explained by Congressman Brooks, this amendment was intended to “clarify” that a lessor of personal property is entitled to “adequate protection” during the time in which the debtor considers whether to assume or reject.3 Under § 363(e), the lessor of personal property has the option to request adequate protection or to seek relief from the stay, but not both.4
Unexpired leases of personal property are increasingly common in Chapter 13 cases. Candidates for Chapter 13 often cannot get ordinary credit to purchase household items such as televisions, washing machines, refrigerators or furniture. The “rent-to-rent” industry has experienced explosive growth by feeding off of the inability of low-income wage earners to get credit. When a debtor comes into Chapter 13 with an unexpired lease of personal property, and before the debtor assumes or rejects the lease, § 363(e) allows the lessor to demand adequate protection.
Adequate protection is a term of art defined in 11 U.S.C. § 361.5 Adequate protection may be provided by “requiring the trustee to make a cash payment or periodic cash payments . . . to the extent . . . use . . . results in a decrease in the value of” an interest in property; providing “an additional or replacement lien”; or providing the “indubitable equivalent” of the interest in property used by the debtor.6 In the context of an unexpired lease of personal property in a Chapter 13 case, on request of the lessor, § 363(e) requires the debtor to compensate the lessor either in cash or with a replacement lien for any decrease in the value of the leased property that results from the debtor’s use between the time of the request and assumption or rejection.
Proving what a lessor of personal property is entitled to as adequate protection could be problematic in Chapter 13 cases. The decrease in value that must be adequately protected will be difficult to calculate for most items of personal property. If the period between the request for adequate protection and confirmation is short,7 the accrual of adequate protection rights will be de minimis. How much does a VCR decrease in value in 45 days? Does it matter whether the debtor used the VCR during that time? Does adequate protection for a leased washing machine vary with the number and ages of the debtor’s children?
Demand by a lessor for adequate protection can accelerate the timing of the determination whether the debtor can assume an executory contract or unexpired lease. For example, in In re Williams,8 the debtor was the lessee of a truck. The contract prohibited the debtor from using the truck for work for any company other than the lessor. The debtor breached that provision prepetition but desired to cure the default and assume the lease through the Chapter 13 plan. The lessor demanded adequate protection. The bankruptcy court concluded that the debtor could not provide adequate protection because the plan could not cure default with respect to the prepetition breach of the prohibited-use clause.9
That lessors of personal property can demand adequate protection before confirmation does not mean that lessors are entitled to “superpriority” rights under § 507(b) in the event that adequate protection proves to be inadequate.10 Section 507(b) is worded that a superpriority claim for failed adequate protection is available only “if the trustee . . . provides adequate protection of the interest of a holder of a claim secured by a lien on property of the debtor.”11 Lessors rarely have security interests and even less often want to be characterized as lienholders.12 It is unlikely that a lessor of personal property will qualify for superpriority status if adequate protection under § 363(e) proves to be inadequate.
The new adequate protection rights of lessors under § 363(e) are incentive for Chapter 13 debtors to quickly assume or reject executory contracts. Especially in jurisdictions that delay confirmation until after the claims bar date,13 § 363(e) is likely to be worked hard by the “rent-to-rent” industry. Prior to 1994, the remedies available to lessors before confirmation were a motion for relief from the stay14 or a motion to require the debtor to determine “within a specified period of time” whether to assume or reject the contract.15 Section 363(e) positions lessors of personal property to get what they really want—cash payments prior to confirmation in Chapter 13 cases. This new entitlement will be especially useful to car lessors that probably can prove some decrease in value on a month-to-month basis during the preconfirmation period.
As with all adequate protection rights,16 § 363(e) is not an automatic entitlement. The burden to act is on the lessor: A lessor of personal property realizes adequate protection in a Chapter 13 case only by filing a motion; if no motion is filed, the lessor cannot later complain that its interest in the leased property was used by the debtor without adequately protecting the lessor.
1 See §§ 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation, 56.1 [ Assume, Reject or Assign Leases, Rental Agreements and Executory Contracts ] § 51.3 Assume, Reject or Assign Leases, Rental Agreements and Executory Contracts and 67.2 [ Adequate Protection Rights ] § 57.2 Adequate Protection Rights.
2 11 U.S.C. § 363(e), as amended by Bankruptcy Reform Act of 1994, Pub. L. No. 103-394, § 219, 108 Stat. 4106 (1994).
3 See 140 Cong. Rec. H10,769 (section-by-section analysis by Congressman Brooks).
4 140 Cong. Rec. H10,769 (section-by-section analysis by Congressman Brooks) (“‘[A]dequate protection’ . . . is to the exclusion of the lessor’s being able to seek to lift the automatic stay.”). See § 81.1 [ Lack of Adequate Protection ] § 64.1 Lack of Adequate Protection.
5 See § 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation.
6 See 11 U.S.C. § 361.
7 See § 216.1 [ Timing of Hearing on Confirmation ] § 115.1 Timing of Hearing on Confirmation before BAPCPA.
8 299 B.R. 684 (Bankr. S.D. Ga. 2003).
9 See also § 132.1 [ Nonmonetary Defaults ] § 82.3 Nonmonetary Defaults for discussion of curing default with respect to nonmonetary provisions of a home mortgage, such as a due-on-sale clause.
10 See §§ 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation and 297.1 [ Failed Adequate Protection ] § 136.12 Failed Adequate Protection before BAPCPA.
11 11 U.S.C. § 507(b) (emphasis added).
12 See § 175.1 [ Fake Leases and Rental Agreements ] § 102.8 Fake Leases and Rental Agreements.
13 See § 216.1 [ Timing of Hearing on Confirmation ] § 115.1 Timing of Hearing on Confirmation before BAPCPA.
14 See discussion beginning at § 63.1 Strategic Considerations.
15 See § 174.4 [ Lessor Can Accelerate Assumption or Rejection ] § 102.7 Lessor Can Accelerate Assumption or Rejection.
16 See § 48.1 [ Adequate Protection of Lienholders prior to Confirmation ] § 47.1 Adequate Protection of Lienholders before Confirmation.